Twillio Inc. (NYSE: TWLO) is a leading communications-as-a-service (CaaS) provider. The company’s platform serves as the backbone communications infrastructure for 286,000 customers, including many leading companies such as Airbnb (ABNB), Netflix (NFLX), Deliveroo (OTCPK: DROOF, OTCPK: DLVEY), Salesforce (RCMP), and much more. According to Grand View To researchThe global Unified Communications-as-a-Service market was worth approximately $39 billion in 2020 and is expected to grow at a compound annual growth rate (CAGR) of 23.6% through 2028.
Twilio’s stock price had a monster bull run in 2020 and rose over 450% to an all-time high of $435/share. However, once the high inflation figures were announced from March 2021, the share price was slaughtered by around 78%. Given this extreme pullback, the stock is now undervalued by my discounted cash flow model and the company has plenty of tailwinds for industry growth. Let’s dive into the business model, financials, and valuation for the juicy details.
Solid business model
Twilio’s products can be segmented into three main areas; Channels, applications and connectivity. Its communication “channels” are what the company is best known for. Twilio’s platform enables automated texting, emailing, and even phone calls at scale. For example, when a customer like Netflix wants to send a bulk SMS offer to its 200 million subscribers, it can do so through Twilio. Another example is when your food delivery service sends you an automated SMS to confirm your order is “on the way”, this can also be enabled with Twilio. Twilio is also a master of real-time video and live streaming applications.
In terms of cloud-based applications, Twilio Flex is the company’s “Cloud Contact Center” product. Traditional contact or call centers have high office rental overhead and are not easily scalable to meet growing customer demands. However, with a “Cloud Contact Center”, businesses can have a distributed workforce of call center agents working remotely. They can easily scale their operations to bring more agents online when needed and don’t have to rent additional office space. It is therefore not surprising that, according to one studythe cloud-based contact center market size was worth $11.5 billion in 2020 and is expected to reach over $36.1 billion by 2025 growing at a compound annual growth rate of 25.8%.
Marketing Campaigns is a Twilio application used for automated email marketing campaigns. There are many competitors in this market, from Mailchimp (INTU) to Adobe Marketo (ADBE) and HubSpot (HUBS). Therefore, I don’t imagine this will be a major growth driver for the business, but it may be an upsell opportunity for existing customers. Additionally, Twilio’s marketing offering has recently improved astronomically following the acquisition of Segment a Market-leading Customer Data Platform (CDP).
Twilio acquired Segment for approximately $3.2 billion in Twilio Class A stock. This was a brilliantly timed decision, as this acquisition was completed in November 2020, when the stock price was at an extremely high and valuable level before the crash. Thus, this effectively meant fewer shares were needed to buy it. In addition, a Customer Data Platform is becoming essential for companies producing tons of big data on a daily basis. In a digital marketing team, there can be 20+ sources of analytics from Google Ads (GOOG, GOOGL), Facebook Ads (META), Google Analytics, Email Automation Platforms and various other website plugins. The problem with this is that the data is “siloed” in each application and the integrations have to be manually programmed to connect them together.
However, with a “Customer Data Platform (CDP)” such as Segment, data from a plethora of analytics platforms can be easily brought together in one place and insights can be derived from it. This data helps create a 360° view of the customer journey, then Twilio Engage can be used for one-to-one marketing with real-time data. This service also helps to location marketing content and helps businesses scale through a data-driven approach.
The Segment platform was ranked number one for the CDP market to share by IDC in 2020. Additionally, a Google search for “Best Customer Data Platform” shows that Twilio is paying for the top spot on Google search, which is a signal that they are pushing the platform.
Note: I performed the above search in “incognito mode” to avoid bias from past interactions with the Twilio website.
Other Twilio offerings include; setting up a toll-free phone number, short codes, and even the ability to connect IoT (Internet of Things) devices to cellular networks. This is another game-changing application, as IoT to Cellular can be used to allow a device such as Amazon (AMZN) Alexa to automatically place calls and texts.
Twilio generated strong finance for the first quarter of 2022. Revenue was $875 million, up 48% from the same period last year. The majority of that ($780 million) came from pure organic revenue growth (excluding acquisitions) and was up 35% year-over-year.
Twilio also increased its revenue diversification with 35% of revenue generated internationally in Q122, up from 29% in Q1 2021. Additionally, the company’s top 10 customer accounts recently accounted for just 11% of revenue. against 15%. in the first quarter of 2020.
Gross profit generated strong growth of 41% in Q122 to $460 million, on a non-GAAP basis. Although this is lower than the figures observed between Q32020 and Q32021.
Twilio generated EPS (normalized) at breakeven of $0.00, which beat analysts’ expectations of $0.21. Additionally, the company generated a fantastic net dollar expansion of 127%, showing that customers are staying loyal to the platform and spending more through upselling and cross-selling opportunities. This figure was up 1% from the prior quarter, but down from the 133% generated in the first quarter of 2021. The year-over-year decline is something to watch, but not a major issue. currently given the high rate.
Twilio has a fortress balance sheet with $5.2 billion in cash and short-term investments and $1.3 billion in total debt.
Twilio forecasts 36% revenue growth for the second quarter of 2022, including 27% to 28% organic growth. Today, although this figure is lower than the 48% growth recorded in the first quarter, it remains solid overall.
In order to value Twilio shares, I incorporated the latest financial data into my advanced valuation model, which uses the discounted cash flow (“DCF”) valuation method. I estimated a conservative revenue growth of 34% for the next year and 20% for the next 2-5 years.
Additionally, I have margins to increase to 23% in the next 5 years as the business continues to grow and acquisition synergies begin to materialize. I also capitalized on R&D investments in order to increase the accuracy of the assessment.
Given these factors, I get a fair value of $128/share. The stock is currently trading at ~$89 at the time of writing, and is therefore undervalued by around 30%, which is a margin of safety.
Twilio is trading at a price/sales ratio=4.2, which is the lowest level since 2017 and even below the pandemic low of P/S=9.
Compared to few other software as a service (“SaaS”) companies in the marketing and communications industry. Twilio is trading at the lower end of the spectrum with a P/S (forward) = 4.2.
Slowing recession and profitability
Morgan Stanley recently cut its communications software stock price targets due to a higher interest rate environment and a temporary slowdown in IT spending. The market is increasingly focused on strong profitability and free cash flow generation, so Twilio’s negative operating margin could be an issue. However, on a positive note, analysts still have a price target of $160 (vs. $240), still significantly above the stock price at the time of writing.
Twilio is a formidable company poised to benefit from the secular growth of communications, cloud contact centers and IoT in a connected way. The company is generating strong revenue growth, and even with conservative estimates, the stock is now undervalued. So, this could be a great opportunity for the long-term investor.