Last month, I wrote a piece on InvestorPlace in which I said that buying the earnings dip in shares of cloud communications platform Twilio (NASDAQ:TWLO) at $90 would be a smart and profitable move. The premise was simple: Twilio has tremendous long-term profit growth potential amid a massive pivot towards business-to-consumer (B2C) text communications. That long-term profit growth potential becomes understated in TWLO stock at around $90.
A few days after the piece published, TWLO stock briefly dropped to just under $90. By late November, TWLO stock was trading hands around $105. That represents more than a 15% gain in less than a month.
In other words, buying the dip in TWLO stock at $90 in early November was the smart and profitable move.
Now, in early December, it looks like Twilio stock could yet again make a move back towards $90 amid macro market weakness, mounting pressure on growth stocks, and concerns regarding customer usage. These concerns amount to nothing more than noise in the big picture.
The company’s long-term profit growth prospects continue to support the “buy the dip” thesis in TWLO stock at $90. Thus, if TWLO stock keeps dropping on near-term concerns, be ready to buy the dip around $90. Again.
Twilio Has Big Long-Term Potential
Twilio stock has been knocked down recently by a plethora of near-term headwinds. None of these headwinds have much staying power. Instead, Twilio still has tremendous profit growth potential in the long run.
Twilio is at the epicenter of enormous growth in the text messaging vertical of the CPaaS, or “communications-platform-as-a-service” market. Long story short, young consumers are text-obsessed today. According to EZ Texting’s 2019 mobile usage report, not only do young consumers check their texts far more often than their emails, they also open and reply to texts at a significantly higher rate than they open and reply to emails.
Today, nearly every consumer-facing business in America employs e-mail marketing and communication tools. Very few employ text message marketing and communication tools. But consumers are spending more time with texts, and less and less time with e-mails, and are increasingly frustrated with businesses that are poorly set up to communicate via text. Thus, in order to survive, businesses will have get rid of their e-mail marketing and communication tools, and build out effective text message marketing and communication tools.
Who builds those tools better than anyone else? Twilio. As such, this company finds itself at the epicenter of a huge shift towards text-based B2C communication. As this mega-trend plays out over the next several years, Twilio’s customer base and revenues will march significantly higher.
Further, Twilio operates at strong gross margins which are approaching 60%. The opex rate is in the upper 50% range. Revenues are growing at a 50%-plus rate, implying plenty of firepower for positive operating leverage. Thus, one day, Twilio will have big revenues and big profits (versus no profits today).
Twilio Stock Fundamentally Supported at $90
Given the company’s favorable long-term profit growth potential, TWLO stock is supported today around $90.
According to IDC, the CPaaS market projects as a 40% annualized growth market over the next few years. Twilio presently controls over 20% of that market. Increasing competition in the text messaging B2C vertical could cause some share erosion. But, not much, since Twilio can leverage first mover’s advantage to maintain dominant share positioning. Long term, Twilio’s market share will likely settle around 20%.
This combination of 40% annualized market growth and slight share erosion paves a visible pathway for revenues to rise at a steady 30-35% clip. Gross margins should improve thanks to solid secular demand drivers. Opex rates should fall by a bunch, assuming the expense base grows at a 30% compounded annual growth rate over the next few years.
Putting all that together, I reasonably see Twilio as a $5 billion revenue company by 2025 (versus $1.1 billion estimated in 2019) with 20% operating margins (versus roughly flat expected in 2019). Assuming so, then $4 in earnings per share seems doable by then. Based on an application software sector-average 35-times forward earnings multiple and a 10% discount rate, that equates to a 2019 price target for TWLO stock of $87.
Bottom Line on TWLO Stock
Twilio is a strong growth company with a stock price that temporarily sprinted ahead of the fundamentals. Over the past few weeks, the stock has stagnated as the fundamentals try to play catch-up.
Eventually, though, the fundamentals will catch-up, and shares will resume their secular march higher. As such, buying during this choppiness is a smart long-term move. But, buying at the right prices matters. Right now, the right price is any price below $90.
As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.