Shares of Twilio (NYSE:TWLO) surged higher in early May after the cloud communications company reported first-quarter numbers that smashed revenue and profit expectations, and included a strong outlook. As of this writing, Twilio stock is now up 90% year-to-date and trades at all-time highs.
Longtime readers of mine will know that I’ve been pounding on the table about Twilio for several months. Seeing cloud communications as the future of global communications — and Twilio’s bread-and-buter, text-based business-to-consumer (B2C), as the centerpiece of the cloud communications movement — I’ve been telling investors to buy the stock over and over again.
But now I’m changing my tune slightly. With shares up so much in 2020, it’s no longer time to buy. Rather, it may be time to take some profits off the table.
Here’s why.
Twilio Stock Is a Long-Term Winner
Twilio stock has been, still is and will remain a long-term winning investment.
The company is at the epicenter of the CPaaS (or “communications-platforms-as-a-service”) market, which is growing significantly thanks to a shift towards cloud-based enterprise communications. More specifically, though, Twilio is at the epicenter of the hyper-growth text messaging vertical of the CPaaS 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, but they also open and reply to texts at a significantly higher rate than they open and reply to emails. So, if a business wants to communicate with their customers, they should use texts to do that.
But they aren’t doing that. Today, nearly every consumer-facing business in America employs e-mail marketing and communication tools. Very few employ text message marketing tools.
This gap between where businesses are today with their communications, and where they should be tomorrow, is Twilio’s huge growth opportunity.
Over the next several years, businesses of all shapes and sizes will: 1) adopt CPaaS tools amid a broader pivots towards cloud services, and 2) replace email marketing with text-based B2C cloud communications. Many businesses will choose Twilio to help guide them in this transition, because Twilio is widely regarded the leader in the CPaaS market.
Big picture: thanks to a pivot towards text-based B2C cloud communications, Twilio will sustain huge revenue and profit growth for the foreseeable future. Such big growth should guide Twilio’s stock higher.
Near-Term Valuation Risks Are High
Although Twilio stock is a long-term winner, near-term valuation risks could short-circuit the current rally.
Following its record post-earnings surge, Twilio now has a $27 billion market cap. Revenues this year are expected to be about $1.5 billion. Thus, Twilio is trading at 18-times 2020 sales estimates. For perspective, Twilio’s price-to-sales multiple has only been this high twice before: September 2016 and July 2019.
Both times, Twilio stock failed to hold the elevated valuation, peaked and then dropped substantially over the following months.
History may repeat itself here.
The macroeconomic environment today is very unstable. Against that backdrop, Twilio is bound to have some hiccups. At the current valuation, any and all hiccups will be reflected very negatively in the stock price, i.e., a below-consensus revenue and profit print next quarter could spark a 20% selloff.
As such, I think it’s quite likely that you get a sizable selloff in Twilio stock over the next few months.
The Bottom Line on Twilio Stock
Make no mistake. My change in tune towards Twilio has nothing to do with the underlying fundamentals. I believe the stock remains a long-term winner.
Instead, it’s a valuation call. At current levels, Twilio’s stock is fully valued. It’s priced for perfection. In an macro-economic environment that is arguably the farthest thing from perfect.
As such, I don’t think the stock will be able to sustain this perfect valuation for much longer. I expect shares to be choppy for the foreseeable future. If that chop results in a big selloff, take advantage of the weakness, and buy the dip.
Until then, sit on the sidelines and wait for a better entry point.
Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been recognized as one of the best stock pickers in the world by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, he did not hold a position in any of the aforementioned securities.
