There are a number of tech plays with stories that are similar to DocuSign (NASDAQ:DOCU). The business is attractive. The novel coronavirus crisis creates a tailwind. Yet the rally in DocuSign stock has been huge, leaving its valuation seemingly stretched.
What’s an investor to do? The correct answer, at least so far, usually has been to hold on. Even as the world moves toward reopening, so-called “pandemic plays” in tech mostly have continued to rise.
Zoom Video (NASDAQ:ZM), Fastly (NYSE:FSLY), Sea Limited (NYSE:SE) and Datadog (NASDAQ:DDOG) are on the top of the year-to-date gainers list in tech. Each rallied sharply off March lows. And each has kept going. They all trade at, or just off, their 52-week highs.
DocuSign stock fits right in that group. The business is excellent: DocuSign clearly leads Adobe (NASDAQ:ADBE) in the e-signature race. But DocuSign has also rallied 125% so far this year. It trades at nearly 200x next year’s earnings-per-share estimate.
As with other high-flyers, the correct answer still seems to be to hold on. Although I’d certainly understand if some investors hoped, or at least waited, for a dip.
Taking the Long(er) View
Investors admittedly were a bit slow to see the potential in DocuSign. Shares tumbled in the first half of March as broad markets did the same.
But investors figured out relatively quickly that DocuSign stock was, in its own way, a pandemic play. Like Zoom and Fastly, the pandemic was going to send a flood of customers DocuSign’s way as offices closed and employees worked from home. And like Zoom, Fastly and others, those customers weren’t going to disappear once the world returned to normal.
E-signatures were going to see decades of growth regardless. But this crisis has accelerated that growth. Indeed, as I’ve noted before, DocuSign has made quick and impressive strides in gaining acceptance in the healthcare industry.
That alone is a huge win. There might not be an industry in the world more difficult to change than U.S. healthcare. But DocuSign is quickly taking huge market share, and creating a base of business that could literally last for decades.
No doubt, other paper-bound sectors like real estate and transportation are going to follow. The optimism toward DocuSign as a business thus makes obvious sense.
Is DocuSign Stock Too Expensive?
The concern, however, might come down to valuation, as Chris Tyler argued previously at InvestorPlace. Competition is another potential risk.
I’m certainly sympathetic to both those arguments. Adobe, in particular, is one of the best tech companies in the world. Dropbox (NASDAQ:DBX) is another rival, given its HelloSign offering. Ostensibly someone like Microsoft (NASDAQ:MSFT) could target the space.
But the “first mover advantage” in tech is a huge edge. DocuSign has it. It’s going to be difficult, if not impossible, for a second-place (or worse) rival to catch up. Switching costs simply aren’t worth it; once DocuSign picks up a customer, it’s unlikely to lose that customer.
Certainly, DocuSign stock is expensive. Even by the standards of growth stocks in tech, it’s dearly valued, at almost 30x revenue.
But this is not the kind of stock that is ever going to be cheap. And after a blowout quarter in which the company posted billings growth of nearly 60% year-over-year, there’s a runway to grow into this valuation.
History Repeats?
Taking a step back, in the past few years: investors have had precisely this decision to make: whether to focus on a high valuation or a quality business. And to some investors, that’s a problem with the market as a whole.
After all, with seemingly historic multiples across the market, some observers have argued that the valuation for names like DocuSign just “doesn’t matter anymore.” By this analysis, tech stocks are in something close to a bubble — and bubbles always burst at some point.
That’s not the right perspective, however. With names like DocuSign, the market is doing things the right way. It’s looking beyond steep near-term multiples to longer-term potential.
And save for a few weeks in February and March, that perspective hasn’t changed. If this is a bubble, it’s the longest bubble in history at this point.
Of course, it’s not a bubble. DocuSign stock doesn’t trade at 200x next year’s earnings because the market isn’t paying attention. It has that valuation precisely because the market is paying attention.
It sees literally decades of potential growth ahead combined with a strong competitive position. As long as those two aspects of the bull case hold, DocuSign stock can keep gaining — even if there might be some volatility along the way.
Matthew McCall left Wall Street to actually help investors — by getting them into the world’s biggest, most revolutionary trends BEFORE anyone else. The power of being “first” gave Matt’s readers the chance to bank +2,438% in Stamps.com (STMP), +1,523% in Ulta Beauty (ULTA) and +1,044% in Tesla (TSLA), just to name a few. Click here to see what Matt has up his sleeve now. Matt does not directly own the aforementioned securities.
