Twilio Is 70% Up In 3 Months -- There May Be More To Go

seekingalpha11-22 23:00

Twilio Inc.'s stock has surged 71% since my last “buy” rating, driven by acceleration in its Communications revenue, as adoption of AI-embedded Communications products strengthened.Despite flat growth...

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(NYSE:TWLO) in August, where I reiterated my “buy” rating as the company was seeing stabilization with narrowing losses from its Segment business while driving targeted go-to-market strategies to win and cross-sell across larger deals by expanding its network of partners and ISVs. While I remained cautiously optimistic about the company as it had yet to translate its product roadmap and business strategies into tangible revenue growth, the stock offered an attractive potential upside of 58%. Since then, the stock has surpassed my price target, growing over 71% since the time of last publication.   SA: Share performance since last \"buy\" rating Its Q3 FY24 earnings demonstrated revenue acceleration, driven by its Communications business, as it continued to drive deeper adoption of its AI-embedded products while simultaneously building synergies with its Segment business to help its businesses deliver personalization at scale. While its standalone Segment business underperformed with declining revenue once again and shrinking margins, overall profitability continued to expand with a margin expansion of 300 basis points on a year-over-year basis. Meanwhile, its dollar-based net expansion rate also grew on a sequential and year-over-year basis, boosting investor sentiment. While the stock has benefited from the latest improvement in investor sentiment in the cloud complex, I believe that, directionally, the company is also on the right path. This is especially as it captures enterprise AI budgets for companies looking to drive deeper customer segmentation and personalization at scale. Although there are risks to its Segment business taking longer than expected to improve, along with potential margin pressures, should Twilio fail to keep up with its pricing updates as it layers its AI products, I believe the stock remains a “buy.” While the magnitude of upside has considerably shrunk since the time of my last writing with a price target of $109, there is a growing likelihood that its revenue and earnings guidance can continue to be revised upwards, especially in an improving enterprise spending landscape. Revenue from Communications business accelerated, while Segment business remained flat Twilio reported its Q3 FY24 earnings in late October, where revenue growth accelerated to a rate of 10% YoY to $1.134B after multiple quarters of stagnation, with Active Customers growing both on a year-on-year and quarter-on-quarter basis to 360,000. This was driven as Twilio embedded superior AI and machine learning capabilities across its solution suite to build better customer outcomes and deliver a higher ROI by enabling them to create better engagement and personalization for their users through communications. Out of the $1.134B in revenue, its Communications segment contributed over 93% of Total Revenue, growing at an accelerated pace of 10% YoY to $1.06B, while the growth in its Segment Business was flat, generating $73M in revenue. Q3 FY24 Earnings Slides: Trend of revenue growth Starting off with the Communications business, the strength was driven in both messaging and email. Products such as Verify, SMS Pumping Protection, Engagement Suite, and Voice Intelligence gaining greater adoption as they leverage AI and machine learning capabilities to deliver more trusted communications, thus unlocking business value for their customers. Plus, when it comes to messaging, Twilio’s customers now receive a deliverability score with personalized actionable instructions from an AI agent, which could further boost productivity gains through better engagement. Meanwhile, the company is also testing its RCS Business Messaging product in a public beta, which allows businesses to send branded text to their customers. While early, some of Twilio’s early customers that have deployed RCS capabilities have already seen a significant boost to their message open rates from marketing campaigns and call pick-up rates from branded calling. On that note, the management reiterated their confidence in their business positioning in the age of AI. This is given their ability to unify relevant contextual data (whether it is triggered by customer interactions or stored in a data warehouse) via unified profiles on IVR (Interactive Voice Response) and Flex to help companies drive superior customer engagement, such as with their RCS Business Messaging product. Furthermore, Twilio also announced their integration with OpenAI’s real-time API, which will enable Twilio’s customers and developers to build targeted conversational virtual agents. Moving on to the Segment business, growth was flat, as was earlier mentioned. In my earlier posts on Twilio, I had discussed that the management had conducted a business review of its Segment business to address the underperformance and had laid out a plan for its long-term success. However, during the quarter, we saw a sequential decline in its Active Customer Count from 7700 to 7500, along with a 200 basis point decrease in dollar-based net expansion rate to 91%, indicating that there is still work to be done. However, when it comes to its Segment business, we should not look at it in a silo. This is given that it plays a significant role (as part of the long-term strategy) to differentiate Twilio’s Communications product by infusing contextual data, while they continue to innovate for their standalone CDP (Customer Data Platform) customers. In terms of product innovation, Twilio continued to enhance their data warehouse interoperability capabilities to remove data silos and disjointed customer profiles. It is advancing data warehouse integrations with Databricks, Snowflake (SNOW), Google Big Query (GOOG), and Amazon Redshift (AMZN) to drive better synergy between their Communications and Segment products to help businesses deliver more personalized and trusted communication with their customers. Dollar-based Net Expansion Rate recovers, but Segment business continues to drag overall profitability With Twilio leveraging its network of partners and ISVs to win and cross-sell larger deals across geographies and industries to augment its customer lifetime value, we have seen its revenue per Active Customer grow from $3.37M last year to over $3.5M in Q3 FY24. However, when it comes to the contribution from the Top 10 Active Customer Accounts, it remains stagnant at 10% of Total Revenue. Meanwhile, what is encouraging to notice is that the company is seeing an uptick in its dollar-based expansion rate, both on a sequential and a year-over-year basis, to 105%. After several quarters of stagnant dollar-based net expansion rate from a tough macroeconomic environment with constrained budgets of existing and new customers, it is encouraging to see a recovery in its expansion rate. The recovery indicates that the company’s business strategies are working to help it expand its business with its existing customers. This should ultimately help it unlock operating leverage, as it is more cost-efficient to increase sales to existing customers than win new ones. Q3 FY24 Earnings Slides: Dollar based net expansion rate is starting to recover Therefore, turning our attention to profitability, Twilio generated $182M in non-GAAP income from operations, which grew over 33% YoY to $182.4M, with a margin expansion of close to 300 basis points. While the Communications business boosted overall profitability, generating $268M in non-GAAP income from operations with a margin of 25.3%, its Segment business continued to be a drag on overall profitability. It generated a loss of -$16M in non-GAAP operating income, with a margin of -21.5%. On a sequential basis, Segment business did not see any improvement in its non-GAAP operating margin, which is something to be monitored moving forward. The overall increase in profitability was driven by non-GAAP operating expenses growing just over 3%, at a slower rate than overall revenue growth, thus enabling Twilio to unlock efficiency gains. At the same time, as the company focuses its go-to-market efforts to drive larger deal sizes, it should help the company unlock operating leverage from higher spend per Active account. Twilio is well positioned to capture enterprise AI budgets, but pricing is key to protecting margins. As the environment for cloud stocks improves after a prolonged period of underperformance, even though the market continued to make new highs, the bigger question now is whether cloud multiples have finally bottomed. Numerous companies in the cloud space, including Twilio, have prioritized profitability over growth in the last couple of years as the Fed raised its interest rates to their highest level in this century. During this period of time, Twilio struggled with shrinking usage of its solutions. Customers churned or moved to lower-priced contracts under a tough macroeconomic environment. However, things may be starting to look brighter once again as the monetary easing cycle begins. With companies still early in their AI deployment plans, Twilio has a vast opportunity ahead, as the management has pointed out during the earnings call. However, to continue driving investor confidence, Twilio needs to make sure that it keeps up with its product pricing as it layers on AI products, to ensure that it protect and grow its margins over the course of time. Revisiting my valuation With the stock rising over 70% since the time of my last writing, one of the bright spots has been that Twilio has received a total of 28 upward revenue and 26 earnings per share revisions over the last 90 days. Meanwhile, there have been no downward revenue and earnings revisions during this period of time. Plus, the management also raised its revenue guidance for FY24 to grow at roughly 7.75% YoY to $4.5B, on the back of strength in its Communications products. Assuming that it can further accelerate its growth rate in the next two years in the high single digit to low double digits as it sees growing adoption of its Communications products, along with driving better synergies with its Segment business with an AI-led product innovation roadmap, it should generate close to $5.4B in revenue by FY26. From a profitability standpoint, the management also raised its guidance for the company to generate roughly $705M in non-GAAP operating income, which translates to a higher margin than previously anticipated at 15.7%. Assuming that Twilio can grow its non-GAAP operating margin by 100 basis points annually every year until FY26 from streamlining its operating expenses and driving higher revenue per Active Account, it should generate close to $971M in non-GAAP operating income. This is equivalent to a present value of $832M when discounted at 8%. Taking a 1.5 times price-to-earnings multiple of the S&P 500 (SP500), where its companies grow their earnings on average by 8% over a 10-year period, we arrive at a P/E ratio of 20. This implies a price target of $108, which represents an upside of roughly 6.7% from its current levels. Author's Valuation Model My final verdict and conclusions In my previous post, I had reiterated my “buy” rating with a price target of $95. While the stock provided an upside of 58% at the time of my previous post, I maintained my tone of cautious optimism. Since then, the stock has surpassed my price target after its Q3 FY24 earnings beat expectations along with the improving investor sentiment in the whole cloud complex that further boosted the stock price. In Q3, while growth in its Communications business accelerated from deepening adoption of its AI-embedded Communications program, its Segment business declined once again on a sequential and year-over-year basis. However, overall margins grew, along with a sequential and year-over-year increase in the dollar-based expansion rate. While there is still a lot of work to be done on its Segment business, I believe, directionally, it is on the right path. At the same time, as enterprises deploy more of their budget towards driving personalized customer engagements, Twilio stands to benefit from higher usage of its product. Although there are risks to margin pressures should Twilio fail to keep up with its pricing updates as it layers its AI products, I believe its growth story is getting started.  In case you are wondering that an upside of 7% is unattractive, I would like to reinforce that it is a function of my somewhat conservative revenue growth estimates over the coming years. I believe this could be easily revised upwards by management should enterprise spending pick up pace, boosting Twilio's product usage and revenue growth.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"1","news_tag":"Business Data,analysis","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.2","shortVersion":"4.29.2","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2485262498"}