In this piece, we will take a look at the 11 best cloud stocks to buy according to analysts.
The surge in internet speed and usage has created a plethora of new industries in its wake such as eCommerce, social media, and online streaming. On the business side, one of the biggest beneficiaries of advances in communication is cloud computing. Cloud computing in its simplest terms is the use of computing resources virtually, where companies host expensive hardware and data servers and sell this capacity to customers.
Naturally, it’s unsurprising that some of the biggest companies in the world either directly offer cloud computing software products or the hardware that powers these systems. In fact, out of the five most valuable companies in the world in terms of market capitalization, three have leading cloud computing divisions (Google Cloud, Amazon AWS, and Microsoft Azure) while the other is a hardware company that is Wall Street’s AI darling.
In fact, cloud computing is so valuable that research from Bloomberg shows that AWS alone can reach a whopping valuation of $3 trillion. To wit, only the world’s biggest companies have crossed this metric, so this figure shows the potential that’s present in this industry. This isn’t the only time that a trillion dollar figure has been chosen to describe cloud computing’s potential. One of the biggest benefits of cloud computing is that it allows businesses to save on costs by outsourcing their hardware procurements.
These benefits will be worth quite a bit as research from McKinsey shows that by 2030, they can enable cloud computing companies to capture up to $1 trillion in run rate operating income (EBITDA) from Fortune 500 firms. Run rate EBITDA is a key metric in cloud valuation, as it projects current earnings into the future to make an estimate of value. Another mention of the enticing trillion dollar valuation comes in the form of market research. This suggests that the global cloud computing market was worth $484 billion in 2022, and from 2023, it can grow at a compounded annual growth rate (CAGR) of 14.1% to be worth $1.5 trillion.
Looking at these estimates, it’s clear that there’s at least some value in cloud computing stocks. The next question to ask is, how does one pick out the right cloud computing stocks? On this front, there are several valuation metrics that can be relied upon. Standard models such as the discounted cash flow (DCF) often do not capture the potential of cloud computing stocks since there are few reasonable estimates to measure their growth. These stocks differ from traditional companies since they don’t have to fork out massive capital to buy equipment and prime themselves for growth. Instead, software development is a margin heavy business with low development costs and stable, recurring revenue. This makes management focus on growing market share, and since this also leads to higher operating costs, many cloud computing stocks remain unprofitable for years.
The direct implication of this fact on valuation is that cloud computing stocks cannot be valued by traditional metrics such as the price to earnings (P/E) ratio. Instead, the enterprise value to sales is used as it captures the market and debt value minus cash and compares its scale with the revenue that the firm generates. Investors also have to nevertheless measure the ‘value’ a firm is generating even though it’s unprofitable. This is captured through the free cash flow. One of the most well known cloud computing stock valuation metrics is the Rule of 40. This combines the FCF with the revenue growth rate to evaluate the margins that such firms achieve. The logic is that the revenue growth rate plus the FCF margin (FCF divided by revenue) should be greater than 40 for a cloud computing firm to be sustainable. Combining these together, the ideal cloud computing stock should have a high Rule of 40 scores but a low EV/Sales, as this principle shows that a sustainable business is available at a cheap entry price.
Looking at the data, the EV/Sales multiple varies with a firm’s growth rate, and those with higher growth naturally command a higher multiple. For instance, as of recent market close, data shows that stocks with a Rule of 40 score greater than 40 and a revenue growth rate greater than 30% (Category 1) have a median EV/Sales multiple of 12.5x. On the flip side, those that fall below both of these have a median multiple of 5.1x (Category 2). Crucially, though, the category of stocks that have a growth rate higher than 30% but a Rule of 40 scores lower than 40 (Category 3) have a median EV/Sales ratio of 12.2x in today’s market which implies that investors are valuing growth more than profitability.
Why do we say “today’s market”? Well, when we compare this to the era of low interest and inflation rates in, say October 2021, the picture is different. Back then, Category 1 firms had a median EV/Sales ratio of 27.7x (!) while Category 3 firms had a ratio of 24.9x. This difference was even sharper in September 2020, with a ratio of 42.3x for Category 1 stocks and a value of 29.1x for Category 3 firms. To conclude, it appears that investors place a higher premium on growth than profitability when inflation tightens the belt and higher rates place a premium on attracting business spending for cloud computing stocks.
With these details in mind, let’s take a look at what analysts are saying about cloud computing stocks and their top picks.
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Our Methodology
To make our list of the best cloud stocks according to analysts, we ranked the holdings of First Trust’s cloud ETF by their average analyst percentage share price upside and picked out the stocks with the highest upside.
We also mentioned the number of hedge funds that had bought these stocks during the same filing period. Why are we interested in the stocks that hedge funds pile into? The reason is simple: our research has shown that we can outperform the market by imitating the top stock picks of the best hedge funds. Our quarterly newsletter’s strategy selects 14 small-cap and large-cap stocks every quarter and has returned 275% since May 2014, beating its benchmark by 150 percentage points (see more details here).
10. Zuora, Inc. (NYSE:ZUO)
Number of Hedge Fund Investors in Q1 2024: 20
Analyst Average Share Price Target: $12
Upside: 33%
Zuora, Inc. (NYSE:ZUO) is a specialty cloud company that focuses on allowing businesses to monetize their revenue, bill customers, streamline global payments, and manage customer subscriptions. This leaves the firm isolated to specific businesses that rely on subscriptions to generate revenue, and it also introduces cyclicality into the market. Zuora, Inc. (NYSE:ZUO) does well when its customers’ subscription volumes grow, and in a slow economy, these are likely to struggle along with the general consumer. Naturally, as the market tanked in October 2023 due to investor worries about interest rates, Zuora, Inc. (NYSE:ZUO)’s shares also hit their 52 week low of $7.04 then. Since then, the stock has mirrored investor sentiment and is up by 24%. Since it’s a small company, Zuora, Inc. (NYSE:ZUO) also has plenty of room to grow and it has spent the past couple of months adding big ticket names like The Economist, Luxottica, and Mitsubishi Electric into its customer list.
Since these additions create room for further revenue growth, a key question to ask is, is Zuora, Inc. (NYSE:ZUO) also growing recurring revenue? Here’s what management had to say about this during the Q1 2025 earnings call:
Well, the number one thing is – it is a sticky product. And when we can certainly see the volume that customers are putting through the system. We know how much they contracted for. We have a sense of, look, are these companies doing well? Are they growing? Are they declining? Usually for these subscription businesses, very few subscription businesses are actually shrinking. They are just not growing as fast as they might have been in previous years. And so that gives us a good strong set of visibility into how the base should be performing for, call it, the next four quarters.
9. Open Text Corporation (NASDAQ:OTEX)
Number of Hedge Fund Investors in Q1 2024: 19
Analyst Average Share Price Target: $42.54
Upside: 35%
Open Text Corporation (NASDAQ:OTEX) is an enterprise software products provider that enables businesses to enable employee collaboration, manage their data, avail cybersecurity services, and manage payments, supply chains, and other operations. Its shares are down by 24% over the past year as Wall Street is concerned about Open Text Corporation (NASDAQ:OTEX)’s ability to manage high debt from its revenue. Open Text Corporation (NASDAQ:OTEX)’s revenue has grown by 33% between its fiscal years 2022 and 2023; however, during the same time period, its long term debt has grown by 100%. While this did not impact the share price last year, May 2024 saw the stock drop by nearly 15% after Open Text Corporation (NASDAQ:OTEX) reported its earnings for the third quarter of fiscal 2024. The reason behind the share price drop was Open Text Corporation (NASDAQ:OTEX)’s forward guidance that questioned its ability to generate revenue amidst the firm’s divestiture of its application modernization business AMC. The decision was taken to fund its acquisition of information consulting firm Micro Focus. The divestiture led Open Text Corporation (NASDAQ:OTEX) to expect a $528 million drop in its FY 2025 revenue for a guidance ranging between $5.3 billion to $5.4 billion.
Open Text Corporation (NASDAQ:OTEX)’s management is adamant that it is still on a growth track as shared during the Q3 2024 earnings call:
We continue to build cloud momentum with our business clouds, business AI, and business technology. And we see proof points of this as evidenced by our continued strength with large multi-year cloud contracts and our upward revisions in future cloud bookings expectations. And with the AMC divestiture now complete, we have increased our capital flexibility to accelerate growth in the $200 billion information management addressable market. Long term, we expect our business to deliver mid-single-digit total revenue growth through a balanced approach of cloud-led organic growth plus M&A comprised of 20% plus enterprise cloud bookings growth, 7% to 9% organic cloud growth, 2% to 4% total organic growth, and 1% to 2% M&A growth, powerful cash flows at 20% plus of revenues, and a new return of capital framework comprised of 50% of trailing 12-month free cash flows returned to shareholders in the form of dividends and share buybacks and 50% for Cloud M&A.
8. Nutanix, Inc. (NASDAQ:NTNX)
Number of Hedge Fund Investors in Q1 2024: 56
Analyst Average Share Price Target: $73.44
Upside: 35%
Nutanix, Inc. (NASDAQ:NTNX) enables businesses to avail networking, storage, software virtualization, and other technology cloud services under a single platform. Since it’s a pureplay cloud provider, Nutanix, Inc. (NASDAQ:NTNX) future hinges on its ability to not only expand its customer base by signing new deals but also by offering a diversified and differentiated product portfolio and consistently growing its revenue. On these three fronts, Nutanix, Inc. (NASDAQ:NTNX) has demonstrated a mixed bag of performance. Its shares gained 53% in 2023 despite a high rate environment in the midst of high rates as it teamed up with networking giant Cisco to offer the latter’s products bundled with its software. Alongside, investors were also optimistic for Nutanix, Inc. (NASDAQ:NTNX)’s ability to capture the market share vacuum leading from Broadcomm’s acquisition of Vmware. However, the shares tanked by 28% in May 2024 after Nutanix, Inc. (NASDAQ:NTNX) high end fourth quarter revenue guidance of $540 million fell short of analyst estimates of $548 million. Since growth is a central tenet of cloud valuation, the shares tanked. Nutanix, Inc. (NASDAQ:NTNX) might overcome these trends in the future if it keeps signing new customer deals.
On this front, here’s what management had to say during the latest quarter’s earnings call:
I will now provide some commentary regarding our updated fiscal year ’24 guidance, specifically the following four points: first, we are seeing continued and significant new and expansion opportunities for our solutions. However, we continue to see a higher mix of larger deals in our pipeline which is driving greater variability in our new and expansion business. The number of opportunities greater than $1 million in ACV in our pipeline has grown at higher than 30% for each of the last 3 quarters compared to the corresponding quarters last year. Relatedly, the dollar amount of pipeline from opportunities greater than $1 million in ACV has grown at well over 50% and for each of the last three quarters compared to the corresponding quarters last year.
These larger opportunities often involve strategic decisions and C-suite approvals, causing them to take longer to close and to have greater variability in timing, outcome and deal structure. And as we mentioned previously, we have continued to see a modest elongation of average sales cycles relative to historical levels. Our fiscal year ’24 new and expansion ACV and ARR performance year-to-date have been affected by these dynamics and have been below our initial expectations at the beginning of the fiscal year. We expect these dynamics to continue in Q4. As an example, for the eight figure ACV transaction in Q3 that Rajiv mentioned, we expect the billings and cash collection to be in Q4, while the associated subscription revenue is expected to be recognized over multiple years starting in fiscal year ’25.
7. Confluent, Inc. (NASDAQ:CFLT)
Number of Hedge Fund Investors in Q1 2024: 37
Analyst Average Share Price Target: $35.64
Upside: 36%
Confluent, Inc. (NASDAQ:CFLT) is a data focused cloud stock that enables customers to consolidate and manage their data on a singular platform. It is one of the few companies in the cloud industry that offers a data streaming platform to allow for real time data processing. This allows businesses to generate real time insights and improve their decision making. While this offers Confluent, Inc. (NASDAQ:CFLT) a lot of runway for future growth by capturing market share via the early mover advantage, in the short term, share price performance is dependent on customer acquisition, product launches, and customer retention. Therefore, Confluent, Inc. (NASDAQ:CFLT)’s shares lost a stunning 44% in November 2023 when it guided $205 million in revenue for Q4 2023. Wall Street had expected $213 million, and investors were further spooked when management shared that an online gaming company moved back to on site data processing and another customer lowered its spending as it was being acquired. Yet, as a classic illustration of the highly volatile nature of cloud stocks, Confluent, Inc. (NASDAQ:CFLT)’s shares gained 34% in February 2024 after Q4 revenue sat at $213 million to smash analyst estimates of $205 million. The firm added that it expects to become profitable in FY2024.
Confluent, Inc. (NASDAQ:CFLT)’s Q1 2024 earnings call also shared more details about its customer retention and recurring revenue with management sharing:
Customers with 100K plus in ARR grew 17% to 1,260 and continue to account for greater than 85% of our revenue. Customers with 1 million plus in ARR grew 24% to 168, reflecting the power of our network effect and customers’ continued standardization on our data streaming platform. NRR was healthy and in line with our target range of 120% to 125% for this year. Gross retention rate remained strong and was above 90%. As discussed last quarter, we expect NRR to exceed our midterm target threshold of 125% starting fiscal year 2025 as we exit the consumption transformation. RPO was $840.2 million, up 13%.
6. Fastly, Inc. (NYSE:FSLY)
Number of Hedge Fund Investors in Q1 2024: 23
Analyst Average Share Price Target: $10.17
Upside: 37%
Fastly, Inc. (NYSE:FSLY) is a content delivery and application development focused cloud company. As is with other cloud stocks, central to its hypothesis is Fastly, Inc. (NYSE:FSLY)’s ability to grow its customer base, grow revenue, and retain customers. It has to consistently match Wall Street’s revenue growth expectations, and any misses are punished heavily, particularly in today’s high rate environment that has increased the risk premium. At the same time, Fastly, Inc. (NYSE:FSLY) also depends on the source of its traffic for its revenue. Certain countries lead to high value traffic, and if this source shifts, then Fastly, Inc. (NYSE:FSLY) experiences a growth slowdown. This led to a 31% share price drop in February when the firm’s $138 million in Q4 revenue sat at the lower end of its guidance as international traffic fluctuations impacted the top line. Fastly, Inc. (NYSE:FSLY)’s shares fell another 32% in May when its calendar year revenue growth guidance of 6% to 9% marked a significant drop over the earlier guidance of 15% to 17%.
Customer deals were at the heart of the revision, and during the earnings call, Fastly, Inc. (NYSE:FSLY)’s management shared:
There are a few factors that contributed to a challenging short-term environment. The biggest factor is a reduction of revenue from a small number of our largest customers. The first-quarter revenue from our top 10 customers dropped from 40% to 38%. Many of the top 10 accounts run a multi-vendor strategy. And we did see significant volatility here. And there are a few reasons for that. Firstly, historically, Fastly has gradually won greater traffic share in our largest accounts. But with the timing of rate and volume changes, we saw increased volatility this quarter. To be clear, we have not been removed from any of our largest customers and we remain in a strong strategic position, each of them long term.
5. Workiva Inc. (NYSE:WK)
Number of Hedge Fund Investors in Q1 2024: 22
Analyst Average Share Price Target: $103
Upside: 39%
Workiva Inc. (NYSE:WK) is a specialized cloud company that enables businesses to access and consolidate SEC reports with other data points to allow investors and finance professionals to evaluate companies according to ESG standards. Roughly 70% of its revenue comes from these products, which provides Workiva Inc. (NYSE:WK) a dominant role in the market. At the same time, this dependence on a single sub cloud industry also leaves it vulnerable to large downswings in case of an industry slowdown, tough competition, or an investor shift away from ESG. Additionally, Workiva Inc. (NYSE:WK)’s long term aim is to grow its free cash flow margins to 22% by 2027, which makes cost control a key part of its hypothesis. These margins were 4% in 2023, and any misses in this area will affect the stock. Workiva Inc. (NYSE:WK) also suffers from high sales cycles as the key nature of its software in helping investors make decisions means that they carefully evaluate it before making a purchase commitment. Its sales are also dependent on the health of the broader deal making industry, which has only just started to increase its activity to potentially open up more avenues for growth.
Artisan Partners mentioned Workiva Inc. (NYSE:WK) in its Q1 2024 investor letter. Here is what the firm said:
Our profit cycle thesis is based on the company’s capability to identify and quickly roll out new products, effort to expand beyond North America and opportunity to benefit from increasing ESG regulatory reporting longer term. While the company reported financial results that exceeded expectations, shares declined due to disappointing forward guidance. However, we remain invested on the belief that trends are supportive of multiyear growth.
4. HubSpot, Inc. (NYSE:HUBS)
Number of Hedge Fund Investors in Q1 2024: 55
Analyst Average Share Price Target: $664.21
Upside: 40%
HubSpot, Inc. (NYSE:HUBS) is a diversified customer relationship software management provider. Its products cover marketing, online content management, operations management, and other business processes. When compared to several other cloud stocks on our list, HubSpot, Inc. (NYSE:HUBS) has managed to post stable revenue growth over the past couple of years. At the same time, the cyclical nature of the cloud industry which often pushes out deal making to the later quarters of a year means that HubSpot, Inc. (NYSE:HUBS) remains vulnerable to slowdown during the first quarter. To mitigate this, the firm lowered the entry level prices for its platform and also introduced changes to allow customers to easily upgrade their packages. HubSpot, Inc. (NYSE:HUBS)’s business, which allows it to target content generation, also enables it to become an early mover in AI among cloud computing stocks. As its revenue slowed in Q1, the firm announced 70 AI features for its products in April 2024. These features are focused on brand management, and they allow businesses to unify their brand pitches along a thematic framework. HubSpot, Inc. (NYSE:HUBS) also benefits from being able to provide its customers with AI powered chatbots for their customer management.
For the Q1 slowdown, here’s what HubSpot, Inc. (NYSE:HUBS)’s management had to say during the earnings call:
Switching gears to macro. After a strong finish in Q4, we saw a return to weaker demand conditions in the first quarter, similar to what we experienced in 2023. The buyer urgency that we saw in December did not carry over into Q1. Instead, we saw a return to higher scrutiny of budgets, more decision makers getting involved, and a need for more demos and proof-of-concepts before signing-off on purchase decisions. At the top of the funnel, we saw lead flow shift away from higher quality inbound and partner source leads to lower quality rep source leads. This shift, plus the lower buyer urgency slowed down deal progression and in some cases pushed deals out of Q1 and into Q2. While deal close and upgrade rates remain under pressure, we continue to see strong customer dollar retention in the high-80s which underscores the value that our unified customer platform delivers for our customers.
3. Klaviyo, Inc. (NYSE:KVYO)
Number of Hedge Fund Investors in Q1 2024: 22
Analyst Average Share Price Target: $33.93
Upside: 41%
Klaviyo, Inc. (NYSE:KVYO) is one of the more unique cloud companies. It is primarily a content delivery services provider, but unlike others that provide an off the shelf solution, Klaviyo, Inc. (NYSE:KVYO) allows businesses to use their proprietary data and build it on an application to send messages to customers via SMS, email, push notifications, and other mediums. This is an uncommon business model that leaves a sizeable market open for Klaviyo, Inc. (NYSE:KVYO). However, since this model is also the firm’s primary line of business, any changes to standards set by email providers like Gmail or carriers could create headwinds for Klaviyo, Inc. (NYSE:KVYO). Like other cloud companies, its success depends on revenue growth, recurring revenue through customer retention, and cost control. Klaviyo, Inc. (NYSE:KVYO)’s customers also depend on broader consumer strength, so an economic downturn could hit it harder than other cloud stocks. Additionally, the shares have been lackluster in 2024 due to Klaviyo, Inc. (NYSE:KVYO)’s excessive reliance on small businesses for its revenue. These firms often feature fluctuating performance and are highly sensitive to economic slowdowns.
On this crucial front, here’s what Klaviyo, Inc. (NYSE:KVYO)’s management had to say during the Q1 2024 earnings call:
We often think about, when we talk to our customers, what are the kind of nice-to-have piece of software versus what are the must-haves. And from day one, we tried to position Klaviyo as a must-have and — really because we’re driving revenue. Amanda talked about how for our customers, a greater or increasing percentage of their sales are coming through Klaviyo. And we think that there’s two parts that make us a must-have. The first is being the central source of truth about all your customers and being able then to use that, not just with our marketing products, e-mail, SMS, et cetera, but also to use that data in other applications. We’ve got hundreds of applications that plug into Klaviyo, so that centrality really matters.
And then the second part is we built in attribution and the ability to really measure your results. I think if you’re a product that can tie back usage of that product directly to real revenue, real profit, that’s a huge driver. In fact, like when you think about what we’re doing with artificial intelligence, that’s a big part of the story. When we started Klaviyo, the whole idea was better, more personalized experiences that are going to be more engaging that are going to drive more revenue. And now if you extend that with our product strategy, as we invest in AI, we think about that as a big driver of helping businesses increase customer engagement and revenue by being able to run more experiments, being able to optimize the marketing campaigns they’re running.
So I think when budgets get a little bit tighter, everybody kind of looks at which software is a must-have. And I think because we’re driving revenue, we fit in like that.
2. Snowflake Inc. (NYSE:SNOW)
Number of Hedge Fund Investors in Q1 2024: 73
Analyst Average Share Price Target: $206.66
Upside: 52%
Snowflake Inc. (NYSE:SNOW) is one of the biggest cloud computing companies in the world. It is a data processing cloud company that allows businesses to consolidate their data and generate insights. Estimates show that Snowflake Inc. (NYSE:SNOW) holds a 22% market share in the data warehousing market, making it unsurprising that the firm’s latest market capitalization sits at $44 billion. While this relieves some of the pressure on management to pursue the holy grail of growth in the cloud industry, Snowflake Inc. (NYSE:SNOW) is yet to turn a profit despite its heft. This also increases the pressure on management to achieve profitability, or high free cash flow and operating margins. Snowflake Inc. (NYSE:SNOW)’s management had also set lofty expectations for growth, but when it withdrew its FY2029 $10 billion revenue target in February, investors reacted and the shares plummeted by 27% in the aftermath. The following quarter wasn’t great on the cost front either, as its gross profit and operating margin guidance for the full year were guided at 75% and 3%, respectively. These were lower than the 75% and 6% that it had previously guided.
However, Snowflake Inc. (NYSE:SNOW)’s management is quite optimistic about its AI initiatives. During the Q1 2025 earnings call, it shared:
Like first and foremost, I think it is important for all of us to acknowledge that AI language models are going to have an impact at multiple levels of what you can think of as a data stack. So for example, the way in which people are going to be migrating from an old system, an on-prem system to something like Snowflake, is going to be aided by the presence of a Copilot that can do much of the translation. We already have such a translation product and we think AI is going to make that go even faster. But in other areas like data cleansing, data engineering that are perhaps not as sexy, but nevertheless required a huge amount of investment in order to make sure that the data is enterprise grade.
We think AI is going to play a big role both in the creation of those pipelines, but also in things like how does one make sure that the data is clean. For example, if PII accidentally flips into a table or a distribution goes very wonky, language models can help detect deviations from patterns. And then going up the stack, we have a very acclaimed product for writing SQL, our Copilot within our user interface, that can significantly accelerate in analysts’ ability to get to know a data set and be productive with it. And then, of course, to something like a data API, which now begins to put enterprise data into the hands of a business user, but with a very high degree of reliability. And so my point is there is a broad impact. And I think things like automating some of the work that an analyst has to do, for example, to troubleshoot problems, will be things that a language model can do.
Having said that, for a variety of problems, small models, which we are perfectly capable of developing from scratch like we have done for document AI or more a midsized model like what we did with Arctic, actually suffices for the vast majority of the applications that I’m talking about. And so there are academic benchmarks like there’s one called MMLU, it’s a notoriously difficult benchmark, and depends very much on model size and how many dollars people are throwing at training those models. We can get a huge amount done with a small team under modest investment without needing to play at that level where you’re talking — companies are talking about spending billions of dollars. I don’t think we need to be there. I think being very focused on what we need to deliver for our customers will take us a long way with the amount of investments that we are making.
And finally, I will add that we have amazing partnerships with a ton of people. Even today, I wrote about how we’re collaborating with landing that AI and doing company, but we have partnerships with Mistral, with Reika with a ton of other companies. The field of AI is so large that I don’t think there’s going to be one company that is going to make every model that every person is going to use. We are very good at developing the models that we need in our core and we actively collaborate with a large set of players for other kinds of models. And obviously, they see value in the 10,000 customers we have and being able to go to market together. And so I think this is likely to continue for the indefinite future in terms of what we need to do.
1. Five9, Inc. (NASDAQ:FIVN)
Number of Hedge Fund Investors in Q1 2024: 38
Analyst Average Share Price Target: $80.15
Upside: 83%
Five9, Inc. (NASDAQ:FIVN) is a cloud software provider that serves the needs of the call center industry. It provides a one stop solution for call center agents to use email, social media, and other platforms to communicate with customers. This makes Five9, Inc. (NASDAQ:FIVN) one of the few companies of its kind that is able to let call center companies off load their infrastructure costs to a third party and improve margins. However, a large portion of Five9, Inc. (NASDAQ:FIVN)’s customers are reliant on discretionary spending, and as the economy slows, the firm will find it difficult to sustain its recurring revenue growth. To counter this, Five9, Inc. (NASDAQ:FIVN) has to grow the share of enterprise customers within its revenue mix. Additionally, a key component of its hypothesis, which has also rattled investors and contributed to a modest 16% share price gain in 2023, is whether AI will disrupt call centers sufficiently to make Five9, Inc. (NASDAQ:FIVN)’s business redundant. The firm has responded to these concerns by deepening AI’s presence in its portfolio and offering products such as AI chatbots and allowing businesses to determine customer needs without relying on humans.
Brown Capital Management was aware of all these trends in its Q1 2024 investor letter. However, it remains bullish about Five9, Inc. (NASDAQ:FIVN) and shared:
Five9 is a leader in cloud-based contact center software, offering a comprehensive omnichannel solution that seamlessly incorporates inbound and outbound calling with email, chat, SMS and social media. With the growth of e-commerce, consumers are increasingly opting for digital interactions over physical visits, driving the need for world-class contact-center software solutions. These systems effectively become a virtual front door for customers, serving as indispensable, mission- critical gateways for customer engagement and support. Five9’s cloud-native platform is superior to traditional, on-premise legacy systems, offering lower costs, faster innovation and support for remote-working needs. These advantages are expected to significantly increase cloud adoption in the future, pushing it well above the current level of approximately 20%.
The company reported fourth quarter revenue results that were only modestly ahead of consensus expectations, with disappointing revenue-growth guidance for the first quarter of 2024. Management cited the macroeconomic impact of lower demand for services from the installed base, driven by headwinds within the consumer discretionary vertical, which is the company’s third-largest customer segment. In addition, there are ongoing concerns that new artificial intelligence (AI) technologies could disintermediate contact-center software and shrink the market for the company’s offering. However, AI also offers a significant opportunity for the company, a leader with eight currently marketed AI products that are providing a pricing uplift of as much as 2-3x. In addition, to fully leverage AI’s advantages, customers must first adopt cloud-based solutions, which should accelerate the shift to the cloud, benefiting Five9. The company has seen particularly strong adoption of AI solutions with larger enterprises, helping it expand beyond its earlier success with small and medium-sized customers. Despite the near-term headwinds, Five9 should have a healthy runway for durable double-digit long-term growth driven by industry-leading technology and market-share gains from legacy incumbents.
FIVN has some of the highest analyst percentage share price upside in cloud stocks. However, our conviction lies in the belief that some AI stocks hold greater promise for delivering higher returns and doing so within a shorter timeframe. If you are looking for an AI stock that is more promising than AMZN but that trades at less than 5 times its earnings, check out our report about the cheapest AI stock.
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Disclosure: None.
