The last portfolio update was posted as of 7May. Since the last update, there have been earnings results for UPST (11May), LSPD (20May), SNOW (26May), ZM (1Jun), CRWD (3Jun), and DOCU (3Jun). I will provide my brief take on each result later in the post. Now that all of the portfolio companies have reported their 31Dec/31Jan quarters, there will be a two-month lull. I plan on posting the next portfolio update after the end of June.
PRIOR PORTFOLIO UPDATES
PORTFOLIO PERFORMANCE
| DATE | GauchoRico Portfolio (YTD) | S&P500 Total Return (YTD) |
|---|---|---|
| Jan | 3.1% | -1.0% |
| Feb | -1.2% | 1.7% |
| Mar | -13.2% | 6.2% |
| Apr | -1.5% | 11.8% |
| May | 3.4% | 12.6% |
| 4Jun | 2.3% | 13.3% |
The last ATH for the portfolio remains 12Feb, but the trough (-22.8% YTD) set on 8Mar was breached on 13May to set a new YTD low of -23.5%. Since that YTD low, the portfolio rallied fiercely for 7 straight days, ending the month at +3.4% YTD. By the day before the last trading day in May, the portfolio had increased on nine of the past days increasing in value by 36.6% in 10 trading days from the 13May YTD low! This demonstrates how quickly sentiments and fortunes can change. In spite of this steep rally, at the end of May, the portfolio still trailed the S&P 500’s YTD return by 9.2% percentage (albeit down from a much wider gap of 30.7% on 7May). Also, the portfolio closed May still down 12.1% from the 12Feb ATH.
Going into June, we had a week that included earnings results from ZM, CRWD, and DOCU, which comprised more than 1/3 of the portfolio’s value. Thus, there was a chance for a big move in the GauchoRico portfolio. However, after the dust settled, there was little overall movement in the portfolio’s value despite big swings in CRWD (drop after earnings), DOCU (big rise after earnings), and UPST (lots of volatility and a high short interest). It turns out that the big swings in the individual companies pretty much cancelled each other out. The portfolio closed out the week at +2.3% YTD and still down 13.0% from the ATH.
I wrote about the previous GR portfolio selloffs in a recent post. No one can know when the 12Feb ATH will be surpassed; it could take as little as a couple of weeks or as long as a couple of years. The answer will probably be somewhere between timeframes. What we can do is continue to focus on the companies’ results with an eye toward the factors that will determine the continued success (or not) for the underlying businesses.
2021 Notable Days for the Portfolio
Below are some of the notable days in 2021.
| Date | YTD Return | Notes |
|---|---|---|
| 01/27/21 | -2.2% | local bottom |
| 02/05/21 | +12.6% | new ATH |
| 02/08/21 | +14.0% | new ATH |
| 02/09/21 | +16.6% | new ATH |
| 02/10/21 | +16.8% | new ATH |
| 02/11/21 | +17.8% | new ATH |
| 02/12/21 | +18.3% | new ATH (current ATH) |
| 02/25/21 | -3.4% | -6.3% on the day |
| 03/03/21 | -6.3% | -7% on the day |
| 03/04/21 | -13.6% | -9.2% on the day |
| 03/05/21 | -17.1% | -4.1% on the day |
| 03/08/21 | -22.8% | -6.9% on the day |
| 03/09/21 | -11.0% | +15.3% on the day |
| 03/11/21 | -4.3% | +9.6% on the day |
| 03/18/21 | -10.2% | -6.7% on the day |
| 03/24/21 | -15.6% | -8.6% on the day |
| 03/29/21 | -19.0% | close to 3/8/21 trough |
| 03/31/21 | -13.2% | +6.6% on the day |
| 04/13/21 | +4.0% | +8.0% on the day |
| 05/04/21 | -10.9% | -6.1% on the day |
| 05/06/21 | -21.1% | -9.6% on the day |
| 05/07/21 | -17.5% | +4.6% on the day |
| 05/13/21 | -23.5% | new YTD low |
| 05/14/21 | -16.3% | +10.9% on the day |
| 05/20/21 | -5.3% | +7.1% on the day |
| 05/24/21 | -0.1% | 7th consecutive up day |
Weekly Performance
| DATE | GauchoRico YTD | S&P500 TOTAL RETURN YTD | DELTA |
|---|---|---|---|
| 1/8/21 | 6.5% | 1.9% | 4.6% |
| 1/15/21 | 6.4% | 0.4% | 6.0% |
| 1/22/21 | 10.2% | 2.4% | 7.9% |
| 1/29/21 | 3.1% | -1.0% | 4.2% |
| 2/5/21 | 12.6% | 3.6% | 9.0% |
| 2/12/21 | 18.3%* | 4.9% | 13.3% |
| 2/19/21 | 14.2% | 4.2% | 10.0% |
| 2/26/21 | -1.2% | 1.7% | -3.0% |
| 3/5/21 | -17.1% | 2.6% | -19.7% |
| 3/12/21 | -6.3% | 5.3% | -11.6% |
| 3/19/21 | -7.7% | 4.5% | -12.3% |
| 3/26/21 | -15.8% | 6.2% | -22.0% |
| 4/1/21 | -9.5% | 7.4% | -16.9% |
| 4/8/21 | -3.3% | 10.4% | -13.6% |
| 4/15/21 | 0.0% | 11.9% | -11.9% |
| 4/23/21 | 3.1% | 11.8% | -8.7% |
| 4/30/21 | -1.5% | 11.8% | -13.4% |
| 5/7/21 | -17.5% | 13.3% | -30.7% |
| 5/14/21 | -16.3% | 11.7% | -28.0% |
| 5/21/21 | -2.4% | 11.3% | -13.7% |
| 5/28/21 | 3.4% | 12.6% | -9.2% |
| 6/4/21 | 2.3% | 13.3% | -11.1% |
ALLOCATIONS
| TICKER | 6/4/21 | 5/31/21 | 5/7/21 | 4/30/21 | 3/31/21 | 2/12/21 | 1/31/21 | 12/31/20 |
|---|---|---|---|---|---|---|---|---|
| CRWD | 17.8%* | 20.0%* | 25.8%* | 30.2%* | 27.7%* | 31.2%* | 31.2%* | 31.5%* |
| DDOG | 16.3%* | 16.7%* | 17.5%* | 12.0%* | 12.9%* | 10.3% | 10.7% | 10.4% |
| NET | 15.6% | 15.2% | 16.7% | 16.6% | 15.2% | 17.7%* | 17.9%* | 17.8%* |
| LSPD | 12.2%^ | 12.1%^ | 12.6%^ | 13.1%^ | 13.2%^ | 6.2%^ | 4.8%^ | 3.3% |
| DOCU | 10.3%* | 6.6%* | 5.4%* | 5.7%* | 5.6%* | 12.6% | 16.2%* | 16.4%* |
| ZM | 9.1% | 10.8%* | 12.0%* | 11.0%* | 12.3%* | 11.6% | 11.5% | 11.0% |
| SNOW | 7.0% | 6.8% | 7.4% | 6.9% | 3.0% | 0.7% | 0.5% | — |
| UPST | 7.0% | 6.3% | 4.6% | 4.4% | 5.7% | 2.7% | — | — |
| GOLD | 2.8% | 2.9% | 2.2% | 1.6% | 1.7% | 1.2% | 1.4% | 3.0% |
| NEM | — | — | 1.3% | 1.0% | 1.1% | 0.9% | 1.0% | 1.0% |
| PATH | — | — | — | 0.1% | — | — | — | — |
| PTON | — | — | — | — | 4.0% | 3.7% | 4.0% | 4.2% |
| BPRMF | — | — | — | — | 1.2% | 1.3% | 1.3% | 1.4% |
| Cash | 3.1% | 3.0% | 1.3% | -0.2% | 1.2% | 1.0% | 0.8% | 0.7% |
The allocations in the above table show the total value of each position in dollars divided by the total value of the entire portfolio. Call options are valued using the midpoint of the bid/ask price of the option after the close of trading for the date listed in the table; thus, the options values includes both intrinsic value and time value. It is important to point out this fact particularly as it pertains to the CRWD position in the portfolio. This is because the portfolio’s CRWD position is comprised almost entirely of Jan2023 call options with strike prices between $170 and $210. This results in more than a 3x leveraging because these call options are worth significantly less than an equivalent number of shares. As of the end of May, if all the CRWD call options were an equivalent number of shares then the position’s value would be 3 1/2 times higher. In other words, the upside of the CRWD position is amplified by 3.52 times. The options allocations of the other stocks in the portfolio are not as large. The table below details each position’s allocation in shares and in long call options:
| TICKER | Shares Allocation | Options Allocation | Total Allocation |
|---|---|---|---|
| CRWD | 0.1% | 17.7% | 17.8% |
| DDOG | 14.5% | 1.8% | 16.3% |
| LSPD | 8.8% | 3.4% | 12.2% |
| DOCU | 7.5% | 2.8% | 10.3% |
| TOTAL CALL OPTIONS (% of portfolio) | 25.7% |
While it appears that I’ve reduced the CRWD position by more than 40% during the past two months, this is not the case at all. Most of the change in allocation came from selling the $50 and $60 Jan2022 call options and using much of the proceeds thereof to purchase $170, $175, $200, and $200 Jan2023 call options but a lot more of them. Therefore, the current dollar value of the CRWD position is about 40% lower, but the exposure to the upside on CRWD increased significantly because the number of controlled shares increased. This change is not without risk, but the switch was made when CRWD shares were trading quite a bit lower than the current price (even after the post-earnings drop on 4Jun). For more on using LEAPS as a share replacement, please see this post. In total a full 17.7% of the entire GauchoRico portfolio’s value is comprised of CRWD call options.
PORTFOLIO CHANGES
Changes since 7May2021
I did not make many changes since my last portfolio update.
- Sold some CRWD to buy DOCU: Several months ago, I had sold ~2% allocation of DOCU shares to harvest a tax loss, and I temporarily moved the proceeds into CRWD. I reversed that trade in May.
- Added to UPST: After a great earnings result, UPST temporarily dropped back into the $80s. I added ~0.4% allocation to my position.
- Sold all NEM to buy more GOLD: Gold prices rose in May, and NEM rallied much more than GOLD so I exchanged all my NEM shares for more GOLD shares.
- Sold ZM call options and high cost basis ZM shares: reduced position after earnings.
- Bought more DOCU: added 1.8% to allocation after earnings (in the after hours market).
PORTFOLIO COMPANIES UPDATES
The following companies reported their most recent quarterly results since the last portfolio update.
UPST (reported 11May); 7.0% position
UPST reported results for the 31Mar quarter on 11May. Overall, I would call the quarter’s results excellent. Below are some of the highlights.
Huge raise to guidance: UPST surprised investors with an enormous raise of FY21 revenue guidance just eight weeks after initiating FY21 guidance. The raise was $100M or 20% from $500M to $600M with three quarters remaining in the fiscal year! Perhaps we can now expect UPST’s revenue for 2021 to land somewhere between $750M and $900M. It certainly seems that management sees that the business has returned to its pre-COVID stride.
Risks remain: In spite of the great 31Mar quarter, UPST still has the same risks. First, customer concentration remained extremely high with two customers representing 85% of total revenue in the quarter. UPST added several customers during the quarter and now has a total of 18 banks/credit union customers. Going forward, I’ll be looking for UPST to continue adding more customers while growing the number of loans transacted for customers that don’t already use UPST for a significant part of their unsecured personal lending; success in this regard will lower UPST’s customer concentration risk. Second, and related to customer concentration risk, UPST’s AI-based loan underwriting hasn’t gained traction among the wider industry. While growth is super strong, the market is enormous, and UPST needs a broader base of financial institution adoption. Third, UPST could potentially get disrupted although there are no signs of this happening yet. Management said during the earnings call that they aren’t seeing any competition yet. The eight-year head start does seem like an eternity given that more data (including payment data over a long timespan) gives AI-based algorithms a big advantage.
Huge potential: UPST has only penetrated a tiny sliver of the unsecured personal loan market in the United States. The Company is now entering the auto loan market (also only in the U.S.). There are other loan products as well as new geographies that could offer expansion opportunities. AI-based lending is disruptive and still early in its infancy. The Company’s progress so far combined with the huge TAM certainly is enticing for me as an investor.
Last quarter, UPST continued to show strength and progress with respect to its operational metrics. Loans transacted, loan conversion rate, and profitability are all moving in the right direction. This is occurring as UPST continues to improve its AI models and plans for entry into new and bigger markets.
In summary, UPST is definitely on track, and it’s a company with great progress and potential but also some risks that I’d like to see mitigated. Interestingly, with this stock comes great temptation: temptation to sell some after a huge stock price gain in a very short period and temptation to add to a “winner”. While I added a small allocation to my shares after earnings when the stock dipped back into the $80s, I’ve mostly resisted trading in and out on the swings. As long as the business continues to perform, I’d be hard pressed to sell any shares (unless the price gets too crazy….what’s crazy? Maybe $225 in the near term). Until I see some of the risks mitigated, I’ll likely not add shares (unless the price gets too cheap….what’s cheap? Maybe sub-$90).
LSPD (reported 20May); 12.2% position
LSPD reported results for the 31Mar quarter on 20May. Against the backdrop of very difficult circumstances for its two largest groups of customers, hospitality and retail, LSPD delivered very solid results. With all of LSPD’s recent acquisitions, it’s difficult to untangle the real growth of the business. So I’ll say upfront that my analysis of LSPD is less quantitative than it would be for a company that has more apples-to-apples comps. To a large extent, my investment is based on some faith (but backed up by observations of success in their acquisition and industry consolidation strategy) in management’s continued execution. In addition, I am observing and tracking LSPD’s success in light of tremendous COVID-19 headwinds; I’m confident that these headwinds are already turning into tailwinds. I don’t believe most investors have yet appreciated the combined impact of the acquisitions (including all of the Company’s business growth due to cross-selling, payments adoption, and geographic expansion) and the huge impact of the developed economies’ reopening. I believe that this is particularly true because LSPD’s customers are predominantly in hospitality and retail, two sectors most setup to flip from severe pain during the lockdowns to blistering growth upon reopening.
Revenue Growth: Organic revenue growth showed continued strength at 48%. I was pleased to see this, and I can only wonder what the growth could have been without the lockdowns. Their Q4 was from 1Jan through 31Mar before there were a significant number of people vaccinated and during some of the most severe COVID-19 outbreaks. This undoubtedly severely suppressed both hospitality as well as brick and mortar businesses in most of LSPD’s geographic markets. If LSPD can grow 48% organically (note that the comparable quarter from a year ago was largely prior to the first pandemic lockdowns!) under these circumstances then growth should be strong in the 30Jun quarter and super strong in the 30Sep quarter. With respect to increasing GTV as economies reopen, management stated on the earnings call that March was better than February, and April was better than March. They’ve also said that in the markets, like Australia, where lockdowns were eased business rebounded strongly. I think I could justify my continued investment in LSPD on the basis of a “strength on reopening thesis” alone.
Acquisitions: LSPD has recently made three significant acquisitions: Upserve, ShopKeep, and Vend (the Vend transaction closed in April so it’s not yet reflected in the 31Mar quarter’s numbers). If I recall the numbers right, LSPD managed to buy these businesses for around 10x sales while LSPD’s multiple was much higher. Assuming that the combined company can keep LSPD’s multiple, the acquisitions should help further boost the valuation. In addition, LSPD is actively harvesting synergies by cross-selling into both legacy customers and acquired customers.
Lightspeed Payments: LSPD rolled out payments in 2019. When customers switch to the Lightspeed Payments then LSPD gets 2.6% of those customers’ gross transaction volume (GTV). Toward the end of the 31Mar quarter, LSPD had reached almost 10% penetration of Lightspeed Payments into its customer base; this figure excludes Upserve and ShopKeep (and Vend since it wasn’t part of LSPD yet). Transitioning customers to Lightspeed Payments is a very important part of the thesis for owning LSPD shares. Including LSPD’s acquisitions, LSPD’s LTM GTV is about $40B (including Vend). This makes the total opportunity for transaction-based revenue from Lightspeed Payments more than $1B annually; considering that GTV was suppressed during the pandemic, the opportunity for revenue from Lightspeed Payments is even larger. Although LSPD will not convert all of its customers to Lightspeed Payments, adoption will certainly grow, and it’s a metric that I will be watching every quarter.
In summary, the LSPD thesis is playing out with the Company growing rapidly even in the face of a tough quarter for hospitality, which was down 15% Y/Y organically. Hospitality, though, is recovering fast as economies reopen. The CFO reported that hospitality GTV was up 10% sequentially from February to March and then up another 15% sequentially from March to April. I’m looking forward to seeing the Q1 (30Jun quarter) results in about 2 months!
SNOW (reported 26May); 7.0% position
SNOW reported results for the 30Apr quarter on 26May. Expectations were high, and SNOW delivered. Here are some of the highlights.
SNOW reported another incredible quarter with RPO growing 206% Y/Y. Revenue grew 110%, but we must remember that it takes customers 6-9 months, after first signing up for Snowflake, to really start spending. And boy do they spend as evidenced by the 168% net dollar-based (revenue) retention rate. Since SNOW added almost 1/3 of its existing customer base during the past 3 quarters, we can expect to see strong growth at least through the remainder of the year. Since SNOW trades at a nosebleed valuation, the degree, duration, and certainty of future growth plays a dominant role in how much investors are willing to pay for the shares.
International growth: International revenue (ex-United States) was only 19% of the total for the quarter. This leaves a lot of room for growth particularly in EMEA and APJ. In fact, CEO Slootman called out EMEA’s >200% Y/Y growth and APJ’s >300% Y/Y growth.
Data to ROI: The idea that data can directly and automatically inform decisions that provide positive ROI, either through increases in sales or decreases in cost, remains my top non-quantitative reason for holding SNOW shares. The automation of spending/investment decisions through machines gathering, storing, and analyzing data can provide SNOW with almost unlimited scalability. So long as this process provides a net positive outcome (i.e. either costs less than it gains in gross margin dollars, or costs less than it saves in spending), a SNOW customer should be very willing to keep increasing the spend on SNOW until the ROI reaches zero. Furthermore, if a SNOW customer is utilizing this approach and a competitor is not then the competitor will be at a disadvantage.
Data marketplace and ecosystem: Building on the data to ROI benefit (discussed above), we can consider that not all useful information/data is generated by customers in-house. In fact, customers can potentially gain additional positive ROI by accessing, combining, and analyzing third party data with the company’s own data. SNOW is enabling and encouraging this type of data sharing/networking. Thus, some companies are and more companies will sell their data for a fee. This type of data networking will create an additional competitive advantage (as well as product/service stickiness) if SNOW owns/controls the predominant data networking marketplace. SNOW calls this a data cloud, and it is “the sum of all data networking relationships that are active at any point in time”. Just like Johnny Depp’s character in the movie “Trancendence,” if successful, SNOW could scale very quickly to enormous heights as computers analyze and make positive ROI spending decisions at the speed of light. During the call, SNOW provided investors with the first glimpse of the data cloud’s traction:
“We track these relationships through what we call edges. At the end of the quarter, 15% of our rapidly expanding customer base had data edges in place with external Snowflake accounts, compared to 10% a year ago. And the number of edges this period grew 33% quarter on quarter.”
CEO Frank Slootman, 26May 2021, Q1 FY2022 earnings call
Hopefully, SNOW will continue to provide us with metrics on networking growth within its data cloud.
Six vertical industries: Slootman emphasized that SNOW is in the process of organizing the Company along six verticals including a) financial services, b) healthcare and life sciences, c) retail and consumer packaged goods, d) advertising, media and entertainment, d) technology, and e) public sector. SNOW must believe that this industry segmentation will not only enable SNOW to make data more relevant for each industry but also create more tightly-knit and relevant data clouds which will incentivize more customers to network their own data and/or access third party data within SNOW’s data cloud(s).
SNOW continues to make fast and steady progress toward achieving eventual profitability. A highlight was that non-GAAP gross margins on product revenue hit 72%, a 600 bps improvement Y/Y. The increase was attributed to more favorable agreements with cloud service providers, benefits from scaling the business, and increased spending from enterprise customers. On operating leverage, the figure below illustrates SNOW’s progress.
In summary, SNOW continued with another quarter of tremendous financial performance along with a vision of where it’s heading and what it could become. SNOW remains an exciting company in the portfolio.
ZM (reported 1Jun); 9.1% position
ZM reported results for the 30Apr quarter on 1Jun. Below are some of the highlights.
ZM grew revenue by 191%. The quarter covered the 1Feb through 30Apr period, and last year’s comparable quarter was halfway through when the lockdowns began; this was when (in the middle of March 2020) everybody flocked to Zoom. Some people say that the growth rate in Q2-Q4 last year were amazing and others say that the deceleration after this period is going to be terrible. Let’s put it all into perspective. 2020 was a once in a lifetime year, and Zoom was at the right place at the right time. Of course, growth for ZM isn’t going to be what it was last year. Everyone must know that ZM revenue growth will decelerate sharply this year. Is there anybody out there who really believes that revenue will grow more than 300% this year? Growth is important, but it’s really only one aspect of what’s happened and will happen with ZM. But let’s start with growth.
Last year, ZM had a quantum leap. By that I mean that ZM’s business had an instant step (or several steps) up in demand, and the Company brilliantly took advantage and captured the majority of the spike in demand for remote meetings. The increase of several hundred percent in revenue was not a temporary spike followed by a sharp drop. On the contrary, the spike in business was here to stay with a much slower growth rate following the surge. Now that the initial spike is behind up, we will start to see the real growth rate starting from the plateau created by the pandemic. Some think that the post-pandemic growth rate will be 20-30%. I think it’s going to be more like 40-50%.
A second benefit to ZM’s quantum leap is that ZM managed to scale its business in the matter of two quarters. The revenue was flowing in so fast that ZM couldn’t spend fast enough. R&D expense as a percentage of revenue in the most recent quarter was 4.3%. That’s tiny, yet ZM is investing a lot into the development of new products and services. Other fast growing companies are investing a lot more of their revenue into R&D: CRWD 19.9% (4/30/21 quarter), NET 20.6% (3/31/2021 quarter), DDOG: 31.8% (3/31/21 quarter), even more mature DOCU 13% (4/30/2021 quarter). Turning to Sales & Marketing expense, ZM spent 20% of revenue. Current spending on R&D and S&M is quite a bit lower than ZM’s long-term target operating target (10-12% for R&D and 30-35% for S&M); this goes to show that ZM hasn’t been able to grow spending fast enough due to a deluge of revenue flowing in; it takes time hire people and start new projects This asymmetry in revenue expansion versus expense growth created an enormous excess of cash flow from operations and free cash flow. Back to S&M spending, recall that on 10/14/20 ZM updated its long-term operating target by lowering expected spend on S&M. The stated reason for the adjustment was that ZM got so much free exposure resulting from the pandemic that it would not need to spend as much on sale and marketing efforts as previously modeled.
A third benefit from the quantum leap was that ZM gained a few hundred million (maybe about 400 million) users. This enormous customer base provides ZM with a very strong springboard from which to launch its adjacent businesses: Zoom Phone and OnZoom. The result should be a cheaper development/launch, a steeper ramp, and a higher probability of a big success than could be possible without this now massive customer base. It took ZM 21 months to capture its first one million Zoom Phone users, and only five months to get another 500,000 users. Zoom Phone is showing some good traction now, but the user base will need to double 3-4 more times before Zoom Phone starts to move the revenue needle. OnZoom will be an ecosystem that enables user to monetize events (and ZM will get its cut). ZM management said during the earnings call that the Company intends to launch OnZoom for enterprises fairly soon followed by OnZoom for individuals by the end of the year. This timeline seems faster than I had thought was in the plans.
ZM managed a non-GAAP gross margin of 73.9%. This is still well below the long-term target of 80%, so there’s still room for gross margin expansion. Part of the expansion (I think that management said 2% gross margin improvement) could come from ceasing all the free subscriptions that ZM has been providing to the 125,000 K-12 schools. The CFO indicated that ZM intends to keep these freebees in place until it’s safe for kids to return to school, which would likely be in the Fall (during ZM’s Q3). Removing these free subscriptions would lower ZM’s COGS or, better yet, provide a nice bump to revenue if some of the schools retain their subscriptions as paying customers. Management didn’t say from where the other 2/3 of gross margin improvement would materialize, but they said that they had already seen some improvements from renegotiating the prices paid to their cloud providers. This article suggests that perhaps ZM can further reduce COGS by taking some of their cloud services needs in-house.
The pandemic has transformed ZM into a cash producing machine and enabled the Company to solidify its market position and dominance. ZM now has all of the advantages it needs to expand into some of the adjacencies that it’s targeted. However, while cash flow and cash flow margins are huge, growth has slowed and will continue to slow. Will ZM now be a 35% grower or a 50% grower? We cannot know the answer. Perhaps it will depend on how successfully and how quickly ZM manages to ramp Zoom Phone and OnZoom. I’m optimistic about both, but we don’t yet have enough numbers to back up any opinion. So it’s decision time. Would I buy ZM right now, if I didn’t own any? Given my preference for fast growing companies, I would say no. The reason is that I see more uncertainty about ZM’s future success with respect to Zoom Phone and OnZoom than I see about the future success in alternative investments. And this week, I reduced my position by selling all of my 2023 LEAPS (for a loss) as well as my high cost basis shares. I kept my low cost basis shares because selling them could trigger capital gains taxes in excess of 40% or around $50 per share! Depending on what happens with the capital gains tax rates in the United States, I may be able to reduce my tax rate on the sale of my remaining ZM share by about 50% if I wait until 2021 to realize more gains. For me, this potential tax savings is worth waiting for seven more months as it changes the question from “would I buy ZM today for $335” to “would I buy ZM today for $285”. In the meantime, if ZM continues to grow above 40% and to show continued progress then I may elect to hold my shares further into 2021 or beyond.
CRWD (reported 3Jun); 17.8% position
CRWD reported results for the 30Apr quarter on 3Jun. CEO Kurtz spent the first 20 minutes of the earnings call on his prepared remarks. He talked about how CRWD has the best solution supported by independent third party research firms Gartner and Forrester. He also discussed the very strong tailwinds and environment for the cyber security space. He even called about some of the problems with competitors’ solutions and highlighted several customers that switched to CRWD from competitors including Microsoft, Palo Alto Networks, and SentinelOne.
With all this positivity from Kurtz and all of the highly elevated attention on cyber security, I had expected a stronger revenue result from CRWD in Q1, especially since ZS and PANW posted stronger beats in recent weeks. It seems that the market was expecting more also as the stock dropped a few percent the day after the financial results (and in light of a very strong day for SaaS stocks) were released. For three quarters now, I’ve been expected a wave of new business and a renewed acceleration in revenue growth. It’s not happened yet, but growth is still among the strongest among SaaS stocks. Let’s look at three trends: y/y subscription revenue growth by quarter, sequential ARR growth, and operating margin.
| Q1 Y/Y Sub Rev Growth | Q2 Y/Y Sub Rev Growth | Q3 Y/Y Sub Rev Growth | Q4 Y/Y Sub Rev Growth | |
|---|---|---|---|---|
| FY2019 | 124% | |||
| FY2020 | 116% | 98% | 98% | 90% |
| FY2021 | 89% | 89% | 87% | 77% |
| FY2022 | 73% |
The above table shows a clear trending deceleration with the largest growth rate drop occurring in Q4 FY2021. Will the growth rate continue its slide, stabilize, or reaccelerate? Top of guidance for Q2 is at $324.4M and assuming 93% of this would be subscription revenue, we get a guide of 64% Y/Y subscription revenue growth. A typical average beat would be about 6% which would put Q2 Y/Y subscription revenue growth at 73%. If we turn our attention to Q/Q ARR growth, we might have more optimism for the strength of CRWD’s business.
| Q1 Q/Q ARR Growth | Q2 Q/Q ARR Growth | Q3 Q/Q ARR Growth | Q4 Q/Q ARR Growth | |
|---|---|---|---|---|
| FY2019 | 21% | 22% | 22% | 23% |
| FY2020 | 17% | 16% | 18% | 20% |
| FY2021 | 14% | 15% | 15% | 16% |
| FY2022 | 14% |
As the table above shows, ARR growth did not show the typical decline from Q4 to Q1. In fact, CFO Podbere said that the Company essentially delivered “another Q4” in Q1. Management also cited strong momentum and a very strong pipeline of business. Historically CRWD’s Q/Q ARR growth has not declined in Q2-Q4 so if CRWD were to repeat the sequence of FY2021 then CRWD could exit FY2022 with ARR of $1.832B which would represent ARR growth of 74.4%. Given the tailwinds provided by focus on cyber threats, CRWD’s strong S&M channel, CRWD’s superior and expanding product offerings, I’d be surprised if ARR grows less than 74% in FY2022; this would represent no deceleration in ARR growth in FY2022. It’s feasible that CRWD could even accelerate ARR growth in FY2022 compared to FY2021. Looking at ARR and revenue in the most recent quarter and projecting forward, I’m a bit confused. ARR suggests the business is holding its own while revenue growth suggests the business is continuing to slowly decelerate. Perhaps, CRWD closed a lot of new business toward the end of Q1 which could explain the higher ARR with slower revenue growth. I expect that my current confusion will resolve itself after we see the Q2 results in about three months.
Looking at CRWD’s operating model and the Company’s progress to profitability (see the table below), we can see that CRWD continues to deliver non-GAAP operating profits with remaining room to further improve its operating margins.
| Q4’18 | Q1’19 | Q2’19 | Q3’19 | Q4’19 | Q1’20 | Q2’20 | Q3’20 | Q4’20 | Q1’21 | Q2’21 | Q3’21 | Q4’21 | Q1’22 | Target | |
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Rev | $39 | $47 | $56 | $66 | $80 | $96 | $108 | $125 | $152 | $178 | $199 | $232 | $265 | $303 | |
| Sub Rev Growth | 124% | 116% | 98% | 98% | 90% | 89% | 89% | 87% | 77% | 73% | |||||
| Sub GM | 56% | 62% | 71% | 71% | 70% | 73% | 76% | 76% | 77% | 78% | 78% | 78% | 80% | 79% | |
| GM | 51% | 59% | 67% | 67% | 67% | 70% | 73% | 72% | 73% | 75% | 75% | 76% | 77% | 77% | 77-82% |
| S&M (%Rev) | 87% | 76% | 70% | 67% | 60% | 58% | 54% | 49% | 44% | 45% | 41% | 40% | 37% | 39% | 30-35% |
| R&D (%Rev) | 40% | 36% | 33% | 30% | 27% | 24% | 25% | 25% | 22% | 20% | 21% | 20% | 19% | 20% | 15-20% |
| G&A (%Rev) | 15% | 14% | 14% | 14% | 15% | 11% | 13% | 11% | 11% | 10% | 9% | 8% | 8% | 8% | 7-9% |
| Op Margin | -92% | -66% | -50% | -43% | -35% | -23% | -19% | -13% | -4% | 1% | 4% | 8% | 13% | 10% | 20-22%+ |
CRWD also churned out a record $117M in free cash flow (FCF) for a 39% FCF margin. FCF has seasonality with Q1 usually being particularly strong and Q2 being relatively weak. I think it’s likely that CRWD will exceed $350M in FCF in FY2022.
On Thursday, SentinelOne filed its S-1 for its planned, upcoming IPO. SentinelOne is a smaller cloud-native competitor, and perhaps has been somewhat of a thorn in CRWD’s side; CRWD makes direct comparisons to SentinelOne in its marketing, so the competition must be more than a mere flea on an elephant’s back. Now that the S-1 has been filed, we have information to run some comparisons.
| CRWD (30Apr 2021) | S (30Apr 2021) | CRWD (30Apr 2018) | |
|---|---|---|---|
| ARR | $1194M | $161M | $170M |
| ARR Growth | 74% | 115% | 140% |
| Revenue* | $303M | $37M | $47M |
| Rev Growth | 70% | 108% | >108% |
| NDBER | >120% | 124% | 123% |
| Customers | 11,420 | 4700 | 1491 |
| Cust Growth (Organic) | 82% (69%) | 74% | |
| Cust (>$100K) | 277 | ||
| S&M Spend* | $135M | $36M | $37M |
| Subscription GM | 79% | 53% | 62% |
| Operating Margin | 10% | -127% | -66% |
| FCF Margin | 39% | -87% | -35% |
The above table compares CRWD against SentinelOne. The far right column of the table shows a comparison when CRWD’s ARR was most similar to SentinelOne’s current ARR. It took CRWD (founded in 2011) seven years to reach $170M ARR whereas it took SentinelOne (founded in 2013) eight years to reach $161M ARR; thus, on an ARR basis, CRWD has expanded its two-year head start to three years. Also, CRWD was a much faster growing company when it was SentinelOne’s current size; in addition, CRWD is still growing at a very rapid clip considering that CRWD’s ARR is more than 7x that of SentinelOne. And when considering that CRWD is still adding customers (on a percentage basis) almost as fast as SentinelOne and that CRWD receives about 3x more revenue per customer, CRWD probably isn’t slowing down as a result of SentinelOne’s presence in the market. CRWD is also investing almost 4x as much in sales and marketing efforts which undoubtedly helps with CRWD’s customer acquisition. Despite having substantially all of its revenue coming from recurring subscriptions, SentinelOne has surprisingly low gross margins of 53% (non-GAAP) compared to CRWD’s 79% non-GAAP subscription revenue margin. And looking at SentinelOne’s operating and FCF margins, one can see that CRWD has a much better business; it seems that SentinelOne is having to spend a lot more than CRWD to build and operate its business. When CRWD was SentinelOne’s current size, CRWD had a higher gross margin, operating margin, and FCF margin. In summary, SentinelOne better pick up its growth, improve its margins, and raise the output of its sales & marketing and research & development teams, or SentinelOne may not be able to reach a big enough scale to achieve a high enough operating profitably to satisfy investors. A large part of CRWD’s success can be explained by its expansion of product modules (now at 19) which provide higher and higher gross margin contributions with each additional module sold to any given customer. It likely doesn’t help SentinelOne that it needs to compete head-to-head with CRWD for many/most customer wins. When CRWD was at SentinelOne’s size, CRWD was the only viable cloud-native security solution. PANW’s CEO complained about CRWD having eight sales people for every one that PANW has to target the next generation cloud security opportunities; PANW is choosing margin over growth in this respect as PANW certainly has the resources available should it choose to do so. SentinelOne probably doesn’t have the luxury of turning down business so it must try to win by offering price concessions (this could further explain SentinelOne’s low gross margins). After reviewing the S-1, I’m not particularly concerned about SentinelOne as a serious threat to CRWD.
While I was hoping for a better quarter from CRWD, the results combined with all the other incoming data do not change my assessment that CRWD should retain the highest allocation in the portfolio. I did not add or sell shares, and the allocation dropped from 20% to 17.7% primarily due to the share price drop (on a heavily leverage position) after the earnings result.
DOCU (reported 3 Jun); 10.3% position
DOCU reported results for the 30Apr quarter on 3Jun. DOCU has been labeled by many as a COVID-19 beneficiary, a work from home stock, and one that will see its growth slow as economies reopen. Some have said that it’s already grabbed all of the low hanging fruit and calendar 2021 would see its stock price outperformed. In February through May, the stock sold off with most of the other SaaS names, yet DOCU shares hadn’t (going into its 30Apr earnings release) bounced off of the lows as many of the other high growth companies had. While DOCU had some pandemic tailwinds, my opinion of the Company’s 2021 and beyond differs from these views, and I’ve remained invested in DOCU. Management has been telling investors for several quarters that they see lots of greenfield opportunities within their core eSignature market. The assumption many made was that DOCU’s large eSignature business would slow before the newer, nascent products/services of the agreement cloud could move the needle enough to continue the Company’s overall growth rate. According to DOCU, the Company has only captured 6% of the eSignature’s available market. Yesterday’s (3Jun) 30Apr quarterly results confirmed once more that eSignature still has plenty of growth, and the stock rallied almost 20% on 4Jun.
International growth: in the most recent quarter (30Apr 2021), DOCU’s international revenue comprised only 21% of the total, yet it grew at 84% Y/Y. DOCU still has plenty of international growth opportunities ahead.
Agreement Cloud: DOCU’s current business is still dominated by eSignature, but the Company has an ambitious vision for how its new and future products will enhance customers’ experience when they enter into agreements (see the figure below). If DOCU can get the product-market fit right and execute on its vision, DOCU can remain a high growth company for a long time into the future.
Growth operating leverage and profitability: DOCU has displayed increasing profitability and operating leverage. In the most recent quarter, DOCU delivered 60.9% subscription revenue growth, 85% non-GAAP gross margin on subscription revenue, $123M in FCF (26.2% FCF margin, up 11.0% Y/Y), and a 20% operating margin compared to 8% in the prior year’s Q1; this was achieved all while investing in future growth initiatives. The figure below illustrates DOCU’s progress in achieving operating leverage and profitability. DOCU, like ZM and CRWD, is a money-generating machine.
Examining DOCU’s past operating leverage trajectory, we can see that DOCU has likely squeezed most of the available leverage out of its R&D and G&A teams. For G&A in a software company, spending 8% of revenue is within a typical long-term target range. For R&D in a software company, spending 13% is likely on the lower side, particularly for a company that’s still growing revenue at about 60%; I don’t think we can expect R&D expense (as a percentage of revenue) to decline much more. DOCU continues to invest heavily in Sales & Marketing; I think, given DOCU’s ambitious multi-year roadmap and the remaining expansion opportunities in international markets, S&M expense will remain high, as it should, for quite some time. As an investor, DOCU’s level of spending is much appreciated because the Company is delivering outstanding revenue growth, customer acquisition, and FCF; DOCU is a hyper growth company at scale that’s totally self-funded (no more investment capital is needed). I increased my allocation in the after hours market after seeing this result.
FINAL THOUGHTS
Now that all of the portfolio companies have reported their 31Mar/30Apr results, we get about two month’s rest before it starts all over again. Growth stocks and my portfolio companies have recovered from their big selloff that began in the middle of February. It seems that we might be out of the woods in terms of locking in a low (on 13May) since the 12Feb portfolio high. Each of the portfolio companies delivered a very good to excellent quarter, and each will stay until I have a good reason to sell it or until I find a better company.
At the end of my portfolio update, I often share my views of the business environment. Although the performance of the portfolio companies is the most important factor in my investment decisions, I do weigh (to a much, much lesser degree) my observations and resulting feelings about the macro environment. Below are some of these observations and my thoughts about them.
- Pandemic: Using the countries that have rolled out the vaccines to a large proportion of their populations, it’s become increasingly clear that the worst economic and healthcare effects of the pandemic will be ended by the vaccine efforts. These countries are opening up their economies and most their citizens have largely returned to how they lived prior to the pandemic, and, despite this, infections are still falling. Personally, I see that most people are not wearing masks anymore, and I hear from friends that things are returning back to normal; for example, one friend who was recently in Las Vegas reported that the casinos are packed, and most people aren’t wearing masks. Cases are still falling. Unfortunately, some regions, particularly in developing countries where most people are not yet vaccinated, are seeing the pandemic rage on. This is sad on both a humanitarian level as well as on an economic basis; the portfolio companies, however, will have little to no impact on their revenues based on what’s happening in developing nations. LSPD is the one company in the portfolio that I see benefiting from the big reopening, and what I’m seeing is only reinforcing my belief in the Company’s prospects in the coming quarters. I think that the effective ending of the pandemic is going to lead to a global economic boom that will likely benefit stocks overall and my portfolio companies specifically.
- Interest rates and inflation: We’re definitely seeing increasing inflation, particularly when we look at it on a monthly and year-over-year basis (a year ago economic activity had ground to a halt). I tend to agree with the Fed that inflation will be transitory. In addition to the low comparables from a year ago, supply chains need to be restarted to provide a renewed supply and demand equilibrium; this supply chain void/shortfall is likely being exacerbated by a spike in demand as people spend more as a result of pent up demand and a renewed sense of optimism about getting out and experiencing life. Interest rates could rise over the coming several years, but I don’t think this would severely harm the portfolio stocks. Even if interest rates were to double from 1.6% to 3.2%, history (see the mid- to late-1990s) tells us that stocks can boom with interest rates at that level.
- Rotation from growth to value: We saw this happen over the past few months. Is it over or will it continue? Who knows. I say it doesn’t matter so much if I have a long-term (3+ year) outlook. Revenue growth, if it’s high enough, will eventually subdue multiple compression. Multiples can compress or expand; I cannot control that, but I can stay invested in the best companies, and chances are I’ll beat the market over the long-run.
Note: If any part of my discussion about the companies’ financials was confusing or difficult follow, you can read a recent post in which I go over how I monitor and analyze a company’s income statement and cash flow to determine progress in scaling the business and achieving profitability.
The opinions, thoughts, analyses, stock selections, portfolio allocations, and other content is freely shared by GauchoRico. This information should not be taken as recommendations or advice. GauchoRico does not make recommendations and does not offer financial advice. Each person/investor is responsible for making and owning their own decisions, financial and otherwise.