<p>Considered one of the market’s favorite pieces on the new coronavirus, the cloud communication platform RingCentral (NYSE: RNG) has seen its stock soar in recent weeks. As of mid-March, the RNG share has increased by as much as 60%. By comparison, the S&P 500 is only 23% higher than in March.
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Are you going to jump into this epic rally in RingCentral?
Perhaps. But I think there will be a better starting point in the coming months than where the share is traded today.
By and large, RingCentral is a really strong cloud communications company that is a leader in the secular growth of Unified Communications as a Service (UCaaS). But the RNG share reflects this reality. That is, stocks are quite expensive here.
So before you buy into the big rally in the RNG stock, consider these observations first:
RingCentral is an important and large player in an important space. RingCentral is considered one of the leaders in the UCaaS market, which plans to grow at a double-digit rate over the next five to ten years. Demand for RingCentral’s services will increase in the coming months. Thanks to the coronavirus pandemic and innovative launches of new products, RingCentral is well positioned to turn the growing demand for UCaaS services into increased revenue during the second quarter. The UCaaS market is very competitive and RingCentral can lose momentum to competitors. Although RingCentral is a leader in the UCaaS market, there are several other, very formidable players in the market. Evidence suggests that some of the other players are stealing market share. In relation to the company’s long-term growth potential, the RingCentral share is richly valued. Even in an “everything goes right in the next decade” scenario, it is still difficult to justify today’s $ 220 price tag on RNG shares. Big and important
Unified Communications is essentially the idea of integrating enterprise communications services, such as messaging, voice and video, into one platform and ecosystem. Unified Communications as a Service (UCaaS) simply takes the unified communication concept and makes it a cloud-worthy service (as opposed to a local solution).
The UCaaS market is expected to grow rapidly over the next few years, as companies increasingly turn to cloud services and rely on tools that enable teleworking, employee mobility and workflow flexibility. Most market research companies estimate that the UCaaS market will grow by between 10% and 15% per year over the next five to ten years.
In that market, RingCentral is recognized as one of the market leaders, given the company’s robust cloud communications platform, which connects messaging, calls and video; the nature of the open platform that enables simple integrations and strong brand capital. Consequently, RingCentral has reported sales growth of 30% during each of the last three years.
Great growth will continue. RingCentral will take advantage of its leading position and continued tailwind in the UCaaS market to report 15% plus growth much longer. With a favorable margin profile, this robust increase in revenue will lead to equally robust profit growth.
Over the next two quarters, demand for RingCental’s UCaaS solutions will increase as companies accelerate their swing to the cloud and increasingly digitize and virtualize their workflows, processes and data.
This is especially true considering RingCental’s latest product expansion. In response to the coronavirus pandemic, RingCentral launched a new video conferencing product in early April. This new video product contributes to what was already one of the most robust UCaaS ecosystems on the market.
It was also launched at a time when the best video conferencing company Zoom (NASDAQ: ZM) – is coming under a wave of scrutiny for its privacy and security practices. Many organizations, such as NASA and SpaceX, have lost Zoom. Many countries, such as Germany, Taiwan and Switzerland, have banned Zoom.
In other words, RingCentral could not have launched a new video product at a more perfect time. Demand is increasing and competition is stumbling.
Over the next two quarters, investors should expect RingCentral to see a significant increase in revenue.
The UCaaS market is exceptionally competitive.
Of course, there is Zoom is the video conferencing world. Adobe (NASDAQ: ADBE) also operates in that world. Meanwhile, LogMeIn (NASDAQ: LOGM) has a formidable UCaaS offering. So do tech giants Microsoft (NASDAQ: MSFT) and the Alphabet (NASDAQ: GOOG, NASDAQ: GOOGL).
Net net, the industry is full of very formidable competitors.
Yes, RingCentral has separated from the packaging. But evidence suggests that Microsoft Teams and Zoom are taking hold of RingCentral, especially in the midst of the coronavirus pandemic. Even if RingCentral finally trumps these competitive threats, it will not be cheap to do so. It will cost significant product development, market research and sales and marketing dollars.
This will remain true for the foreseeable future. The UCaaS market will remain crowded. Competitive risks will always remain. RingCentral must consistently spend large sums of money to counteract these competitive risks.
Valuation is rich
Overall, RingCentral is expensive.
Part of the premium valuation is motivated by robust growth prospects. Not all.
My long-term model at RingCentral makes some aggressive assumptions. Almost 20% growth per year over the next ten years. Several hundred basis points for expansion of the gross margin. Significant positive leverage effect. Over 30% growth in operating profit per year. An increase in earnings per share from $ 1 in 2020 to $ 15 until 2030.
Still, these assumptions make a price tag of $ 220 for RNG shares.
Throw a 35-fold $ 15 forward multiple into 2030 winnings. You reach a price target in 2029 for RNG shares of $ 525. Discount back with 10% per annum. You reach a 2020 price target of about $ 220.
And that assumes that equities will fetch a rich 35-fold forward multiple by 2030. In fact, they are likely to fetch something much lower than that.
Conclusion on RNG bearings
RingCentral is a fantastic company. The current tailwind is also huge. Given these facts, I understand why it is tempting to want to chase this rally in RNG shares.
But do not let the “fear of missing out” make you pay any price for this stock. The valuation today is rich. It does not cost any hiccups. Inevitably, RingCentral will have a hiccup in the coming quarters during significant macroeconomic turbulence. When it does, the stock will decline. It’s time to buy RNG shares – not now.
Luke Lango is a market analyst for InvestorPlace. He has professionally analyzed equities for several years, previously worked in various hedge funds and currently runs his own investment fund in San Diego. Luke is a graduate of Caltech and has been consistently recognized as one of the world’s best stock pickers by various other analysts and platforms and has developed a reputation for leveraging his technical background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based Internet company. At the time of writing, he has long been an ADBE and MSFT.