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Rain In the Cloud Markets May Have Created Buying Opportunity

Daniel Laboe

Workday’s WDAY disappointing analyst day sent fear rippling through the sector, punishing cloud stocks throughout the market. The company maintained its full-year guidance but hinted at topline deceleration. Signs of a topline slowdown for a firm that sports such hefty valuation multiples was a red flag for investors. WDAY plummeted over 11% yesterday and continues to decline in morning trading.

The double-digit revenue multiples that these cloud stocks have been donning may be in excess of what they are worth. Valuation concerns have been haunting stocks and investors alike in the second half of this year as the markets attempt to correct any overly rich multiples.

This broader cloud decline driven by Workday concerns is overplayed for a couple of reasons.

One, the cloud industry can’t be so easily lumped together as the space is incredibly heterogeneous, with the only real similarity being the way the products are deployed. Workday’s primary product offering is its cloud-based human capital management or HCM, though it offers some other enterprise software solutions.  

Cloud-based HCM is a particular enterprise cloud segment that doesn’t necessarily have any correlation with the broader category. There were other company-specific concerns like acquisition delays and deceleration due to substantial market penetration.

Workdays management team is also in question having missed on 4 of the last 5 quarterly EPS estimates. Management is either not doing an adequate job communicating to analysts or management themselves are surprised by the results. Either way, this demonstrates a management team that doesn’t effectively communicate to the public. The guidance that was presented at WDAY’s analyst meeting may have been ill-advised.

I believe that this dip in the cloud market has created a buying opportunity for a few well-positioned players.

ServiceNow NOW

ServiceNow fell over 7% yesterday in reaction to the concerns that WDAY’s management team instilled into the cloud segment. ServiceNow was hit hard by Workday’s slip due to similarity in size and marginally similar product offering.

Both are pureplay enterprise cloud platforms, but ServiceNow has a stronger outlook and a savvy management team that has been able to beat its expectations consistently. NOW has bounced a bit from yesterday’s dive, trading up marginally in morning trade.

ServiceNow started as an IT workflow cloud to improve IT service management. Today the Now Platform® is a single cloud platform that encompasses IT, employee, and customer workflows.

Since NOW’s IPO back in 2012, the company has demonstrated consistent quarter-over-quarter topline growth and year-over-year growth that hasn’t faltered below 30%. The firm is profitable but has been toeing the line for the last year and a half. None the less, it has proven it can turn a profit even with its remarkable growth rate.

NOW is trading at a forward P/S multiple of 11.3x, which is on the lower side of its YTD range (10x – 14x). This stock has returned shareholders 43% so far in 2019, despite its pullback yesterday. NOW looks to have short-term potential as it bounces off its 200-day moving average (green), which has been held as a reasonably reliable support level in the past. NOW is well-positioned for a long-term play for your portfolio of the future. Yesterday’s cloud fiasco created a buying opportunity for this enterprise cloud leader.

Splunk SPLK

This stock has been trading in my buy range since its last earnings release at the end of August. SPLK beat both top and bottom estimates but took a substantial hit due to its announced $1 billion acquisition of SignalFx. I believe investors’ concern was overstated. SignalFx further builds out the firm's cloud offering, creating an enormous amount of synergies between the two firms.

I was able to buy shares as this stock bottomed out in September, and yesterday's rain in the cloud segment has created yet another point of entry for this leading cloud player.

Splunk is a platform that helps companies utilize real-time machine data for collection, indexing, and alerts, allowing companies to uncover actionable insight from this data no matter the source or format. The company is also leveraging AI and machining learning for forecasting and anticipative decision making.

The company has shown strong growth figures, consistently propelling its topline over 30% year-over-year. SPLK has only returned investors 8% YTD due to its recent acquisitions.

Splunk has been aggressively buying up companies to quickly build out its product offering with 8 purchases since the beginning of 2017. The acquisitions typically have an initial negative impact on SPLK, but the stock always bounces back.

Workday and Splunk are both enterprise cloud firms but provide very different product offerings. Splunk's real-time machine data management provides companies with a very niche capability. This capability is becoming crucial in business, with speed being the competitive component. Splunk is in a growing market and has a significant amount of long term potential.

The slide in share price yesterday pushed SPLK down to a 6.5x forward P/S, which I am quite comfortable with. This is on the lowest side of stock's 5-year P/S trend (ranging from 10x – 15x). This stock is a buy for me at any price below $120.

Take Away

Workday's analyst meeting soured the entire cloud market when the concerns were primarily company-specific. The rainfall in the cloud market was overdone, and I expect to see some precipitated returns back to highs in some of the well-positioned cloud players.


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