Software Is (Still) Eating the World
Editor's note: Welcome to 2021, everyone. Before we get too deep into the new year, let's continue our look at everything that happened in 2020...
Perhaps the biggest trend to emerge over the course of the year – other than the chaos and confusion surrounding COVID-19 itself – was the "at home" pandemic economy.
Videoconferencing platform Zoom Video Communications (ZM) became the poster-child of this movement, but remote-work trends were seen across many industries. And they highlighted the wide footprint that certain Big Tech companies have in today's economy...
We took a deeper look at this dynamic in the June 17 Digest (and as far back as February, when we wrote a Digest titled "What Happens If Everyone 'Works From Home'"), and we shared details of the cloud-based business model that powers a lot of today's remote work...
Software Is (Still) Eating the World
Money might not grow on trees, but it does in the 'cloud'...
We, and others, have talked about how the COVID-19 pandemic has accelerated previously existing trends, particularly in technology.
A number of tech companies have proven largely immune, resilient, and even stronger in the face of an invisible, globetrotting airborne virus... It makes sense, as the machines can't get infected – with COVID-19, at least.
Satya Nadella, CEO of tech giant Microsoft (MSFT), aptly described the shift to all things quick, easy, digitally accessible, and virus-free on the company's first-quarter earnings call at the end of April...
We've seen two years' worth of digital transformation in two months.
Technologies, products, and services involved in people working from home, buying from home, selling from home, and communicating and interacting from a distance became "essential" literally almost overnight.
As we wrote back in the February 27 Digest, before all hell broke loose...
Think about it: Amazon (AMZN), as well as other online retailers and related web-based platforms, does an insane amount of business... in part because of the convenience it provides.
In a world where parts of the U.S. would be under quarantine with folks working from home for a long period of time, businesses like that become a necessity.
Zoom Video Communications (ZM) has become the poster-child for this story...
The subscription- and cloud-based video-conferencing company grew from 10 million users in December to 300 million daily meeting participants in April. And the instant growth happened with surprisingly few hiccups (aside from "Zoom-bombing" becoming a verb).
The company's shares are up more than 250% this year. [Editor's note: All return numbers and company data in this year-in-review essay are as of June, when it was originally published.]
Zoom's valuation – about 71 times sales, bigger than do-it-all juggernaut Amazon's has ever been – is extreme. And its long-term prospects can be debated... As we wrote in the June 4 Digest, Zoom seems to be reliant on just one product right now, doesn't have ads, and larger players like Facebook (FB) have already knocked off its easy-to-use and scalable technology.
But there is no doubting the power of the underlying technology behind Zoom's platform...
It's all in the cloud, which is essentially a virtual data-storage and transfer universe that connects customers, businesses, computers, and other devices anywhere with an Internet connection.
The cloud probably isn't a new concept to you, but we take it for granted today...
Demand for this type of business was growing even before the pandemic struck. And now, it has never been higher. Here's precisely how much demand for cloud-based technology has exploded over the past few months...
It might not be an intuitive label, considering we're talking about a largely invisible technology (unless you live near a server farm). But think of Amazon, Microsoft, and Alphabet/Google (GOOGL) in particular as owning the cloud "hardware" market right now...
This is Microsoft's Azure technology, Amazon's Amazon Web Services ("AWS"), or Google's cloud division – services that other companies, governments, and schools use for their own cloud-based businesses.
In the first quarter of 2020, Microsoft's cloud service grew 59% year over year. Amazon, the market leader, has lost a little dominance so far this year, but AWS generates 77% of the company's total operating income.
Let's be clear...
These Big Tech players have their own software, like Amazon's Audible audiobook app, Microsoft's Teams, or Google's Gmail, but the point we want to get into today is that they also provide the same services they use to thousands of other companies that rely on the cloud.
These businesses can range from your local beer and wine store to a COVID-19 era darling like Shopify (SHOP), which reached a deal with Google in 2018 to host its data. Even Apple (AAPL) has used Google's, Amazon's, and Microsoft's data-storage platforms for its popular iCloud software.
And importantly, companies that were already first-movers in the cloud in their specific sectors before the pandemic struck, like Shopify, have benefited massively from the quick shift to increased reliance on all things socially distant and virus-free...
We all know the world has too much paperwork...
Here's an example...
Over the past few weeks, I (Corey McLaughlin) visited three different places (with a mask worn when inside) just to get a few signatures. And all I needed to do was get an old brokerage account transferred from a "former minor" designation to the possession of the adult.
The process is outdated and unnecessarily time-consuming. Plus, in today's world, it's potentially a health risk. It's actually still ongoing, too... I haven't resolved the issue yet. And you probably haven't even heard of the companies I've dealt with, primarily for these reasons.
The same can't be said for forward-thinking, front-edge companies like e-signature software pioneer DocuSign (DOCU), which cuts out a lot of the red tape. (If only my local bank and the brokerage I was dealing with were smart enough to use it.)
Today, in mid-June 2020, DocuSign is a household name in the documents world, which touches pretty much every industry. Its documents are admissible in court, accepted in 180 countries, and available in 43 languages.
And the company's cloud-based software is easy to use...
It allows people and businesses to save time, energy, and stress... and securely sign all their legal documents from anywhere with an Internet connection, like home... while their children are crawling around the floor during a stay-at-home pandemic.
This, of course, is a valuable thing.
So is the Software as a Service ("SaaS") business model that DocuSign and a host of other big-time software providers use. It's a ridiculously profitable subscription model. ("Ah, like newspapers or magazines once were," says a former ink-stained writer.)
In early June, DocuSign reported blowout first-quarter numbers...
And its CEO Dan Springer sounded a lot like Microsoft's Nadella on the company's earnings call with Wall Street analysts and investors. As Springer said...
We don't anticipate customers returning to paper or manual-based processes. Once they take their first digital transformation steps with us and they realize the time, cost, and customer-experience benefits, they rarely go back.
The company's sales grew 39% from the same quarter a year ago – well ahead of Wall Street's expectations. Billings – the amount the company invoiced customers, which will be recognized as revenue over time – grew 59%.
DocuSign added more than 70,000 new customers in the quarter, the most it has ever added. And it did something that few companies have been doing of late... It increased its full-year sales guidance.
This makes sense... The SaaS model brings in more money when it has more users. Because the costs are largely fixed, profits tend to be spread out across months or years... and revenues tend to be extremely "sticky," with renewal rates of more than 90%.
In other words, once it works, you forget about it and keep paying. Good luck to the competition that is years behind.
We bring up DocuSign specifically because one of our research teams recommended the stock last November...
Longtime Digest readers know that, out of fairness to subscribers, we don't typically reveal our editors' stock picks for all the world to see.
But since subscribers have already banked more than 100% gains in a little more than six months through mid-June, we wanted to share the broader theme and lesson connected with this pick... and give some kudos to the team behind our flagship Stansberry's Investment Advisory.
In November 2019, Mike DiBiase was prescient when he wrote about the opportunity in DocuSign. As he said...
Shares are up 125% in the past 18 months, but we believe it's just getting started.
The company is a pioneer in an early stage market it dominates and has many years of solid growth ahead.
It's so dominant that its name is becoming a verb... It's already cash flow positive and will earn its first profit this year.
The "verb" DocuSign, of course, is better than Zoom-bombing. It's more like Googling or Windexing...
This is a prime example of why buying high-quality, capital-efficient companies – the ethos of our research focus – is a smart long-term strategy in both good times and bad times.
Free cash flow monsters – whichever sector they are in, and especially if they have market-leading "moats" like DocuSign – are best-positioned to take advantage of whatever comes their way... pandemic opportunities and Federal Reserve induced rock-bottom interest rates included.
And as Mike wrote in that November 2019 issue, software companies are some of the most capital-efficient businesses in the world today, which eventually benefits shareholders...
Software is nothing more than computer code. The "cost" of producing another copy of a software program is next to nothing. It's virtually the same cost to produce 1 million copies as the cost to produce one copy.
You can see this in their gross margins – the profit after subtracting all direct costs of generating sales. The average gross margins of all software companies in the S&P 500 last year was 81%. That's almost double the 44% average for all other industries.
This is important. Producing high gross margins means more is left over to go to the bottom line. It translates into high profits. And because software companies' capital needs are low, most generate lots of cash.
No matter what's done with the cash, it benefits shareholders. In virtually any period you look at, software companies produce market-beating returns.
We reread this issue of the Investment Advisory today and were blown away by a few things...
Mike's attention to detail is incredible... as is his simple-yet-comprehensive breakdown and origin story of the SaaS model (which we can't do justice here)... and all the tailwinds DocuSign had going for it back then.
The thing is, it's an even better story now...
As our Investment Advisory research team updated subscribers in June, DocuSign wants to be even more than the clear runaway leader in e-signature software. (It has a roughly 60% market share, as of mid-June.)
Its goal is to automate the entire contract process, from drafting and executing contracts to managing, storing, and searching for completed contracts. We can hear the lawyers and real estate agents in the crowd applauding.
In May – while a lot of other businesses were wondering what the world will look like in the future – DocuSign was already moving ahead... buying Seal Software for $188 million.
Seal uses artificial intelligence to search large collections of contracts by legal concepts (rather than just by keywords) and compare critical clauses and terms side by side. This might not be sexy stuff, but it costs a lot of money.
And only companies with gobs of cash and long-term visions can do this sort of thing. But wait, there's more...
The Nasdaq added DocuSign to the Nasdaq 100 Index in late June...
The company replaced United Airlines (UAL), which is burning cash at a faster rate than jet fuel at the moment.
The Nasdaq 100 – which was the first index to hit new highs in June – tracks the 100 largest nonfinancial stocks trading on the Nasdaq exchange. And whenever a company is added to or taken off an index like this, it's significant beyond the symbolism...
This change means that any index funds tracking the Nasdaq 100 needed to buy shares of DocuSign, pushing the share price even higher.
Kudos to Mike and his team for spotting this opportunity – and recommending it way ahead of the curve...
Subscribers who took their advice were already up 146% with the position as of mid-June. And for all the reasons we've explained today, there's still room for this stock to run higher.
Some 'little' cloud companies have also been the biggest winners...
Stansberry Venture Value editor Bryan Beach has recommended several "smaller" SaaS stocks over the years as well, for many of the same reasons that Mike laid out for the larger-cap DocuSign...
Bryan detailed this industry and the opportunities within it in the January 28, 2020 Digest... before the unexpected COVID-19 threatened to turn parts of the globe into "work from home" worlds.
He used Shopify as a prime example. However, Bryan's investing universe focuses on younger companies that might carry more risk, but also potentially bigger rewards.
One of Bryan's software picks is up a whopping 355% since last October (through mid-June), and he has identified a handful of other SaaS companies with great potential, too.
As noted venture capitalist Marc Andreessen said more than a decade ago, "Software is eating the world." It still is, and the Las Vegas-style buffet is fully stocked.
Today, of course, these companies aren't cheap...
That's why it's our great fortune that Bryan has already spent the past year looking for SaaS businesses that the market is currently missing for one reason or another.
And he has identified a handful of companies in particular that he believes could easily grow 10-fold in a few years – companies that run the same business model as DocuSign and Shopify, but haven't shown up on most investor's radars yet.
If you want to learn more about these companies – and even more about the SaaS space in general – and get his next recommendations as soon as he publishes them, we encourage you to give Bryan's Stansberry Venture Value service a try. Click here now for all the details.
All the best,
Corey McLaughlin
Editor's note: You won't find better research on a variety of emerging technology sectors – and the companies with tremendous upside within these sectors – than in Bryan's Stansberry Venture Value newsletter.
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