For about as long as Box has been a publicly traded company, investors have been unsure about the stock. In its early days, Box (BOX) was derided as one of the poster children for the “grow at all costs” mindset and excess of Silicon Valley companies. More recently, investors have questioned Box’s ability to grow amid fierce competition from the likes of Dropbox (DBX) and Google Drive (GOOG), and whether in the long run Box would be reduced to a commodity service.
Yet Box’s most recent quarterly results showed that these fears were overblown. Not only has the company managed to produce decent growth in the midst of a pandemic, but also used the opportunity to drive fantastic profitability gains. Box has proven that once it is installed in an organization, it becomes part of the infrastructure and is very difficult to rip out.
Shares have rallied after the earnings release to the tune of ~5%:
I continue to view plenty of upside for Box. The biggest driver here is the fact that Box has long been one of the (perhaps only) cheap value stocks within the enterprise software sector, but there are plenty of fundamental triggers for Box’s stock as well:
- Sticky recurring revenues has built a resilient business. This strength was proven in Q2, the worst-impacted quarter of the pandemic. Box’s revenue growth barely saw a scratch, similar to other SaaS companies. Box’s focus on large enterprise clients has also shielded its business from the lumpiness of many other software companies that have more of a retail or SMB focus.
- High margin profile. Box represents the ideal strategy for an enterprise software company in that they can afford to go “all out” and hire heavily on sales teams in the early days. Because of high gross margins, these companies can eventually ratchet back sales and marketing expenses as a percentage of revenues and drive tremendous cash flow and profit gains. Box has done exactly that amid the pandemic.
- Market-leading innovations. Many believe Box’s file-sharing and collaboration software to be canned software that is eventually destined for commoditization. But in my view, Box’s advances in technologies like AI (showcased via Box Skills) makes it a differentiated offering.
Then of course, there’s the deep-value element of Box that lets us assume that Box is just waiting to be “discovered” to the point where it can rally and course-correct to a more appropriate valuation multiple – similar to what Salesforce.com (CRM) did in the same week as Box’s earnings. At current share prices near $20, Box’s market cap is $3.11 billion. After netting off $271.9 million of cash on Box’s most recent balance sheet against $70 million of debt, its enterprise value is $2.91 billion. Versus Wall Street’s FY21 revenue estimates of $839.7 million (+10% y/y; data from Yahoo Finance), Box trades at a mere 3.5x EV/FY21 revenue.
Though it’s no longer growing as fast as most peer SaaS companies, the fact that most software companies now trade at double-digit valuation multiples leaves plenty of headroom for Box to rise. Importantly, Box is a “safe” investment at a time when most tech stocks are trading at unsupportable all-time highs. To me, this is Box’s time to shine.
Let’s now review Box’s most recent results in greater detail. The earnings summary is shown below:
Box’s revenue grew 11% y/y to $192.3 million, beating Wall Street’s expectations of $189.6 million (+10% y/y). And importantly, Box’s revenue growth also only showed a minor two-point slowdown relative to 13% y/y growth in Q1. Many other software companies saw much worse deterioration.
But perhaps even more important is that Box actually managed to accelerate billings growth. Box’s billings growth rate this quarter clocked in at 9% y/y – no, this isn’t a growth rate to write home about, but it was better than 8% y/y in Q1. As most software investors know, billings represents a better view of how companies’ underlying sales trends are moving, because it captures deals signed beyond what will be recognized as revenue in the current quarter.
Box noted that its strength in both revenue and billings was driven by existing customers expanding their relationships with Box – a testament to how sticky the platform is and how it can continue to provide increasing value over the customer lifecycle. Per CEO Aaron Levie’s remarks on the Q2 earnings call:
Our Q2 results were driven by expansion within our existing enterprise customers, which has remained consistent through the COVID-19 environment and growing demand for products like Shield and Relay that drove more Suite adoption including a 30% attach rate of Suites in our six figure deals. We were proud to deliver strong revenue growth, significantly expanded operating margins of more than 15%, and substantially improved cash flow.”
Box’s biggest achievements this quarter, however, are o the profitability side. The company managed to drive a sixteen point improvement in pro forma operating margins from 0% in 2Q19 to 16% this quarter. When you add up Box’s revenue growth rate of 11% to its pro forma operating margins, its corresponding “rule of 40” score of 27 puts it closer to that magical threshold of 40 than Box has ever been, and leaves us scratching our heads at Box’s low valuation multiple.
Box has seized the pandemic as an opportunity to hone in on profitability. The company has taken “an ROI-based approach to spend” across all components of the company, and especially on go-to-market efficiency. Now for the full year, Box is now committing to driving pro forma operating margins of 12-13%, one to two points better than its original outlook of 11% (representing up to ~$15 million of additional profit this year, at Box’s current scale), which is substantially better than last year’s operating margin of just 1%.
To me, it’s Box’s continued improvements on profitability and its commitment to a growth-plus-margin mindset of managing the business will the primary driver in pushing Box’s valuation multiple upward. On the product side, Box continues to reliably add new features and modules to its platform and cross-selling these products to its customer base and driving expansion revenue. Stay long here.
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Disclosure: I am/we are long box. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.