Over the past four decades a variety of disruptive technologies have emerged, such as the personal computer, the internet, and smartphones. Among their many impacts, they have also transformed how businesses operate and ultimately made them leaner, more competitive, and better able to scale their operations with less friction.
Currently, one of the most disruptive technologies is cloud computing. ZDNet defines cloud computing as, “The delivery of on-demand computing services -- from applications to storage and processing power -- typically over the internet and on a pay-as-you-go basis.”
Companies, in all different sectors and around the world, are moving to host their data and applications on cloud platforms. In addition, companies are using cloud-hosted software to run their business. The importance of this software was demonstrated amid the pandemic and ensuing shutdowns as businesses were able to operate without in-person offices. 3 companies providing these essential cloud-based software packages are Workday (WDAY), Adobe (ADBE), and Salesforce.com (CRM).
The outperformance of Cloud Stocks
Cloud computing essentially makes massive computing power available to any sized entity. Previously, access to this type of computing power was only available to the largest entities with their own mainframes and server farms.
Corporate spending on cloud computing has surpassed all early estimates. Companies continue to find a positive ROI on these expenditures, and the outlook remains strong for cloud stocks with analysts forecasting 15% annual CAGR in cloud spending. Companies were forced to increase spending on cloud resources as it was necessary for operations especially with increased remote work.
This has led to outperformance for the group during the initial phase of the stock market rally that started in March 2020. This group also outperformed during most parts of the previous bull market from 2009 to 2020.
For investors, It’s easy to understand their appeal given that they have above-average growth rates and above-average. Additionally, most cloud companies are able to retain significant amounts of revenue and grow by offering additional products and services in the same or adjacent verticals.
Additionally, many of these companies purposely underprice their products in exchange to win market share. Over time, they gain more pricing power as companies’ operations become increasingly dependent on this software.
Now, let’s dig into 3 of the top stocks selling cloud-based, business software:
WDAY is a cloud-based financial management and human resource software. The company essentially helps run HR departments more efficiently and at a lower cost. It also enables companies to scale their HR operations quickly which was a more complicated and expensive process in the past.
The company IPO’d in October 2012 at a valuation of $9.5 billion. Currently, it’s valued at nearly $60 billion. Despite this appreciation, the company continues to post above-average growth rates with 16% sales growth and 44% earnings growth in its last quarter. Maybe most impressive is its above-100% rate of revenue retention as companies increase their spending on WDAY’s platform.
Like other cloud-based software, WDAY has become its own ecosystem with developers building apps and people trained in the operation and implementation of the software. In the long-term, this leads to increased reliance on the company’s products. The POWR Ratings are also bullish on the stock as it has a B rating which equates to a Buy. B-rated stocks have posted an annual performance of 19.7% which compares favorably to the S&P 500’s 7.3%.
The POWR Ratings also evaluate stocks based on various components. Given WDAY’s consistent track record of sales growth and earnings growth in recent years, its A for Growth makes sense. To see WDAY’s other component grades, including Value, Momentum, Stability, Sentiment, Quality, and Industry, click here.
ADBE’s business and stock price are clear evidence of how much favorable treatment subscription-based, cloud stocks get from investors. From the dot-com bubble till 2013, ADBE’s stock had been range-bound as the company struggled to grow its software business, especially with piracy concerns and many consumers and businesses put off by the cost.
However, the company was able to solve this by moving to subscription-based software which led to increased growth and retention. The stock price is also up by more than 1,000% over the last 8 years.
The company’s software is used for various purposes such as design, graphics, content creation, video editing and publishing, and digital marketing. Many companies have become very reliant on these products to operate their businesses.
ADBE is also impressive because it has increased its earnings at a faster pace than its stock price. The company has grown into its valuation as indicated by its forward PE of 36. This is above-average but reasonable given its 26% revenue growth and 33% earnings growth.
ADBE is rated a B by the POWR Ratings which equates to a Buy rating. The POWR Ratings are calculated by weighing 118 different factors. ADBE has above-average growth rates, high margins, and the ability to retain customers and grow revenue per user.
CRM was one of the original cloud-based software packages with its customer relationship management (CRM) enterprise software. CRM helps companies monitor their customers’ lifetime journey across their business in an attempt to maximize retention, learn about their needs, and take advantage of opportunities to make more sales or larger sales.
CRM has expanded from this niche into other areas such as sales, customer service, marketing, commerce, analytics, and AI. Since September of last year, CRM is down by about 25%, yet its business momentum remains strong.
Many of the cloud stocks have sold off, however, this will prove to be a good entry point in stocks like CRM which continue to grow at above-average rates and are expanding into new markets.
Overall, CRM is rated a B which translates to a Buy rating in our POWR Ratings service. This is consistent with its market-leading position in a growing field and market share in several other categories.
CRM also has a Growth grade of B which makes sense considering that it’s expected to grow earnings by 25% in the coming quarter. To get a complete picture of CRM's grades (Momentum, Industry, Value, Stability, Sentiment, and Quality), click here. CRM is ranked #13 in the Software – Business industry. You can find more top picks in that industry here.
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WDAY shares were trading at $254.27 per share on Thursday afternoon, up $2.34 (+0.93%). Year-to-date, WDAY has gained 6.12%, versus a 9.50% rise in the benchmark S&P 500 index during the same period.
About the Author: Jaimini Desai
Jaimini Desai has been a financial writer and reporter for nearly a decade. His goal is to help readers identify risks and opportunities in the markets. As a reporter, he covered the bond market, earnings, and economic data, publishing multiple times a day to readers all over the world. Learn more about Jaimini’s background, along with links to his most recent articles.3 Cloud Computing Stocks Poised to Outperform appeared first on StockNews.com