This year’s first-quarter earnings reports have done little to dampen the tech stock sell-off. It’s not that the reports are bad. Instead, investor preference has simply swung to “economic reopening” businesses for now.
Nevertheless, long-term growth still favors the digital economy, things like cloud computing, e-commerce, and digital content creation. In the grand scheme of things, it’s likely that this spring’s volatility will be little more than a forgotten blip.
Three cloud stocks that are buys now after releasing their Q1 earnings reports are Wix.com (NASDAQ:WIX), Unity Software (NYSE:U), and Dynatrace (NYSE:DT). Let’s find out why.
1. Wix: Website creation is just the beginning
Wix has emerged as a global leader in website design and management. The company’s cloud-based low-code software makes it a cinch to set up a presence on the internet, even with little to no experience writing software code. The platform has thus enjoyed a brisk pace of expansion over the years and surpassed 200 million registered users early in 2021. However, management’s decision to stop providing quarterly updates on registered user and premium subscriber counts overshadowed exceptional financial performance during the first three months of the year. Share prices are down over 35% from their all-time highs as of this writing.
It’s always nice to have extra info on operations, but I think a regular update on user count won’t be as useful as it was in the past. Wix already commands a massive following, and “creative subscription ARR” (or annual recurring revenue, the annualized revenue collected from subscribers to the Wix website editing platform) already captures the trajectory of this metric. Plus, co-founder and CEO Avishai Abrahami thinks half of all sites on the web will be created using Wix within the next five to seven years. Thus, rather than look at user growth, focusing on “business solutions” sales will be increasingly important as Wix deepens its relationship with existing customers.
Speaking of those numbers, creative subscription ARR was up 25% to $926 million in Q1. Quarterly business solutions sales (encompassing things like shipping, payments, and marketing) were up 97% to $77.7 million. As a result, Q1 revenue tallied up to $304 million, an increase of 41% year over year. For full-year 2021, revenue is expected to be at least $1.28 billion (up at least 29%). Free cash flow will be nearly half what it was in 2020 at a range of $62 million to $72 million, but the higher spending to support the acceleration in growth should pay off down the road.
After the sharp sell-off, Wix stock trades for just under 10 times expected 2021 sales. A staple of international businesses, this looks like a long-term value on a company with plenty of growth potential still ahead.
2. Unity Software: 3D content is the future
Unity Software also posted an exceptional start to the year. Revenue of $235 million represented a 41% increase from last year, handily beating management’s outlook for as much as $220 million provided just a few months ago. Because of the quarterly beat, the full-year outlook for sales was raised to $1 billion (compared to an expected $950 million to $970 million before).
This cloud-based platform for 3D content creation and collaboration is riding powerful trends. Video games are an early use case for Unity, but the software also powers video editing, architecture and engineering, manufacturing, marketing, and healthcare as well. As the world has gone digital, blurring the lines between the real and virtual worlds is an important way for businesses to engage with customers. Unity is well-suited for the task, and it has a massive opportunity ahead of it with its next-gen experience-creation software. To illustrate the trend, the number of customers spending more than $100,000 a year increased to 837, compared to 668 a year ago.
Along the way, there are ancillary services Unity can expand into outside of actual content creation. One such area is application distribution, helping software developers forge direct relationships with consumers — an increasingly important competitive advantage given ongoing changes at Apple and Alphabet‘s Google that are eliminating device activity tracking. Unity’s platform offers a workaround to app stores, providing marketing and content delivery network support for firms looking for new ways to monetize their creations.
The opportunity is massive as the world goes digital, and Unity has a stated goal to average at least 30% annual sales growth over the long term. So far so good. The stock currently trades for half of its all-time high, valuing the company at just shy of 23 times expected 2021 revenue. It’s still a premium price tag, but a worthy premium given the sheer breadth and depth of this cloud software’s capabilities.
3. Dynatrace: The leader in cloud observability and AI
Speaking of cloud businesses hoping to grow sales an average of 30% a year over the long-term, Dynatrace is a fantastic name that often flies under most investors’ radars. I think it deserves far more attention, and not just because it’s delivering on its growth goal. Dynatrace was recently recognized by tech researcher Gartner as the leader in application performance monitoring — a critical software infrastructure service in cloud computing.
According to Gartner’s report, Dynatrace is a visionary with a better ability to execute its vision than some well-known peers — including tech giant Cisco, industry upstart Datadog, and longtime big data software industry leader Splunk. How has it pulled that off? Rather than provide individual tools for monitoring and managing the cloud (and the data centers and applications that operate therein), Dynatrace is a full-blown platform that combines all the capabilities needed from one convenient place. And integrated into the service is AI that helps tech teams automate fixes, optimize performance, and keep apps secure. Given the massive amount of data flowing through data centers, no one person can know everything going on within a data center. AI capabilities built into infrastructure management software is a key competitive advantage.
As for the financials, Dynatrace recently finished its 2021 fiscal year (the 12 months ended March 31, 2021) with annual recurring revenue (ARR) up 35% from a year ago to $774 million. This is also a highly profitable firm even as it spends on sales, marketing, and development. Free cash flow was $207 million last year, good for an enviable free cash flow profit margin of over 29%. The outlook for the next 12 months is pretty good too. ARR is expected to be at least 26% to 28% higher. CEO John Van Siclen and the team said on the last earnings call that there’s meaningful upside to guidance if Dynatrace can execute on some of its expansion plans this year.
Based on the current outlook and after falling just over 20% from its all-time highs, Dynatrace trades for 14 times expected next year’s sales. Given its fast and steady expansion and highly profitable operation, I’m still a buyer of this cloud stock at these levels.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.