ServiceNow Inc. (NOW, Financial) is one of the renowned workflow automation players that has continued its relentless march into the IT Service Management (ITSM) and IT Operations Management (ITOM) domains. Their products are highly sticky in nature and are typically used in enterprises by tech professionals. ServiceNow operates in a multi-billion-dollar addressable market and has a strong competitive moat that stems from its large installed base of wide-ranging customers, breadth of product portfolio and remarkable go-to-market capabilities.
The company recently reported a strong quarterly result and seems well-positioned to reach its long-term revenue and subscription targets. Let's take a deep dive into the company’s performance and valuation to see if its encouraging results are worth the price tag.
Recent financial performance
ServiceNow reported yet another all-around beat with a solid financial performance in the recent quarter. The company’s top-line was $1.41 billion for the period ended June 30, which implied a staggering 31.56% growth as compared to the corresponding quarter of 2020. ServiceNow easily beat the analyst consensus estimate of $1.36 billion.
These revenues translated into a gross margin of 76.65% and an operating margin of 3.62%, which were lower than that in the same quarter of last year.
The company reported net income of $59 million, and its adjusted earnings per share (EPS) of $1.42 surpassed the average Wall Street expectation of $1.21.
In terms of cash flows, ServiceNow generated $300 million in the form of operating cash flows and spent $614 million in investing activities during the previous quarter, resulting in a negative free cash flow.
Growing platform and subscriptions
ServiceNow is one of the fastest-growing companies in the workforce automation industry. It is continuing to expand its product offerings by launching new enterprise editions of ITOM and ITSM workflows. The new enterprise editions boast artificial intelligence capabilities and no-code or low-code development capabilities built into the platform.
ServiceNow’s recent acquisition of Lightstep helped them enter into the observability market, developing its platform capabilities. I expect that their revenue will grow rapidly by landing new customers with bigger initial deals.
Moreover, the company stated that it is set to reach its subscription revenue target of $15 billion by 2026. The management is looking to achieve a subscription revenue target of over $10 billion by 2024, along with the expansion of the operating margin to 26.5% by 2024. The company needs to grow at a CAGR of 23% to achieve these goals without any help from acquisitions.
The path that the management is adopting to reach this goal is to target 7,000 enterprise customers with 1,000+ employees. Furthermore, they are working to upsell premium SKUs like the Pro and Enterprise editions of their products, cross-sell products within their platform as well as target new buying centers like development organizations within their installed base. The company is also expanding its platform services in Europe and Asia to drive growth.
Value creation for clients
ServiceNow analyzes over 300,000 data points per month, optimizing each aspect of the value chain. ITSM was in 16 of their top 20 deals, with 14 deals more than $1 million, while ITOM was in 15 of their top 20 deals, with six deals over $1 million. Currently, ServiceNow has 2,000+ clients running its customer service management solutions.
Their AI-powered service operations resonate big-time with customers. Various companies are working with ServiceNow to support the digital transformation of their enterprises, including The Travelers Companies (TRV, Financial), Walgreens Boots Alliance (WBA, Financial), the Maritime and Port Authority of Singapore and more.
The Maritime and Port Authority of Singapore is an important client worth mentioning as they working with ServiceNow to accelerate digital transformation efforts to make Singapore a leading international port and maritime center. The company looks to leverage the NOW platform to drive automation and increase productivity as well as employee experience.
Another noteworthy customer is Deutsche Telekom (XTER:DTE), which is leveraging the company’s telecommunication solution to streamline order management in order to become the leading B2B telecom service provider. The NOW platform is expected to become the core of the order management process, allowing a 360-degree outlook of orders and inventory, creating a unified, connected experience for Deutsche Telekom’s employees as well as customers.
As we can see in the above chart, ServiceNow’s stock has had a decent runup despite its fair share of volatility. The company is reasonably profitable, and the three-year growth rate of its Ebitda is a staggering 104.8%. Apart from a strong top-line growth, the company has relatively low capital gearing with a cash-debt ratio of 1.43, which is another positive sign.
The company’s current price-sales ratio of 22.31 is exceptionally high, but given its strong growth prospects, I think there is a limited chance of a strong correction taking place in the near future. Overall, I believe that the stock is an ideal buy-on-dips candidate for tech investors.