2023-04-26 09:46:38 ET
Summary
- Twilio is increasingly transitioning to a more profitable data and applications business.
- The CRM landscape remains competitive.
- GAAP profitability may still take a few years.
Article Thesis
Twilio's ( TWLO ) business model is increasingly moving from communications to data and application. The company is increasingly trying to reaccelerate growth. Management has indicated that as the company’s sales teams get their new strategy towards sales, Twilio will head quickly back to higher growth.
Twilio’s transition
Twilio has been increasingly moving away from its communications business, towards data and applications. While the company has not given up on the communication business, there is an indication that they are increasingly going to try and focus on improving the overall product offering, by creating an integrated approach, in order to improve profitability, which remains low for a tech company.
The current communications business currently has four segments, Messaging X, Twilio Engage, Twilio Flex, and Trusted Activation. The data and application division has the following segments: Twilio Segment, to unify customer data, Marketing Campaigns, and Serverless.
The company is currently trying to focus on its Twilio Segment by offering analytics from a single source in order to improve the customer communication experience and in addition, trying to build a more integrated communication business. Additionally, the company is trying to improve cross-business integration to create an integrated business model. By combining this with Twilio’s ability to integrate ‘Marketing Campaigns’, Twilio likely has a product to help drive revenue.
Business model to clash with other CRM companies
The transition will continue to be interesting as Twilio is increasingly reliant on taking on CRM competitors such as Salesforce (CRM), which provides similar customer analytics. While Twilio is more focused on the communication aspect of sales, compared to Salesforce, which is more focused on the CRM aspect of the business, there will still be some overlap. Twilio is relying on improving how customers make decisions, and it's doing it by providing end-to-end analytics
But the eventual CRM nature of Twilio’s product, providing analytics and insights into customer relationships will be on track to compete with established players such as Salesforce. This could negatively affect the company’s outlook as it looks to compete for customers in a slow-moving market. Luckily for Twilio, the market remains a relatively large one with the general CRM market expected to grow around 14% through 2030 . Furthermore, Twilio remains relatively behind in products, and it will have to compete with Salesforce’s own marketing products. Again, while Twilio is focusing on communication, and trying to create a more communications-focused program, which includes an integrated omnichannel communication approach, there will certainly be an overlap with other CRM companies. It remains to be seen how Twilio will create a unique business proposition, where customers believe they are getting enough value in return when compared to alternatives.
Applications revenue should continue to grow at a quick pace once the sales channels are in place, and it seems from the quarterly call, management is confident that they can continue their rate of growth through the first quarter. But beyond the company’s growth issues, as it heads towards a far more competitive landscape, gross profitability remains an issue. Usually, tech companies have much higher gross profitability, meanwhile, Twilio, has only about a 47% gross profit margin. Management has indicated that it is looking to improve profitability through a series of measures including improving the value of its communications business. The likelihood is the company will target an integrated approach for higher-value industries, where it can charge higher prices. Twilio is looking to the likes of healthcare, and financial services as it looks to see if it can improve its product value, and thereby pricing power. Previously Twilio relied on a smaller group of large customers, but now it is a lot more dispersed , and since smaller accounts tend to have poorer margins, the strategy remains questionable, as to whether it needs more large accounts.
Currently, the company's operating losses remains under pressure as operating costs remain excessive. Some of that should have been offset by growth, but growth was supposed to come from international expansion. But the international mix of revenue has declined in recent times , which is not a positive sign. In order for the company to continue its high growth levels, international expansion remains key, and the coming quarters will give a better indication of how management is targeting expansion markets, as the transition phase becomes more steady.
Financials
Financially speaking the company remains relatively cheap, with price-to-sales at 2.8x. Management has projected 15-25% revenue growth in 2023, but if sales channels improve they project revenue could grow as much as 30%. Assuming 20%, on the median end, and gross profitability of 50%, on improved revenue mix from data and application, that would mean that revenue would be around $4.5-$4.6 billion, and the gross profit would be around $2.3 billion, which would still mean the company’s ability to reach GAAP profitability still remains far away, as operating costs were $2.8 billion in 2023. Meanwhile, a 25% increase would still mean around $2.4 billion in gross profits, and if operating costs increased marginally, let’s say 10%, you would still be witnessing around $680 million in operating losses. If Twilio can continue to grow at 20%, it may be 2025, before it finally gets to profitability.
I believe Twilio’s move towards a transition is going to continue to affect profitability for a while, as the company looks to improve product penetration into key sectors, and markets. This means quite often spending on R&D, and on marketing. Therefore, profitability will still be a few years away. Twilio’s model unfortunately does not have as much pricing power as it might like currently, which puts pressure on the company to grow in order to reach profitability. While some of that will be offset by targeting industries that are more profitable, there probably is an upside limit to their margins for now.
Risks and Conclusion
The company also faces revenue risks as it heads into 2023, as it looks to bring in clients for its application and data products, which are far more CRM focused. Companies may look to reduce their CRM in 2023, as global sentiment worsens. Usually, CRM and marketing spending is the first to take a hit and Twilio may feel the effects. Management has indicated as much during the earnings call but appears to remain largely positive for the year.
Twilio’s initial strategy clearly wasn’t as profitable as it would have liked, and the cost structure combined with the potential margins weren’t going to cut it. Now it is in a transition phase and it remains to be seen if it can compete in what is a relatively competitive CRM landscape. The company will continue to push its sales force, and growth should remain relatively acceptable. But a steady business is still a while away. Investors probably won't want to invest straight away, and a wait and watch strategy will be prudent to see how the transition goes in my view.
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Twilio In A Transition Phase, GAAP Profitability Probably Still Far Away