ServiceNow Grows Over 27%, Beats Guidance On Q4 Demand ‘Surge’
SUN VALLEY, IDAHO – JULY 09: CEO of ServiceNow Bill McDermott walks to a morning session at the … [+] Allen & Company Sun Valley Conference on July 09, 2021 in Sun Valley, Idaho. After a year hiatus due to the COVID-19 pandemic, the world’s most wealthy and powerful businesspeople from the media, finance, and technology worlds will converge at the Sun Valley Resort for the exclusive week-long conference. (Photo by Kevin Dietsch/Getty Images)
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When a company grows faster than investors expect and raises its forecast for the year ahead, its stock should pop.
That theory was put to the test by the market’s reaction to ServiceNow’s fourth quarter results which were released after the market closed on January 25.
The outcome? Its stock fell over 2% after hours. While ServiceNow met revenue expectations and exceeded the earnings per share consensus, one analyst noted that a measure of ServiceNow’s backlog was lighter than expected — despite exceeding the consensus.
Unless some more significant problem comes to light, it looks to me as though ServiceNow’s slight dip after the earnings call is a buying opportunity.
Faster Than Expected Revenue Growth and Profitability
ServiceNow’s software helps information-technology departments to manage requests from its internal customers. The company also provides a self-service tech portal that company employees use “to access administrative and workflow tools,” according to Investor’s Business Daily (IBD). ServiceNow has added software for other functions — such as human resources, customer service management and security.
By most measures, ServiceNow grew faster and was more profitable than expected:
Revenue rose 20% to $1.94 billion — meeting expectations Earnings per share of $2.28 popped 46% — beating the consensus by 26 cents, noted IBD Subscription Revenues. Q4 GAAP subscription revenues were $1.86 billion — up 27.5% adjusted for constant currency, As I wrote in November 2022, the company expected 20.5% growth in this metric. Margin. Q4 non-GAAP operating margin was 28%, two percentage points above guidance Renewal rate: Fourth quarter renewal rate was 98% Full-year free cash flow margin: 30%, a percentage point above guidance
Expectations-Beating Growth in 2023
ServiceNow forecasts expectations-beating growth in the first quarter of 2023 and for the year with solid profitability:
Q1 subscription revenues between to rise between 25% and 25.5% Full-year subscription revenues to increase in a range between 22.5% and 23.5% — or $8.44 billion to $8.5 billion. This exceeded the analyst prediction of $8.36 billion, according to IBD. 2023 non-GAAP operating margin: 26% 2023 free cash flow margin: 30%
Surge in Demand And Strong Customer Retention
ServiceNow is very excited about its performance and prospects. In a January 25 interview, CEO Bill McDermott told me, “Today is a special day in our history. We have a championship platform. We beat every expectation and raised guidance. We beat on revenue growth by one point, on operating margin by two points, and on free cash flow. It’s about a huge surge in our new business in the fourth quarter. We blew past the previous year and our guidance is higher than the consensus estimates.”
Why the surge? “We provide end to end digital transformation. How do you get more work done with less? You have to optimize assets to drive productivity. You have less headcount and more work. If you are a C-level executive you have to invest in the short-term to survive in the long-term. There are only a few platforms that are critical — ServiceNow is one,” he said.
Is ServiceNow gaining market share? “We are the only one that does what we do. We run on top of other applications and we enable everything to be integrated so people can collaborate. We are increasing wallet share and our retention rate is 98% to 99%,“ he explained.
ServiceNow’s lines of business are firing on all cylinders, “Unlike other companies, we only have winning businesses. We have 10 businesses with over $1 billion in revenue that are all growing very fast. I am betting it all on our great engineers and our go to market machines. This is our moment. Customers and employees are asking ‘What is going on there?’ We want in,” said McDermott.
Stock Falls After Hours
In 2022, McDermott told me that ServiceNow stock should trade at $800 a share. My guess is that this price target would be reachable if ServiceNow could return to the 59% average annual growth rate it enjoyed during the decade before the pandemic.
Investors did not catch the ServiceNow fever — with its stock losing 2.1% in extended trading. The cause could be disappointment over a measure of backlog called current remaining performance obligations (CRPO) — which sums deferred revenue and order backlog.
RBC Capital analyst Matthew Hedberg wrote in a note to investors that fourth quarter 2022 CRPO — which came in $100 million above the consensus of $6.84 billion, 25.5% above the year before amount — “was seen as somewhat disappointing relative to expectations,” reported IBD.
Another analyst, Dan Romanoff Senior Equity Analyst at Morningstar, was impressed with the results but lowered his target price for the company from $640 to $600 due to “macroeconomic caution.”
He was pleasantly surprised by the report noting, “ServiceNow reported upside relative to revenue and margin guidance for its fourth quarter and provided a surprisingly robust outlook for 2023.” He noted that improving currency headwinds and expense discipline contributed to better revenue and margins.
He noted that its “about in line” guidance “is surprisingly good in this environment.”
I remain puzzled why ServiceNow’s stock fell after this report. Unless there is a more significant threat to its future growth than what those analysts cited, the dip looks like a buying opportunity.
