Domo: Long Overdue Rebound (NASDAQ:DOMO)

We certainly can’t deny that the economy is belt-tightening and many companies are going to feel the pinch of macro headwinds throughout the majority of this year. At the same time, however, last year’s pessimism may have taken valuations down too far – especially amid small and mid-cap growth stocks.

Domo (NASDAQ:DOMO) is a great example of this. The business intelligence (BI) software provider has seen its stock price crash by more than 65% over the past year. And even though the company has indeed seen a bona fide slowdown in its growth trajectory, there are still strong merits to call out that don’t warrant the stock’s slide to an ultralow valuation. It’s a great time, in my view, for investors to re-assess the bull case here.

I remain bullish on Domo and am holding onto it for a recovery in my portfolio. It seems that the market has always had a reason to bet against Domo: in the early days of its IPO, pundits warned that the company’s high losses were insurmountable and that it would quickly run out of liquidity. Fast forward to today: and even while Domo’s growth has slowed down (mainly due to macro-driven factors), the company has surpassed breakeven pro forma operating margins, and the market still doesn’t like this name. For me, it’s a great time to invest in Domo while the market is looking the other way.

Here is my full bullish thesis for Domo:

• Business intelligence is a truly horizontal, wide-open market. Though many companies may be putting off their digital transformation projects in the face of current economic headwinds, the trends toward data mining and data visualization are incredibly clear and applicable to companies in all industries. Domo enjoys secular tailwinds in this regard that, in my view, are still in the early innings.
• There’s some evidence that competition arguments are overblown. One of the original criticisms of Domo is that it plays in a heavily competitive BI space against other powerhouses like Tableau (now owned by Salesforce.com) and Microsoft Power BI. Domo founder Josh James is of the belief that many Domo customers aren’t exactly looking to rip out their existing BI systems, but to supplement them with other products for different use case. So while there is certainly competition, it may not be a dealbreaker for many prospects.
• High pro forma gross margins. Domo’s subscription pro forma gross margins are north of 80%, which gives the company plenty of room to scale its operations profitably as it grows.
• Domo is closing the profitability gap. The company is trending toward pro forma profitability in FY24, which should be a huge tailwind to the stock.
• Acquisition possibility. While it’s never smart to bank an entire investment decision on hoping for a takeout, Domo is a very small company with a compelling technology platform and recurring revenue. I could easily see a larger software company wanting to absorb Domo into its portfolio.

Domo’s recent tumble has also put its valuation into very attractive levels. At current share prices near $15, Domo trades at a market cap of just $515.4 million. After we net off the $83.6 million of cash and $104.0 million of debt on Domo’s most recent balance sheet, the company’s resulting enterprise value is $535.8 million.

For next fiscal year FY24 (the year for Domo ending in January 2024), Wall Street analysts are expecting the company to generate $337.1 million in revenue, representing 10% y/y growth. This puts Domo’s valuation at just 1.6x EV/FY24 revenue – in short, a steal.

There’s no doubt that investing in Domo requires patience – but in my view, especially with the company’s recent improvements to profitability, there are plenty of catalysts to drive this small-cap company upward. Stay long here.

Q3 download

While billings growth was a sore spot for Domo, it’s a stretch to say that the company’s recent trends are exclusively bad. Take a look at the Q3 earnings results below, released in early December:

Domo’s revenue in Q3 grew 21% y/y to $79.0 million, beating Wall Street’s expectations of $76.3 million (+17% y/y) and actually accelerating slightly over Q2’s growth rate in 20% y/y.

We may caution, however, that Q3 growth rates may be a bit of a head fake. Domo’s guidance for Q4 of $77-$78 million implies a range of 10-11% y/y growth (though Domo has typically set relatively conservative targets that it easily crosses).

Billings is the best indicator of the upcoming growth slowdown – as seasoned software investors are aware, billings is a great metric for capturing a software company’s growth trajectory as it captures deals signs din the quarter that won’t get recognized as revenue until future quarters. Q3 billings of $74.0 million actually fell below revenue on a nominal basis and grew only 5% y/y – implying that the company drew down on its deferred revenue backlog.

The company notes that sales progress has been solid for its enterprise/corporate sales teams, but macro headwinds have slowed down deal progress. Per CEO Bruce Felt’s remarks on the Q3 earnings call:

Based on the changes we announced last quarter, we’ve seen good production from our corporate sales team where we are putting incremental focus. Additionally, we’re seeing progress from our enterprise team and new logo and upsell opportunities and continue to provide transformational experiences for some of the largest companies in the world […]

In terms of the macro environment, we’re seeing deals more scrutinized and slowed, resulting in and are seeing some early signs of pipeline aging with accounts of all sizes. We aren’t yet clear on how long this trend will continue, but we’re keeping a close eye on it. Regardless, we don’t see this as a reflection of Domo’s value proposition as our win rates remain consistently strong, and we continue to see strong top of funnel demand.

With today’s market conditions, whether it be the macro economy, supply chain issues or shifting business priorities, companies are faced with how to optimize their existing processes, and how to do more with less, particularly with how they drive action with real-time data in their organizations. Companies are looking for technology solutions that provide a compelling business impact and do so in record time.”

Additionally driving billings contraction is the fact that the company is currently at a lower total quota capacity, due to turnover and change in its sales organization. The company noted, however, that turnover had improved in the last months of 2022, and the company still plans to increase sales capacity in calendar 2023 (with an emphasis on ramping sales reps that have already been hired, rather than aggressively chasing new hires).

Even while these growth comments are slightly discouraging, we do have to look at the picture in totality: Domo has taken advantage of this time to rein in profitability. As seen in the chart below, pro forma subscription gross margins jumped two points to a sky-high 85%:

The company has also begun the process of moving more of its staff to low-cost areas. Opex savings overall have helped Domo boost its pro forma gross margins by twelve points to 1%, from -11% in the year-ago quarter. Domo continues to expect full-year pro forma profitability by FY24.

Key takeaways

The mainstream market has all but discarded Domo, but I think there’s a comeback story here especially as Domo hones in on profitability, which was long a black mark for the company. At a <2x forward revenue valuation, there really isn’t much to lose.