Over the last six months, Five9’s shares have sunk to $24.01, producing a disappointing 12.6% loss - a stark contrast to the S&P 500’s 18.4% gain. This may have investors wondering how to approach the situation.
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Why Is Five9 Not Exciting?
Despite the more favorable entry price, we're cautious about Five9. Here are three reasons you should be careful with FIVN and a stock we'd rather own.
1. Weak Billings Point to Soft Demand
Billings is a non-GAAP metric that is often called “cash revenue” because it shows how much money the company has collected from customers in a certain period. This is different from revenue, which must be recognized in pieces over the length of a contract.
Five9’s billings came in at $276.5 million in Q2, and over the last four quarters, its year-on-year growth averaged 13.6%. This performance slightly lagged the sector and suggests that increasing competition is causing challenges in acquiring/retaining customers. 
2. Projected Revenue Growth Is Slim
Forecasted revenues by Wall Street analysts signal a company’s potential. Predictions may not always be accurate, but accelerating growth typically boosts valuation multiples and stock prices while slowing growth does the opposite.
Over the next 12 months, sell-side analysts expect Five9’s revenue to rise by 8.2%, a deceleration versus its 24.4% annualized growth for the past five years. This projection doesn't excite us and indicates its products and services will see some demand headwinds.
3. Low Gross Margin Reveals Weak Structural Profitability
For software companies like Five9, gross profit tells us how much money remains after paying for the base cost of products and services (typically servers, licenses, and certain personnel). These costs are usually low as a percentage of revenue, explaining why software is more lucrative than other sectors.
Five9’s gross margin is substantially worse than most software businesses, signaling it has relatively high infrastructure costs compared to asset-lite businesses like ServiceNow. As you can see below, it averaged a 55.3% gross margin over the last year. Said differently, Five9 had to pay a chunky $44.71 to its service providers for every $100 in revenue.
The market not only cares about gross margin levels but also how they change over time because expansion creates firepower for profitability and free cash generation. Five9 has seen gross margins improve by 2.4 percentage points over the last 2 year, which is solid in the software space.
Final Judgment
Five9’s business quality ultimately falls short of our standards. Following the recent decline, the stock trades at 1.7× forward price-to-sales (or $24.01 per share). This valuation multiple is fair, but we don’t have much faith in the company. We're pretty confident there are more exciting stocks to buy at the moment. We’d suggest looking at one of our top software and edge computing picks.
Stocks We Would Buy Instead of Five9
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