Is ZM A Value Trap?

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In my opinion, the hardest thing in investing is admitting when you’re wrong. I have a tendency to hang on to my losers too long – and then they’re down so much that I figure there must be value by that point. Which brings me to the subject of this blog post: Zoom (ZM) – which reports 1Q23 earnings after the close Monday.

ZM was in many ways the paradigmatic COVID stock. When we were all stuck at home social distancing, ZM exploded with the stock reaching almost $600. But COVID is mostly in the past now and there is a lot of competition in the space.

ZM looks cheap on a variety of financial metrics. ZM has $18/share in cash and marketable securities and no debt. They are guiding 2023 EPS to $4.11-$4.18. The stock is currently trading for ~$70. Subtract the $18 in cash and securities from the share price and you get the business for $52. Divide $52 by the midpoint of their current guidance and you get 12.5. In other words: You can buy ZM for 12.5x current year earnings. That looks cheap. But is it?

It depends on the answer to this question: Is ZM a durable business or is it in permanent decline? In other words, the question can’t be answered by looking at the balance sheet right now and current year earnings guidance. We have to look out many years and imagine where ZM will be then. And doing that requires deep knowledge of the space which ZM operates in – which I don’t have.

In other words, in an answer to the title of this blog – Is ZM A Value Trap? – the answer for me is: I don’t know. With a stock like WMT, I’m confident they have a durable competitive edge so that the earnings will be there for years – decades even – into the future. So I’m comfortable with my 7% position sizing. With ZM, I’m not so confident. What to do?

The way I’m managing this uncertainty is through a very small position sizing. Stick with the Perennial Philosophy for the core of your portfolio – and if you must speculate, position size accordingly.

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