- Box reported better-than-expected Q4 2016 results, but annual growth rates continue to decline.
- Gross margins dropped YoY, and top-line growth is expected to continue slowing next year.
- Stock price catalysts don’t justify an investment at this point.
Cloud storage provider Box (NYSE:BOX) reported its Q4 2016 earnings results on March 9, with quarterly revenues and EPS that beat analysts’ expectations and triggered a 10% rally in Box stock after the results were published. The sharp surge in the Box stock price was quickly curtailed; however, the stock is still in an upward trend that was started in mid-February, after having dropped 90% since the company went public in March 2015.
Box suffered from terrible sentiment last year when concerns rose that Box was not only over-valued but also had very little upside potential amidst the intensifying competition in the cloud storage business from Dropbox, Alphabet Inc-C (NASDAQ:GOOG), Microsoft (NASDAQ:MSFT), Amazon (NASDAQ:AMZN), etc. The recent devaluations of Dropbox in the private market had a further negative impact on Box investors who feared they had overpaid for their Box shares, as Dropbox valuations decreased. Investors’ concerns have peaked lately, as reflected in the short interest chart below that reached 90% of the float.
Box is in the middle of a fundamental change to narrow its consumer portfolio. The company could not compete in a commoditized market with Google Drive, Apple iCloud, Dropbox, etc. and struggled to strengthen its enterprise offering where the company could generate more revenues even as a small player. To execute this strategic shift, Box partnered with IBM (NYSE:IBM), Microsoft and Salesforce (NYSE:CRM) and introduced new products with broad interfaces that fit the enterprise requirements for productivity applications, CRM integration, security, encryption, and more. Box succeeded in growing its customer base to 57k customers, which also included 59% of the Fortune 500 companies list, and provided an optimistic outlook of $392M in annual revenues in the fiscal year 2017, reflecting a 30% YoY growth from the $302M that the company generated in FY 2016.
The company believes that the strategic shift will pay off when it achieves a positive free cash flow in the fourth quarter of the fiscal year 2017—and that, in my opinion, shows why Box is unattractive at this point. Box has a good product that serves multiple operating systems across many platforms and eco-systems, and it links to most important external data processing software solutions while providing some security features. However, in the meantime, Box’s top-line growth has slowed; free cash flow is negative, gross margins have dropped, losses worsened. Also, Box is expected to continue investing in the strategic change until it stabilizes its business and becomes an on-par competitor with Google and Microsoft. Some investors might see an opportunity here as Box continues to grow its user base and percentage of clients from the Fortune 500 list. However, there are too many negative signs for now.
As Box penetrates deeper into the enterprise arena, they will have to compete directly with Google and Microsoft for clients, and when Google and Microsoft are pouring money into that market to trigger sales of other products in their eco-system, they will not go down nice and easy. I don’t believe that Box can seriously compete with Google and Microsoft, and they will have to adjust the business model further to offer unique, and probably more niche, related solutions. Adding these aspects to the negative factors above, Box stock is not an attractive investment right now.
The only two clear catalysts for significant share price appreciation I can see around Box are a short squeeze when the huge short interest is covered and a potential acquisition by Google or Microsoft to absorb their clients' list and prevent new players from entering the market. Both of these scenarios are speculative and aren't real triggers to open a long position right now. I believe investors should either avoid Box for now or wait for a further correction in Box stock price to open a small, speculative position.