The stock markets have been taking a beating lately, with the high growth (and perceived higher risk) technology stocks being hit the hardest. The 37 pure play public cloud companies making up the BVP Cloud Index
have given up over a quarter of their value since the beginning of March, and uncertainty remains about the weeks ahead. The bulls may argue that taking some pressure out of the system is healthy, and these new software leaders have many great years still ahead of them. Whereas the bears are arguing that the multiples got too far ahead of themselves, and further pullbacks can still be justified relative to historical levels. This begs the question: is this a rare opportunity to buy great stocks “on a dip”, or is it the start of a major sell off? Let’s look at the facts.
After rallying for over two years, the BVP Cloud Index has dropped 26% in the last 6 weeks
The cloud market peaked on February 27, 2014, accounting for $183bn in total market cap value and reflecting 129% growth since the start of 2012. While the recent drop in the BVP Cloud Index is significant, it’s important to note that this high growth basket is still up 70% over the last 2 years and has outperformed the Nasdaq, S&P 500, and Dow Jones Indices by 18%, 26% and 39%, respectively.
The Cloud Index has given up all of its gains for the year, and is back to levels from mid-2013
The cloud market rallied at the start of this year, gaining 18% in the first 8 weeks but subsequently dropping 26% over the following 6 weeks. As of April 11, 2014, the BVP Cloud Index is down 12% year-to-date and has underperformed the Nasdaq, S&P 500, and Dow Jones, which have dropped year-to-date 4%, 3% and 1%, respectively.
While multiples have dropped overall, cloud multiples are trading in line with 2013 average multiples
The cloud market has been rallying for the last several months. At its peak six weeks ago, the average NTM (next twelve months) multiple for the BVP Cloud Index reached roughly ~10x. The highest growth companies within this Index (defined as companies with 2015 growth >30% YoY) reached an average NTM multiple of ~12x, over double that of their “Stable Growth” (<30% growth) peers. These numbers are now in line with the levels they traded at in 2012 and 2013.
Market drop driven mostly by higher valued stocks
Cloud companies trading at higher multiples (typically due to higher growth rates) face a more volatile trajectory. Their multiples tend to expand more during a rally and compress faster in a down market, amplifying the market oscillations in both directions. This is evident in the data above: Cloud companies with the highest multiples, have compressed the most in the market pullback. In fact, high valuation cloud companies (defined by >12x NTM multiple at the peak) have dropped 38%, 16% more than stable cloud companies (<12x NTM multiple at the peak), which have fallen 21% since the peak 6 weeks ago. This has resulted in high valuation companies dropping 6.5x in average NTM multiple compared to stable valuation companies dropping 1.6x in average NTM multiple in the same time period.
What does it all mean?
This is a short term valuation question as the public and private markets prices adjust, but is not a long term question around the fundamentals of the cloud computing industry. Analysts aren’t suggesting that customer demand has softened around these cloud computing leaders broadly, and in fact they generally agree that the momentum of the software industry towards cloud computing is stronger than ever. At Bessemer Venture Partners, we also continue to believe that we’re still in the very early days of this fundamental computing transformation, which currently only comprises ~2% of total IT spending and likely has a decade of hyper-growth still ahead of it. We’re putting our money where our mouth is in the private markets while others hesitate, and we’re doubling down! We have been fortunate to work with many of the cloud computing leaders of this first wave, and continue to believe that many of the next great cloud computing leaders are just getting started. For those of you that may be on that list, we hope you’ll consider calling us when it comes time for a financing to put a little rocket fuel in your gas tank!
Download the latest BVP Cloud comps at www.bvp.com/cloud/comps