bymuratdeniz
2023 was the year of artificial intelligence (AI). And this is continuing into 2024. But I’m looking for companies set to benefit from the proliferation of AI that haven’t taken off yet. One such company is ZoomInfo (NASDAQ:ZI). ZI’s business-to-business (B2B) contact database is the biggest and most up-to-date in the world. And this data will be imperative for marketing and sales teams to use in their generative AI models.
The Fuel of AI
Data fuels AI. Without data, AI models could not be trained and they’d have no data to interpret. Over the next 10 years, I see GPUs for processing AI applications will become commoditized. Competition is increasing already and soon we will see chips developed by all major tech companies compete against each other. Prices and profit margins will fall.
And as I wrote previously, I see AI disrupting the Software-as-a-Service (SAAS) business model. So I believe many SaaS companies will struggle too. But the one thing that will still be valuable, is the data collected to train models. In 2017 The Economist even went as far as to say that data is the new oil. I agree. Data will fuel the AI paradigm.
The quality of the output of any AI model is directly related to the quality of the data it’s trained on. Putting bad data into your AI models is like putting unleaded in a Porsche. Sure, it might run, but it won’t run at max efficiency. We’re about to see companies pay a premium for top-grade data.
Any company with a unique and useful dataset will become a lot more valuable. They could sell access to this data to companies training large language models (LLMs). Or they could sell up-to-date information to companies so they can properly utilize other AI services. I believe ZoomInfo is set to profit by doing the latter. Right now ZoomInfo gets most of its revenue by selling seats to its cloud-based platform. This platform gives access to a database of B2B customers and analytics tools to improve a company’s go-to-market strategy. Their database is second to none because about 60% of their 35,000 customers allow their contact information to be used by all ZI clients. This crowdsourced data enables them to effortlessly maintain the up-to-date database in the world. That’s their competitive advantage. And that’s the important part to remember going forward.
ZI’s database contains over 104 million companies and over 321 million professionals. They capture over 100 million contact record events daily which they have AI/ML algorithms go through to improve the database and get clients the warmest customer leads.
Now ZoomInfo has struggled this past year. The macro-environment has been difficult, especially for software and IT companies which made up over half of ZI’s revenue. Software and IT companies saw mass layoffs in late 2022 and early 2023. These layoffs led to the companies not requiring as many seats to ZI’s platform. This is what caused ZI’s revenue growth to slow to about 12% in 2023. But this headwind should be just about over as most of ZI’s contracts are 1-year contracts and the renewals nearly through the system. Plus I believe a ZI has a new use case that will accelerate revenue growth.
How ZoomInfo Benefits From AI
Most people who talk about ZoomInfo’s use of AI talk about their recently updated Chorus application. This stems from their $548 million acquisition of Chorus.AI in 2021. The Chorus platform transcribes and analyzes business conversations in real-time and uses its natural language processing (NLP) algorithms to get insights from calls. Then users of ZoomInfo can get these notes, insights, and action items put in an email ready to send out to all participants.
This is a useful service… but hundreds of services transcribe calls now. This is not a selling point. I would also say the same about AI companion – a hundred other services can help write content. These are nice to have, but hardly ZoomInfo’s main selling point. The value of ZoomInfo’s product to any user is its unparalleled database. The company has the largest and most up-to-date business-to-business (B2B) contact database in the world. Here are two uses of ZoomInfo’s data that will increase demand for its product.
Generative AI In Marketing
LLMs, if prompted correctly are amazing marketers. I predict within a few years most marketing will be done with AI models to provide each person with an individualized journey through the sales process. And right now AI is allowing marketers to send out targeted emails to more clients. For the Microsoft Word experts, it’s like a new and improved mail merge.
At the Nasdaq Investor Conference in December, CFO Peter Cameron Hyzer talked about ZoomInfo’s ability to automate the whole marketing plan. He said:
When you think about our largest customers, they are using ZoomInfo to power their whole go-to-market motion. That means bringing in signals, using our workflow tools to then automate different motions, whether that’s reaching out to a customer, sending them, advertising or email campaigns or other things, and really helping to drive making the salesperson’s job easier every day.
Any marketing team not using generative AI at this point is falling behind. But here’s the thing. No matter how great your marketing campaign is and no matter how many emails you send, if your contact list is out-of-date, you’re not maximizing your sales.
As we said earlier, putting unleaded in a Porsche… That’s why more companies need ZoomInfo’s database now than ever before.
The average data decay for contact info is 2.1% per month. That means if your contact list is from early 2023, about 22.5% of those contacts will be stale. The example used in the article says that if you have 50,000 companies in a database that are potential customers, 11,241 of the contacts will be obsolete by the end of the year. And if a company has a 15% conversion rate and an average contract value of $1,080 – that leads to $1.82 million of lost revenue.
That’s a lot of lost sales. Companies should have no problem shelling out six figures to ZoomInfo to make millions more of incremental sales. And as more companies ramp up their marketing efforts to take advantage of new AI capabilities, more companies will see a bigger benefit from ZoomInfo’s data. This is how AI really helps their core business. And I believe this will lead to sales surprises in 2024. Now onto their new market…
ZoomInfo Is a Treasure Trove for Data Miners
ZI’s biggest opportunity going forward is its Data-as-a-Service (DaaS) offering. This is tucked away in the Operations OS offering but will become the company’s biggest growth driver in the coming years.
CFO Hyzer explained the economics of this at an investor conference in September. He said:
An interesting example would probably be if we have a customer today that might be a $100,000 customer, so let’s say it’s 50 to 100 seats, whatever if that same customer was coming in to buy a similar level of data in the operations OS, that might be a $200,000 to $400,000 ticket for us.
By selling access to their data, ZI can more than double their expected contract value from clients. And many clients prefer this instead of having all their employees logon to ZoomInfo’s servers. It’s a win/win.
The DaaS offering is being picked up by their large $1M+ customers at a fast clip. During the latest conference call Chief Revenue Office, James Roth said about this:
In terms of the biggest opportunities we see, this DaaS led motion that we’re seeing in the seven-figure and up market cohort, we’re seeing a lot of success in […] When folks ingest that data, they buy more of it in every single example that we see.
Now some analysts worry that the data offering may not come with as much recurring revenue as they get with the seats. That’s mistaken for two reasons.
- ZoomInfo has found more often than not, companies that buy data in hopes of replacing ZoomInfo’s other tools end up retaining most of their seats.
- As we talked earlier, contact data becomes stale quickly. And ZI will likely charge clients a continued fee for the most up-to-date data.
A New Class of Clients
I also see this DaaS offering opening the door for new clients. Being an investor, one class of clients that could use this data are hedge funds. It doesn’t take much imagination to think of some ways hedge funds could use this data for predictive modeling. If the data shows a company is building out its sales team, it could mean that sales will increase in the coming year. Or if you see a lot of senior, high-skilled workers going to a business, that tells us something interesting is happening there to attract that talent.
Another feature of ZI’s data is that some clients allow them to track their employees’ search histories. These search histories are tagged to each business. From there we can see which businesses are searching (and spending) on different projects. This could mean the purchasing business is growing. Or the searches could tell us another company is about to get a lot of orders. This is data hedge funds can trade on.
I could also see government agencies using this data to help enforce trade restrictions. This could help ensure sanctions are followed and restricted items are sent to hostile countries. Or they could use it to help pinpoint potential espionage efforts. If a few skilled people shift jobs to foreign-domiciled companies it could be a sign they’re trying to steal U.S. company intellectual property.
If anyone can think of any other new clients for this kind of data please let me know in the comments below.
What Could Go Wrong?
It’s always important to think about what could go wrong with an investment thesis. And I really see two factors that could cause me to be wrong about ZoomInfo.
The first is a broader economic slowdown. Many people believe we’ll see a recession this year as interest rates are at restrictive levels. If we do not get a soft landing, we could see many businesses lay off more employees. And ZI could see fewer seats getting renewed during their contract renewals. This has been a problem for ZI this past year as their sales were heavily weighted towards software companies. About half of their revenue came from these kinds of companies. And the industry saw broad layoffs in early 2023. I believe we are a quarter or two away from seeing the headwind from software impacting the comps. And even if we did see an economic slowdown, ZI could end up maintaining revenue as they have been fighting this problem for a year already.
The second thing that could go wrong is they don’t end up seeing a quick increase in revenue due to companies ingesting more data. Their DaaS offering is new. And despite its early success, maybe only a limited number of companies will use this data. If that happens, growth will not be what I believe it will be.
Capital Structure
ZoomInfo management has done a great job with its capital structure. Some investors worry about their high debt load. The company has an enterprise value of $7 billion and $1.4 billion in debt. But I don’t see this as a problem. First, the $650 million of bonds don’t mature until 2029. And those bonds have a locked in coupon of 3.875%. And they have a floating rate note that matures in 2030. Having that much time until maturity reduces any chance of trouble around repayment.
And ZI’s interest expense is minimal when compared to their EBITDA. Even after interest rates have increased, which make the floating debt more expensive, ZI only spends about $46 million a year on interest. Compare that to the $524 million EBITDA ZI is projected to have for its fiscal year ending Jan. 31, 2024 and you’ll see only 8.7% of EBITDA goes towards servicing the debt. That leaves plenty of money to repay their debt in five years and for their $500 million buyback announced this summer. This buyback likely means the company is done issuing shares and diluting investors. And the buyback should more than make up for ZI’s lofty equity-based compensation number.
I also like seeing this buyback when shares are cheap. The market has crushed ZI’s stock price taking it from a high of $77 in November 2021 to $16 now. And as I show in the next section, the company now trades at a very reasonable 23x EV/EBITDA.
Valuation
Looking forward to a valuation for the stock by the end of the year, I would value it on an EV/EBITDA basis. Right now Wall Street has a minuscule revenue growth target on ZI of just 3.4% for 2024. Now part of this is due to management’s conservatism in its guidance. Over the past 8 quarters, they beat revenue projections 7 out of 8 times and EPS guidance 8 out of 8 times.
The other reason for a higher growth target is that I believe Wall Street is ignoring the potential of the DaaS offering. This has barely been talked about in earnings and conference calls. And if it’s mentioned at all, it’s usually a throwaway question at the end of the interview. This is a mistake. It is a huge offering. And as ZI figures out how to sell this to their mid-revenue clients, it will increase revenue growth. And this is our opportunity to see big revenue and earnings revisions this year.
Between the customer churn ending and the new data offering, I see revenue growth remaining consistent in 2024. Revenue should grow about another 13% this year, putting the total revenue near $1.4 billion. With increasing revenue, the company should be able to maintain its EBITDA margin of about 43%. Assuming those two things happen, 2024 EBITDA will be $602 million. And to remain conservative, we’ll use the current beaten-down EV/EBITDA valuation level of 23. Assuming no multiple expansion in 2024, that puts their EV at $13.8 billion by the end of the year. At a current EV of $7 billion that implies a potential 97% upside this year.
Conclusion
ZoomInfo has quietly laid the groundwork for a new way to use its incredibly valuable B2B customer database. The proliferation of generative AI in marketing and sales efforts will require the best data possible. Otherwise, sales teams will be emailing or calling stale contact information. And they won’t get the full value out of AI. We’ve already seen some of ZI’s larger customers pick up the more expensive data offering. But as the year progresses, more small and mid-sized business will pick up this offering too. And that will drive higher-than-expected sales… and higher-than-expected stock prices.
