1 Surprising Artificial Intelligence (AI) Stock to Buy Before It Grows 2,139%, According to

Just about every company on Earth pushed to incorporate artificial intelligence into their operations and products in 2023. Indeed, AI is driving massive increases in productivity for knowledge workers around the world. And one company is poised to see a huge benefit as businesses push to make their employees more efficient.

Zoom Video Communications (NASDAQ: ZM) has built out several AI features to help remote workers — everyone from salespeople to software engineers — use their time more effectively. And Ark Invest thinks Zoom’s AI-related products and services could provide a massive boost to revenue. The analyst team led by Cathie Wood slapped a $1,500 price target on the stock for 2026. That implies a massive 2,139% upside from where the stock trades as of this writing.

And Ark Invest is putting its money where its mouth is. Zoom is the fifth-largest holding in its flagship Ark Innovation ETF, as well as the fourth-largest holding in the Ark Next Generation Internet ETF.

Here’s exactly how Ark’s analysts think Zoom’s AI innovations will support that massive price target.

The most important driver of Zoom’s business

In a write-up detailing its long-term financial model for Zoom stock last year, Ark analysts wrote, “In our view, the most important driver of its business is Zoom’s ability to monetize its users.”

It sees average revenue per user (ARPU) for Zoom’s core videoconferencing service climbing from $113 in 2022 to $188 in 2026. That represents an annualized growth rate of about 13.6%. Unfortunately, Zoom fell short of that rate in the first three quarters of 2023 (Q4 results aren’t available yet). Enterprise customers are up about 5% year over year as of the end of the third quarter. Meanwhile, total revenue increased just 3%.

But the real upside in revenue per user, according to Ark’s analysts, will stem from AI-enabled products and services.

Ark sees Zoom improving upon its core videoconferencing revenue with AI service by 50% to 100%. In other words, it thinks AI services could double Zoom’s ARPU by 2026.

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Zoom released Zoom IQ in 2022, offering advanced analytics on sales calls through video and phone to help improve seller performance. It’s built on that with new features like meeting summaries and advanced chat composition tools. The next set of AI-powered features in the works include the ability to summarize chat threads, organize ideas more effectively, and real-time translation. Zoom’s also looking to use generative AI to help develop sales trainings, simulating selling situations.

As Zoom looks to include more and more AI features into its core videoconferencing, phone, and contact center products, it should show improvements in average revenue per user over time. Whether AI products and services will contribute one-third to one-half of that revenue remains to be seen.

Where Ark Invest may be overly optimistic

Not only does Ark Invest expect huge growth in revenue per user driven by AI products and services, it expects Zoom to attract a lot more paying users. Specifically, it anticipates the conversion rate from free users to paid users will improve substantially over time.

Its model forecasts the rate climbing from 17% of Zoom users in 2022 being paid customers to 50% by 2026. That’s a threefold increase in just four years. While that percentage should climb over time as small companies grow, become more reliant on Zoom, or become attracted to premium features, it’s very unlikely Zoom will reach such a high level of conversion rates.

That puts Ark’s expectations for $51.8 billion in revenue by 2026 into question. That said, sufficient ARPU growth with slightly higher penetration will still support solid revenue expansion. Better-than-expected churn in the company’s most recent quarter should give investors optimism that stronger top-line growth is in store for next year but probably not to the level that Ark’s analysts are modeling.

What’s more, after cutting staff and improving efficiencies this year, there might not be much more room to improve operating margins. Ark sees adjusted EBITDA margin rising to between 42% and 46% by 2026. While Zoom’s non-GAAP operating margin improved to 39.4% through the first nine months of the year, up 3.5 percentage points, it’s unlikely to repeat that performance again.

Zoom might not have 2,139% upside, but it’s still a buy

A company that can produce modest improvements in annual recurring revenue every year can still be a very valuable business to own. And at today’s valuation, Zoom still looks like a great investment opportunity.

Zoom has the potential to turn into a strong free cash flow producer thanks to its subscription model. Management expects free cash flow to rise 13% this year thanks to efficiency improvements, but this metric should continue to climb over time. The stock currently trades at just 15.4x its free cash flow, which is a fair price and a multiple Zoom stock should be able to support for the foreseeable future.

When you factor in modest revenue growth and stable operating margins, Zoom stock should be able to produce solid returns for investors, so the downside risk at this price isn’t too worrisome. On the other hand, if Cathie Wood and Ark Invest turn out to be anywhere close to accurate with their outlook, the upside could be substantial.

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Adam Levy has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Zoom Video Communications. The Motley Fool has a disclosure policy.

1 Surprising Artificial Intelligence (AI) Stock to Buy Before It Grows 2,139%, According to Cathie Wood’s Ark Invest was originally published by The Motley Fool

This article was originally published by a finance.yahoo.com . Read the Original article here. .