Growth stocks can be a wild ride. The long-term upside usually comes with stomach-churning volatility. Monday.com (MNDY -0.85%) is currently experiencing ups and downs. At the time of this writing, shares have fallen approximately 28% from their highs.
The company's software-as-a-service business model is disrupting how employees collaborate in the workplace, and additional catalysts like product expansion and artificial intelligence (AI) could produce long-term growth capable of delivering outsized returns. The company is executing at a high level, making this recent drop a buying opportunity.
Here is what you need to know.
Monday.com is poised to deliver long-term growth
Monday.com's primary business is its cloud-based collaboration software. It's a low-code, highly customizable platform where people can organize tasks, share information, and integrate automation and apps to improve workplace efficiency. Today, over 225,000 customers use the product in 200 countries.
The company's growth model is brilliant. It's free for the first two people in an organization, making it easy for any company to try. If they like it, the software spreads through the company, climbing the pricing ladder as more people use it. This sales process has produced a solid 111% net revenue retention rate, underlining how customers spend more over time.
Monday.com's long-term upside depends on how it builds on its core project and task management software to penetrate adjacent markets. Since 2022, the company has launched several new products, including a customer relationship manager (CRM) for sales, Dev for product and development teams, and Service for IT and support. Monday.com has integrated various AI tools and features to enhance its products, leading to better user experiences and stickier customers.
Today, Monday.com generates $906 million in annual revenue and grew over 32% year over year in Q3. How high Monday.com's ceiling is remains to be seen, but its product roadmap signals its intention to become a do-it-all enterprise software company. Some of the world's largest technology companies, like Adobe and Salesforce, deal in enterprise software.
If Monday.com consistently converts companies to paid users and moves them up the pricing ladder, it will have a long growth runway.
Elite execution, evidenced by its stellar Rule of 40 score
Competition is fierce in enterprise software, with so many players that it can be hard to find the best of the bunch. Investors can use the Rule of 40 to identify which companies are performing at a high level. The Rule of 40 is a straightforward metric that measures a company's ability to grow without sacrificing profitability. Add a company's revenue growth rate to its free cash flow margin to calculate its Rule of 40 score.
Anything 40 or above is typically considered a strong score:
MNDY Operating Revenue (Quarterly YoY Growth) data by YCharts
As you can see above, Monday.com grew revenue by 32.8% year over year in Q3 while converting 32.6% of its revenue to cash flow. That's a Rule of 40 score of just over 65, easily topping the standard benchmark. In other words, Monday.com's growth and pricing power show up in its financials.
The stock is priced right after this decline
Valuing Monday.com by its enterprise value against its revenue, the stock is well below its value coming out of the Everything stock market bubble in 2020 to 2021:
MNDY EV to Revenues (Forward) data by YCharts
Its valuation stands out (in a good way) compared to some of Wall Street's other top technology stocks, like CrowdStrike Holdings and Palantir Technologies. CrowdStrike's enterprise value-to-revenue ratio is almost double Monday.com's, yet it scored a lower Rule of 40 in Q3 (51). Palantir's Q3 Rule of 40 was a staggering 87, but its valuation is equally off the charts at an enterprise value-to-revenue ratio of 64.
I would argue that Monday.com delivers better financial performance than most stocks today, yet its valuation is very reasonable compared to where other top tech stocks trade. If the company can continue its current path, Monday.com has a good shot at market-beating long-term investment results. If that happens, the stock probably won't stay this cheap forever.
