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ServiceNow stock is expensive; does it have a margin of safety?”

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Written on Oct 30, 2024
Reading time 5 minutes
  • ServiceNow shares continued rising after its recent financial results.
  • It has gained momentum because of its AI initiatives.
  • There are signs that it is highly overvalued compared to peers.

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ServiceNow (NOW) has been one of the best-performing technology stocks in Wall Street, helped by its superb revenue and earnings growth. It has surged by 1,300% in the last decade, bringing its market cap to over $192 billion.

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It has done well since going public in 2012, when it was trading at $18, meaning that $1,000 invested in it would now be worth over $52,000. 

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A fast-growing company

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ServiceNow has become a top-performing company because it exists in some of the fastest-growing industries in the technology industry.

It is one of the biggest players in the Software-as-a-Service (SaaS) and artificial intelligence industries.

For starters, ServiceNow is a tech company that offers workflow solutions to companies from around the world. Its business is divided into four key areas: technology, customer & industry, employee and creator. 

The technology workflow is used by IT departments to build, operate, and service IT needs of a firm, while the customer segment simplifies how companies interact with their customers. 

Also, the employee workflow solution lets workers access the services that they need easily. The creator part lets users create, test, and deploy their low-cost applications. All these solutions are found in the Now Platform.

ServiceNow does not offer its services to retail customers. Instead, it services small, medium, and large businesses, which include top companies like Coca-Cola, Deloitte, IBM, HSBC, and Walmart. 

Servicenow has also joined the artificial intelligence industry through the launch of its AI Agents, which are aimed at helping to boost the productivity of employees and customers. 

Its business has continued growing in the past few years. Total revenue soared from $3.46 billion in 2019 to $8.9 billion in the last financial year.

This growth happened as the company continued to sign up more large companies into its ecosystem. After signing companies up, it also monetizes them by upselling additional solutions. 

For example, a company that became a customer in 2010 who started with an annual contract value of about $100, now likely pays $3,300. This trend explains why the number of customers who pay it over $1 million a year has continued to grow. 

Additionally, ServiceNow has almost no churn. According to the management, its renewal rate is 98%. 

Read more: Can ServiceNow stock exceed $1,050?

ServiceNow business is still growing

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The most recent financial results showed that the company’s revenue rose by 22% in the third quarter to $2.79 billion. Most of this revenue growth came from its subscription business, which grew by 23% to $2.75 billion. 

These results were much better than its previous guidance and what analysts were expecting. It was the fifth consecutive quarter in which the company did better than expected.

Most notably, ServiceNow boosted its forward guidance, citing the strong demand for its artificial intelligence tools. It now expects that its fourth-quarter revenue will be between $2.875 billion and $2.88 billion.

Analysts expect that ServiceNow’s business will do well in the current quarter, with its revenue expected to come in at $2.96 billion. This will translate to an annual figure of $10.9 billion followed by $13.23 billion in 2026.

Valuation is a big concern

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The biggest concern about ServiceNow is that its business is highly overvalued since it has a market cap of almost $200 billion.

Using 2026 as its baseline, and assuming that it can get a 20% annual growth rate in the next five years – which is not possible – we can estimate that its five-year revenue will be $32 billion. 

ServiceNow has a net profit margin of 12.7%. So, assuming that it will grow this to 20%, it means that its net profit will be $6.4 billion, implying a price-to-earnings multiple of 31, which is higher than other firms.

ServiceNow currently has a forward P/E ratio of 138, which is higher than the sector median of 30. Remember, NVIDIA, a company that has triple-digit growth metrics and one that has higher margins has a forward P/E ratio of less than 60.

Therefore, the company will need to continue doing better than estimates for its stock to keep rising. The average stock estimate among analysts is $997, higher than the current $953.

ServiceNow stock price analysis

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ServiceNow stock

NOW chart by TradingView

The weekly chart shows that the NOW share price has been in a strong bull run in the past few years. This rally accelerated after it flipped the crucial resistance point at $710, its highest level in November 2021 into a support. 

The Relative Strength Index (RSI) has continued rising, and is nearing the important overbought point at 70. Also, the Stochastic Oscillator has moved to the overbought point at 75.

Therefore, based on trend-following principles, there are rising chances that the stock will continue rising as bulls target the psychological point at $1,000. However, because of its stretched valuation, the stock could pull back to $710.

Read more: ServiceNow stock is severely overvalued – rating downgrade

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