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Unsurprisingly, our reverse-engineered DCF model yielded a wide range of implied growth rates which reflect investors’ expectations regarding future growth for the 12 Software-as-a-Service companies encompassed in this. Upon distinguishing between growth and value stocks, it became clear that the market is particularly optimistic regarding the profit potential of several of the growth companies. However, it is evident that eventual market saturation sets boundaries to how much each firm can grow with the implication that some of them must be overpriced. Taking these preliminary findings into consideration, strategic analyses for Microsoft and Zoom were conducted in order to provide insights into a growth and value stock, respectively.

Our findings regarding Microsoft suggest that the company finds itself in a strong competitive position and has capabilities that represent strategic fits given the external market conditions.

Microsoft appears to be organized in a manner that leverages its key strengths and enables them to exploit favorable sociocultural and technological opportunities presented in the current environment. Therefore, despite certain political and economic threats, and a strong competitive intensity in the SaaS market, we conclude that Microsoft has the resources and capabilities to deliver financial results that exceed the expectations indicated by its stock price and implied growth rate of 4,46%. In other words, we believe Microsoft’s stock price was undervalued as of January 1st, 2021.

Operating in the same industry, although less diversified than Microsoft, Zoom is impacted in a similar manner by the external market forces. Our internal analysis of Zoom’s resources and capabilities puts the company in a strategic position that enables them to match market expectations reflected through its implied growth rate of 19,90%. There is little doubt that Zoom is well-positioned in the videoconferencing sector, particularly since the outbreak of COVID-19 and the widespread introduction of remoting working. Therefore, it is likely that they will remain a dominant force in this industry in the years to come. However, their current lack of diversification makes them vulnerable to a decreased demand for videoconferencing and market saturation for their narrow product range. As a result, we predict Zoom’s FCFF to grow at a rate similar to the forecasted growth rate of the entire SaaS industry and that the implied market expectation of

115 19,90% growth annually is realistic. This implies that Zoom’s stock price was fairly priced as of January 1st, 2021.

The remainder of the conclusion presents assessments of our propositions and thus enables us to answer the paper’s research question. For repetitive purposes, our first proposition states that:

P1: SaaS companies’ valuations as of January 1st, 2021, suggest that the SaaS industry will remain a growth industry for the next 10 years.

The distinguishment between growth and value companies is crucial for reflecting upon this statement as the implied growth rates of the two categories tell two different stories. For one, the rates growth stocks express extremely optimistic outlooks for the industry and expectations that by far exceed the predicted growth for the economy as a whole. This optimism mostly in line with market reports from Gartner and MarketLine, who forecast an annual industry growth rate of between 15% and 20%. For value stocks, however, the expectations appear more divided.

Although the stock prices imply growth in FCFF for Microsoft and SAP, they indicate an expected average annual decrease in FCFF for Cisco, Oracle, and IBM over the next decade. On an industry-level however, it is evident that the optimism prevails and there is a general consensus among investors and analysts that the Software-as-a-Service industry will experience growth superior to that of the general economy for the next decade. Therefore, proposition 1 is accepted on an industry level, but not necessarily for each of the 12 companies encompassed in the reverse-engineered DCF.

Next, we sought a more thorough understanding regarding the underlying reasons for these expectations. More specifically, we intended to study the degree of which the pandemic and changes it brought have impacted investor expectations for the SaaS sector. This led to the formulation of proposition 2:

P2: The SaaS market will experience superior revenue and profit growth in the next 10 years due to lasting changes following the pandemic.

There is little doubt that technological solutions, including those offered by the SaaS companies in our analysis, had already established themselves in the business world before the pandemic.

116 However, the outbreak of COVID-19 accelerated this digital transition and increased usage of SaaS products and services significantly. The introduction of remote working and the need for socially distanced efficiency epitomizes this and is a key explanatory factor for the increased revenue and general hype in the sector as the upside potential of investments in the industry became more evident. Having established that the industry has hugely benefitted from the digital transition brought on by the pandemic, the discussion regarding proposition 2 aims to investigate how SaaS stocks will react to life after the pandemic. In other words, are the favorable changes lasting? Our analyses paint a slightly nuanced picture regarding this topic. Although our findings suggest that the COVID-driven have created (or at least accelerated) lasting environmental changes that justify the predicted industry growth described previously, the industry competitiveness does not enable all companies to grow at the rates implied by their stock prices. Therefore, some of them must be overvalued per definition. Subsequently, proposition 2 is partially accepted, but since the increased demand is not sufficient to explain the implied growth for all companies, we need to determine the drivers of what appears to be irrational prices for certain SaaS-equities.

This brings us to Proposition 3, which states the following:

P3: The market is inefficient, SaaS companies are overpriced, and behavioral finance mechanisms explain irrational behavior by investors, which ultimately may indicate a bubble.

Our research shows that several SaaS-company equities trade at prices that greatly exceed their intrinsic values; that is, the share prices do not align with the fundamentals of the assets. We find it probable that these deviations are partially caused by the behavioral finance mechanisms discussed in the literature review. However, without a thorough strategic analysis of these companies, we hesitate to conclusively state that they are overpriced. After all, we have observed that the scalability of the industry can facilitate unprecedented revenue growth, with Zoom serving as a perfect example. Although we believe market saturation and intense competition make it unlikely, we cannot say with certainty that Twilio, Slack, and DocuSign cannot achieve the growth implied by their respective stock prices.

Regarding the bubble-tendencies we observed in the early stages of our research, we conclude that the SaaS industry will remain a growth industry in the next decade, and therefore the valuations of

117 the 12 companies do not suggest that an industry-level SaaS-bubble is forming. The value stocks make a powerful argument for this claim. However, we feel confident that all companies cannot grow at the rates suggested by their stock prices and must therefore be overpriced. A sell-off and rapid decline of individual equities in the sector is therefore deemed likely, and we believe the psychology of investors has played a vital role in inflating these prices to irrational levels.

Nevertheless, without indications that the SaaS industry is in an economic cycle characterized by deviations between intrinsic and market values on an aggregate level, proposition 3 is rejected.

With assessments of our three propositions in place, a final conclusion regarding our research question represents the final step of this project. The research question reads as follows:

RQ: Do the growth rates implied by SaaS stocks as of January 1st, 2021 reflect their true business potential, or are they overpriced as a result of behavioral finance mechanisms?

As the previous sections of the conclusion and discussion suggest, our answer to this question is not entirely unambiguous. We have concluded that the industry as a whole can justify optimist growth expectations and that the profit potential for SaaS companies is immense given the scalability. Our case studies echo this, for instance, by suggesting that Zoom is fairly priced and that their implied growth appears realistic and therefore reflects the company’s true business potential. In fact, our strategic analysis of Microsoft indicates that the company’s stock is undervalued, suggesting that it is likely to produce cash flows higher than that implied by its share price.

Despite this, we argue that the industry cannot facilitate the implied growth of all companies encompassed in the analysis due to market saturation and intense competition. We must remain aware that our two-case companies are not necessarily representative of the entire industry, nor their respective categories (i.e., growth and value stocks). The scope of this project has not enabled us to conduct internal analyses of all companies, something which would put us in a stronger position for establishing which companies could justify their implied growth. However, we find it highly likely that the pricing of several growth stocks implies growth that is unattainable given their huge deviations from fundamentals. This serves as the main reason why we have chosen to dedicate a significant portion of the project to behavioral finance-related mechanisms, and why

118 the market is deemed inefficient. Even though we have rejected the idea of an industry-level bubble, we still believe that behavioral finance helps us explain the irrationally high valuations of individual SaaS-equities. All in all, we conclude that the SaaS industry as a whole will remain extremely attractive, and therefore, we think that well-positioned companies can justify high growth rates. However, since there is insufficient demand for everyone to achieve their implied growth in this competitive market, some of the market players must be overvalued, and behavioral finance helps us explain this mispricing of individual stocks.

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