Will a mixed Q3 sink or float the Zscaler share price?

Zscaler [ZS] is set to report a 14.3% drop in earnings against a 48.9% increase in revenues year-over-year when it releases its first-quarter financial year 2022 numbers on 30 November, due to continued expenses on investment in expansion, product development and training.

The IT cloud security firm is tipped by analysts at Zacks to record earnings of $0.12 per share. Revenues are set to climb $212.23m, boosted by the increased digitalisation of businesses and more hybrid home/office working in the coronavirus pandemic.

High-profile cybersecurity breaches, such as the recent hack on online broker Robinhood [HOOD], making the need for strong defences more apparent have brought business to Zscaler.

In addition, the rise of Bitcoin has also been linked to a spike in ransomware attacks, according to Investor’s Business Daily.

“Pipelines indicate no signs of any slowdown into the end of 2021” - Deutsche Bank analyst Patrick Colville, who believes Zscaler could post revenues of a 65% year-on-year jump

Patrick Colville, an analyst with Deutsche Bank, is even more bullish, declaring that in an “upside case”, the group could post revenues of $239m, which would be a 65% year-over-year hike.

“Pipelines indicate no signs of any slowdown into the end of 2021,” he said, as reported by TipRanks. A positive impact from employees working more flexibly at home and in the office needing extra IT security measures and its Firewall as a Service product, which offers advanced threat prevention and intrusion prevention systems is an advantage for Zscaler.

Colville added that Zscaler also seems to be winning market share from Secure Web Gateway (SWG) vendors such as Broadcom [AVGO].

Zscaler has certainly had a good pandemic, with annual revenues for 2021 up 56% to $673.1m. Its net loss, however, widened to $262m, up from $115.1m in 2020.

Market growth

Over the last 12 months, Zscaler’s share price has zoomed 125% higher compared with Broadcom, which has climbed 42.8% and Cloudflare [NET], up 167.7%.

This strong performance across the board gives a clear indication of the health of the cybersecurity market.

The global cloud security market could be worth $68.5bn by 2025, growing at a compounded annual growth rate of 14.7%, according to a MarketsandMarkets research report published last year.

It will be driven, it stated, by “the increasing number of sophisticated cyber-attacks on cloud computing systems, and growing need for compliance with various upcoming regulations”.

The coronavirus pandemic is a driver, as continued work from home and bring-your-own-device trends mean digital becomes the new “business continuity plan for various organisations”.

According to tech research firm Gartner, cyber and information security ranked at the top of investment wish lists for 2022. In a survey 66% of global chief information officers said they planned to increase spending on it.

Analysts’ views

Analysts are bullish. According to Market Screener, they have a consensus rating of ‘outperform’ on the Zscaler stock and an average target price of $320.60.

Gregg Moskowitz, an analyst at Mizuho, recently raised his price target on the stock to $385 from $320, reported Seeking Alpha.

BTIG analyst Gray Powell has a $401 price target. A positive spending environment across “the majority of categories in the space”, and Zscaler is one business within it that continues to accelerate, Powell said.

However, Stephen Bersey, an analyst at Daiwa, is more cautious with a ‘neutral’ rating and a $266 price target. “While Zscaler's recent sales growth results have been well above many of its peers, a 28x sales multiple more than accounts for its strong top-line growth and earnings potential,” Daiwa told Seeking Alpha.

“While Zscaler's recent sales growth results have been well above many of its peers, a 28x sales multiple more than accounts for its strong top-line growth and earnings potential” - Daiwa analyst Stephen Bersey

There are challenges ahead for Zscaler, with any economic downturn potentially producing a squeeze on enterprise IT budgets as well as deep-pocketed competitors such as Amazon [AMZN] creeping into the space with new solutions.

Triggers for Zscaler’s share price

Analysts will be keen to look at how demand is shaping up, particularly among small- and medium-sized enterprises (SMEs), as the economy emerges from the pandemic. New products and services will be in focus, particularly for growing areas of interest such as the cloud and hybrid working.

There may also be some questions on the scale of competition in the market, both amongst industry incumbents and new entrants such as SentinelOne [S].

Some analysts believe the security sector could be poised for M&A activity.

“The cloud has disrupted everything, which presents both threat and opportunity," Jefferies analyst Brent Thill said, as reported by Investor’s Business Daily. "The cyber market is riper than ever for ongoing consolidation. Many smaller vendors are attempting to solve the same problems, larger vendors are looking to create security suites, and financing rates are at all-time lows.”