Does Recent IPO Freshworks (FRSH) Deserve a Place in Your Portfolio?

Founded in 2011, Freshworks Inc. (FRSH) is a California-based technology company that offers software products for businesses to provide customers, as well as employees with a better working experience. The company’s first product, Freshdesk, serves to enhance a customer experience. As for now, the company has ten different products aimed to serve various components of a business such as IT, human resources, sales and customer service.

On September 22nd, 2021, the company went public on the Nasdaq through a traditional IPO by listing 28.5 million of its Class A common stock. Management initially set to sell shares in a range between $32 and $34 a share, however demand pushed the price to $36.00. As a result, FRSH raised about $1.03 billion from the IPO, which is expected to fund its general corporate initiatives.

The stock ended its first trading session at $47.89 per share, up 33% for the day. However, Freshworks’ share price has since slid 18% to $41.29.

In today’s article, I am going to analyze FRSH to see if the stock deserves a place in investors’ portfolios. 

Industry Outlook

Verified Market Research reports that the Application Development Software industry is projected to lift at a CAGR of 25.54%, reaching $1.39 trillion by 2027. This growth is expected to be supported by broader usage of the Internet of Things (IoT) technology, along with a rising need for cloud-based solutions. FRSH should benefit from the industry’s evolving trends. The software development industry is a highly competitive space with well-established companies like Microsoft, Salesforce, Adobe. However, I believe Freshworks’ competitive advantages, such as a free version of its software, could help it grab sizable market share.

Over the past month, the software industry experienced a modest decrease as evidenced by the 2.5% loss in the Shares Expanded Tech-Software Sector ETF (IGV), compared to SPDR S&P 500 Trust ETF (SPY) 2.1% decrease over the same period.

Freshworks’ Financial Performance  

Let’s take a look at the company’s S-1/A filing to analyze FRSH’s financial performance and growth prospects. As of six months ended June 30th, 2021, the company’s revenue has been reported at $168.93 million, representing an increase of around 52.9% on a year-over-year basis.

The company derives revenue primarily through its subscription-based model, offering monthly, quarterly, semi-annual, and annual plans of subscription for its products. Notably, the company’s paying customers increased 18.2% to 52,500 in 2Q2021 compared to its year-ago figure of 44,400. Moreover, the number of customers with an Annual Recurring Revenue (“ARR”) of above $5,000 increased from 9,822 in 1H2020 to 13,326 as of 1H2021.

As of six months ended June 30th, 2021, Freshworks also delivered solid gross profit numbers, which came in at around $133.53 million versus its value of $86.61 million one year ago. In addition, the company’s gross profit margin increased from 78.4% to 79.05% as of 1H2021. This figure is well above the sector median threshold of 48.78%.

The company’s net loss was $9.8 million in the first half of 2021, significantly down from a loss of about $57 million in 1H2020.

How much volatility are options traders expect for the stock? 

Looking at the November 19th, 2021 option chain, we can determine the expected price movement utilizing the long straddle options strategy. Using this approach, my calculations imply that FRSH stock could rise or fall by about 18% by the expiration date from the $40.00 strike price. Moreover, the number of open calls at the $45.00 strike price outweighs the open puts by around 8x, suggesting a bullish options market sentiment. 

The Bottom Line

Freshworks is a high-quality business that improved its main operating metrics and margin profile during the first half of 2021. With the recent pullback in its share price, the company looks even more attractive at current levels. Hence, I believe that FRSH stock could be a great “buy and hold” stock as the company continues to grow and capture market share. 

In addition, options market sentiment is currently favorable for FRSH stock.