Zscaler (ZS)

Cloud security platform Zscaler (NASDAQ:ZS) reported Q4 CY2024 results beating Wall Street’s revenue expectations, with sales up 23.4% year on year to $647.9 million. The company expects next quarter’s revenue to be around $666 million, close to analysts’ estimates. Its non-GAAP profit of $0.78 per share was 13% above analysts’ consensus estimates.

Company Overview

After successfully selling all four of his previous cybersecurity companies, Jay Chaudhry's fifth venture, Zscaler (NASDAQ:ZS) offers software-as-a-service that helps companies securely connect to applications and networks in the cloud.

Almost every company is slowly finding itself becoming a technology company and facing cybersecurity risks. The migration of businesses to the cloud and employees working remotely in insecure environments is increasing demand modern cloud-based network security software, which offers better performance at lower cost than maintaining the traditional on-premise solutions, such as expensive specialized firewall hardware.

Examining a company’s long-term performance can provide clues about its quality. Any business can experience short-term success, but top-performing ones enjoy sustained growth for years. Luckily, Zscaler’s sales grew at an incredible 41.2% compounded annual growth rate over the last three years. Its growth surpassed the average software company and shows its offerings resonate with customers, a great starting point for our analysis.

This quarter, Zscaler reported robust year-on-year revenue growth of 23.4%, and its $647.9 million of revenue topped Wall Street estimates by 2.1%. Company management is currently guiding for a 20.4% year-on-year increase in sales next quarter.

Looking further ahead, sell-side analysts expect revenue to grow 19.7% over the next 12 months, a deceleration versus the last three years. Still, this projection is noteworthy and indicates the market is forecasting success for its products and services.

While reported revenue for a software company can include low-margin items like implementation fees, annual recurring revenue (ARR) is a sum of the next 12 months of contracted revenue purely from software subscriptions, or the high-margin, predictable revenue streams that make SaaS businesses so valuable.

Zscaler’s ARR punched in at $2.7 billion in Q4, and over the last four quarters, its growth was fantastic as it averaged 26.7% year-on-year increases. This performance aligned with its total sales growth and shows that customers are willing to take multi-year bets on the company’s technology. Its growth also makes Zscaler a more predictable business, a tailwind for its valuation as investors typically prefer businesses with recurring revenue.

The customer acquisition cost (CAC) payback period represents the months required to recover the cost of acquiring a new customer. Essentially, it’s the break-even point for sales and marketing investments. A shorter CAC payback period is ideal, as it implies better returns on investment and business scalability.

Zscaler is efficient at acquiring new customers, and its CAC payback period checked in at 38.4 months this quarter. The company’s relatively fast recovery of its customer acquisition costs gives it the option to accelerate growth by increasing its sales and marketing investments.

Software is eating the world. It’s one of our favorite business models because once you develop the product, it usually doesn’t cost much to provide it as an ongoing service. These minimal costs can include servers, licenses, and certain personnel.

Zscaler’s robust unit economics are better than the broader software industry, an output of its asset-lite business model and pricing power. They also enable the company to fund large investments in new products and sales during periods of rapid growth to achieve outsized profits at scale. As you can see below, it averaged an excellent 77.8% gross margin over the last year. Said differently, roughly $77.84 was left to spend on selling, marketing, and R&D for every $100 in revenue.

Zscaler produced a 77.1% gross profit margin in Q4, in line with the same quarter last year. On a wider time horizon, the company’s full-year margin has remained steady over the past four quarters, suggesting its input costs have been stable and it isn’t under pressure to lower prices.

Zscaler’s expensive cost structure has contributed to an average operating margin of negative 4.2% over the last year. This happened because the company spent loads of money to capture market share. As seen in its fast revenue growth, the aggressive strategy has paid off so far, and Wall Street’s estimates suggest the party will continue. We tend to agree and believe the business has a good chance of reaching profitability upon scale.

Over the last year, Zscaler’s expanding sales gave it operating leverage as its margin rose by 5.9 percentage points. Still, it will take much more for the company to reach long-term profitability.

This quarter, Zscaler generated a negative 6.2% operating margin.

If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.

Zscaler has shown terrific cash profitability, driven by its lucrative business model and cost-effective customer acquisition strategy that enable it to stay ahead of the competition through investments in new products rather than sales and marketing. The company’s free cash flow margin was among the best in the software sector, averaging 28.7% over the last year. The divergence from its underwhelming operating margin stems from the add-back of non-cash charges like depreciation and stock-based compensation. GAAP operating profit expenses these line items, but free cash flow does not.

Zscaler’s free cash flow clocked in at $143.4 million in Q4, equivalent to a 22.1% margin. This result was good as its margin was 2.9 percentage points higher than in the same quarter last year, but we note it was lower than its one-year cash profitability. Nevertheless, we wouldn’t read too much into a single quarter because investment needs can be seasonal, leading to short-term swings. Long-term trends are more important.

Over the next year, analysts predict Zscaler’s cash conversion will fall. Their consensus estimates imply its free cash flow margin of 28.7% for the last 12 months will decrease to 24.3%.

Companies with more cash than debt have lower bankruptcy risk.

Zscaler is a well-capitalized company with $2.88 billion of cash and $1.24 billion of debt on its balance sheet. This $1.64 billion net cash position is 5.1% of its market cap and gives it the freedom to borrow money, return capital to shareholders, or invest in growth initiatives. Leverage is not an issue here.

We were impressed by how significantly Zscaler blew past analysts’ annual recurring revenue expectations this quarter. We were also excited its EBITDA outperformed Wall Street’s estimates by a wide margin. On the other hand, its revenue guidance for next quarter was in line. Overall, we think this was a decent quarter with some key metrics above expectations. The stock remained flat at $206 immediately following the results.

Updated: May 21, 2025 at 10:18 PM EDT

When considering an investment in Zscaler, investors should account for its valuation and business qualities as well as what’s happened in the latest quarter.

There is a lot to like about Zscaler. For starters, its revenue growth was exceptional over the last three years. And while its forecasted free cash flow margin suggests the company will ramp up its investments next year, its bountiful generation of free cash flow empowers it to invest in growth initiatives. Additionally, Zscaler’s ARR has surged, showing its fundamentals are improving because it’s becoming a more predictable business.

Zscaler’s price-to-sales ratio based on the next 12 months is 13.2x. Looking across the spectrum of software companies today, Zscaler’s fundamentals shine bright. We like the stock at this price.

Wall Street analysts have a consensus one-year price target of $242.01 on the company (compared to the current share price of $248.76).

Want to invest in a High Quality big tech company? We’d point you in the direction of Microsoft and Google, which have durable competitive moats and strong fundamentals, factors that are large determinants of long-term market outperformance.

To get the best start with StockStory, check out our most recent stock picks, and then sign up for our earnings alerts by adding companies to your watchlist. We typically have quarterly earnings results analyzed within seconds of the data being released, giving investors the chance to react before the market has fully absorbed the information. This is especially true for companies reporting pre-market.