Morningstar has assigned a BUY recommendation for Verisign Inc. (NASDAQ: VRSN) with a fair value estimate of $195. The report highlights Verisign's strong position in internet infrastructure, primarily as the exclusive registrar for .com and .net domains. Despite domain registration headwinds, including weak demand in China, Verisign's high operating margins and its ability to raise domain prices within contractual limits support revenue stability. The company's wide economic moat, stemming from its unique ICANN agreements, and robust capital allocation practices suggest long-term resilience. Investors are advised to conduct due diligence but consider Verisign’s growth prospects amid demand headwinds.

Investment Thesis

Valuation and Moat: Morningstar’s fair value estimate of $195 reflects Verisign's wide economic moat, underpinned by its exclusive registry agreements for .com and .net. These agreements effectively position Verisign as a near-monopoly in key domain services. The company’s ability to renew contracts without competition, thanks to its proven reliability and technical expertise, enhances long-term stability.
Pricing Power: Verisign’s contracts with ICANN allow it to raise .com and .net domain prices within set limits, supporting steady revenue growth. Morningstar expects Verisign to fully utilize these pricing opportunities to offset weaker registration demand, especially from regions like China.

Recent Financial Performance

Third-Quarter Results: Verisign reported a 4% increase in third-quarter revenue, driven by domain price hikes but slightly below forecasted levels due to a slowdown in new registrations. Operating margins expanded to 68.9%, reflecting effective cost controls and pricing leverage despite global demand headwinds.
Domain Base and Revenue Trends: Verisign’s domain name base shrank by 1.1 million, attributed to reduced demand in the U.S. and China. Morningstar anticipates a 2.5% decline in the domain base for fiscal 2024 but expects registrations to rebound in 2025, supported by increasing global digitization and improved marketing strategies.

Strategic Growth Drivers

Expansion in Global Infrastructure: Verisign’s global internet infrastructure, including its management of two root servers essential to DNS operations, gives it a competitive edge. These assets, combined with ongoing cybersecurity investments, help safeguard Verisign’s position as a leader in internet infrastructure.
Price Realization and Operating Margins: The recent price increase for .com domains underscores Verisign's pricing power. Verisign has capitalized on these increases, expanding operating margins even amidst demand pressures. Morningstar projects a continued rise in operating margins, fueled by future price hikes and cost efficiencies.

Risks and Uncertainties

Regulatory and Competitive Risks: Verisign faces potential regulatory scrutiny due to its monopolistic position in the domain registration market. While unlikely, any significant changes to ICANN or Department of Commerce agreements could impact Verisign’s profitability.
Demand Fluctuations: Domain registration growth may face headwinds due to alternatives like mobile applications and changing consumer behaviors. The company’s performance could also be impacted by regional economic challenges, such as the reduced domain demand observed in China.

Fair Value and Profit Drivers

Valuation Estimate: Morningstar’s fair value of $195 suggests a 2024 P/E ratio of 24 and an EV/EBITDA of 18. This valuation incorporates Verisign’s pricing power, high operating margins, and steady capital allocation strategy, particularly its focus on share repurchases over dividends.
Revenue and Margin Expansion: Morningstar expects Verisign’s revenues to grow at a 5% CAGR through 2028, driven by controlled price increases and steady demand in emerging markets. Operating margins are forecasted to improve modestly, reaching 69% by 2028, thanks to scale efficiencies and prudent cost management.

Capital Allocation and Shareholder Returns

Exemplary Capital Allocation: Morningstar rates Verisign’s capital allocation as exemplary due to its disciplined approach to reinvestment and share buybacks. Verisign consistently reinvests in its infrastructure to support future growth while maintaining a robust share repurchase program.
Share Buybacks: Verisign’s decision to focus on share buybacks rather than dividends aligns with its strategy of maximizing shareholder value. In fiscal 2024, the company repurchased $220 million worth of shares, underscoring its commitment to capital returns.

Conclusion and Recommendation

Morningstar recommends BUY for Verisign Inc. (NASDAQ: VRSN), backed by a fair value estimate of $195. Verisign’s monopoly-like position, pricing power, and strategic infrastructure investments position it as a stable long-term investment in the technology sector. However, potential investors should weigh the risks of regulatory changes and domain demand fluctuations.