The last time we looked at Fastly (NASDAQ:FSLY), the company had recently reported strong revenue growth but lost money. More recently, FSLY stock pulled back sharply from the $102.95 high earlier this month.
After markets dipped slightly, with the S&P 500 down 0.26% and the Nasdaq composite down 1.49%, Fastly shares fell, too.
Might investors buy the dip? The rich valuations are a growing deterrent. This suggests that investors may want to let the selling pressure play out, first.
Selling Pressure Hurts FSLY Stock
Seven analysts who cover Fastly have a $67.33 price target (per Tipranks). At current valuations, caution is warranted:
|Price / Sales||34.7||8.4||2.3|
|Price / Book||31.8||9.2||3.8|
Data courtesy of Stock Rover
And while last week’s light stock market selling pressure contributed to Fastly falling, the company has no room to disappoint investors. Unless Fastly posts a gross margin expansion to at least 60% to 65%, up from the mid-55% range, investors are better off selling the stock and waiting it out for now.
Bearish bets will pay off if the stock keeps falling. The short float is 9.8%. So, when the stock took off from $50 to $90 last month in June 2020, a short squeeze fueled that rally. With buying momentum gone, bears may come back to bet against the stock.
Fastly forecast revenue for 2020 in the range of $280 million to $290 million. This is up from a range of $255 million to $265 million outlook (per Fastly). It also forecasts sharply lower GAAP net loss of -15 cents to -8 cents.
Gross margins will not likely expand this year. The company has growing personnel costs and infrastructure payments. Seasonal fluctuations in the platform usage from its customers will also add volatility to profits. In the longer term (of over one year), edge computing solutions and better security should attract more customers.
This year, Fastly will continue investing in its global network expansion. Its capital expenditure will weigh on gross margins. At 13% to 14% of revenue, capex will not increase from 2018 levels. In the future, capex will fall to 10% of revenue. This suggests margin expansion later. For now, it will continue to report losses as it builds its business.
On a five-year discounted cash flow revenue exit model, assume a discount rate of 9.5% and the following:
|Discount Rate||10% – 8.5%||9.5%|
|Terminal Revenue Multiple||17.3x – 18.3x||17.8x|
|Fair Value||$81.17 – $91.33||$85.26|
Model courtesy of finbox
Despite valuation concerns, investors may still assume a revenue multiple that is close to 20x. The market multiples for technology stocks, especially for fast-growing firms, are high. So, this model may reasonably work with 17.8x terminal revenue multiple.
When customers are grappling with the novel coronavirus lockdown and staff need a reliable platform, Fastly is a good solution. CEO Joshua Bixby talked about that during the company’s first-quarter earnings call with analysts:
“One of the things that we’re seeing … is the special attributes that we uniquely bring to the market around our ability to do you know application logic and Compute@Edge. Our ability to have everything to be transparent, be a product that feels and acts like your own, something you can build directly into your enterprise, you know CI/CD environment.”
As more customers use Compute@Edge through its beta program, they will be coming paying members. This will boost Fastly’s revenue as it expands its availability in the second half of 2020.
Your Takeaway on FSLY Stock
Fastly is a promising growth story. Investors who still hold the stock may enjoy the ride ahead. Conversely, those who did not buy the stock earlier will not want to catch the proverbial knife. As markets correct on valuations, investors will want to wait out the drop in FSLY stock first before starting a long position.
Disclosure: As of this writing, the author did not hold a position in any of the aforementioned securities.