If you had never heard of the California company that’s helping organizations deliver a better digital experience for its customers, you’d swear Fastly (NASDAQ:FSLY) had invented the miracle cure for the novel coronavirus.
And after skyrocketing 49.9% in its first day of trading on May 16, 2019, FSLY stock has moved up an astounding 478.5% in its first 14 months as a public company.
However, when you consider that most of these gains have come since May 1, the fact that it’s lost some of its momentum in July, ought to have shareholders and non-shareholders alike wondering if Fastly’s share price is ready to move into the slow lane.
Collectively, I have never written about Fastly before. That said, I’ll lean on several of my InvestorPlace colleagues for a little understanding of the pros and cons of this particular company and its stock.
On the surface, it sounds like a business that’s providing a useful service. Nonetheless, nearly 480% appreciation over 14 months is a bit rich — even for a San Francisco tech high flyer.
FSLY Stock and Its Valuation
Currently trading at more than 35 times sales with nothing to show for its efforts but plenty of losses, it would seem to be priced for perfection. And perhaps that’s why it’s cooled off in recent weeks.
InvestorPlace’s Chris Lau’s most recent article about the company focused exclusively on valuation. He pointed out that the seven analysts covering FSLY stock had a $67.33 price target on the stock. Furthermore, relative to its industry peers, its price-to-sales multiple is almost five times higher.
However, Lau points out that based on a five-year discounted cash flow exit model, it’s got a fair value of 85.26 — about $10 lower from where it’s currently trading.
So, in his opinion, if you already own it, you probably don’t want to sell. And if you don’t, the possibility of a better entry point remains on the table.
Buy on the Dip for Long-Term Success
The market correction in March was a wonderful learning moment for investors. And now, almost every quality stock that got hit by panic selling in mid-March has managed to reverse course and test new highs.
However, buying on the dip can be a very effective way to grow your investment portfolio. If you follow the FIRE (Financial Independence, Retire Early) movement’s philosophy on life, buying on the dip is a critical piece of the puzzle.
Interestingly, if you look at a chart of FSLY stock from its IPO, the March correction barely registers. Yet, over an 11-day period (March 5 to March 16), FSLY stock fell by nearly 50% from $22 to $11. That said, if you were courageous enough to buy at that point, you’re up more than 760%.
So, buying on the dip works. However, the question is whether the latest dip is a pause before it falls further, or we’re at a bottom and it’s okay to jump in.
On that note, InvestorPlace contributor Patrick Sanders believes it’s the latter.
“First-quarter earnings were a signal of things to come for Fastly. The company reported revenue of $62.92 million, which beat analysts’ estimates of $59.38 million. Earnings per share came in at a loss of $0.06, which was better than the -$0.12 EPS that analysts had projected,” Sanders stated July 24.
With that in mind, I would have to agree with my colleague. Fastly provides technology and a group of services that will remain in demand well beyond the end of this pandemic. Additionally, I find Fastly’s 38% quarterly revenue growth to be good, but not too good. Sustainability is a critical factor in growth stories becoming the next Facebook (NASDAQ:FB) or Shopify (NYSE:SHOP).
Therefore, if Fastly continues to deliver 30% year-over-year sales growth, you can be sure that its share price in two years will be a lot more than $85. And, if it can keep this pace of growth while fattening the margins, free cash flow generation will become a regular part of its everyday existence.
It’s not quite there — it’s used $55 million in free cash flow in the trailing 12 months –but it’s getting closer every day.
The Bottom Line on FSLY Stock
Overall, looking at Fastly’s three most recent fiscal years, you’ll see that the company’s chipped away at its operating expense ratio [defined as operating expenses divided by revenue] — 83.2% in 2017 to 79.2% in 2019 — at a time when the company’s in serious growth mode.
To me, this demonstrates management has a keen eye on spending, something many tech firms are unable, or unwilling, to do. And that, more than anything, suggests Fastly’s future is a bright one.
So, if you’re investing for the long term — despite what analysts have to say — I believe you shouldn’t be worried about buying at current prices. However, you might want to hold back a little cash just in case the dip isn’t quite finished.
Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia. At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.