Rocket Labs USA (NASDAQ:RKLB) has skyrocketed since its Aug. 25 reverse merger with a SPAC (special purpose acquisition company) was closed. Subsequently RKLB stock has risen to a peak, closing at $20.72 on Sept. 9, right after its Sept. 8 release of first half 2021 earnings results. At the risk of saying the obvious, RKLB stock is too expensive now, even though the company’s growth profile is impressive.
Rocket Labs USA stock now has a market capitalization of $6.893 billion, since the Aug. 25 filing shows there are 447.9 million shares now outstanding. At $15.39 as of the close of Sept. 15, the $6.89 billion market value is simply too high.
Granted, the company received $787.9 million in cash at the close of the merger. But even if we subtract that amount from its valuation, the remaining valuation is too high on a price-to-sales (P/S) basis.
For one, analysts simply don’t forecast revenue gains that justify this kind of valuation. For example, according to Seeking Alpha, even by 2022 forecast revenue is seen as just $178 million and $261 million by 2023. That puts the stock on a P/S multiple of 38.7 times 2022 sales and 26.4 times 2023 sales.
These multiples would be high even if the underlying measurement was a price-to-earnings (P/E) metric. As a result, this means that either the market is right about its revenue and earnings prospects or analysts’ forecast are closer to the truth. It’s almost as if, at this price, you have to choose.
The reason is that the half-year earnings results, although good, do not seem to justify the higher valuation. Granted, the company announced some good new contract wins. But one would expect this to be the case given analysts’ revenue forecasts.
And those analysts seem RKLB stock is worth this kind of valuation. For example, TipRanks indicates that the average price target is $24 per share. That is 55.9% higher than the Sept. 15 price.
One reason for this could be that the rocket launch industry is forecast to reach $11 billion by 2030, up from a few hundred million dollars in 2021, according to Barron’s.
The magazine quotes Canaccord Genuity analyst Austin Moeller as saying that Rocket Lab’s “competitive advantage over new market entrants and production scale justify significant upside in the stock price.” He puts the value of RKLB stock at $30. One reason is that he expects that Rocket Lab will make positive free cash flow (FCF) by 2024.
What To Do With RKLB Stock
RKLB stock was below $10 right before the stock shot up with the merger close ($9.96 on Aug. 26). At one point it was up over 100% at a peak of $21.34 on Sept. 9. Since then it has drifted back down about a quarter to $15.39. But, as I say, at this price, its valuation is extended at $6.89 billion.
Investors are more likely to make a better investment if they are willing to wait until RKLB stock floats down further. Or, over the course of time, the stock could “grow” into its valuation. This means that if by 2024 it appears that Rocket Labs really will produce free cash flow, its valuation might not seem too high.
For example, analysts forecast $437.5 million in revenue by 2024. Let’s generously assume that it can produce a 20% FCF margin by then, or $87.5 million. Using a 1% FCF yield, which is common with high-growth stocks, the target valuation could be $8.75 billion. That represents a potential return of 27% over the next 2 to 3 years.
This implies that the compound annual growth rate (CAGR) could be from 8.29% annually over 3 years to 12.69% annually over two years. The problem is these are subpar returns with potentially higher than normal risk.
Most investors will wait for a better price to get into RKLB stock than today. This is despite the great outlook that the company presently has presented to investors.
On the date of publication, Mark Hake did not have (either directly or indirectly) any positions in any of the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.