Cloudflare (NYSE:REPORT) is a great company, but NET stock is very expensive.
Cloudflare is trading at $ 114 per share. That’s a market cap of over $ 36 billion for a company that projects revenue of $ 632 million for all of 2021.
I get nervous when stocks start selling for 10-20 times a company’s earnings. At over 60x the income, you can have it. But Cloudflare stock is down 12% last week, so some will tell you to buy the drop.
What do I ask: “What dip?”
Before we get into the price and valuation of NET stocks, it’s helpful to talk about what your business is doing.
Cloudflare is sold as a network protection. Its cloud-based software creates ad hoc private networks for businesses among public clouds. It also ensures fast delivery of content to network nodes.
Ensuring network speed is important for businesses with remote workers. Ensuring safety is even more important. Cloudflare was born out of Project Honeypot, an early effort to monitor internet abuse by attracting bad actors to its internet address. The company then built reverse proxy servers to prevent connections to the wrong addresses. The co-founders are now billionaires.
The pandemic has exploded demand for what Cloudflare is doing. This increase is permanent. The market for this type of protection is expected to reach $ 4 billion in 2023. Cloudflare is the market leader.
NET stock topped estimates in the second quarter, announced on August 5. Revenue of $ 152 million was up 53% from the previous year, beating estimates by $ 5 million. The company added 140 large customers and had 1,088 at the end of June. Gross margins were 77% and cash flow from operations was $ 7.5 million. Cloudflare invested wisely ahead of its future growth, however, creating a net loss of $ 35 million, 12 cents per share.
What is the net worth of the shares?
The value of Cloudflare depends on what you’re willing to pay for that growth.
Oppenheimer analyst Timothy Horan recently announced that the price of growth was too high and downgraded the stock’s rating. As is the case in other markets, he also cited competition from Microsoft (NASDAQ:MSFT) and Amazon (NASDAQ:AMZN).
But if your only competitor is from the big cloud companies, you don’t have to worry about much in an increasingly multi-cloud world. This is why our Muslim Farooque tells readers to buy the dip. He calls Cloudflare a great long-term game but, like me, is worried about the current share price.
Our Mark Hake echoes these concerns. Even the latest bullish valuations, revenue of $ 1.09 billion in 2023 and free cash flow of $ 218 million, are more than built into the share price.
There are companies with perfect prices that keep going up. Nvidia (NASDAQ:NVDA) is one such company in the hardware business. Shopify (NASDAQ:STORE) comes to mind in the software space. The dip becomes Godot, and never comes. Bargain hunters are left out.
The bottom line
It is possible that once the decrease in NET stock has occurred, it will be permanent.
As the numbers increase, they become more difficult to grow. As the profits come in, the growth investors go. We have seen this with companies like Amazon, which no longer provide alpha even though the bottom line is swelling.
A market correction, created by external events like China, a US political malfunction or a major inflationary alert, could change this equation. A 10% market correction would likely cause the NET stock to drop 20% due to its extreme valuation.
If you have a lot of money waiting for a crash, put Cloudflare on the post-crash buy list. If you have big profits in Cloudflare today, get some out of it.
As of the publication date, Dana Blankenhorn held long positions in AMZN, MSFT and NVDA. The opinions expressed in this article are those of the author, submitted to InvestorPlace.com Publication guidelines.
Dana blankenhorn has been a financial and technology journalist since 1978. He is the author of Living with Moore’s Law: Past, Present and Future available in the Amazon Kindle store. Write to him at [email protected] or tweet it on @danablankenhorn. He writes a Substack newsletter, Facing the future, which covers technology, markets and politics.