A Trio of Battered Software Stocks Poised to Rebound

Growth stocks have seen a huge selloff due to rising interest rates, providing a chance to go bargain-hunting

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Jun 08, 2022
Summary
  • SaaS businesses generally have high margins and low capital expenditure. 
  • The software industry is worth nearly half a trillion dollars according to a Grandview research study.
  • Here are my top 3 software picks for growth at a reasonable price.
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A decade ago, the founder of Netscape, Marc Andreessen, claimed that “software is eating the world.” He predicted software companies would disrupt traditional industries and become embedded into our lives. Since then, we’ve seen software transform everything from the taxi industry to travel and sales.

The software industry is still an incredibly high-growth area, especially the lucrative software as a services (SaaS) model. However, many software stocks have been unfairly sold off due to the rising interest rate environment. This provides growth investors a rare opportunity to go bargain-hunting.

Software companies have the ultimate business model, with high margins, low Capex and easy scalability. Thus, in this article, I go over my top three software picks that look poised for a rebound after recent selloffs. Going forward, these could offer growth at a reasonable price, in my opinion.

Splunk

Splunk (

SPLK, Financial) is a leader in data monitoring and security. Their mission is to turn this “data into doing” by helping companies to observe, track, analyze and secure their data.

Their platform dashboard has two main functions: “Observability” and “Security.” The data captured can be observed via dashboards and visualizations, while machine learning can be utilized to spot anomalies and help to stop cybersecurity threats.

Splunk's revenue has jumped from $2.2 billion in 2020 to $2.6 billion in 2021, an increase of 18%.

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The company’s margins have declined slightly, but the gross margin is still high at 72%, which is typical for a SaaS business model.

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The good news is that free cash flow, which I consider the most important metric, has jumped significantly from -$242 million in fiscal 2020 to $100 million in fiscal 2021. This is a great sign of an improved business model and could herald a future rebound. The company also has an extremely high net dollar retention rate of 132%, up a couple of percentage points from prior quarters. This means customers are staying with the company and spending more.

Marqeta

Marqeta (

MQ, Financial) is a fintech software company which powers payment systems for many leading technology companies, including Uber (UBER, Financial) and DoorDash (DASH, Financial).

Their platform helps businesses build custom payment solutions with open APIs, which can remove extra fees, give businesses greater product flexibility and help them to launch different products much faster.

Marqeta generated $517 million in revenue in 2021, which was up a blistering 76% year-over-year, along with a 46% gross margin and $231 million in gross profits. However, the company is still operating at a loss of $162 million as it continues to focus on growth.

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In terms of valuation, the company’s price-sales ratio has compressed substantially from a ridiculous 40 in 2021 to just over 7 now, which is much more reasonable. They now trade at a similar multiple to leading buy-now-pay-later company Affirm (

AFRM, Financial). I believe this is reasonable for a company with such established partnerships and growth opportunities.

Twillio

Twilio (

TWLO, Financial) is a leading "communications platform as a service" company. They allow software developers to programmatically make/receive phone calls and text messages. In addition, they operate a cloud-based contact center which allows a call center to be operated remotely via the cloud. Their customers include Netflix (NFLX, Financial) and Salesforce (CRM, Financial).

Revenue has skyrocketed a meteoric 61% year-over-year to $2.8 billion as of its most recent earnings results, with a 48% gross profit margin equating to $1.4 billion. However, they are operating at a heavy net loss of $961 million, though the good news is they would only be $173 million short of operating profit without the large R&D investment of $788 million.

The GF Value chart shows the stock is a possible value trap at the time of writing due to the sharp price drop coupled with the decline in the bottom line.

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Disclosures

I/we have no positions in any stocks mentioned, and have no plans to buy any new positions in the stocks mentioned within the next 72 hours. Click for the complete disclosure
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