Over the last six months, Applied Digital’s shares have sunk to $25.88, producing a disappointing 9.3% loss - a stark contrast to the S&P 500’s 12.7% gain. This may have investors wondering how to approach the situation.
Is now the time to buy Applied Digital, or should you be careful about including it in your portfolio? See what our analysts have to say in our full research report, it’s free.
Why Is Applied Digital Not Exciting?
Even though the stock has become cheaper, we don’t have much confidence in Applied Digital. Here are three reasons why there are better opportunities than APLD, plus one stock we’d rather own.
1. Fewer Distribution Channels Limit Its Ceiling
With $611.3 million in revenue over the past 12 months, Applied Digital is a small player in the business services space, which sometimes brings disadvantages compared to larger competitors benefiting from economies of scale and numerous distribution channels. On the bright side, it can grow faster because it has more room to expand.
2. Cash Burn Ignites Concerns
If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.
Applied Digital’s demanding reinvestments have drained its resources over the last five years, putting it in a pinch and limiting its ability to return capital to investors. Its free cash flow margin averaged negative 357%, meaning it lit $357.42 of cash on fire for every $100 in revenue.
3. Short Cash Runway Exposes Shareholders to Potential Dilution
As long-term investors, the risk we care about most is the permanent loss of capital, which can happen when a company goes bankrupt or raises money from a disadvantaged position. This is separate from short-term stock price volatility, something we are much less bothered by.
Applied Digital burned through $2.78 billion of cash over the last year, and its $5.1 billion of debt exceeds the $1.59 billion of cash on its balance sheet. This is a deal breaker for us because indebted loss-making companies spell trouble.
Unless the Applied Digital’s fundamentals change quickly, it might find itself in a position where it must raise capital from investors to continue operating. Whether that would be favorable is unclear because dilution is a headwind for shareholder returns.
We remain cautious of Applied Digital until it generates consistent free cash flow or any of its announced financing plans materialize on its balance sheet.
Final Judgment
Applied Digital isn’t a terrible business, but it doesn’t pass our bar. After the recent drawdown, the stock trades at 32.2× forward EV-to-EBITDA (or $25.88 per share). While this valuation is fair, the upside isn’t great compared to the potential downside. We’re fairly confident there are better investments elsewhere. Let us point you toward one of our all-time favorite software stocks.
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