As TASER International's (NASDAQ: TASR) share price has risen over the past year a growing number of investors have questioned the company's value.
Short-sellers, who are betting a stock will lose value, have increased the numbers of shares they've sold short. The short interest has now reached 13 million shares out of 53.1 million shares outstanding. Why are so many investors down on the stock?
What goes up must go down
One reason investors might be betting against TASER'S shares is that they have become much more expensive over the past year. In 2014, the company made just $19.9 million in profit, giving the stock a P/E ratio of 79.
That's expensive for any stock, and TASER's argument is that it is giving up profit now to grow quickly and generate more profit later. With revenue up 20.1% in 2013 and 19.4% in 2014 it looks like growth investments are paying off, but that hasn't had a major impact on the bottom line yet.
Short-sellers are betting that either Taser's growth won't reach the market's lofty expectations or that margins, and thus profit, won't be high even if revenue does exceed expectations.
How much will TASER's business grow?
One question investors should consider is how much TASER International would need to grow to live up to investors' expectations.
I like to assume a stock will eventually have to reach a P/E ratio of 10 because today we could find slow or no-growth stocks that trade for a similar P/E ratio like Best Buy (NYSE: BBY), National Oilwell Varco (NYSE: NOV), or Hewlett-Packard (NYSE: HPQ). If we assume TASER International can generate a 13% net margin -- an average of its margin the last three years -- the company would need $1.21 billion in annual sales to reach a P/E of 10.
Given constant growth of 20% per year -- roughly its level over the last two years -- TASER would need 11 years to live up to its valuation.
These are back of the napkin calculations, but you can see why investors might be wary of the company ever living up to the stock's current valuation.
Competition could be coming
TASER International's strong margins could eventually come under pressure as well. Tasers and body-worn cameras have just started to become popular for law enforcement agencies, and we have yet to see how larger competitors could react to this development. Any number of tech and protective equipment manufacturers could participate in this market if they desired. If TASER's market grows big enough it could become a target.
Competition could lead to disappointing growth versus what I pointed out above and to lower margins as well. This threat of competition could be another reason investors have shorted the stock.
Is this a stock to consider shorting?
High-growth stocks such as TASER can be tempting for short-sellers, but they come with a lot of risk as well. The market can push stocks higher for almost no reason and growth could exceed expectations, sending the stock surging.
Plus, TASER International is a leader in a growing business. Just 2,500 police agencies have purchased Axon body mounted cameras compared to 18,000 law enforcement agencies nationwide. The U.N. has estimated that there are 300 law enforcement officers per 100,000 people around the world, indicating that 21 million people are in law enforcement. With 110,000 cameras sold, TASER International has a large market opportunity ahead.
I think there are too many factors working in TASER's favor, and with so many investors already short there's a risk the opportunity to short the stock has passed. I would not short this stock; in fact, I'm betting the other way on TASER International.
