With the market currently near all-time highs, investors must be very selective with the stocks they buy. This generally means looking for companies with solid growth, low valuations relative to those of their industry peers, and few macro and micro headwinds.
In this article, I'll examine two stocks which don't fit that profile, and why investors should avoid them.
GoPro (NASDAQ:GPRO) is a niche player that simply ran out of room to grow. Many of its core customers -- surfers, skiers, skydivers, and other outdoor enthusiasts -- thought its older action cameras were simply "good enough" and didn't see any reasons to upgrade. Meanwhile, mainstream customers didn't want to spend a few hundred dollars on stand-alone cameras when their smartphones did the same thing.
As a result, analysts expect GoPro's sales to fall 15% this year, compared to 16% growth in 2015 and 41% growth in 2014. But to hit that full-year target and lift GoPro's bottom line back into the black, the upcoming Hero 5 cameras and Karma drone must boost the company's fourth quarter sales by over 50% annually. That could be very tough, since the action camera and drone markets have become increasingly crowded over the past two years. As a result, GoPro's non-GAAP gross margin -- which already fell 400 basis points annually to 42.4% last quarter -- could continue falling as it lowers prices to stay competitive. Its operating margins will likely remain negative.
GoPro is also being left behind by many other companies. For example, Samsung's Gear 360 is a tiny spherical device that produces 360-degree videos and costs just $350. GoPro's cheapest option, the $5,000 Omni, uses six GoPro Hero 4 Black cameras to produce higher quality videos, but it's far too expensive for mainstream consumers.
The Karma drone will likely be sold as an accessory for its cameras, so the combo will likely cost more than most drones with built-in cameras. Xiaomi recently launched a 4K drone in China -- one of GoPro's "fastest growing" markets -- which costs less than a single Hero 4 Black camera. Unless GoPro can widen its moat against these threats, I'd avoid the stock at all costs.
Fitbit (NYSE:FIT) is often compared to GoPro because both companies were first movers in their markets, posted robust sales growth followed by big slowdowns, and still lack clear moats against their bigger rivals. Fitbit introduced fitness trackers to millions of users, but it's losing that market to cheaper devices from companies like Xiaomi, full-featured smartwatches from high-end players like Apple, and fitness apparel companies like Under Armour launching wearables.
Fitbit's share of the global wearables market declined from 32.6% to 24.5% between the first quarters of 2015 and 2016 according to IDC. During that period, Xiaomi's share dipped from 22.4% to 19%, while Apple's rose from nothing to 7.5%. Fitbit's sales growth reflects that slowdown -- it's only expected to post 39% sales growth this year, compared to 149% growth in 2015 and 178% growth in 2014.
Fitbit believes that it can carve out a niche market in fashionable sports performance devices with the Alta and the Blaze. But to launch these newer products, Fitbit boosted its R&D and marketing spend, which caused its operating margin to fall from 20% a year earlier to less than 2% last quarter. Its non-GAAP gross margin also fell 500 basis points annually due to warranty reserves for legacy products. As a result, analysts expect Fitbit's non-GAAP earnings to rise just 10% for the year, down from 91% growth last year.
On the bright side, over half of Fitbit's sales now come from the Blaze and Alta, indicating that it's moving away from the lower-end market and holding its own against premium smartwatches like the Apple Watch. The company also inked corporate wellness partnerships with major companies like Target, which could boost bulk orders of its low to mid-range devices. Unfortunately, neither of those catalysts can offset Fitbit's declining top and bottom line growth yet.
The bottom line
I'm not saying that GoPro and Fitbit will never bounce back -- after all, both look "cheap" with 5-year PEG ratios under 1, and both stocks trade at steep discounts to their IPO prices. But for now, both companies are running out of room to grow, boosting expenses to keep pace with bigger rivals, and struggling to stand out in commoditized markets. Therefore, I believe that the downside risks clearly outweigh the potential gains for both companies.