After an ugly slide during the last few months of 2018, the stock market has done well in 2019. With just a few weeks left in the year, the Dow Jones Industrial Average is up around 20%, the S&P 500 is up by about 23%, and the NASDAQ has gained nearly 30%.
However, that rising tide has pushed some stocks to expensive valuations, and increased the likelihood of a correction. "We still think the greatest risk in the equity market remains in growth stocks where expectations are too high and priced," Morgan Stanley Chief U.S. Equity Strategist Michael Wilson stated recently.
Investors should think twice before investing in steeply overvalued stocks, and these are some of the most expensive tech stocks in the market today.
ServiceNow
ServiceNow (NOW 2.63%) is a cloud-computing company that has achieved impressive growth in recent years, rising from $1 billion in sales in 2015 to more than $2.6 billion in revenue for 2018. The company is on track to reach a top line of well over $3 billion this year. Its market cap has ballooned to $50 billion -- up more than 50% so far this year.
The problem, however, is that although ServiceNow has made significant progress in terms of its bottom line -- shrinking its annual net losses from $198 million in 2015 to just $27 million in 2018 -- it has yet to reach the breakeven point for a full year. However, it has been making headway it has recorded a profit of $35 million on a trailing-12-month (TTM) basis.
In three of the past five quarters, ServiceNow was able to record a profit, but the problem is that its margins have been razor-thin. In its recently reported Q3, the company generated $41 million in earnings on revenue of $886 million, for a net margin of just 4.6%. But that was still a big improvement from the prior-year quarter where ServiceNow earned just $8.4 million in net income.
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Despite its recent profitability, the reality is that ServiceNow stock is terribly expensive now. Its price-to-earnings (P/E) ratio over the past 12 months is a whopping 1,500, largely due to the minimal nature of its profits during that time.
But even looked at through the lenses of ratios more friendly to unprofitable or just-profitable businesses, the picture isn't pretty. ServiceNow is trading at a price-to-sales (P/S) ratio of 16 and a price-to-book (P/B) multiple of 36. By comparison, Workday, which offers cloud-based applications for businesses, trades at a P/S of 11 and P/B of 16. Splunk, another ServiceNow competitor is also more modestly priced with a P/S of 10 and P/B of 12.
2. Alteryx
Alteryx (AYX) offers its customers a software platform to help analysts and data scientists conduct analytics. With companies increasingly focused on efficiency, demand for these types of products and services is growing, especially among larger organizations. And that trend is certainly consistent with Alteryx's rapid pace of top-line growth. Its sales of $254 million in 2018 were nearly triple its 2016 revenue of $86 million. In its most recent quarter, its top line increased a whopping 65% to $103 million from $63 million in the prior-year quarter.
Unfortunately, Alteryx, too, has struggled with profitability -- it's only been in the black for two of the past five quarters. Its trailing-12-month net income of $13 million was just 3.7% of the company's $351 million in sales.
With its share price up more than 80% this year, it now has a P/E of more than 500. Its P/S of 20 is higher than ServiceNow's, while its P/B of 18 is about half. Although its rapid growth has been impressive, that's not enough to justify its $7 billion market cap. Ultimately, though, those are still astronomical valuations.
3. Guidewire
Guidewire Software (GWRE 3.63%) also provides software solutions to businesses, but it specifically caters to insurance companies -- offering InsuranceNow and InsuranceSuite to help with the underwriting and claims process for customers that may not have the IT capabilities to create their own tools in house.
The company has carved out a healthy segment of the market, and in fiscal 2019, its revenue totaled $720 million, which was good for a modest 10% increase from the prior fiscal year. In three years, Guidewire's revenue has increased by 70%. But it too has struggled on the bottom line, with its profit margin this past fiscal year coming in at just 2.9%.
With a net loss over the past four quarters, the company doesn't have a P/E ratio that we can evaluate today. And its forward P/E, based on expected profits, comes in at more than 70, which is still very high. The P/S of 13 and P/B of around 6 are still high multiples, but they're at least somewhat more modest than the ratios of Alteryx and ServiceNow.
Guidewire's share price is up over 33% year to date, even after its recently reported fiscal Q1 2020 results sent the stock lower. Prior to the Dec. 5 release, the stock was up more than 50% since the start of the year.
Takeaways for investors
The tech stocks on this list are expensive, and investors should be wary about investing in them today. The companies have achieved significant growth but, unfortunately, that doesn't justify these valuations. If and when a correction does take place in the markets, stocks like these could be among the hardest hit as investors look to safer, more reasonably priced assets.
