Last year was great for investors who owned a Nasdaq index fund, but not every stock shared in the gains. Several high-profile constituents suffered big losses, especially some stay-at-home tech stocks. Sometimes a steep sell-off is the best time to buy -- you can profit in the long term from the market's overreaction to a solid stock. Is now a good time to buy three of last year's worst performers?
1. Peloton
Peloton Interactive (PTON 2.53%) dropped 76% in 2021. The company endured some self-inflicted setbacks, but market conditions didn't help at all.
The stock came into the year near an all-time high, having ridden a wave of investor optimism around stay-at-home stocks. Peloton rose from $20 in the coronavirus crash to $150 by the end of 2020. That momentum wound up being unsustainable.
Peloton warned that supply chain disruptions could affect profitability and prevent it from meeting customer demand in some cases. This outlook agitated investors, and the stock fell 25% following its second-quarter earnings report.
It never recovered from that blow, and the wheels came off in November. Peloton fell short of earnings estimates and reduced its full-year forecast. Supply chain challenges remained an issue, but the company also cited weak demand for its products. Sales growth slowed dramatically, while subscriber churn rose slightly. The stock dropped another 60% on the news.
Image source: Getty Images.
Peloton continues to grow, but it has some challenges ahead. People are returning to gyms, and the stay-at-home trade is losing steam. Those are clear short-term hurdles.
Over the longer term, investors need to consider market size and competition. Peloton isn't cheap, and its economic moat is built primarily on brand strength and scale. It's conceivable that a competitor could develop a compelling and price-competitive substitute, which would be bad for Peloton's margins in the long term.
PTON PS ratio. Data by YCharts.
The stock is now much more reasonably valued at a 2.3 price-to-sales (P/S) ratio. Even with its challenges, the company is still growing, and its subscriber retention rate is around 90%. If the company can weather a rough patch and return to profitable growth, then there's real upside here.
2. Appian
Appian (APPN 5.25%) rode low-code development fervor to an expensive valuation early in 2021, but it collapsed as growth investors got more selective throughout the year. The stock fell 60% over 12 months.
Appian creates tools that allow businesses to build software applications without hiring an expensive development team. Through automation, users can create tech solutions even if they have limited coding capabilities. That's obviously valuable in a world where every business is tech-enabled, even if it's not technically a tech company. Those tools also have useful applications for smaller-scale operations that don't have the budget for a development team.
Appian stock struggled this year as investors were unimpressed with its earnings outlook and slowing growth. Its bid for recovery was spoiled as growth stocks lost momentum in the second half of the year. The prospect of Fed tapering pulled capital away from stocks with aggressive valuations.
Appian's revenue grew approximately 18% over the first nine months of 2021. That's a respectable number, but it's even better if we consider the temporary drag on sales growth. Apian is in the process of transitioning to a software-as-a-service business by shedding its professional service offering. Its cloud and subscription revenue is growing rapidly, but falling service revenue is impacting top-line growth. With net sales retention around 120%, investors can be optimistic about the new business emerging here.
The stock's P/S dropped from close to 50 to its current 11.2. That obviously reduces risk for potential investors. Having said that, Appian is still free-cash-flow negative. It faces stiff competition from the likes of Salesforce.com (CRM 3.42%) and Microsoft (MSFT 0.59%). There's certainly opportunity in this growth industry, but there's still plenty of risk for the stock.
3. Zoom
Zoom Video Communications (ZM 5.70%) was one of the stock market darlings of the pandemic. Capital piled into businesses that were designed to thrive with work-from-home and remote interaction. Fed tapering forced investors to get more discerning about valuation, and many of the pandemic highfliers were the casualties.
Zoom followed this exact pattern. Its forward price-to-earnings ratio peaked around 200 before dropping to 37 at the end of the 2021. It's down to 35 now.
ZM PE ratio (forward). Data by YCharts.
Zoom's steep 45% stock price decline in 2021 isn't a knock on the company's performance. It's valid to think that the pandemic created unsustainable demand, and that growth might be challenged for the next few years. Sales were up 35% in its most recent quarter, so the company is dealing successfully with the move away from work-from-home so far. It produces plenty of free cash flow, too.
Zoom's inevitable slowdown triggered a steep sell-off. The price looks much more rational, but it's not exactly at a big discount. Wall Street is torn about the company's prospects over the next couple of years, but it seems likely that the company's fundamentals will outpace the long-term market growth rate. Zoom's price/earnings-to-growth ratio is around 2 now, depending on which growth estimate you use, and that's fairly standard among large-cap tech stocks.
A lot of the speculation cleared out, and long-term investors can buy shares now without excessive risk. Expect more volatility in the short-term as interest rates move higher.
