What happened
Cloudflare (NET -0.23%) stock's terrible year got even worse this week. Shares of the cloud-services business fell a total of 16.1% this week, according to data provided by S&P Global Market Intelligence.
The stock's decline comes as the market is rerating growth stocks like Cloudflare lower. As the Federal Reserve tightens liquidity, stocks priced largely on expected higher cash flows far into the future are falling out of favor, compressing their valuation multiples. While this has been a trend for much of the year, it continued to be a driving force behind the market this week.
So what
Capturing a tough week in the overall market, the S&P 500 fell 3% this week, and the tech-heavy Nasdaq Composite declined 3.8%.
Cloudflare stock's $55.75 price tag is far from its 52-week high of more than $220, highlighting how much a shift in market sentiment toward stocks priced largely based on their future earnings can impact stocks like Cloudflare. The company is a picture-perfect example of the types of stocks at risk of multiple expansion; even though it still commands an $18 billion market cap, it still is not profitable on a generally accepted accounting principles (GAAP) basis or even based on its cash flows.
Image source: Getty Images.
Now what
Of course, investors in Cloudflare stock are betting that the company's rapid top-line growth will eventually pay off in economies of scale, leading to substantial profits in the future. But this is a market where investors are looking for more certainty, making Cloudflare stock less attractive.
Nevertheless, it may be wise for investors to expand their time horizon even though the market is shortening its own. A contrarian view can sometimes help investors identify good long-term opportunities during a time when some companies' shares may be trading at discounts amid excessive fear and intense selling.
To Cloudflare's credit, its first-quarter revenue increased rapidly, growing 54% year over year. The company also added a record 14,000 paying customers during the quarter, bringing total customers to more than 154,000. Furthermore, Cloudflare said that customers spending more than $1 million per year on its services increased their spending at an average rate of 72% year over year.
"The key to our success and customer expansion is innovating at an unrelenting pace, and continued interest in consolidating behind a single vendor that can power multiple network services at scale," explained Cloudflare CEO Matthew Prince in the company's first-quarter earnings release.
With momentum like this, Cloudflare is demonstrating truly disruptive execution and market share gains. Perhaps investors should take some time to look closer at Cloudflare's underlying business to see whether the stock is starting to look attractive after its significant drawdown.
