Is CrowdStrike Stock a Buy Now?

CrowdStrike's (CRWD -0.68%) stock price tumbled 19% on Tuesday, Nov. 29, following its latest earnings report. In the third quarter of fiscal 2023, which ended on Oct. 31, the cloud-based cybersecurity company's revenue rose 53% year over year to $581 million and surpassed analysts' estimates by $6 million. Its adjusted net income jumped 134% to $96 million, or $0.40 per share, which also cleared the consensus forecast by eight cents.

Those headline numbers look solid, but some softness in its net new annual recurring revenue (ARR) growth and a dimmer-than-expected forecast for the fourth quarter spooked the bulls. Let's see if the market overreacted to those shortcomings and if its sell-off is a good buying opportunity for long-term investors.

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CrowdStrike's growth is cooling off

Many traditional cybersecurity companies install on-site appliances to run their services, but that hardware can be expensive, require constant maintenance, and be difficult to scale as a company expands. CrowdStrike addresses those issues with Falcon, a cloud-native platform that doesn't require any appliances and locks in its customers with sticky subscriptions.

CrowdStrike's early-mover advantage in this niche space helped accelerate its growth since its initial public offering (IPO) in 2019. Its revenue surged 93% in fiscal 2020 (which ended in January 2020), rose 82% in fiscal 2021, and grew 66% in fiscal 2022. However, its growth in revenue, subscription customers, and net new ARR have all cooled off over the past year:

Data source: CrowdStrike. YOY = Year over year.

For Q3, CrowdStrike's CEO George Kurtz admitted its net new ARR growth of 17% -- which decelerated significantly from its 45% growth in the second quarter -- came in below expectations. He blamed growing macroeconomic headwinds that stretched sales cycles for smaller customers and caused some larger customers to switch to multi-phase subscription start dates. This delayed ARR recognition until future quarters. During the conference call, CFO Burt Podbere warned that its net new ARR growth in Q4 would come in "up to 10%" below its Q3 growth. 

As a result, CrowdStrike expects its revenue to only increase 44% to 46% year over year in fiscal 2023's Q4, which misses analysts' expectations for 47% growth. For the full year, it expects its revenue to rise 53% to 54% compared to the consensus forecast for 54% growth.

CrowdStrike is still growing, but those downbeat estimates suggested it wasn't as well-insulated from the macro headwinds as more diversified cybersecurity companies like Palo Alto Networks (PANW 0.11%), which recently raised its full-year guidance. The estimates also suggested that CrowdStrike's stock isn't a bargain at 12 times this year's sales after its post-earnings drop. Palo Alto, which is generating slower but more consistent growth, trades at 7 times this year's sales.

But don't overlook its core strengths

CrowdStrike faces some near-term macro headwinds, but it continues to lock in customers with more cloud-based modules. During Q3, 60% of its customers were using five or more modules compared to 59% in Q2 and 55% a year earlier. Meanwhile, 36% of its customers had adopted at least six of its modules compared to 32% a year ago.

Those rising adoption rates indicate CrowdStrike's "land and expand" strategy (in which it "lands" customers with a trial bundle of four modules and then "expands" by cross-selling additional modules) is still working. That's why its dollar-based net retention rate remained comfortably above its "benchmark" level of 120% ever since its IPO.

CrowdStrike's adjusted subscription gross margin dipped by a percentage point year over year to 78% in Q3, but its adjusted operating margin expanded by two percentage points to 15% as it reined in its spending. It also expects its adjusted earnings per share (EPS) to increase 40% to 50% year over year in Q4 and 122% to 127% for the full year. Both of those profit forecasts easily cleared Wall Street's expectations.

But on a generally accepted accounting principles (GAAP) basis, CrowdStrike is still unprofitable. The main culprit is its stock-based compensation, which rose 72% year over year in the first nine months of fiscal 2023 and gobbled up nearly a quarter of its revenue. All that red ink will make CrowdStrike an unappealing investment if interest rates continue to rise. It also makes it seem a lot riskier than Palo Alto Networks, which expects to turn profitable by GAAP measures this year.

It's all about the valuations

CrowdStrike's stock closed at an all-time high of $293.18 last November during the peak of the growth stock rally. But over the past year, rising interest rates and other macro headwinds have prompted investors to prioritize a company's profitability and valuations over its raw growth.

I personally own shares of CrowdStrike, but I don't think it's worth buying in this bear market until it stabilizes its near-term net new ARR growth, reins in its stock-based compensation, and narrows its GAAP losses. For now, I'd rather accumulate more shares of well-balanced cybersecurity leaders like Palo Alto Networks instead.