Advertising technology (adtech) company The Trade Desk (TTD -2.44%) went public in 2016 at about a $1 billion valuation. One of the larger initial public offerings (IPO) at the time, founder and CEO Jeff Green vowed that the money raised from its IPO would fuel the company's growth. And fuel growth it has. Since its IPO through the end of 2022, The Trade Desk's revenue is up almost 900%, and the stock is up roughly 15 times in value.
Even with the rise that has already occurred, this is still a big growth opportunity. It's also a short-term cautionary tale as not everything is looking rosy this year.
With that introduction, here's one green flag and one red flag for The Trade Desk stock in 2023.
Green flag: The land-grab leader
The Trade Desk's CEO offered some company insight during an investor conference call about the third quarter of 2022, talking about growth in the digital advertising space right now: "WPP's GroupM predicted worldwide advertising will increase 8.4% in 2022. We are growing more than three times that rate."
Digital advertising is one of the great growth trends investors should be paying attention to at the moment. Traditional advertising is becoming less relevant. With digital advertising, campaigns can target specific consumer demographics, spending can be flexed up or down, and results can be measured. With such a clear advantage, billions of dollars are shifting from traditional ads to digital, creating a powerful tailwind for a handful of companies, of which The Trade Desk is one.
While the whole industry is growing, The Trade Desk demonstrated superior growth to many of its adtech-space peers in 2022. Through the first three quarters of 2022, the company's revenue is up 36% compared to the same period in 2021. Consider that Meta Platforms' third-quarter revenue was down 4% year over year because its average price per ad plunged 18%. Similarly, Snap saw a third-quarter drop of 3% in global eCPM (effective cost per mile), the revenue it generates from 1,000 ad impressions. Snap and Meta are huge ad platforms. And the drop in their ad rates suggests there's less spending for ads right now in general, resulting in lower average ad rates.
By contrast, this isn't playing out in The Trade Desk's financial results, which suggests it's taking market share in this very attractive long-term trend. This is a bright green flag for anyone thinking about investing in this company for the long haul.
Red flag: Valuation (hear me out)
A company with a big opportunity, superior growth, and that's profitable like The Trade Desk (it's earned net income every year since 2013) will frequently trade at a premium valuation, and rightfully so. Therefore, I'm not some stodgy value investor saying that The Trade Desk should trade like a blue chip stock. However, there are three reasons why The Trade Desk's valuation could drop in 2023, potentially causing it to underperform the market.
First, consider that The Trade Desk stock trades at a price-to-sales valuation of nearly 16 times its trailing sales. I believe it's fair to say that since the start of the pandemic, the market has been more speculative and valuations generally have become overheated. And, at 16 times sales, The Trade Desk trades much higher than its average before the pandemic when its growth rate was higher. A slowing growth rate could put more pressure on the valuation to trend toward its historical pre-pandemic average.
TTD PS Ratio data by YCharts
Second, The Trade Desk stock took multiple hits in 2022 because of downgrades from analysts. And analysts downgraded this stock often because of the slowdown in advertising. The Trade Desk's financial results were more resilient than companies like Meta. Nevertheless, the slowdown in the ad space is ongoing and could lead to further downgrades from Wall Street, impacting The Trade Desk stock again in 2023.
Third, stock valuations tend to go down when interest rates go up because it alters where investors are putting their money. No one knows precisely what the Federal Reserve will do in 2023. But it is planning to raise rates more this year, which could contribute to bringing down The Trade Desk's valuation.
So is The Trade Desk a buy?
In conclusion, for investors simply looking for one of the best companies in a growing space, The Trade Desk will likely be a good stock to buy for the next several years at least.
However, for investors more concerned with getting a bargain, it's possible that The Trade Desk could get cheaper in the coming year. Of course, that's never guaranteed, and it's also entirely possible that The Trade Desk could report incredible results and overcome its valuation challenges. Therefore, investors should be careful to not miss out on this market-beater because they were trying to time the bottom.
