Beaten down cloud software stock Fastly (FSLY 4.43%) has actually notched an impressive rebound in 2023, up some 80% so far this year. It remains down nearly 90% from all-time highs in late 2020 and early 2021, though.
Key to this performance has been a business that remains in growth mode. Despite numerous setbacks and big changes in management since the 2019 initial public offering (IPO), there's still some hope for this software investment. But is it too late to buy after this year's rally?
Progress, but nagging issues remain
Fastly operates a type of "next-gen" content delivery network (CDN), data centers located in strategic locations around the world that deliver internet content to end users. In addition to these CDN services, Fastly provides security, cloud observability, and compute at the "network edge" (within a small data center close to the end user).
Put simply, file Fastly under the cloud computing and cybersecurity industries. A rising tide is lifting global spend in these areas of IT, so it's no wonder Fastly has been able to continue growing -- despite hiccups like a big network outage in 2021 and CEO turnover. Joshua Bixby took over as CEO in 2020, stepped down just over a year ago, and was replaced by current CEO Todd Nightingale. Nightingale came over from network infrastructure giant Cisco to try to right the ship.
Data by YCharts. TTM = trailing 12 months.
Now, if management can start executing on key financial metrics. Most importantly, in today's market of higher interest rates and big shifts in spending due to geopolitics, investors are looking for profitability. And in this department, Fastly is still sorely lacking. Generally accepted accounting principles (GAAP) and adjusted operating losses remain deep in the red (GAAP operating loss of $49.8 million and adjusted operating loss of $7.8 million in Q2 2023). However, progress is being made in reaching GAAP net profit and positive free cash flow (FCF) on a quarterly basis.
Data by YCharts.
The balance sheet is also being cleaned up, with total debt being reduced to $472 million as of the end of June 2023, compared to total debt of $705 million at the start of 2023. Cash and short-term investments were $398 million, and long-term investments were $78 million at the end of June.
Is Fastly stock a buy-the-dip candidate?
At this point, Fastly is still a long way from any meaningful profitability. At its investor day this past summer, management explained that FCF breakeven was the goal for 2024, with that expanding to a 6% FCF profit margin by 2026. By then, the expectation is for revenue to be in the $800 million to $900 million range, meaning FCF will be roughly $50 million three years from now, a pretty meager sum.
Longer term, management believes the Fastly business model can reach about 13% to 15% GAAP operating profit margins once it crosses the $1 billion annual revenue mark.
Fastly stock has recently pulled back from its 2023 high-water mark, valuing the company at just shy of 4 times trailing-12-month sales (a market cap of $1.9 billion). It isn't exactly dirt cheap, especially considering how far away the profitability milepost is. The fact is Fastly remains a high-risk -- and only possibly high-reward -- small-cap stock. Market-beating performance seems unlikely to me over the next couple of years.
I sold a very small bet in Fastly a few years ago in lieu of holding on to some of its faster-growing peers, like Cloudflare. With plenty of cloud computing software stock deals out there today, I see no need to repurchase any Fastly after the big rally in 2023.
