Investors have been mainly focused on reasons to buy HubSpot (HUBS -0.78%) stock in 2023. That's because the software specialist is taking big steps toward profitability and has built a much larger sales footprint in recent quarters. Those successes helped shares dramatically outperform the market so far this year, rising roughly 75% through early December compared to a 20% increase in the S&P 500.
There's always another side to every trade, though, and some investors see good reasons to avoid this stock following its recent rally. With that in mind, let's look at the biggest reason to like HubSpot stock today, along with one key reason to steer clear for now.
Buy HubSpot for the growth
HubSpot is carving out an attractive niche for itself within the larger software-as-a-service ecosystem. By focusing on small and medium-size enterprises with its growing platform of business management offerings, the company is steadily winning market share. Sales last quarter were up a healthy 26% thanks to the combination of a 22% increase in the customer base and a 3% uptick in average subscription spending.
These gains compare well to other industry winners like Shopify, which recently posted a 25% sales spike. Similar to Shopify, HubSpot isn't yet generating consistent profits. Yet its net losses are shrinking, declining to 4% of sales last quarter from 7% a year ago.
Cash flow trends suggest that the company could generate solid earnings ahead, too. HubSpot produced $280 million of positive free cash flow in the past year, equating to 14% of sales. That success suggests customers are finding value in its services as it seeks to scale up its business. "Our easy-to-use, easy-to-scale connected customer platform is deeply resonating with [small to medium-size businesses]," CEO Yamini Rangan told investors in early November.
Sell for the valuation
That said, investors are paying a significant premium for exposure to these positive trends. HubSpot stock is valued at 12 times annual sales, or about the same price that Microsoft is trading for. Pay a bit more, or around 14 times sales, and you can own some other fast-growing software specialists, including Palo Alto Networks and Shopify.
HubSpot doesn't have as much going for it as some of these other tech businesses. Profitability has not yet cracked into positive territory, after all, even during its higher-growth period during the pandemic. That result stands in contrast to both Palo Alto Networks, which is currently profitable, and Shopify, which just recently returned to profitability.
Meanwhile, HubSpot's relatively small annual sales footprint of just $2 billion (compared to $7 billion for Shopify and Palo Alto Networks) exposes investors to volatility around any change in sales and earnings trends. Shares might easily give back some of their recent gains if management reports some weak demand trends, for example, or if a broader downturn hits the software industry.
That's why HubSpot seems worth keeping on your watch list for now. Growth stock investors are better off looking toward more established software-as-a-service companies while following HubSpot for signs of sustainably positive earnings growth over the next several quarters.
