Buying a growth stock at a beaten-down valuation can be a way for investors to potentially earn a great return. The problem is that some stocks that are down big won't end up recovering. The temptation to buy a troubled stock because its valuation is low can get investors into a situation where they end up becoming bagholders of a company they weren't all that fond of.
Lumen Technologies (LUMN) is an example of a growth stock that has taken a beating in recent years. Since 2022, its share price has plummeted a whopping 86%. Its valuation fell as investors grew concerned about the company's high debt load and abysmal financials. The CEO hopes to turn the business around and lead it back to generating stronger results -- but that's still in its early stages.
Is Lumen an underrated stock worth investing in today? Does it have the potential to be a market-beating stock next year?
Why Lumen could beat the market
At a market cap of just $1.8 billion, one of the most appealing aspects of Lumen Technologies' stock right now is undoubtedly its low valuation. Trading down 65% this year, investors are paying just 0.8 times the book value for the stock and just 0.1 times the revenue. Those are dirt-cheap multiples for the telecom provider (formerly known as CenturyLink).
The company suspended its dividend payments last year, opting instead to repurchase shares and focus on investing in growth opportunities, which led to a steep sell-off. But by focusing on growth, it can potentially make its business stronger. Lumen has also been working on reducing its obligations, with long-term debt totaling $19.7 billion as of the end of last quarter (which ended in September) down from $20.4 billion at the start of 2023.
Lumen expects to rely on investments in its Quantum Fiber business to help lead to long-term growth. The business has high barriers to entry, and it could pave the way to better results in the future. Lumen projects that by 2027 it could be generating free cash flow between $300 million and $500 million (the company generated a modest $38 million in free cash last quarter, and in previous periods it has been negative).
If Lumen can prove to investors that it is able to make strides next year in reducing its debt and improving free cash flow, it may be able to generate some much-needed bullishness behind its stock.
Why Lumen stock may struggle in 2024
The big risk for investors is that Lumen simply may not reach its planned turnaround. As of the end of last quarter, the company had just $311 million in cash and cash equivalents on its books -- down from close to $1.3 billion at the start of the year. With a mountain of debt to worry about, there is ample risk that Lumen simply may not be able to survive.
And there also isn't much in the way of growth to get excited about. Last quarter the company reported declines in revenue across all of its sales channels. Even in its "grow" business segment, which focuses on products and services it expects will generate growth (including edge cloud services and managed security), sales were up just 1% year over year.
Without much growth to show, and the company having limited cash at its disposal, a drastic turnaround in Lumen's business may not come easily. And that could be a recipe for further disaster for the stock in 2024.
Investors shouldn't take a chance on Lumen
Unless you have an extremely high risk tolerance, Lumen Technologies isn't a stock worth investing in today. The stock trades at a discount, but for good reason -- it's an incredibly risky buy. Investors are discounting it due to the risk that comes along with this investment. And with no certainty that things will be any better next year, it's hard to make a case that the stock won't be down big again in 2024, let alone that it will beat the market.
Investors are better off going with real growth stocks that have the potential to do well next year.
