Arista Networks (ANET +3.42%) reported its first-quarter earnings on May 5, and its stock price dropped by more than 10% the following day. However, after shedding some more value in the weeks since, the artificial intelligence (AI) stock is starting to make a comeback.
Is this a good buy-the-dip opportunity, or was the stock's drop warranted? Here's what investors should know.
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Looking at the results
Arista Networks delivered solid results for Q1, but they didn't meet the lofty expectations some investors had.
NYSE: ANET
Key Data Points
On the surface, the numbers were very good. Revenue increased by 35.1% year over year, while net income was up by 25.7%. The stock now trades at a P/E ratio of about 54, which is historically high for the company, but not unprecedented.
Investors may have been concerned by a slight contraction in the company's net profit margin, from 40.6% in the prior-year period to 37.8% this time, but a 37.8% net profit margin is still superb. The company delivers client-to-cloud networking solutions for AI infrastructure, which puts it in the right place at the right time. Arista Networks also achieved 8.9% sequential revenue growth, and its guidance for Q2 revenue of $2.8 billion implies 3.4% sequential growth.
Sequential growth has been a key driver pushing AI stocks higher, and Arista Networks checks that box, albeit barely. However, it's not going to post the high sequential growth rates displayed lately by companies like Micron and Sandisk.
Investors may want to look elsewhere for higher returns
Although Arista Networks demonstrated it can still strengthen its fundamentals, investors may want to look elsewhere for growth opportunities. Management's Q2 guidance points to 27% year-over-year revenue growth, but the stock's high P/E ratio can't be overlooked.
It's a little elevated compared to the company's historical norms. The valuation isn't terrible, but it's the type that only attracts growth investors. So value investors will sit on the sidelines for this one. Yet growth-oriented investors who want AI stocks can simply find better options.
The true tell is that Arista Networks' Q1 earnings release didn't offer groundbreaking commentary. For instance, CEO Jayshree Ullal said the company is "uniquely positioned to deliver the mission-critical confluence of secure client-to-campus-to-cloud and AI networking."
That's a lot of verbiage to say that its products are in demand. Contrast that with the recent earnings press releases from Micron and Sandisk, and it becomes clearer what Arista's was lacking.
Micron CEO Sanjay Mehrotra cited "new records across revenue, gross margin, EPS, and free cash flow in fiscal Q2" and said his company "expects significant records again in fiscal Q3."
Meanwhile, Sandisk CEO David Goeckeler described the most recent quarter as a "fundamental inflection point" that positions his company to "deliver substantial long-term value creation for shareholders."
This type of language matters, especially for growth companies that can back up their big talk with big results. The people looking at Arista Networks' stock likely aren't value investors, which is important to keep in mind. While the company trumpets itself as being a key provider of AI infrastructure and poised to gain market share, other AI businesses with higher growth rates and more attractive valuations are outshining it.
