Why Gogo Is Down After Beating Estimates

It's easy to be a victim of your own success as a growth stock and shares of Gogo, (GOGO 4.83%) are feeling the pressure today. We cautioned in our earnings preview that the last two quarters set a high bar and a small beat wasn't enough. So, what now? Is this a buying opportunity or should you wait?  It may depend on your risk tolerance.

Revenue of $92.6 million easily beat estimates of $85.5 million and the earnings loss of $0.26 was a penny better than expected. So why is the stock down? Guidance. The company is guiding revenue to $400 million to $422 million when the consensus was $414 million. OK, now you might be scratching your head and saying how can that be? Gogo is growing revenue at 45% and is at a run rate of $370 million today. Why is that number so low? Well, you aren't alone and that's why the stock is down. It seems like management is deliberately keeping revenue expectations low.

Revenue drivers still look good but...
If we look behind the numbers, metrics look pretty good. The company wired an additional 69 commercial airliners (domestic and international) and a whopping 248 business jets. Average revenue per aircraft in theU.S. commercial market increased 7.5% quarter over quarter. Even though the guidance seemed weak, results look pretty strong.

Why does the company lose about $0.30 per share each quarter if revenue is growing so quickly? Because it is using the profits from the business jet end market to fund international expansion and domestic capacity increases.

Based on company press releases and author calculations.

As you can see from the table above, business jets are generating all the profit as the company pushes ahead with its international buildout. Commercial should begin to generate a profit over the next year and that should help accelerate profitability. It's one thing for a company to post a loss because it isn't growing revenue fast enough or it doesn't have a profitable revenue stream. It's another for profitability to be delayed because of an accelerated network buildout. The money is there. Gogo just needs to ring the register by cutting back spending.

Strong beliefs held loosely
At a time when tanks are rolling up to the border of the Ukraine and copper prices in China are falling through the floor, true growth stories are likely to be rewarded as they execute on the basic blocking and tackling of building a business. Sure, there will be speed bumps along the way, but if the demand is there and people are willing to actually pay for the service, the profits will come. 

The lack of profits -- or the company reinvesting profits -- could lead to a very bumpy ride and even a rockier one to a risk-averse investor. Some analysts are willing to base price targets on EBITDA multiples, which are more forgiving than earnings multiples, but that seems like a false sense of security.

You need to have a strong belief held loosely that the company will cut back spending or hit a growth inflection point and begin converting its revenue into profits.  You have to believe it strongly, but then if you are confronted with evidence that the thesis is wrong, be willing to change your mind and sell before the next guy does. Gogo has much promise, but only you can decide if it is within your risk tolerance.