The stock market can be a fickle place, and when power players such as hedge funds target your company -- either because they love it or hate it -- your stock can become a tennis ball in the market's back-and-forth games.
GoPro (NASDAQ:GPRO) has become one of those tennis balls, and it's currently almost entirely for negative reasons. The company recently had some missteps on a product launch and missed earnings estimates, and has seen short sellers move in in a big way. The vicious feedback loop of Wall Street and the short-term business media has begun to feed a spiral of negativity around the company -- and it's easy to believe it, because the arguments can be very convincing.
The question for investors today is whether this negativity is overdone, leaving incredible value for shareholders.
Short sellers are winning against GoPro
The first thing I think it's important to understand with GoPro is that short sellers really are taking control of the stock. Many times that's an easy excuse a company or traders to explain a stock's movement, but in this case the short interest has more than tripled in the past three months, which is an extremely rapid pace.
But there's something every investor should know about short selling: there's a limit to how much it can push a stock lower.
A short seller is betting a stock is going to go down, and the limit is obviously zero. After the stock falls, the seller has to buy back the stock, which was borrowed from a broker. But in the case of GoPro, how far can the company really fall before investors decide this profitable, fast-growing company is no longer overvalued? This isn't Lehman Brothers or AIG before the financial crisis, where high debt loads meant bankruptcy was a real possibility. GoPro makes money and has no debt, so it isn't going bankrupt anytime soon.
If sentiment changes or growth picks up, causing short sellers to start buying back stock, it could cause a short squeeze that could be epic for investors.
There's a lot of value in GoPro today
Forget that GoPro missed Wall Street's guess at earnings last quarter. Look at the following chart and ask if you think this is the performance of a company you would like to own if the price is right.
Now consider that GoPro is expecting to grow revenue about 23% this year and is trading at 21.8 times trailing GAAP earnings as of Tuesday's close. Those are impressive numbers for any company, and the value proposition is compelling, even if growth slows significantly in the coming years.
There's also GoPro's growth projects in drones and virtual reality, which will start affecting revenue in 2016. If either of these are a hit, the company could have another product on its hands that drives further camera sales.
What happens next?
There are really two likely outcomes when investors hate a company this much. One option is that short sellers are proven right about GoPro's warts, the stock continues to fall, and they slowly cash out their short positions, pocketing the profits. The question here is how far is too far to fall, given the company's profitability and low debt load?
The other scenario is that expectations correct too far and GoPro suddenly has a great quarter, leaving short sellers to panic and buy back the stock along with bullish investors. As the stock goes up, the short sellers lose money, forcing them to buy more of the stock and pushing it even higher. That would be a short squeeze in action, and it could happen at almost any time for GoPro.
At the end of the day, GoPro may be missing Wall Street's guess at earnings, and may even be underperforming its own expectations. But even in a bad third quarter, revenue was up 43% and net income jumped 29%. That's not bad for a stock trading for 21.8 times trailing earnings with high-potential products in the pipeline.
How long can a company like that stay as one of the most hated on Wall Street?
Travis Hoium owns shares of GoPro. The Motley Fool owns shares of and recommends GoPro. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.