The past six months have been a windfall for Penguin Solutions’s shareholders. The company’s stock price has jumped 49.3%, setting a new 52-week high of $33.15 per share. This was partly thanks to its solid quarterly results, and the run-up might have investors contemplating their next move.
Is there a buying opportunity in Penguin Solutions, or does it present a risk to your portfolio? See what our analysts have to say in our full research report, it’s free.
Why Is Penguin Solutions Not Exciting?
We’re glad investors have benefited from the price increase, but we're cautious about Penguin Solutions. Here are three reasons why PENG doesn't excite us and a stock we'd rather own.
1. Long-Term Revenue Growth Disappoints
A company’s long-term sales performance is one signal of its overall quality. Any business can put up a good quarter or two, but many enduring ones grow for years. Unfortunately, Penguin Solutions’s 2.8% annualized revenue growth over the last five years was mediocre. This was below our standards. Semiconductors are a cyclical industry, and long-term investors should be prepared for periods of high growth followed by periods of revenue contractions.
2. Low Gross Margin Reveals Weak Structural Profitability
In the semiconductor industry, a company’s gross profit margin is a critical metric to track because it sheds light on its pricing power, complexity of products, and ability to procure raw materials, equipment, and labor.
Penguin Solutions’s gross margin is one of the worst in the semiconductor industry, signaling it operates in a competitive market and lacks pricing power. As you can see below, it averaged a 28.6% gross margin over the last two years. Said differently, Penguin Solutions had to pay a chunky $71.44 to its suppliers for every $100 in revenue.
3. Mediocre Free Cash Flow Margin Limits Reinvestment Potential
If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.
Penguin Solutions has shown weak cash profitability relative to peers over the last two years, giving the company fewer opportunities to return capital to shareholders. Its free cash flow margin averaged 9%, below what we’d expect for a semiconductor business.
Final Judgment
Penguin Solutions isn’t a terrible business, but it isn’t one of our picks. Following the recent surge, the stock trades at 12.9× forward P/E (or $33.15 per share). While this valuation is fair, the upside isn’t great compared to the potential downside. We're pretty confident there are superior stocks to buy right now. We’d recommend looking at a dominant Aerospace business that has perfected its M&A strategy.
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