What a brutal six months it’s been for Sprout Social. The stock has dropped 46.4% and now trades at $5.64, rattling many shareholders. This may have investors wondering how to approach the situation.
Is there a buying opportunity in Sprout Social, or does it present a risk to your portfolio? Get the full stock story straight from our expert analysts, it’s free.
Why Is Sprout Social Not Exciting?
Even with the cheaper entry price, we're cautious about Sprout Social. Here are three reasons why SPT doesn't excite us and a stock we'd rather own.
1. Weak Billings Point to Soft Demand
Billings is a non-GAAP metric that is often called “cash revenue” because it shows how much money the company has collected from customers in a certain period. This is different from revenue, which must be recognized in pieces over the length of a contract.
Sprout Social’s billings came in at $153.9 million in Q4, and over the last four quarters, its year-on-year growth averaged 8.7%. This performance was underwhelming and suggests that increasing competition is causing challenges in acquiring/retaining customers. 
2. Projected Revenue Growth Is Slim
Forecasted revenues by Wall Street analysts signal a company’s potential. Predictions may not always be accurate, but accelerating growth typically boosts valuation multiples and stock prices while slowing growth does the opposite.
Over the next 12 months, sell-side analysts expect Sprout Social’s revenue to rise by 7.8%, a deceleration versus its 28% annualized growth for the past five years. This projection is underwhelming and suggests its products and services will see some demand headwinds.
3. Operating Losses Sound the Alarms
Many software businesses adjust their profits for stock-based compensation (SBC), but we prioritize GAAP operating margin because SBC is a real expense used to attract and retain engineering and sales talent. This metric shows how much revenue remains after accounting for all core expenses – everything from the cost of goods sold to sales and R&D.
Sprout Social’s expensive cost structure has contributed to an average operating margin of negative 9.5% over the last year. Unprofitable, high-growth software companies require extra attention because they spend heaps of money to capture market share. As seen in its fast historical revenue growth, this strategy seems to have worked so far, but it’s unclear what would happen if Sprout Social reeled back its investments. Wall Street seems to think it will face some obstacles, and we tend to agree.
Final Judgment
Sprout Social isn’t a terrible business, but it isn’t one of our picks. Following the recent decline, the stock trades at 0.7× forward price-to-sales (or $5.64 per share). While this valuation is optically cheap, the potential downside is big given its shaky fundamentals. We're fairly confident there are better stocks to buy right now. We’d suggest looking at one of our top software and edge computing picks.
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