3 underperforming tech stocks to buy for a year-end rally

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After an epic 2020 that forced the world digital, some soaring growth stocks are struggling in 2021. It is not necessarily the companies themselves that suffer. On the contrary, business is going well. But stocks of some stocks are seeing a sales boom in 2020, and slower growth rates have sent some investors to exit temporarily.

For some of these tech companies, a rally could emerge in the final quarter of the year. Three Fool.com contributors think Teladoc health (NYSE: TDOC), Amazon (NASDAQ: AMZN), and Splunk (NASDAQ: SPLK) are therefore worth a certain amount of attention.

The virtual health pioneer is getting cheaper and cheaper

Nicholas Rossolillo (Teladoc Health): Teladoc stock continues its steep decline and is currently nearly 60% below its all-time highs of early 2021. Understandably, investors who made a purchase just last year are not all that happy right now.

A host of potential problems have surfaced, apart from the fact that optimism about Teladoc’s leading virtual health services may have been too great nine months ago. New competitors have entered the space, with Amazon perhaps the most worrying given the e-commerce and cloud giant’s long track record of disruption in other industries. The economy is also reopening, which means in-person doctor visits are back and Teladoc’s total visits aren’t growing much this year (expected 13.5 million to 14.0 million versus 10.6 million patient visits last year) compared to the booming one Visitor growth in recent years.

Let’s not forget, however, that Teladoc wasn’t just a one-time pandemic winner. It was a fast growing business (and stock) for years before COVID-19 was even a fleeting thought. Over the past five years, stocks are up nearly 600%, including falling 60% from all-time highs.

In the event that virtual care becomes mass-produced, that doesn’t change the fact that Teladoc is way ahead with 52 million paying members in the US alone and a new and rapidly growing chronic care division (via the Livongo acquisition Health a year ago this time). The digitalization of healthcare is just beginning, and I wouldn’t be shy of running Teladoc long before telemedicine was a general service to the masses.

Now it is only about 10 times the expected sales for the full year 2021, a year-end rally is anything but impossible for this long-term, successful healthcare tech share.

Image source: Getty Images.

Amazon looks cheap right now. This is not a typo!

Anders Bylund (Amazon): Mighty Amazon.com didn’t make a lot of noise this year. The share has only gained a meager 0.9% since the beginning of the year and 4.3% in the last 52 weeks, falling far behind the broader market in both perspectives. At the same time, Amazon’s business is booming.

AMZN turnover (TTM) chart

AMZN Revenue (TTM) data from YCharts

These disappointing returns make perfect sense from one point of view. The e-commerce and cloud computing giant trades 57 times its lagging profit and 235 times free cash flow, which is enough to give a value investor hiccups. That’s the right lens investors should look through at the biggest stocks in the market, isn’t it? No sensible market cap of $ 1.7 trillion could be treated like a soaring growth stock.

Only, Amazon isn’t acting like a sleepy trillion dollar giant. This attitude is simply not in Amazon’s nature. Founder and CEO Jeff Bezos wants the company to be run like every day is the first day of a brand new startup. And that’s what we Amazon shareholders get. For the past five years, the company has grown sales at a compound annual growth rate (CAGR) of 29% while earnings doubled each year.

This company has a long history of conquering the market, while skeptics have labeled it “overrated”. The situation we see today is nothing new. So when Amazon’s skyrocketing stock takes a breather like we’ve seen in the past 12 months, I just want to buy more of this oversized growth stock.

This downcast cloud turns around

Billy Duberstein (Splunk): Observability and IT management software company Splunk was bid down about 15% this year by investors and is a far uglier 40% off its all-time highs of mid-2020.

SPLK total return year-to-date (daily) chart

Data from YCharts.

There are probably two reasons for this; First, this year the market has tended to favor reopenings and cyclical stocks, while cloud software companies have been sold with no ongoing profits – and possibly no positive profits for a while – on valuation grounds. Second, Splunk is an established legacy software company making the transition from perpetual on-premise licenses to cloud-based subscriptions.

When a company moves from selling perpetual licenses locally to cloud subscriptions, the new bookkeeping can often skew sales even though the underlying growth rate is intact. For example, in the last fiscal year, Splunk’s sales fell 5% after three years of growth of more than 30%. However, this was because customers moved from perpetual licenses that were discovered in advance to cloud-based subscriptions that were discovered over time. Looking at the company’s annual recurring revenue (ARR), each quarter showed positive growth for the past year, and that continued with strong 37% ARR growth in the final quarter. Cloud-based ARR, while only accounting for 37% of total ARR, grew even faster at 72%.

So the loss of sales does not appear to be due to increased competition or an outdated product that is a cause for concern; Splunk’s net retention rate for its cloud services was 129% last quarter, meaning current customers are expanding their use of Splunk’s IT monitoring tools.

The company also received a major vote of confidence earlier this year from respected technology private equity firm Silver Lake, which invested $ 1 billion in Splunk in convertible preferred stock. In addition to investing in growth, Splunk has used the proceeds to buy back common stock while it’s in decline. Management bought back about $ 250 million in common stock last quarter, about $ 138. It is a fair assumption that as long as the share price is below the conversion price of the preferred share of $ 160, Splunk will continue to buy back shares.

In any case, it’s a cheap setup for Splunk. As businesses become increasingly digitized and distributed, their surveillance and security services will continue to be in demand. Cloud services also achieved 50% of bookings last year and should continue to grow. Since cloud ARR is a large part of total ARR, Splunk’s growth rate should stay strong and potentially accelerate.

Meanwhile, Splunk stock only sells at 8.8x last quarter’s ARR, which is pretty cheap for a software-as-a-service company that is growing its sales in the high 30% range. So today’s buybacks should also offer shareholders added value as they look beyond the transition.

It’s been a long mess for Splunk shareholders last year, but this favorable position has just led me to buy Splunk stock for the first time in the past few weeks. I expect a much better end of 2021 and beyond.

This article represents the opinion of the author who may disagree with the “official” referral position of a premium advisory service from the Motley Fool. We are colorful! Questioning an investment thesis – even one of our own – helps us all think critically about investing and make decisions that will help us get smarter, happier, and richer.


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