Although the S&P 500 is down 1.9% over the past six months, Q2 Holdings’s stock price has fallen further to $88.59, losing shareholders 15.4% of their capital. This may have investors wondering how to approach the situation.
Is there a buying opportunity in Q2 Holdings, 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 Q2 Holdings Not Exciting?
Even though the stock has become cheaper, we're swiping left on Q2 Holdings for now. Here are three reasons why there are better opportunities than QTWO and a stock we'd rather own.
1. Long-Term Revenue Growth Disappoints
A company’s long-term sales performance can indicate its overall quality. Any business can put up a good quarter or two, but many enduring ones grow for years. Over the last three years, Q2 Holdings grew its sales at a 11.7% compounded annual growth rate. Although this growth is acceptable on an absolute basis, it fell short of our standards for the software sector, which enjoys a number of secular tailwinds. 
2. Low Gross Margin Reveals Weak Structural Profitability
For software companies like Q2 Holdings, gross profit tells us how much money remains after paying for the base cost of products and services (typically servers, licenses, and certain personnel). These costs are usually low as a percentage of revenue, explaining why software is more lucrative than other sectors.
Q2 Holdings’s gross margin is substantially worse than most software businesses, signaling it has relatively high infrastructure costs compared to asset-lite businesses like ServiceNow. As you can see below, it averaged a 51.8% gross margin over the last year. Said differently, Q2 Holdings had to pay a chunky $48.21 to its service providers for every $100 in revenue. 
3. Cash Flow Margin Set to Decline
Free cash flow isn't a prominently featured metric in company financials and earnings releases, but we think it's telling because it accounts for all operating and capital expenses, making it tough to manipulate. Cash is king.
Over the next year, analysts predict Q2 Holdings’s cash conversion will fall. Their consensus estimates imply its free cash flow margin of 19.2% for the last 12 months will decrease to 17.1%.
Final Judgment
Q2 Holdings isn’t a terrible business, but it isn’t one of our picks. Following the recent decline, the stock trades at 7.2× forward price-to-sales (or $88.59 per share). This multiple tells us a lot of good news is priced in - we think there are better stocks to buy right now. We’d recommend looking at one of our top software and edge computing picks.
Stocks We Would Buy Instead of Q2 Holdings
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