The past six months have been a windfall for IPG Photonics’s shareholders. The company’s stock price has jumped 59.7%, hitting $126.59 per share. This was partly thanks to its solid quarterly results, and the performance may have investors wondering how to approach the situation.
Is there a buying opportunity in IPG Photonics, or does it present a risk to your portfolio? Get the full stock story straight from our expert analysts, it’s free.
Why Do We Think IPG Photonics Will Underperform?
Despite the momentum, we're sitting this one out for now. Here are three reasons we avoid IPGP and a stock we'd rather own.
1. Revenue Spiraling Downwards
A company’s long-term sales performance is one signal of its overall quality. Even a bad business can shine for one or two quarters, but a top-tier one grows for years. IPG Photonics’s demand was weak over the last five years as its sales fell at a 3.5% annual rate. This was below our standards and is a sign of poor business quality. Semiconductors are a cyclical industry, and long-term investors should be prepared for periods of high growth followed by periods of revenue contractions.
2. Operating Losses Sound the Alarms
Operating margin is one of the best measures of profitability because it tells us how much money a company takes home after procuring and manufacturing its products, marketing and selling those products, and most importantly, keeping them relevant through research and development.
Although IPG Photonics was profitable this quarter from an operational perspective, it’s generally struggled over a longer time period. Its expensive cost structure has contributed to an average operating margin of negative 9.9% over the last two years. Unprofitable semiconductor companies require extra attention because they could get caught swimming naked when the tide goes out. It’s hard to trust that the business can endure a full cycle.
3. Free Cash Flow Margin Dropping
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.
As you can see below, IPG Photonics’s margin dropped by 18.6 percentage points over the last five years. This along with its unexciting margin put the company in a tough spot, and shareholders are likely hoping it can reverse course. If the trend continues, it could signal it’s in the middle of a big investment cycle. IPG Photonics’s free cash flow margin for the trailing 12 months was breakeven.
Final Judgment
IPG Photonics doesn’t pass our quality test. After the recent surge, the stock trades at 67× forward P/E (or $126.59 per share). This valuation tells us it’s a bit of a market darling with a lot of good news priced in - we think there are better opportunities elsewhere. Let us point you toward a fast-growing restaurant franchise with an A+ ranch dressing sauce.
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