Business services providers play a critical role for enterprises, assisting them with everything from new hardware integrations to consulting and marketing. Still, investors are uneasy as firms face challenges from AI-driven disruptors and tightening corporate budgets. These doubts have certainly contributed to the industry’s recent underperformance - over the past six months, services stocks were flat while the S&P 500 was up 3.4%.
A cautious approach is imperative when dabbling in these companies as many are also sensitive to the ebbs and flows of the broader economy. With that said, here are three services stocks that may face trouble.
Applied Digital (APLD)
Market Cap: $10.00 billion
Pivoting from its origins in cryptocurrency mining to become a key player in the AI infrastructure boom, Applied Digital (NASDAQ: APLD) designs and operates specialized data centers that provide high-performance computing infrastructure for artificial intelligence and blockchain applications.
Why Is APLD Not Exciting?
- Earnings per share fell by 3.7% annually over the last four years while its revenue grew, partly because it diluted shareholders
- Cash burn makes us question whether it can achieve sustainable long-term growth
- Unfavorable liquidity position could lead to additional equity financing that dilutes shareholders
Applied Digital is trading at $35.09 per share, or 45.7x forward EV-to-EBITDA. To fully understand why you should be careful with APLD, check out our full research report (it’s free).
HP (HPQ)
Market Cap: $18.1 billion
Born from the legendary Silicon Valley garage startup founded by Bill Hewlett and Dave Packard in 1939, HP (NYSE: HPQ) designs and sells personal computers, printers, and related technology products and services to consumers, businesses, and enterprises worldwide.
Why Is HPQ Risky?
- Sales stagnated over the last five years and signal the need for new growth strategies
- Incremental sales over the last two years were much less profitable as its earnings per share fell by 2.6% annually while its revenue grew
- Diminishing returns on capital suggest its earlier profit pools are drying up
At $19.76 per share, HP trades at 7.4x forward P/E. If you’re considering HPQ for your portfolio, see our FREE research report to learn more.
Xerox (XRX)
Market Cap: $204 million
Pioneering the modern office copier and inventing technologies like Ethernet and the laser printer, Xerox (NASDAQ: XRX) provides document management systems, printing technology, and workplace solutions to businesses of all sizes across the globe.
Why Are We Out on XRX?
- Products and services are facing end-market challenges during this cycle, as seen in its flat sales over the last five years
- Capital intensity has ramped up over the last five years as its free cash flow margin decreased by 5.5 percentage points
- High net-debt-to-EBITDA ratio of 8× increases the risk of forced asset sales or dilutive financing if operational performance weakens
Xerox’s stock price of $1.58 implies a valuation ratio of 2.6x forward P/E. Read our free research report to see why you should think twice about including XRX in your portfolio.
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