MSFT - HashiCorp: Upgrading To Hold On A More Reasonable Valuation

2023-11-23 09:00:32 ET

Summary

• We are upgrading HashiCorp to a Hold.
• The stock has declined about 45% since our sell rating in May 2022 and underperformed the S&P 500 by 58%.
• While we remained concerned about the current macro climate impacting its growth trajectory, we believe the downside is now limited.
• HCP is now valued at 4.2EV/sales, significantly trailing its peer group at 8.6x.
• Investors should continue to expect an elongated deal cycle through 2024.

We are moving HashiCorp ( HCP ) to a HOLD. The stock is down 45% since our initial Strong SELL rating in May of 2022, underperforming the S&P 500 by 58%. We see signs of enterprise spending normalizing as the optimization spending wraps up in 2023 and think the worst is in the rearview mirror for the stock. We believe the downside is now limited as HCP is now valued at 4.2EV/sales, significantly trailing its peer group at 8.6x. Still, we recommend investors stay on the sidelines for the near-term as we see no near-term catalyst driving outperformance through 1H24.

The table below outlines our initial buy rating on the stock in May 2022.

HCP stock's underperformance has moderated in 2H23; over the past six months, the stock is down 35.14%, underperforming the S&P 500 by 44%. Meanwhile, the stock has underperformed the S&P 500 over the past three months by 3.2%. We now expect HCP to be an in-line performer into next quarter.

The following graph outlines the stock's performance compared to the S&P 500 over the past three months.

Our neutral sentiment on the stock is based mainly on the fact that we think the company's growth in its Product and Service sales will be limited within the current macro environment.

The enterprise spending environment is improving into 2024 after multiple software companies cut back on capex this year. We like HCP's position in the market as it provides automation tools for organizations adopting multiple clouds and plays in the same field as hyper scalers Microsoft ( MSFT ), Amazon ( AMZN ), and Alphabet ( GOOGL ). However, we think HCP won't be able to boost profits meaningfully due to its lack of competitive edge within macro uncertainty. We recommend investors should revisit the stock closers to mid-2024.

Valuation

In C2024, HCP has an Enterprise Value to Sales (EV/Sales) ratio of 4.3x, substantially below the peer group averages of 8.6x. We think HCP has a more conservative market valuation when compared to its peers. It is potentially indicating to the market a buying opportunity, especially if looking for value stocks, but we don't recommend investors buy the stock on weakness as we don't see it outperforming the market through 1H24. We don't think it's the moment to jump into this name yet, as the global IT spending environment has yet to rebound fully, and macro uncertainty continues to force tighter budgets.

The table below outlines HashiCorp's valuation against the peer group.

Word on Wall Street

Wall Street doesn't share our neutral sentiment. A total of ten analysts are buy-rated on HCP, while none are sell, and eight are hold. Even though the possibility of rerating could give room for possible growth, we think HCP stock will not outperform the S&P in the near term. The median and mean price targets for HCP stand at $30 and $32, which, when compared to the current trading price of $12, indicates an upside potential of 43% to 53%, respectively. We think HCP is better positioned in the longer run once macro headwinds ease, but we see a less favorable near-term risk-reward profile for the stock as we expect growth to continue to decelerate into the next quarter.

The following charts outline HashiCorp's sell-side ratings and price targets.

What to do with the stock

We are upgrading HCP to a HOLD. Since our sell rating in May 2022, the stock has significantly underperformed the S&P 500 by 58%. HCP's current valuation at 4.2 times EV/sales, which is considerably lower than its peers' average of 8.6 times, suggests a limited downside and positions it as a value stock. However, we think investors should be prepared for softer enterprise spending to linger in the form of extended deal cycles into 2024 and weigh on top line growth. We recommend our readers to close their short position and stay on the sidelines in the near term.

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