Summary
- PINS has been much more bullish in recent weeks.
- I see a favorable risk/reward on the long side.
- Although the company has a lot of work to do longer term.
To say that social media stocks are out of favor is a bit of an understatement. We’ve had titans like Alphabet ( GOOG ) (GOOGL) struggle, Snap ( SNAP ) continuing to be an ongoing disaster, and of course, the Meta ( META ) saga. We can certainly add to that list of unfortunate events the demise of Pinterest ( PINS ), which was a lockdown darling with a soaring valuation and share price that has since been left for dead by investors. While it’s clear (in hindsight) that Pinterest’s ultra-impressive growth in the past couple of years was due primarily to lockdown users, it does appear to me that Wall Street is coming back to the stock.
While Pinterest obviously has some fundamental issues to contend with, technically, it looks good for a low-risk long trade here.
Let’s start with the daily price chart to see what I’m on about.
Pinterest set its all-time high all the way back in early-2021, and has been in a long downtrend since then. We can see the end of the downtrend here, or at least, what appears to be the end of it. There’s a broad, rounding bottom that took place from April to July, which was followed by a gap higher, and sustaining of that gap higher in the weeks since. This is a very bullish formation in that it signals the bottom was made already, and that the gap higher was sustained. If Pinterest were at high risk of going lower again, the gap likely would have failed by now. It hasn’t, and that’s a great sign.
In addition, while the rest of the indicators certainly aren’t perfect, I see cause for optimism for Pinterest shareholders. The PPO actually bottomed in April, meaning that since then, the PPO has put in a massive positive divergence against price action. Even better is that we’ve seen the PPO well and truly crest the centerline, and is pulling back during this consolidation period. That’s expected given the stock was overbought, and rather than signaling weakness, I think it is a good chance to buy in a low-risk setup.
What makes it low-risk? If we look at the price chart, I’ve annotated the top of what looks like an ascending triangle that is forming between $24 and the 50-day simple moving average (in blue). The 50-day SMA held once already, and the stock didn’t even test it on the last pullback. At some point in the relatively near future, we’ll get resolution one way or the other; either the stock will break out over $24, or the 50-day SMA will fail. I think it’s the former, but the low-risk part of this comes into play if you buy near the 50-day SMA, and place your stop just below it. By doing this, you can limit risk to a couple of percentage points, while the upside potential is many times that amount.
Enough of the chart, let’s look at Pinterest’s somewhat troubled fundamental situation.
Decelerating revenue kills growth stocks
If there’s one thing that can make or break a growth stock with big investors, it’s revenue growth. This is particularly true for companies with little or no earnings, because we often value those companies on their revenue base, and the ability to grow that revenue base over time. With Pinterest, the stock exploded higher because revenue growth exploded higher during the pandemic. Of course, the opposite has been true for both in the past 18 months or so as that unwound in a big way.
Revenue growth was 128% in the second quarter of 2021, but if you recall, that is the quarter when Pinterest and other social media/advertising stocks began lowering guidance. Pinterest did the same thing, and to the management team’s credit, they couldn’t have been more right.
Revenue growth has decelerated every quarter since, with the most recent quarter coming in at just 9% revenue growth globally. The rest of the world is still growing by leaps and bounds, but Pinterest’s North America market is the be-all-end-all when it comes to revenue and operating profit production. North America was up just 7% in the most recent quarter, and investors continue to punish the stock.
There just may be some green shoots on the horizon, however, as the monthly active users growth curve has begun to turn a bit higher.
I won’t try to sugarcoat this because it’s just ugly. However, the rate of negative growth is slowing, and the more it creeps back towards flat, the better. The reason is because Pinterest continues to drastically improve its monetization of users. Gaining users is one way to boost revenue, but the other is to extract more from each of those users.
Pinterest’s revenue is highly cyclical so it makes sense to compare year-over-year periods rather than sequentially. Last year’s Q2 saw $4.87 in revenue per North American user, but that number soared 20% in this year’s Q2. Europe was also up 20%, and the rest of the world almost doubled. Of course, the ROW number is an infinitesimally small fraction of the rest of the business, but growth is growth, and Pinterest can use every penny it can get right now.
I actually don’t think the revenue picture looks too bad, provided the company can stem the tide of MAU losses. It appears that’s underway, and that the pandemic-driven usage spike we saw has been flushed out. If that’s the case, that’s very good news for the stock, but the fact is that it is too soon to tell at the moment.
Given that Pinterest is no longer a rapid revenue growth story, and the fact that it is indeed profitable, the way the company spends matters. For certain companies that are focused completely on market share gains, for instance, Wall Street will ignore if they spend 100% of their revenue generating future revenue, and therefore operate at a huge loss. Pinterest doesn’t have that luxury any longer, so let’s see how it’s spending.
You’ll notice that the company’s cost of revenue is much higher than it was a year ago, as is R&D, as is sales and marketing, as is general and administrative costs. None of that is good news, and it’s why profitability has shrunk while the company’s revenue growth has decelerated.
It’s important to understand management isn’t spending just to spend, but the goal is to reclaim its former growth. Whether it works or not remains to be seen, but the results of that effort will have sizable consequences for profitability, and consequently, the share price. Below we have trailing-twelve-months gross margin and operating margin to see where the company has come from.
Gross margins are actually outstanding near 80% of revenue. That’s great, but on the evidence of what we saw above, it appears that is likely to come down in the next couple of quarters on a TTM basis. The problem is that it impacts operating margins, as does the increased spending on things like sales and marketing, and G&A costs. We see 11% operating margins for the most recent quarter, down from 14%, 15%, and 15% in the prior three quarters, respectively. I’m afraid this number is going to be in the single-digits when we get to Q4 of this year, so the pain from a fundamental perspective may not be over.
Other considerations
I’ve said countless times in my posts here that I prefer companies with flat or declining share counts. That means the management team is disciplined and doesn’t use shareholders as a piggy bank. Pinterest doesn’t subscribe to that policy, and instead issues millions of shares every quarter.
The share count has ballooned over the past three years from 543 million to 670 million, making it more and more difficult for the company to move the needle on things like EPS. This is a big negative in my view if you’re looking to hold Pinterest for a long time. If you’re trading in and out, it doesn’t matter. But for long-term shareholders, this is something you must be okay with.
On the flip side, that constant issuance of shares has afforded Pinterest a pristine balance sheet.
Net debt is -$2.5 billion, which means Pinterest has all the flexibility it could want when financing growth opportunities. In addition, a net cash position makes Pinterest a more attractive acquisition target.
Final thoughts
As we wrap this up, we have a stock at a cross roads. The company is trying to regain is mojo in terms of growing the user base, and I think most or all of the pain of the pandemic spike has been taken. That’s an important step, but it’s not the only step. We need evidence in the coming quarters of actual progress on the MAU count, and continued growth in monetization of users.
For what it’s worth, from a sentiment perspective, analysts are as bearish as they’ve ever been on Pinterest.
Seeking Alpha (Analyst ratings)
I like to trade against sentiment because the simple fact is that it works. If everyone is bearish, who is left to sell? About three-quarters of analysts have a hold or sell rating on Pinterest, so I think we are nearing the tipping point where we start getting upgrades to the stock after months and months of downgrades.
Finally, the stock trades for just over 5X forward sales, which is right where it was at the worst of the pandemic. It subsequently quadrupled its valuation, so there’s some upside potential here.
Of course, Pinterest is probably never going to trade at 22X sales again. However, it certainly appears to be in a trough right now, so downside is quite limited against upside based on the evidence we have today.
Would I buy Pinterest as a long-term hold? Not yet. I think the pieces are in place for that to work, but it’s not for me at the moment in terms of buy-and-forget. However, I like the trade setup I noted in the introduction, and if Pinterest breaks out over $24, we could see a strong rally into year-end. On that basis, I’m cautiously bullish.
For further details see:
Pinterest Just Might Be Turning The Corner