Why Is Fortinet Stock Dropping?

Fortinet (NASDAQ:FTNT) stock has had a decidedly so-so year, up just 1.2% thus far. It had been keeping in lockstep with the S&P 500, up 14.1% over the same time period, for the most part, up until early November, when on the 3rd of the month, FTNT share price plunged by 14.4% on the back of a disappointing sales report.

To add to the woes, guidance came in lower than Wall Street had anticipated and then the downgrades from prominent research firms followed. Even the company’s earnings beat was not enough to stem the bearish tidal wave.

Fortinet Disappoints Investors and Gets Clipped

At first glance, it was hard to see why Fortinet was punished so severely by investors. After all, forecasted earnings per share were $0.36 on revenues of $1.35 billion while the company actually delivered EPS of $0.41, a significant beat. Revenues did fall marginally short at $1.33 billion, but that small miss was sufficient to trigger a rush to the exits.

Compounding worries for shareholders was management’s forecast that financials would be notably weaker up ahead with sales rising by low double-digit percentage levels to a low-end range of $1.38 billion as demand dries up.

To highlight the severity of the slowdown, revenue growth over the past 3 years on a year-over-year basis has only fallen shy of 20% in one quarter, and that was 12 quarters ago. So, a dip to around 10% represents a chop in half of the growth rate.

Nevertheless, there are reasons for investors to remain buoyant on the firm’s prospects. For one, operating income has been on a tear over the past 3 years, rising from $125.9 million in Q3 2020 to $267.5 million in Q2 2023.

As EBIT has grown, so too has the company’s balance sheet increasingly displayed fortress-like features with cash rising from $882.3 million to $2.37 billion over the same time period. Liquidity reserves have further improved with short-term investments rising from $774.4 million to $937.2 million.

The short-term slowdown in customers wanting firewall hardware will be offset to some extent by management’s plan to grow security operations and secure networking solutions. But for now, FTNT share price is being mercilessly sold. And that leads to a question of whether it’s starting to look like a bargain.

But first summarize why is Fortinet stock dropping? Fortinet missed analysts sales estimates and provided disappointing near-term top line guidance.

Now, let’s explore whether the current share price makes for a good bargain.

Is Fortinet Stock On Sale?

Fortinet has many characteristics of an extraordinary company. It holds a lot more cash on its balance sheet than it does debt, earnings per share have been steadily on the rise, its price-to-earnings ratio is low relative to near-term growth forecasts, and it has a high return on assets.

Often such a stellar combination is spotted by the market and rewarded, sometimes too much, with premium pricing. That’s not the case anymore with Fortinet after its recent share price pullback. 

Even after the declines, fair market value according to a discounted cash flow forecast analysis is approximately $68 per share, corresponding to upside potential of 39.1%.

Following analysts’ downgrades, Fortinet still has significant upside opportunity because the consensus estimate among 34 analysts is $62.42 per share, suggesting as much as 18.5% upside on the horizon.

Either price target implies that the latest pullback in Fortinet is an opportunity for conservative-minded investors, but there is a caveat.

Is Fortinet Stock a Buy?

As attractive as Fortinet’s financials have been, the sharp cut in growth rate projections going forward should give investors pause. In particular, the revenue slowdown should materially impact earnings in future quarters, and that’s what analysts are factoring in and punishing with ratings downgrades.

It’s also important to respect the technical trend at this time which truly looks awful when viewed through the lens of bullish investors. Even if the fundamental case makes for a compelling valuation now, the momentum is clearly supporting the bears, and should result in lower prices near-term.

So, is Fortinet stock a buy? With 39% upside to fair value, Fortinet is a buy for longer-term investors but near-term the technical bearish trend should be respected. A better entry point will likely arrive in the coming weeks and months after all the bulls who lack conviction have been washed out of their positions.

Wrap-Up

Fortinet has been on a stunning run over the past decade. Each and every year, without exception, revenues have climbed higher with the low-end of the range at 15.3% in 2013 and the highest growth rate of 32.2% reported in 2022. That suggests the company has not only executed well in the intervening years but improved by accelerating its growth rate in the interim.

Evidence of the firm’s operational prowess can be seen in the extraordinary growth of its operating income during the past decade from $70.6 million ten years ago to $888 million last year.

This is clearly a juggernaut that continues to leap to ever greater successes. But the pace of growth did slow dramatically in the past quarter and is likely to materially impact earnings for the foreseeable future.

As such, Fortinet is not a stock to hop on board now, it would seem, in spite of its track record of solid fundamentals. However, when the technical bearish trend slows and turns around, a strong entry point may present itself.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.