Fastly: A Business Model That Does Not Work

Fastly, Inc. (FSLY)  provides real-time content delivery network services. It offers an edge cloud platform, edge software development kit (SDK), content delivery and image optimization, video and streaming, cloud security, load balancing, and managed CDN. The company was founded by Artur Bergman, Simon Wistow, and Gil Penchina in March 2011 and is headquartered in San Francisco, CA.

I am bearish on FSLY stock. The company is unprofitable, is burning cash despite solid sales growth, and has an uncomfortable amount of debt.

Fourth Quarter and Full Year 2021 Financial Results

Fastly has just reported its Q4 2021 and full year 2021 financial results. Earnings per share (EPS), forecasted at -$0.42, came in slightly lower at -$0.44, GAAP EPS of -$0.49 was in-line and revenue of $97.7 million was a beat by $5.24 million. FSLY earnings have been largely negative except for Q2 2020 but the overall trend has been widening losses.

What were the highlights of Fastly’s quarterly performance? Starting with the positive news, its revenue of $97.7 million indicated growth of 13% quarter-over-quarter, and the firm reported a fourth quarter revenue dollar-based net expansion rate of 121% and an impressive annual ARR of 99.2%.

The less favorable results are that the company’s Q4 2021 GAAP gross margin declined to 50.9% versus 59.2% in Q4 2020. Also, Fastly showed a GAAP operating loss of $56.65 million, which was narrower than the operating loss of $57.34 million in the same quarter a year ago. However, GAAP net loss of $57.5 million, widened compared to $45.7 million in the fourth quarter of 2020. As for GAAP net loss per basic and diluted shares, the figure of $0.49 was higher than the figure of $0.40 in the fourth quarter of 2020.

Turning to the FY2021 financial results, Fastly CEO Joshua Bixby expressed his optimism stating, “We finished 2021 on a strong note with fourth-quarter revenue of $97.7 million, exceeding the midpoint of our guidance range by 7% and demonstrating momentum after facing setbacks earlier in the year.”

The content delivery network operator reported total revenue of $354.3 million, or a 22% growth year-over-year. The GAAP gross margin of 52.9%, narrowed compared to the gross margin of 58.7% in fiscal 2020 and net loss widened significantly. GAAP net loss of $222.7 million was much higher than the net loss of $95.9 million in fiscal 2020.

A key metric, Annual Revenue Retention (ARR), was 99.2% in 2021 compared to 99.3% in 2020. This is very positive showing stability in customer retention and is supportive for future revenue growth.

Fastly, in its 2022 guidance, estimated revenue to be in the range of $400 – $410 million. If materialized, this would represent a growth of approximately 13% year-over-year. The firm expects a non-GAAP operating loss and a non-GAAP net loss per share for FY2022.

Fundamentals – Risks

Annual revenue growth decelerates fast. In FY2020, Fastly’s revenue growth was 45.10%, which fell to 22% in FY2021 and is expected to fall further in FY2022. Net losses widened, and there is a severe cash burn problem. The Piotroski F-Score of 1 is too low, implying poor business performance. The Altman Z-score of 1.72 is in the distress zone, implying a bankruptcy possibility in the next two years.

Shareholders have been diluted in the past year, with total outstanding shares increasing by 3.5%. The operating margin has deteriorated significantly as of 2017 and on a TTM basis, it stood at -64.8%. Its D/E ratio of 1.0 as per the latest quarter is problematic given the net losses and the negative free cash flow generation.

Valuation

FSLY stock is relatively attractive based on its PB Ratio (3.3x) compared to the US IT industry average (4.2x). However, its Price to Sales Ratio of 31.10 and Price to Book Ratio of 9.35 supports the argument of it being overvalued.

Wall Street’s Take

Fastly has an analyst rating consensus of Hold, based on one Buy, six Holds, and one Sell ratings. The average Fastly price target of $26.83 represents 43.48% upside potential.

Conclusion

Fastly is losing momentum in its revenue growth, and despite its impressive ARR key metric, the company’s latest earnings report shows widening net losses and heavy cash burn. On top of all of this, having plenty of debt does not help Fastly’s situation either.

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