Dropbox (NASDAQ:DBX): Reasons to Avoid This Stock

Mar 2, 2024
dropbox-(nasdaq:dbx):-reasons-to-avoid-this-stock

The main complaint for many tech investors is that their favorite companies trade at lofty valuations. It’s normal to find firms achieving high growth rates that trade well above a 50x forward P/E ratio. Some high-growth companies are unprofitable, but the prospects of profitability in the future keep people invested. Dropbox (NASDAQ:DBX) breaks the mold but in a bad way. Shares trade at an 11.26x forward P/E ratio, which initially seems good.

The stock has also exhibited double-digit net profit margins in some quarters. However, the company’s valuation is low for good reasons and doesn’t warrant a position at this time. I am bearish on Dropbox stock and believe it will underperform the stock market in the long run.

The Lack of a Moat Is a Big Deal

Dropbox makes its money by having users store documents within their accounts. Once users reach a certain limit, they must pay a monthly fee to access more storage space. On its website, Dropbox refers to itself as “the choice for storing and sharing your most important files.”

The main problem with this business model is that big tech offers similar resources. Google Drive is a similar product that competes for market share. Companies can use Google Drive to share important files with each other, just like DropBox. Other tech giants have similar offerings that let you store data without any additional charge. 

Google users can also access their mail, the world’s most popular search engine, and other features. DropBox only has file uploads and adjusting who gets to access them. 

Revenue Growth Is Slow and Decelerating

Dropbox fell by more than 20% after a disappointing earnings report to end Fiscal 2023. Revenue was only up by 6% year-over-year in the fourth quarter. That’s a deceleration from full-year revenue growth of 7.6% year-over-year. Average recurring revenue only inched up by 0.3% year-over-year in the fourth quarter.

These low growth rates and deceleration create the risk of negative year-over-year changes to revenue. This would be the final blow to the investment thesis. Dropbox hasn’t been able to meaningfully increase its average revenue per user. This figure only went up by 3.6% year-over-year to reach $139.38 per paying user. Out of the company’s 700 million registered users, only 18.12 million of them are paying customers.

If revenue remains this low and the deceleration trend continues, Dropbox is likely to report year-over-year declining net income. This scenario will inflate the P/E ratio and make the stock less desirable.

It’s Been Easy to Outperform Dropbox

When analyzing a stock, investors should consider two things. They should assess a stock’s fundamentals but also keep in mind what other companies are available. It’s hard to beat the market, but it’s easy to outperform a stock that has only risen 1.7% over the past five years

Dropbox doesn’t have any innovations that suggest a sudden revenue surge is on the way. The company has established a niche for itself as a place to store and share files. It’s been a profitable industry for the company, and it’s still pretty big with its $8 billion market cap. However, this narrow focus offers limited opportunities, moving forward. 

Dropbox seems like a good acquisition target in the future. It has a vast user base and offers a valuable service. However, revenue and earnings don’t look impressive despite a valuation that looks tempting on the surface. Rather than holding onto shares and waiting for that day to potentially happen, investors can benefit from putting their money into another stock.

Is DBX Stock a Buy, According to Analysts?

Dropbox analysts have issued downgrades after the company reported poor earnings. The stock received several price reductions on February 16th. The lowest price target among these downgrades was $24, which implies a roughly flat performance. Overall, the stock comes in as a Hold based on three Buys, four Holds, and two Sells assigned in the past three months. The average DBX stock price target of $31 implies 28.4% upside potential.

The Bottom Line on Dropbox Stock

Dropbox’s days as a growth stock are long gone. Single-digit revenue growth and deceleration in the fourth quarter do not paint a good picture of what this stock can become. Shares have been flat over the past five years. Many tech stocks have outperformed Dropbox during that time. Even Treasury bills have done better.

While other tech companies are in better positions to adapt, Dropbox’s entire business model revolves around a replaceable commodity. Other tech giants offer the same service as parts of their business strategies. They can lower their prices to attract paying DropBox customers, and their existence limits how much Dropbox can raise its prices. 

The company is using artificial intelligence, but who isn’t these days? AI features aren’t enough to change a company’s financial trajectory. Artificial intelligence complements good business models, but it doesn’t suddenly turn bad businesses into good ones. I remain bearish on Dropbox and do not see that stance changing anytime soon.

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