The past six months have been a windfall for Sphere Entertainment’s shareholders. The company’s stock price has jumped 73.2%, hitting $133.60 per share. This was partly due to its solid quarterly results, and the performance may have investors wondering how to approach the situation.
Is now the time to buy Sphere Entertainment, or should you be careful about including it in your portfolio? Get the full stock story straight from our expert analysts, it’s free.
Why Do We Think Sphere Entertainment Will Underperform?
We’re glad investors have benefited from the price increase, but we're sitting this one out for now. Here are three reasons there are better opportunities than SPHR and a stock we'd rather own.
1. Long-Term Revenue Growth Disappoints
A company’s long-term sales performance can indicate its overall quality. Even a bad business can shine for one or two quarters, but a top-tier one grows for years. Over the last five years, Sphere Entertainment grew its sales at a 18.7% annual rate. Although this growth is acceptable on an absolute basis, it fell slightly short of our standards for the consumer discretionary sector, which enjoys a number of secular tailwinds.
2. Cash Flow Margin Set to Decline
Free cash flow isn't a prominently featured metric in company financials and earnings releases, but we think it's telling because it accounts for all operating and capital expenses, making it tough to manipulate. Cash is king.
Over the next year, analysts predict Sphere Entertainment’s cash conversion will fall. Their consensus estimates imply its free cash flow margin of 25.2% for the last 12 months will decrease to 8.6%.
3. Restricted Access to Capital Increases Risk
Debt is a tool that can boost company returns but presents risks if used irresponsibly. As long-term investors, we aim to avoid companies taking excessive advantage of this instrument because it could lead to insolvency.
Sphere Entertainment posted negative $183.7 million of EBITDA over the last 12 months, and its $938.4 million of debt exceeds the $629.1 million of cash on its balance sheet. This is a deal breaker for us because indebted loss-making companies spell trouble.
We implore our readers to tread carefully because credit agencies could downgrade Sphere Entertainment if its unprofitable ways continue, making incremental borrowing more expensive and restricting growth prospects. The company could also be backed into a corner if the market turns unexpectedly. We hope Sphere Entertainment can improve its profitability and remain cautious until then.
Final Judgment
We cheer for all companies serving everyday consumers, but in the case of Sphere Entertainment, we’ll be cheering from the sidelines. After the recent surge, the stock trades at 16.8× forward EV-to-EBITDA (or $133.60 per share). This valuation tells us a lot of optimism is priced in - we think other companies feature superior fundamentals at the moment. We’d suggest looking at an all-weather company that owns household favorite Taco Bell.
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