Over the past six months, Ziff Davis has been a great trade, beating the S&P 500 by 13.5%. Its stock price has climbed to $39.99, representing a healthy 21.6% increase. This performance may have investors wondering how to approach the situation.

Is now the time to buy Ziff Davis, or should you be careful about including it in your portfolio? Dive into our full research report to see our analyst team’s opinion, it’s free.

Why Do We Think Ziff Davis Will Underperform?

Despite the momentum, we're cautious about Ziff Davis. Here are three reasons there are better opportunities than ZD and a stock we'd rather own.

1. Long-Term Revenue Growth Flatter Than a Pancake

A company’s long-term sales performance is one signal of its overall quality. Any business can put up a good quarter or two, but many enduring ones grow for years. Unfortunately, Ziff Davis struggled to consistently increase demand as its $1.46 billion of sales for the trailing 12 months was close to its revenue five years ago. This was below our standards and signals it’s a low quality business.

2. EPS Trending Down

Analyzing the long-term change in earnings per share (EPS) shows whether a company's incremental sales were profitable – for example, revenue could be inflated through excessive spending on advertising and promotions.

Sadly for Ziff Davis, its EPS declined by 2.2% annually over the last five years while its revenue was flat. This tells us the company struggled because its fixed cost base made it difficult to adjust to choppy demand.

3. Free Cash Flow Margin Dropping

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.

As you can see below, Ziff Davis’s margin dropped by 14.9 percentage points over the last five years. It may have ticked higher more recently, but shareholders are likely hoping for its margin to at least revert to its historical level. If the longer-term trend returns, it could signal increasing investment needs and capital intensity. Ziff Davis’s free cash flow margin for the trailing 12 months was 17.9%.

Final Judgment

We see the value of companies helping their customers, but in the case of Ziff Davis, we’re out. With its shares beating the market recently, the stock trades at 5.3× forward P/E (or $39.99 per share). While this valuation is optically cheap, the potential downside is huge given its shaky fundamentals. There are better stocks to buy right now. Let us point you toward one of Charlie Munger’s all-time favorite businesses.

Stocks We Would Buy Instead of Ziff Davis

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