Over the past six months, Dropbox’s stock price fell to $26.20. Shareholders have lost 6.9% of their capital, which is disappointing considering the S&P 500 has climbed by 8.1%. This may have investors wondering how to approach the situation.

Is now the time to buy Dropbox, 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 Dropbox Will Underperform?

Even with the cheaper entry price, we don't have much confidence in Dropbox. Here are three reasons we avoid DBX and a stock we'd rather own.

1. Billings Hit a Plateau

Billings is a non-GAAP metric that is often called “cash revenue” because it shows how much money the company has collected from customers in a certain period. This is different from revenue, which must be recognized in pieces over the length of a contract.

Over the last year, Dropbox failed to grow its billings, which came in at $632.4 million in the latest quarter. This performance was underwhelming and shows the company faced challenges in acquiring and retaining customers. It also suggests there may be increasing competition or market saturation.

2. Revenue Projections Show Stormy Skies Ahead

Forecasted revenues by Wall Street analysts signal a company’s potential. Predictions may not always be accurate, but accelerating growth typically boosts valuation multiples and stock prices while slowing growth does the opposite.

Over the next 12 months, sell-side analysts expect Dropbox’s revenue to drop by 1.1%, a decrease from its 6.4% annualized growth for the past five years. This projection doesn't excite us and indicates its products and services will face some demand challenges.

3. Shrinking Operating Margin

While many software businesses point investors to their adjusted profits, which exclude stock-based compensation (SBC), we prefer GAAP operating margin because SBC is a legitimate expense used to attract and retain talent. This metric shows how much revenue remains after accounting for all core expenses – everything from the cost of goods sold to sales and R&D.

Analyzing the trend in its profitability, Dropbox’s operating margin decreased by 1.9 percentage points over the last two years. This raises questions about the company’s expense base because its revenue growth should have given it leverage on its fixed costs, resulting in better economies of scale and profitability. Its operating margin for the trailing 12 months was 24.3%.

Final Judgment

Dropbox doesn’t pass our quality test. Following the recent decline, the stock trades at 2.8× forward price-to-sales (or $26.20 per share). While this valuation is fair, the upside isn’t great compared to the potential downside. There are more exciting stocks to buy at the moment. Let us point you toward one of Charlie Munger’s all-time favorite businesses.

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