Red Hat investors should keep this in mind, particularly when this stock has already gained 40 percent so far this year.
After the company’s most recent quarter, I’m beginning to sense that it just might be time to take profits.
Sure, the company continues to perform. In Red Hat’s most recent earnings report, the company produced almost 20 percent annual revenue growth, while increasing sales by 6 percent sequentially. The company attributed the better-than-expected performance to stronger growth in its subscription services.
What’s more, Red Hat’s margins are improving slightly year-over-year and sequentially.
Nevertheless, I’m concerned when a stock is trading at nine times trailing revenue and 40 times trailing Ebitda.
As Chipotle’s recent earnings demonstrated, high growth expectations are only great as long as you are perfect. But expecting perfection is unrealistic and investing on this assumption can be catastrophic.
And Red Hat’s price-to-earnings ratio of about 75 leaves no margin for error.
At some point, investors will realize that focusing solely on top-line growth to justify such lofty valuations is not enough.
In addition, I think Red Hat will hit a stumbling block as VMware, Salesforce.com, Oracle, Microsoft, and International Business Machines will start to apply considerable pressure to seize any advantage that Red Hat may have in the enterprise services market.