What a brutal six months it’s been for First Advantage. The stock has dropped 27% and now trades at $11.23, rattling many shareholders. This may have investors wondering how to approach the situation.
Is now the time to buy First Advantage, 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 Is First Advantage Not Exciting?
Even with the cheaper entry price, we're cautious about First Advantage. Here are three reasons we avoid FA and a stock we'd rather own.
1. EPS Growth Has Stalled
We track the long-term change in earnings per share (EPS) because it highlights whether a company’s growth is profitable.
First Advantage’s full-year EPS was flat over the last four years, worse than the broader business services sector.
2. 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, First Advantage’s margin dropped by 8.6 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. First Advantage’s free cash flow margin for the trailing 12 months was 8.9%.
3. Previous Growth Initiatives Haven’t Paid Off Yet
Growth gives us insight into a company’s long-term potential, but how capital-efficient was that growth? Enter ROIC, a metric showing how much operating profit a company generates relative to the money it has raised (debt and equity).
First Advantage historically did a mediocre job investing in profitable growth initiatives. Its five-year average ROIC was 0.7%, lower than the typical cost of capital (how much it costs to raise money) for business services companies.
Final Judgment
First Advantage isn’t a terrible business, but it doesn’t pass our quality test. After the recent drawdown, the stock trades at 9.3× forward P/E (or $11.23 per share). This valuation is reasonable, but the company’s shakier fundamentals present too much downside risk. We're pretty confident there are more exciting stocks to buy at the moment. We’d recommend looking at one of our all-time favorite software stocks.
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