The past six months have been a windfall for Applied Digital’s shareholders. The company’s stock price has jumped 82.2%, hitting $45.44 per share. This performance may have investors wondering how to approach the situation.

Is there a buying opportunity in Applied Digital, or does it present a risk to your portfolio? Check out our in-depth research report to see what our analysts have to say, it’s free.

Why Is Applied Digital Not Exciting?

We’re glad investors have benefited from the price increase, but we don’t have much confidence in Applied Digital. Here are three reasons we avoid APLD and a stock we’d rather own.

1. EPS Trending Down

We track the long-term change in earnings per share (EPS) because it highlights whether a company’s growth is profitable.

Applied Digital’s earnings losses deepened over the last four years as its EPS dropped 3.7% annually. We’ll keep a close eye on the company as diminishing earnings could imply changing secular trends and preferences.

2. Cash Burn Ignites Concerns

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.

Applied Digital’s demanding reinvestments have drained its resources over the last five years, putting it in a pinch and limiting its ability to return capital to investors. Its free cash flow margin averaged negative 385%, meaning it lit $385.08 of cash on fire for every $100 in revenue.

3. Short Cash Runway Exposes Shareholders to Potential Dilution

As long-term investors, the risk we care about most is the permanent loss of capital, which can happen when a company goes bankrupt or raises money from a disadvantaged position. This is separate from short-term stock price volatility, something we are much less bothered by.

Applied Digital burned through $1.81 billion of cash over the last year, and its $2.83 billion of debt exceeds the $1.73 billion of cash on its balance sheet. This is a deal breaker for us because indebted loss-making companies spell trouble.

Unless the Applied Digital’s fundamentals change quickly, it might find itself in a position where it must raise capital from investors to continue operating. Whether that would be favorable is unclear because dilution is a headwind for shareholder returns.

We remain cautious of Applied Digital until it generates consistent free cash flow or any of its announced financing plans materialize on its balance sheet.

Final Judgment

Applied Digital isn’t a terrible business, but it doesn’t pass our quality test. After the recent rally, the stock trades at 61× forward EV-to-EBITDA (or $45.44 per share). This valuation multiple is fair, but we don’t have much faith in the company. We’re pretty confident there are superior stocks to buy right now. Let us point you toward the most dominant software business in the world.