Is Ooma a Buy? Not Yet, Says 1 Analyst

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Every day, Wall Street analysts upgrade some stocks, downgrade others, and "initiate coverage" on a few more. But do these analysts even know what they're talking about? Today, we're taking one high-profile Wall Street pick and putting it under the microscope...

I love my Ooma Telo.

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A small black box that you can hook into your home router, the Ooma Telo turns any subscriber's internet service into a de facto "landline" telephone. Once connected, the subscriber pays only taxes and regulatory fees required for phone service -- $3 or $4 a month -- instead of the $30 to $40 that phone companies routinely charge for a phone landline.

The company behind the device, Ooma, Inc. (NYSE: OOMA), has been in business for some 15 years, according to a synopsis on S&P Global Market Intelligence, and it's been publicly traded since mid-2015. Yet to date, Ooma's received little attention from investors. (Case in point: This is the first time we've actually written about Ooma, and only four investors have rated the stock on Motley Fool CAPS.)

That could be starting to change, however, after Ooma reported estimate-beating earnings on Tuesday, and earned itself an upgrade and three price target hikes in response.

What Ooma said

Announcing Q4 and full-year 2017 results yesterday, Ooma said it lost $0.15 per share in the quarter on sales of $30.2 million. This was $0.01 better than last year's Q4 results, and ahead of analysts' consensus estimate. Sales increased 10% year over year, and "office and residential subscription and services revenue" in particular was up 22%.

For the year, sales likewise grew 10% to $114.5 million, and losses totaled $0.71 per diluted share -- a $0.03 improvement over 2016 results.

What Wall Street said

Not great results, admittedly -- no one likes to see their stocks report losing money. Still, the numbers appear to have impressed Wall Street. In response to Ooma's report, analysts at B.Riley/FBR commended Ooma for continuing to invest in "innovation and integration" by adding new video security services to their offerings, and raised their price target on the stock to $14 a share. Northland Capital went further, upping its price target on Ooma stock to $15, and saying the quarter was "strong" for Ooma.

Meanwhile at Merrill Lynch, analysts were more circumspect. Calling the Ooma's numbers "slightly better" than what we've seen before, Merrill upgraded Ooma stock and upped its price target by 40% to $14 a share. Merrill also noted accelerating growth in Ooma's Telo business and said Ooma's "Office" segment servicing business customers is also growing.

Why not "buy"?

And yet, Merrill Lynch couldn't quite bring itself to recommend buying Ooma, and upgraded the stock only to neutral. Why?

Well, as the analyst pointed out, Ooma's results were only "slightly" better in Q4 2017 than in the year-ago quarter. The company still lost money in Q4 -- and even more money for the year as a whole. Sales, while growing 10% all year long, aren't exhibiting the kinds of hypergrowth that might interest an investor willing to overlook a lack of profits today in hopes of seeing even greater profits once margins on rapidly rising revenue turn a corner.

At a market capitalization roughly two times trailing sales, Ooma may not be outrageously overpriced for a tech stock. Still, it would be nice to have at least some profits on which to hang a P/E valuation on, in order to get a better idea of whether the stock is priced attractively.

What comes next?

When might that happen? When could Ooma turn profitable? Not this year, certainly.

In yesterday's earnings report, management guided investors to expect a net loss per share between $0.19 and $0.21 in Q1 of this fiscal year, and a full-year loss between $0.73 and $0.85 -- roughly four times the expected Q1 loss, and thus showing no sign of losses continuing to shrink over time. (To the contrary -- Ooma appears to be promising it will lose more money this year, than it did last year.)

Indeed, according to S&P Global estimates, Ooma will lose more money both this year and next year than it lost last year. As buy theses go, this one seems kind of weak -- and Merrill Lynch is right to hold off on recommending Ooma stock until things look better.

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Rich Smith has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.