Investor interest in software equities has deteriorated due to repeated rate rises and increased recession probabilities. However, the release of the Fed minutes indicated increased support for pausing interest rate hikes in response to data indicating cooling inflation.

In a related manner, Kansas City Fed President Esther George stated last week in an interview, “When I think about inflation today, we’ve kind of turned the tide of supply-chain, production-side shortages.”

Furthermore, according to Fortune Business Insights, the global Software as a Service market size is expected to grow at a CAGR of 27.5% from 2022 to 2028. Also, investors’ interest in software stocks is evident from the iShares North American Tech-Multimedia Networking ETF’s (IGN) 1.3% gains over the past month.

Given this backdrop, fundamentally strong software stock VMware, Inc. (VMW - Get Rating) should now be added to your watchlist. However, given the market’s increased volatility, the fundamentally weak stock Toast, Inc. (TOST - Get Rating) might be best avoided.

Stock to Buy:

VMware, Inc. (VMW - Get Rating)

VMW provides software solutions in the areas of modern applications, cloud management and infrastructure, networking, security, and digital workspaces in the United States and internationally.

On November 8, 2022, VMW and Hewlett Packard Enterprise (HPE) announced the next stage of collaboration with HPE GreenLake for VMware, bringing together HPE GreenLake and VMware Cloud to create a fully integrated solution with a straightforward pay-as-you-go hybrid cloud consumption model. This should be strategically beneficial for the companies.

Also, On November 8, VMW and Equinix, Inc. (EQIX), the world’s digital infrastructure provider, announced a global expansion of their partnership to deliver new digital infrastructure and multi-cloud services. The businesses collaborated to launch VMware Cloud on Equinix Metal®, a new distributed cloud service that will provide a more performant, secure, and cost-effective cloud option for enterprise applications.

VMW’s total revenues increased marginally year-over-year to $3.21 billion for the third quarter that ended October 28, 2022. Its Subscription and SaaS revenue increased 20.5% year-over-year to $988 million. Also, its long-term debt came in at $9.69 billion for the period ended October 28, 2022, compared to $12.67 billion for the period ended January 28, 2022.

Street expects VMW’s revenue to increase 4% year-over-year to $13.37 billion in 2023. Over the past month, the stock has gained 7% to close the last trading session at $119.26.

VMW has an overall B rating, which equates to a Buy in our POWR Ratings systems. The POWR Ratings assess stocks by 118 different factors, each with its own weighting.

VMW has an A grade for Quality and a B for Value and Stability. Within the Software – Business industry, it is ranked first among 53 stocks. Click here to see the additional POWR Ratings for Sentiment, Momentum, and Growth for VMW.

Stock to Avoid:

Toast, Inc. (TOST - Get Rating)

TOST is an all-in-one cloud-based digital technology platform designed for restaurants of all sizes. It provides a unified platform of software as a service products and financial technology solutions that provide restaurants with everything they need to run their business, including point of sale, digital ordering and delivery, marketing, and staff management.

In terms of forward EV/Sales, TOST is currently trading at 3.25x, 22.2% higher than the industry average of 2.66x. Its forward Price/Sales multiple of 3.61 is 43% higher than the industry average of 2.52.

TOST’s trailing-12-month Net Income Margin of negative 7.03% is lower than the 3.28% industry average. Its trailing-12-month EBITDA margin of negative 15.39% is lower than the 12.05% industry average.

TOST’s loss from operations came in at $85 million for the third quarter that ended September 30, 2022, up 54.5% year-over-year. Its current liabilities came in at $457 million for the period ended September 30, 2022, compared to $352 million for the period ended December 31, 2021.

Also, its total current assets came in at $1.40 billion, compared to $1.49 billion for the same period.

The company’s EPS is expected to remain negative for at least this year. Also, it missed EPS estimates in each of the trailing four quarters.

Over the past six months, the stock has lost 56.5% to close the last trading session at $18.82.

TOST’s overall D rating equates to a Sell in our POWR Ratings system. It has a D for Growth, Stability, Value, and Quality. The stock is ranked #45 in the same industry.

We’ve also rated TOST for Sentiment and Momentum. Get all TOST ratings here.

VMW shares fell $0.45 (-0.38%) in premarket trading Monday. Year-to-date, VMW has gained 2.53%, versus a -14.93% rise in the benchmark S&P 500 index during the same period.

About the Author: Rashmi Kumari

Rashmi is passionate about capital markets, wealth management, and financial regulatory issues, which led her to pursue a career as an investment analyst. With a master's degree in commerce, she aspires to make complex financial matters understandable for individual investors and help them make appropriate investment decisions. More...

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