It’s typical for start-ups to lose money. They spend nearly every penny they have on sales, marketing, research, and hiring in order to increase income as quickly as possible.

But, eventually, the tide begins to turn. A company must ultimately be shown to be profitable in order for it to be judged a successful enterprise. Otherwise, it will be dismissed as a failure and investors will immediately move away.

Cloudflare, a cloud services firm, may be on the verge of a major milestone (8.97% NET ). Let’s take a look at the “big tell” that suggests this firm could soon make money – and why it couldn’t have come at a better time.

The big “tell” of what’s to come

Negative earnings-per-share (EPS) may lead some investors to overlook a firm if its EPS is negative. However, this simply tells you so much, as bottom-line profits are frequently the last measure to improve. You may discover more substantial signals that a firm’s operations are progressing toward profitability by delving deeper into its financials.

What’s another indication that earnings are on the way? Free cash flow (FCF), also known as after-cash flow, is a financial term used to describe the amount of money left over after a company has spent all of its funds. This quantity might be expensed and converted to cash on the balance sheet if unutilized. When a firm generates free cash flow, it’s typically unlikely to need to issue new shares – however corporations sometimes do it just for the sake of having more money. A positive FCF indicates that a business is getting healthier financially.

Cloudflare’s cash flow is now positive. Over time, Cloudflare has made steady progress. A few years ago, Cloudflare burned $0.45 of revenue for every dollar earned, which would be unsustainable over time. But Cloudflare has increased revenue from $287 million in 2019 to $656.4 million in 2021, outpacing its costs and bringing Cloudflare closer to profitability. In Q4 of 2021, Cloudflare generated positive free cash flow of $8.6 million, or 4% of revenue

Cloudflare isn’t yet profitable because of certain non-cash costs, such as stock-based compensation for staff. However, Cloudflare’s ability to produce positive cash flow is significant progress. If revenue continues to rise in the future, we can anticipate FCF to rise as well. A look at the company’s revenue growth pattern might provide investors more confidence in the near future that good earnings are around the corner.

Why it’s excellent timing

As a company grows, its growth may begin to slow down. However, Cloudflare appears to be increasing revenue at an accelerated rate, with a 52% year-over-year increase in revenue for the most recent fiscal year.

It is certainly possible that the most essential question to ask is: What is causing this expansion? Cloudflare began as a content delivery network (CDN) with servers worldwide. Over time, Cloudflare has expanded its CDN service while also developing new services, such as security and computer services.The company’s growth has accelerated with the introduction of new functionality, allowing it to attract a larger market. From $32 billion in 2018, Cloudflare’s addressable market has expanded to $86 billion by 2022 thanks to these innovative features. Customers have embraced Cloudflare’s new services and spent more on them over time, as seen in the 125 percent dollar-based net revenue retention rate in fourth quarter 2022.

According to the company, revenue is expected to grow from $656.4 million in 2021 to $932 million in 2022, a 22% increase. Meeting this goal would represent an improvement of 42 percent over the previous year, which was slower than the 51 percent compound annual growth rate between 2016 and 2021. Cloudflare has beaten Wall Street analyst revenue expectations every quarter since its IPO, so it wouldn’t be a surprise if actual revenue growth reaches 50% or more once again by year’s end.

Investor takeaway

The market has a lot of respect for Cloudflare: the stock presently sports a low P/S ratio of around 60. Some may claim that Cloudflare’s lack of profitability and 50 percent revenue growth do not justify such a high P/S ratio.

However, earnings may be on the verge of becoming reality. Cloudflare’s prospects are brighter than ever before as it invests in new technologies. Investors can anticipate even more development from Cloudflare as it continues to innovate. By 2024, management expects its addressable market to be worth $100 billion.

Author: Steven Sinclaire

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