The Russell 2000 (^RUT) is home to many small-cap stocks, offering investors the chance to uncover hidden gems before the broader market catches on. However, these companies often come with higher volatility and risk, as their smaller size makes them more vulnerable to economic downturns.
Navigating this part of the market can be tricky, which is why we built StockStory to help you separate the winners from the laggards. That said, here are three Russell 2000 stocks to steer clear of and some alternatives to watch instead.
Sprout Social (SPT)
Market Cap: $565.3 million
Born from the recognition that businesses needed a centralized way to handle their growing social media presence, Sprout Social (NASDAQ:SPT) provides a comprehensive software platform that helps businesses manage, analyze, and optimize their presence across various social media networks.
Why Does SPT Give Us Pause?
- Products, pricing, or go-to-market strategy may need some adjustments as its 11.1% average billings growth over the last year was weak
- Estimated sales growth of 11% for the next 12 months implies demand will slow from its two-year trend
- Track record of operating margin losses stem from its decision to pursue growth instead of profits
Sprout Social is trading at $9.55 per share, or 1.1x forward price-to-sales. Check out our free in-depth research report to learn more about why SPT doesn’t pass our bar.
Herc (HRI)
Market Cap: $3.98 billion
Formerly a subsidiary of Hertz Corporation and with a logo that still bears some similarities to its former parent, Herc Holdings (NYSE:HRI) provides equipment rental and related services to a wide range of industries.
Why Do We Think Twice About HRI?
- Performance over the past two years shows its incremental sales were much less profitable, as its earnings per share fell by 15.2% annually
- Free cash flow margin dropped by 9.4 percentage points over the last five years, implying the company became more capital intensive as competition picked up
- 6× net-debt-to-EBITDA ratio makes lenders less willing to extend additional capital, potentially necessitating dilutive equity offerings
Herc’s stock price of $119.73 implies a valuation ratio of 16.1x forward P/E. To fully understand why you should be careful with HRI, check out our full research report (it’s free for active Edge members).
MillerKnoll (MLKN)
Market Cap: $961.3 million
Created through the 2021 merger of industry icons Herman Miller and Knoll, MillerKnoll (NASDAQ:MLKN) designs, manufactures, and distributes interior furnishings for offices, healthcare facilities, educational settings, and homes worldwide.
Why Do We Think MLKN Will Underperform?
- Products and services are facing significant end-market challenges during this cycle as sales have declined by 2.1% annually over the last two years
- Demand will likely be soft over the next 12 months as Wall Street’s estimates imply tepid growth of 1.2%
- Earnings per share fell by 7.2% annually over the last five years while its revenue grew, showing its incremental sales were much less profitable
At $14.04 per share, MillerKnoll trades at 7.2x forward P/E. Dive into our free research report to see why there are better opportunities than MLKN.
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