3 Reasons to Avoid OLO and 1 Stock to Buy Instead

Yahoo

01-04-2025

While the broader market has struggled with the S&P 500 down 1.7% since October 2024, Olo has surged ahead as its stock price has climbed by 30% to $6.29 per share. This was partly thanks to its solid quarterly results, and the performance may have investors wondering how to approach the situation.
Is there a buying opportunity in Olo, or does it present a risk to your portfolio? See what our analysts have to say in our full research report, it's free.
We're glad investors have benefited from the price increase, but we're swiping left on Olo for now. Here are three reasons why OLO doesn't excite us and a stock we'd rather own.
Founded by Noah Glass, who wanted to get a cup of coffee faster on his way to work, Olo (NYSE:OLO) provides restaurants and food retailers with software to manage food orders and delivery.
For software companies like Olo, gross profit tells us how much money remains after paying for the base cost of products and services (typically servers, licenses, and certain personnel). These costs are usually low as a percentage of revenue, explaining why software is more lucrative than other sectors.
Olo's gross margin is substantially worse than most software businesses, signaling it has relatively high infrastructure costs compared to asset-lite businesses like ServiceNow. As you can see below, it averaged a 54.9% gross margin over the last year. Said differently, Olo had to pay a chunky $45.10 to its service providers for every $100 in revenue.
While many software businesses point investors to their adjusted profits, which exclude stock-based compensation (SBC), we prefer GAAP operating margin because SBC is a legitimate expense used to attract and retain talent. This metric shows how much revenue remains after accounting for all core expenses – everything from the cost of goods sold to sales and R&D.
Olo's expensive cost structure has contributed to an average operating margin of negative 6.7% over the last year. Unprofitable, high-growth software companies require extra attention because they spend heaps of money to capture market share. As seen in its fast historical revenue growth, this strategy seems to have worked so far, but it's unclear what would happen if Olo reeled back its investments. Wall Street seems to be optimistic about its growth, but we have some doubts.
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.
Over the next year, analysts' consensus estimates show they're expecting Olo's free cash flow margin of 9.5% for the last 12 months to remain the same.
Olo isn't a terrible business, but it doesn't pass our quality test. With its shares outperforming the market lately, the stock trades at 3× forward price-to-sales (or $6.29 per share). While this valuation is reasonable, we don't really see a big opportunity at the moment. We're fairly confident there are better stocks to buy right now. We'd suggest looking at one of our all-time favorite software stocks.
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