Fastly (FSLY)

Content delivery company Fastly (NYSE:FSLY) beat Wall Street’s revenue expectations in Q1 CY2025, with sales up 8.2% year on year to $144.5 million. Its non-GAAP loss of $0.05 per share was $0.01 above analysts’ consensus estimates.

Company Overview

Founded in 2011, Fastly (NYSE:FSLY) provides content delivery and edge cloud computing services, enabling enterprises and developers to deliver fast, secure, and scalable digital content and experiences.

The amount of content on the internet is exploding, whether it is music, movies and or e-commerce stores. Consumer demand for this content creates network congestion, much like a digital traffic jam which drives demand for specialized content delivery networks (CDN) services that alleviate potential network bottlenecks.

Competitors in the content delivery network (CDN) and edge cloud computing and spaces include Akamai Technologies (NASDAQ:AKAM), Cloudflare (NYSE:NET), and Amazon Web Services (NASDAQ:AMZN).

A company’s long-term sales performance can indicate its overall quality. Any business can put up a good quarter or two, but many enduring ones grow for years. Over the last three years, Fastly grew its sales at a 14.3% annual rate. Although this growth is acceptable on an absolute basis, it fell short of our standards for the software sector, which enjoys a number of secular tailwinds.

This quarter, Fastly reported year-on-year revenue growth of 8.2%, and its $144.5 million of revenue exceeded Wall Street’s estimates by 4.8%.

Looking ahead, sell-side analysts expect revenue to grow 5.8% over the next 12 months, a deceleration versus the last three years. This projection is underwhelming and suggests its products and services will face some demand challenges.

One of the best parts about the software-as-a-service business model (and a reason why they trade at high valuation multiples) is that customers typically spend more on a company’s products and services over time.

Fastly’s net revenue retention rate, a key performance metric measuring how much money existing customers from a year ago are spending today, was 103% in Q1. This means Fastly would’ve grown its revenue by 2.7% even if it didn’t win any new customers over the last 12 months.

Despite falling over the last year, Fastly still has an adequate net retention rate, showing us that it generally keeps customers but lags behind the best SaaS businesses, which routinely post net retention rates of 120%+.

For software companies like Fastly, 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.

Fastly’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% gross margin over the last year. That means Fastly paid its providers a lot of money ($46.00 for every $100 in revenue) to run its business.

This quarter, Fastly’s gross profit margin was 53.2%, down 1.7 percentage points year on year. On a wider time horizon, the company’s full-year margin has remained steady over the past four quarters, suggesting its input costs have been stable and it isn’t under pressure to lower prices.

Fastly’s expensive cost structure has contributed to an average operating margin of negative 28.8% over the last year. Unprofitable software companies require extra attention because they spend heaps of money to capture market share. As seen in its historically underwhelming revenue performance, this strategy hasn’t worked so far, and it’s unclear what would happen if Fastly reeled back its investments. Wall Street seems to think it will face some obstacles, and we tend to agree.

Over the last year, Fastly’s expanding sales gave it operating leverage as its margin rose by 8.9 percentage points. Still, it will take much more for the company to reach long-term profitability.

Fastly’s operating margin was negative 26.4% this quarter. The company's consistent lack of profits raise a flag.

Although earnings are undoubtedly valuable for assessing company performance, we believe cash is king because you can’t use accounting profits to pay the bills.

While Fastly posted positive free cash flow this quarter, the broader story hasn’t been so clean. Fastly’s demanding reinvestments have consumed many resources over the last year, contributing to an average free cash flow margin of negative 4.6%. This means it lit $4.57 of cash on fire for every $100 in revenue.

Fastly’s free cash flow clocked in at $8.21 million in Q1, equivalent to a 5.7% margin. Its cash flow turned positive after being negative in the same quarter last year, but we wouldn’t put too much weight on the short term because investment needs can be seasonal, causing temporary swings. Long-term trends trump fluctuations.

Over the next year, analysts predict Fastly will continue burning cash, albeit to a lesser extent. Their consensus estimates imply its free cash flow margin of negative 4.6% for the last 12 months will increase to negative 1.3%.

As long-term investors, the risk we care about most is the permanent loss of capital, which can happen when a company goes bankrupt or raises money from a disadvantaged position. This is separate from short-term stock price volatility, something we are much less bothered by.

Fastly burned through $25.35 million of cash over the last year, and its $401.3 million of debt exceeds the $307.3 million of cash on its balance sheet. This is a deal breaker for us because indebted loss-making companies spell trouble.

Unless the Fastly’s fundamentals change quickly, it might find itself in a position where it must raise capital from investors to continue operating. Whether that would be favorable is unclear because dilution is a headwind for shareholder returns.

We remain cautious of Fastly until it generates consistent free cash flow or any of its announced financing plans materialize on its balance sheet.

We were impressed by how significantly Fastly blew past analysts’ EBITDA expectations this quarter. We were also happy its revenue outperformed Wall Street’s estimates. Zooming out, we think this was a good print with some key areas of upside. The stock traded up 5.7% to $6.35 immediately after reporting.

Updated: May 21, 2025 at 11:44 PM EDT

Are you wondering whether to buy Fastly or pass? We urge investors to not only consider the latest earnings results but also longer-term business quality and valuation as well.

We cheer for all companies solving complex business issues, but in the case of Fastly, we’ll be cheering from the sidelines. For starters, its revenue growth was uninspiring over the last three years, and analysts expect its demand to deteriorate over the next 12 months. And while its expanding operating margin shows it’s becoming more efficient at building and selling its software, the downside is its gross margins show its business model is much less lucrative than other companies. On top of that, its operating margins reveal poor profitability compared to other software companies.

Fastly’s price-to-sales ratio based on the next 12 months is 1.7x. While this valuation is reasonable, we don’t see a big opportunity at the moment. There are better stocks to buy right now.

Wall Street analysts have a consensus one-year price target of $6.93 on the company (compared to the current share price of $7.30).

Want to invest in a High Quality big tech company? We’d point you in the direction of Microsoft and Google, which have durable competitive moats and strong fundamentals, factors that are large determinants of long-term market outperformance.

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