The Russell 2000 is packed with potential breakout stocks, thanks to its focus on smaller companies with high growth potential. However, smaller size also means these businesses often lack the resilience and financial flexibility of large-cap firms, making careful selection crucial.
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 avoid and better alternatives to consider.
C3.ai (AI)
Market Cap: $2.79 billion
Founded in 2009 by enterprise software veteran Tom Seibel, C3.ai (NYSE: AI) provides software that makes it easy for organizations to add artificial intelligence technology to their applications.
Why Are We Wary of AI?
- Annual revenue growth of 16.4% over the last three years was below our standards for the software sector
- Sky-high servicing costs result in an inferior gross margin of 59.9% that must be offset through increased usage
- Customer acquisition costs take a while to recoup, making it difficult to justify sales and marketing investments that could increase revenue
C3.ai is trading at $21 per share, or 6.1x forward price-to-sales. Read our free research report to see why you should think twice about including AI in your portfolio.
Life Time (LTH)
Market Cap: $6.57 billion
With over 150 locations and gyms that include saunas and steam rooms, Life Time (NYSE: LTH) is an upscale fitness club emphasizing holistic well-being and fitness.
Why Does LTH Give Us Pause?
- Weak same-store sales trends over the past two years suggest there may be few opportunities in its core markets to open new locations
- Cash-burning tendencies make us wonder if it can sustainably generate shareholder value
- High net-debt-to-EBITDA ratio of 6× could force the company to raise capital at unfavorable terms if market conditions deteriorate
At $30.20 per share, Life Time trades at 26.1x forward price-to-earnings. Check out our free in-depth research report to learn more about why LTH doesn’t pass our bar.
CTS (CTS)
Market Cap: $1.25 billion
With roots dating back to 1896 and a global manufacturing footprint, CTS (NYSE: CTS) designs and manufactures sensors, connectivity components, and actuators for aerospace, defense, industrial, medical, and transportation markets.
Why Do We Think CTS Will Underperform?
- Annual sales declines of 6.3% for the past two years show its products and services struggled to connect with the market during this cycle
- Smaller revenue base of $515.8 million means it hasn’t achieved the economies of scale that some industry juggernauts enjoy
- Falling earnings per share over the last two years has some investors worried as stock prices ultimately follow EPS over the long term
CTS’s stock price of $41.55 implies a valuation ratio of 17.6x forward price-to-earnings. To fully understand why you should be careful with CTS, check out our full research report (it’s free).
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