Rackspace Stock Isn't Worth Holding on Such Weak Revenue Guidance

NEW YORK (TheStreet) -- Rackspace (RAX)  shares fell nearly 5% Tuesday in after-hours trading despite the cloud-computing services company delivering fourth-quarter earnings results that topped Wall Street estimates.

Why? Weak guidance.

The San Antonio, Texas, company sees first-quarter revenue increasing only between 2% and 3.5% year over year on a constant currency basis. Compare this to its fourth-quarter revenue jump of 15.8%, or $472 million. (Absent currency fluctuations, fourth-quarter revenue climbed 16.4% year over year.)

Rackspace cites a possible 100-basis-point negative impact on revenue growth, which it expects to come in between $477 million and $484 million in the first quarter. Full-year revenue is projected to growth between 14% and 18% on constant currency basis. The stock's valuation is also a concern, with a price to earnings ratio of 76.

Rackspace competes against Amazon (AMZN) , IBM (IBM) and Hewlett-Packard (HPQ) . Revenue growth is already hard to come by, if the guidance is any indication, and any effort to increase revenue at a higher rate than what it has done in the past just makes Rackspace's stock a riskier bet.

The company delivered a 7-cent beat in earnings per share, so the company's operational improvements are having a positive impact. But Rackspace is being priced as a growth stock. The company, by its guidance, is saying it won't live up to those expectations.

Investors are betting on future earnings, not near-term operational improvements. So it's time to sell the stock. Though the shares have a consensus buy rating, there is an implied 2% decline by its average 12-month price target of $49, given that the shares are now above that mark.

Investors should look to less-risky cloud names like the deeper-pocketed Cisco (CSCO) and Hewlett-Packard, which have price to earnings ratios of 17 and pay dividend yields of 2.87% and 1.66%, respectively. Rackspace pays no dividend, another reason to avoid this stock.

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TheStreet Ratings team rates RACKSPACE HOSTING INC as a Buy with a ratings score of B-. TheStreet Ratings Team has this to say about their recommendation:

"We rate RACKSPACE HOSTING INC (RAX) a BUY. This is driven by a number of strengths, which we believe should have a greater impact than any weaknesses, and should give investors a better performance opportunity than most stocks we cover. The company's strengths can be seen in multiple areas, such as its robust revenue growth, largely solid financial position with reasonable debt levels by most measures, increase in net income, expanding profit margins and good cash flow from operations. We feel these strengths outweigh the fact that the company has had somewhat disappointing return on equity."

You can view the full analysis from the report here: RAX Ratings Report

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

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