From commerce to culture, software is digitizing every aspect of our lives. In the past, the undeniable tailwinds fueling SaaS companies led to lofty valuation multiples that made it easier to raise capital. But this was a double-edged sword as the high prices exposed them to big drawdowns, and unfortunately, the industry has tumbled by 21.2% over the last six months. This performance is a stark contrast from the S&P 500’s 5.1% gain.

Investors should tread carefully as only some businesses are worthy of their valuations because AI and competition will commoditize many products. On that note, here are three software stocks that may face trouble.

Unity (U)

Market Cap: $8.82 billion

Powering over half of the world's mobile games and expanding into industries from automotive to architecture, Unity (NYSE: U) provides software tools and services that allow developers to create, run, and monetize interactive 2D and 3D content across multiple platforms.

Why Are We Cautious About U?

1. Average billings growth of 3.3% over the last year was subpar, suggesting it struggled to push its software and might have to lower prices to stimulate demand
2. Demand will likely be soft over the next 12 months as Wall Street’s estimates imply tepid growth of 12.5%
3. Persistent operating margin losses suggest the business manages its expenses poorly

At $20.40 per share, Unity trades at 4.1x forward price-to-sales. Dive into our free research report to see why there are better opportunities than U.

Flywire (FLYW)

Market Cap: $1.56 billion

Initially created to solve the challenges of international student tuition payments, Flywire (NASDAQ: FLYW) provides specialized payment processing and software solutions that help educational institutions, healthcare systems, travel companies, and businesses manage complex payments.

Why Is FLYW Not Exciting?

1. High servicing costs result in a relatively inferior gross margin of 60.1% that must be offset through increased usage
2. Competitive market means the company must spend more on sales and marketing to stand out even if the return on investment is low
3. Operating profits increased over the last year as the company gained some leverage on its fixed costs and became more efficient

Flywire is trading at $12.85 per share, or 2.2x forward price-to-sales. Read our free research report to see why you should think twice about including FLYW in your portfolio.

Bentley Systems (BSY)

Market Cap: $12.19 billion

Pioneering the concept of "digital twins" for infrastructure projects long before it became an industry buzzword, Bentley Systems (NASDAQ: BSY) provides software solutions that help engineers design, build, and operate infrastructure projects across sectors including roads, bridges, utilities, mining, and industrial facilities.

Why Does BSY Fall Short?

1. ARR growth averaged a weak 12.3% over the last year, suggesting that competition is pulling some attention away from its software
2. Operating margin expanded by 1.8 percentage points over the last year as it scaled and became more efficient
3. Capital intensity will likely increase as its free cash flow margin is anticipated to drop by 3.1 percentage points over the next year

Bentley Systems’s stock price of $38.87 implies a valuation ratio of 7.6x forward price-to-sales. If you’re considering BSY for your portfolio, see our FREE research report to learn more.

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