Software is rapidly reducing operating expenses for businesses. Companies bringing it to life have been rewarded with high valuation multiples that make fundraising easier, but they have weighed on the returns lately as the industry has pulled back by 8.3% over the past six months. This performance is a stark contrast from the S&P 500’s 11.3% gain.

A cautious approach is imperative when dabbling in these businesses as their valuations could plummet if AI disrupts their earnings potential. Taking that into account, here are three software stocks we’re passing on.

Rapid7 (RPD)

Market Cap: $488.5 million

With its name inspired by the need for quick responses to cyber threats, Rapid7 (NASDAQ: RPD) provides cybersecurity software and services that help organizations detect vulnerabilities, monitor threats, and respond to security incidents.

Why Do We Pass on RPD?

1. Offerings struggled to generate interest as its billings were flat over the last year
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. Expenses have increased as a percentage of revenue over the last year as its operating margin fell by 1.7 percentage points

Rapid7’s stock price of $7.18 implies a valuation ratio of 0.6x forward price-to-sales. Read our free research report to see why you should think twice about including RPD in your portfolio.

ZoomInfo (GTM)

Market Cap: $1.08 billion

Operating a platform it calls "RevOS" - short for Revenue Operating System - ZoomInfo (NASDAQ: GTM) provides sales, marketing, and recruiting teams with business intelligence and analytics to identify prospects and deliver targeted outreach.

Why Do We Avoid GTM?

1. Billings didn’t grow over the last year, suggesting the company struggled to sell its software and might have to lower prices to stimulate growth
2. Estimated sales decline of 5.9% for the next 12 months implies an even more challenging demand environment
3. Capital intensity will likely increase as its free cash flow margin is anticipated to drop by 4.2 percentage points over the next year

At $3.69 per share, ZoomInfo trades at 1x forward price-to-sales. Dive into our free research report to see why there are better opportunities than GTM.

Bentley Systems (BSY)

Market Cap: $10.44 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 12.8% over the last year, suggesting that competition is pulling some attention away from its software
2. Demand will likely be soft over the next 12 months as Wall Street’s estimates imply tepid growth of 11.9%
3. Static operating margin over the last year shows it couldn’t become more efficient

Bentley Systems is trading at $33.69 per share, or 6.1x forward price-to-sales. To fully understand why you should be careful with BSY, check out our full research report (it’s free).

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