Reddit (RDDT) Stock: Buy Before Earnings or Justified Sell-off?
Reddit's stock performance has been a subject of intense debate among investors, especially with its upcoming second-quarter earnings report. The company's shares have experienced a notable decline, largely influenced by reports of strained negotiations with Google regarding their data licensing agreement. This situation has led to questions about the long-term viability of Reddit's data monetization strategy and the potential impact of evolving AI search technologies on its advertising revenue. Despite these challenges, Reddit has demonstrated impressive financial and user growth metrics since its initial public offering in 2024, presenting a complex picture for potential investors.
A recent Wall Street Journal report indicated that Reddit might restrict Google's access to its platform content for AI training, as discussions over their data-licensing deal faced complications. This news caused a nearly 9% drop in Reddit's stock. The existing agreement, signed in 2024, is valued at $60 million annually, representing less than 2% of Reddit's trailing revenue. However, the market's reaction suggests that the symbolic implications of Reddit potentially walking away from a major AI partner outweigh the immediate financial impact. This raises concerns about the durability of Reddit's data business and whether Google's AI-driven search results are already affecting the referral traffic crucial for Reddit's operations.
Despite these market anxieties, Reddit's operational performance has been strong. Since its 2024 IPO, the company has consistently exceeded analyst expectations. Revenue growth has accelerated, with a 61% year-over-year increase in the first quarter of 2025, followed by a 69% rise in the most recent quarter. Diluted earnings per share (EPS) surged sevenfold during this period, and free cash flow saw a 145% increase in the first quarter. Furthermore, Reddit boasts a gross margin of 91% and a net income margin of 29%, figures that significantly surpass those of many of its social media competitors. User engagement also continues to grow, with weekly active users increasing by 23% year-over-year to approximately 493 million. International daily active users showed an even faster growth rate, rising 26% to 73.3 million, now constituting 58% of Reddit's total 127 million daily active users. Advertising revenue grew by 74% year-over-year, reaching $625 million, supported by Reddit's ongoing efforts to expand content translation into 30 languages, further bolstering its international user base.
From a valuation perspective, Reddit trades at 24 times forward earnings, which is an 84% premium compared to the sector median of 13 times. However, this premium appears less significant when considering Reddit's rapid growth. Its revenue has climbed 71% over the past 12 months, in stark contrast to the peer average of 3%. Similarly, diluted EPS has soared by over 430% against a peer average of 7%. On a Price/Earnings to Growth (PEG) basis, Reddit trades at 0.55, representing a 57% discount to the peer average of 1.26. Wall Street analysts generally hold a positive outlook, with an average price target ranging from $221 to $227, suggesting a potential upside of over 30% from current levels. Nevertheless, a recent analysis of short-seller activity and hedge fund sentiment indicates a strong negative outlook for the stock ahead of its earnings report.
The core risk for Reddit remains its relationship with Google. If Google's AI search summaries continue to reduce the click-through traffic Reddit receives from search engines, it could negatively impact not only its licensing business but also its advertising revenue. Reddit's CEO, Steve Huffman, has asserted that Google relies more on Reddit's data than Reddit relies on any single AI partner, suggesting that a renegotiated, usage-based deal could potentially increase Reddit's revenue. However, until a new agreement is finalized, the outcome remains uncertain. Reddit's guidance for the quarter projects revenue growth between 43% and 45%, but Wall Street consensus estimates are higher, between 47% and 49%. The previous year's quarter saw significant revenue growth of nearly 78%, making this quarter a challenging comparison. If growth decelerates towards the mid-30s while Google negotiations stall, the stock's premium valuation could be difficult to sustain.
