These 2 stocks carry a lot of risk, but their advantage is huge

Investing in stocks can be risky business. Buying a stock does not guarantee an investor a return on that investment. Moreover, it does not even guarantee an investor a return on his initial investment.

This risk is exacerbated when you invest in companies that have not established a consistent sequence of positive and increasing earnings. The flip side is that sometimes a higher risk means a potentially greater reward. This is the case with Pinterest (NYSE: PINS) and DraftKings (NASDAQ: DKNG), which has not yet generated consistent profits, but whose enormous potential makes the investment worthwhile.

Image source: Getty Images.

Pinterest

Pinterest is an image-based social media company that is free to join and use. Giving something of value for free usually results in a lot of takers. That was true for Pinterest, which had 444 million monthly active users in the fiscal third quarter ended September 30. That’s 2 million more than the same time last year, but more importantly, it’s down 24 million from the previous two quarters.

The company attracted millions of new users during the early stages of the pandemic, when people were spending more time at home. Now that the economies are reopening, Pinterest is rapidly losing users. This is where one of the risks of investing in Pinterest lies; it’s unclear for how long and how many Pinterest users will lose as the savings reopen.

Since Pinterest is free to join and use, it makes money by showing ads to consumers browsing its site and app. Revenue increased from $ 473 million in 2017 to $ 1.7 billion in 2020. However, Pinterest generated operating losses of over $ 1.5 billion during that time period. It is not known if or when the business will generate consistent profits.

The risks are obvious for this social media business, but the huge opportunity makes the investment worthwhile. According to GroupM, global ad spend will increase by 22.5% to reach $ 763 billion in 2021. In addition, digital advertising accounts for a larger share of overall ad spend, estimated at 64.4% in 2021, compared to 52. 1% in 2019.

With $ 1.7 billion in revenue in 2020, Pinterest is still only a tiny part of the global advertising industry. It can grow to take a larger share of the market, which allows it to break through to profitability.

DraftKings

DraftKings is an Internet gaming company. People can go to DraftKings to play daily fantastic sports, bet on a sporting event, or play online casino style games like Blackjack. That is, of course, if you are in one of the states in which it is authorized to operate. DraftKings operates a mobile bookie in just 15 states and offers iGaming services in just five.

DraftKings is at the mercy of state legislatures to legalize and approve it to operate within their jurisdiction. Even if they grant the operating license, the terms may not be favorable. For example, DraftKings was recently licensed to operate in New York State. Indeed, adding the populated state could be lucrative for DraftKings, but the state is asking for 51% of gross gaming revenue in exchange for licensing DraftKings.

The hefty expense every time it launches into a new state adds to the risk of DraftKings. Management estimates that revenue will reach $ 1.26 billion in 2021, higher multiples than the $ 192 million in revenue earned in 2017. However, the losses to bottom line add up. In the nine months ended September 30, it has already lost $ 1.2 billion.

Nonetheless, DraftKings offers investors a substantial advantage. Once the company completes its expansion into new territories, spending on marketing and promotion could drop significantly. Additionally, operating a mobile gaming company could be more profitable than traditional casinos. DraftKings doesn’t need to build and maintain huge buildings, which could cost billions.

Yet before the pandemic disrupted the industry, some of these large casino operators were achieving consistently above double-digit operating profit margins with several billion in revenue. Remember the phrase, “the house always wins.” Digitally native DraftKings has the potential to deliver better profit margins and higher revenues.

Overall, Pinterest and DraftKings stocks are risky investments, but the massive rewards are well worth it for long-term investors.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are motley! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.

Martin E. Berry