Why AppLovin Stock Sank 16% This Week

Shares of AppLovin (NASDAQ: APP) sank over 16% this week, according to data from S&P Global Market Intelligence. The fast-growing digital advertising company saw selling pressure due to a report from Bloomberg about an investigation into its data collection practices from the Securities and Exchange Commission (SEC).

As of this writing at 2:08 p.m. ET on Friday, Oct. 10, AppLovin stock is down 16% this week. Here's the skinny on why the stock is falling, and whether it is a buy for your portfolio today.

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Investigation report

Bloomberg reported that the SEC is investigating AppLovin over illegal data collection practices for targeting customers for advertisements. It is unclear exactly if AppLovin violated any rules, but short selling firms have claimed the company is illegally collecting personal data from mobile applications such as TikTok in order to target advertisements. As an online advertiser, this would be a large violation for the company and could lead to a fine paid to the government. What's more, it may impact future revenue generation if it is currently targeting advertisements at a much more precise level than is permissible today.

AppLovin stock tanked earlier this week on the news, recovered some of these losses, and then slowly saw a decline in its share price along with a broad market sell-off late in the week. The company has been a huge winner in recent years, with shares up 300% in the last 12 months alone. Last quarter, AppLovin's revenue grew 77% to $1.26 billion. In the last five years, its revenue is up 266%, which shows how rapidly its advertising solutions are being adopted.

Should you buy AppLovin stock?

Even without this investigation, AppLovin stock is trading at a premium price. It has a price-to-sales ratio (P/S) of 37, which is close to an all-time high and significantly higher than the S&P 500 average of 3.4. Yes, revenue is growing quickly, but a P/S ratio of 37 implies huge growth expectations just to maintain the current stock price level.

Digital advertising is a tough field to compete in and is dominated by the large technology companies. This presents a huge opportunity for AppLovin, but also a risk to its business. Add on these short selling reports and SEC investigation that could put a kink in its growth trajectory, and AppLovin looks like a risky overvalued stock right now. Avoid buying shares for your portfolio today.

Brett Schafer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.