Q2 Holdings has been treading water for the past six months, recording a small loss of 4.1% while holding steady at $78.18.

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We're sitting this one out for now. Here are three reasons why QTWO doesn't excite us and a stock we'd rather own.

Why Is Q2 Holdings Not Exciting?

Founded in 2004 by Hank Seale, Q2 (NYSE:QTWO) offers software-as-a-service that enables small banks to provide online banking and consumer lending services to their clients.

1. Long-Term Revenue Growth Disappoints

Examining a company’s long-term performance can provide clues about its quality. Any business can have short-term success, but a top-tier one grows for years. Over the last three years, Q2 Holdings grew its sales at a 11.7% annual rate. Although this growth is acceptable on an absolute basis, it fell short of our standards for the software sector, which enjoys a number of secular tailwinds.

2. Low Gross Margin Reveals Weak Structural Profitability

For software companies like Q2 Holdings, gross profit tells us how much money remains after paying for the base cost of products and services (typically servers, licenses, and certain personnel). These costs are usually low as a percentage of revenue, explaining why software is more lucrative than other sectors.

Q2 Holdings’s gross margin is substantially worse than most software businesses, signaling it has relatively high infrastructure costs compared to asset-lite businesses like ServiceNow. As you can see below, it averaged a 50.9% gross margin over the last year. Said differently, Q2 Holdings had to pay a chunky $49.10 to its service providers for every $100 in revenue.

3. Operating Losses Sound the Alarms

While many software businesses point investors to their adjusted profits, which exclude stock-based compensation (SBC), we prefer GAAP operating margin because SBC is a legitimate expense used to attract and retain talent. This metric shows how much revenue remains after accounting for all core expenses – everything from the cost of goods sold to sales and R&D.

Although Q2 Holdings broke even this quarter from an operational perspective, it’s generally struggled over a longer time period. Its expensive cost structure has contributed to an average operating margin of negative 6.1% over the last year. Unprofitable software companies require extra attention because they spend heaps of money to capture market share. As seen in its historically underwhelming revenue performance, this strategy hasn’t worked so far, and it’s unclear what would happen if Q2 Holdings reeled back its investments. Wall Street seems to be optimistic about its growth, but we have some doubts.