Super Micro Computer (NASDAQ: SMCI), more commonly known as Supermicro, was one of the hottest artificial intelligence (AI) stocks this year. Its shares closed at a record high of $1,188.07 on March 13, representing a 2,760% gain over the previous two years, as its sales of dedicated AI servers skyrocketed.

But as of this writing, Supermicro’s stock trades at $424. Four issues caused that slide: concerns about its declining gross margins, troubling allegations from a prolific short-seller, a delayed filing of the company’s annual report, and Nvidia‘s (NASDAQ: NVDA) decelerating sales growth. Let’s see if investors should buy or avoid this fallen AI stock.

The bull case for Supermicro

Supermicro controls a smaller slice of the server market than Dell Technologies or Hewlett Packard Enterprise, but it carved out a niche with its high-performance liquid-cooled servers. That strategy made Supermicro an ideal partner for Nvidia, which provided the company with a steady supply of its high-end data center GPUs.

As a result, Supermicro’s sales of dedicated AI servers skyrocketed as the rapid expansion of the AI market drove many companies to upgrade their data centers. The company’s revenue rose only 7% in fiscal 2021 (which ended in June 2021) but surged 46% in fiscal 2022, 37% in fiscal 2023, and 110% in fiscal 2024 as those AI tailwinds kicked in. Analysts expect its revenue to grow another 89% in fiscal 2025 and 12% in fiscal 2026.

Bank of America estimates that Supermicro already controls 10% of the dedicated server market, and it expects it to grow its share to 17% within the next three years as the entire market expands 150%. The bulls believe that Supermicro’s booming AI server business, which already accounts for over half of its revenue, will offset its slower sales of traditional servers. That’s why its stock has rallied alongside Nvidia’s over the past two years.

The bear case against Supermicro

Supermicro has grown like a weed over the past year, but a few cracks in the bull thesis appeared during its fourth-quarter earnings report on Aug. 6. Its 144% year-over-year revenue growth exceeded Wall Street’s expectations, but its 78% adjusted earnings growth broadly missed the consensus forecast for 130% growth.

Data source: Super Micro Computer. YOY = year over year.

The main culprit was the gross margin, which fell both sequentially and year over year as the company sold a less lucrative mix of mostly lower-margin products and ramped up spending on its newest direct liquid cooling (DLC) solutions. That contraction is troubling because it indicates Supermicro is selling its AI servers at considerably lower margins than its traditional servers.

That loss of pricing power was already weighing down Supermicro’s stock when Hindenburg Research released a short-seller report on Aug. 27. Short-sellers make money when a stock on which they are “short” falls. The firm alleges Supermicro “faces significant accounting, governance and compliance issues and offers an inferior product and service being eroded away by more credible competition.” It points out that Supermicro’s cloud deal with Amazon Web Services (AWS) ultimately failed and that its “exclusive” deal with Tesla actually ended when the EV maker struck a similar deal with Dell this May.

Hindenburg leveled other allegations and the following day Supermicro postponed its 10-K filing, saying it needed “additional time” to assess its “internal controls over financial reporting.” Its stock plummeted after that startling announcement, and it continued dropping after Nvidia posted its latest earnings report — which featured strong but slowing sales of its data center chips.

Is it time to buy or sell Supermicro’s stock?

Supermicro’s stock trades at just 13 times forward earnings after its near-40% decline over the past month. That’s a low valuation, but its shrinking gross margins, the troubling short-seller accusations, and its delayed 10-K filing raise some bright red flags. Its insiders also didn’t buy a single share of the stock as it collapsed over the past three months.

I thought Supermicro was an undervalued growth play after its postearnings plunge, but until Supermicro clears up the cloud around it with a clear 10-K filing, it’s smarter to avoid or sell its stock and stick with more promising AI plays instead.

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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Bank of America is an advertising partner of The Ascent, a Motley Fool company. Leo Sun has positions in Amazon. The Motley Fool has positions in and recommends Amazon, Bank of America, Nvidia, and Tesla. The Motley Fool has a disclosure policy.

Super Micro Computer’s Stock Sinks: Time to Buy or Sell? was originally published by The Motley Fool