The Power of Growth
Something pretty amazing just happened. Look at the year-over-year sales growth data below.
Source: S&P’s CapitalIQ
Your eyes haven’t deceived you. The three largest companies in the S&P 500, as measured by market capitalization, delivered accelerated sales growth in the quarter ending in March 2018. This is a very impressive spell of performance.
This isn’t supposed to happen
As companies get larger, sales growth usually moderates over time. It becomes harder for companies to find new customers for their products and services. There’s always plenty of competition should a business want to break into a new market. And it can be expensive and risky for management teams to make the necessary investments. Plus, let’s not forget simple math: It’s usually harder to increase sales by $1 billion, from $5 billion to $6 billion, than by $100 million, from $500 million to $600 million.
So, how did this happen?
Apple launched its new iPhones, and new and existing customers bought quite a few of them at higher average prices. In addition, the company recently sold more watches, another product Apple has upgraded. And customers continue to buy more services from Apple to get more and more out of their devices.
Amazon.com generated more sales from third-party sellers, a big initiative at the e-commerce giant. In addition, Amazon Web Services continues to attract more clients and is seeing more spending from existing clients. Lastly, Amazon has been deliberately, but with little fanfare, gaining traction in the digital advertising market.
Just under 0.5% of Alphabet’s revenue comes from its “Other Bets” segment. So we’re really only interested in Google, which continues to sell more ads through search ads and YouTube. Google Play and Google’s hardware initiative keep delivering excellent sales growth as well: they’re up 36% this year to $4.35 billion during the quarter. Who knew Alphabet would be so good at selling media and hardware?
No really, how did they do it?
Sales growth doesn’t just happen. It takes a considerable amount of time, effort, and money to generate sales, let alone sales growth. And if you’re an enormous corporation such as the aforementioned business, it’s very difficult to actually accelerate sales growth.
But that’s the power of growth. If you’re a business with good economics and a smart management team that knows how to use its advantages to compete effectively, there are considerably more opportunities for the taking. What’s more, those businesses have the cash flow necessary to fund multiple investment ideas. And not every project has to succeed in order for shareholders to benefit.
Let’s go back to Amazon.com. Yes, management’s investments in Amazon Web Services have been a smashing success. But Amazon’s foray into phones and tablets didn’t work out. Neither have many other investments Amazon made. But the company is strong enough to absorb today’s and tomorrow’s failures. More importantly, I am confident that management used what it learned from marketing phones and tablets to launch its line of Home products, which are currently selling very well and driving additional growth.
The investments we prefer to make
At Motley Fool Asset Management, we prefer to make investments in high-quality companies that we think have the ability to grow sales and cash flow for many, many years. And we prefer to pay reasonable prices for their stock.
That’s why we’re happy to own shares of Apple, Amazon.com, and Alphabet in our Global Opportunities Fund, as they have all of the qualities we look for in a company. But we’re always looking for new growth-oriented investment opportunities. To do so, we assess every company we study using four parameters: management and culture, business economics, competitive advantage, and growth opportunities.
We believe if a company scores highly in all of these categories, there’s a good chance it can grow and create value for shareholders for long periods of time. And if we pay a reasonable price for that growth and value creation, there’s a good chance the company’s stock can beat the market and generate good returns in the process. We can’t be certain that will happen, but we do believe it puts the odds a little more in our favor.
That’s another benefit of growth. Studies show that the stock market is not very good at properly evaluating companies that can grow sales and cash flow for long periods of time. So, if we can use our process to thoughtfully identify those great businesses and understand how they can generate excellent long-term financial performance, the stock market tends to reward those investors handsomely.
The Foolish bottom line
We’ve built our investing philosophy at Motley Fool Asset Management to harness the power of growth. Growth companies that can generate lots of cash flow have an advantage in the marketplace, as they can make more investments in their future. Additionally, the market doesn’t tend to value growth companies very well, setting up opportunities for investors to take advantage of this long-term mispricing. And your team practically tap dances to work every morning, evaluating all sorts of great growth companies from around the world and looking for those wonderful investment opportunities to put into our funds on behalf of shareholders.
For fund holdings for the Motley Fool Global Opportunities Fund, please click here.
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