The Elusive Value Of Growth Stocks
While the U.S. presidential election is still more than a year away, many Americans already feel campaign fatigue from the barrage of recent debates.
One debate never grows old among stock investors: Growth or value? We don't view it as necessary to choose one over the other. Our ideal stock candidates exhibit traits from both categories, solid growth at an attractive price.
With that in mind, we are always looking for growth names with decent valuations. The pool of contenders is currently shallow.
Growth stocks in the Dow Jones U.S. Index have averaged a total return of 12% over the past 12 months, well ahead of the 3% return for value stocks. Although growth has lagged in the past three months, the pullback hasn't made the stocks especially cheap. They trade at an average of 25 times trailing earnings, versus an average of 18 for value stocks and the broader index's average of 21.
Alert investors can still find decent values for growth stocks within certain pockets of the Dow Jones U.S. Index, as indicated in the table below. The average industrial growth stock has underperformed in the past year, making its valuation attractive based on both trailing and forward earnings. The consumer-discretionary and materials sectors also look cheap relative to estimated earnings for the current and next fiscal years.
Just 33 of the 473 Dow Jones U.S. Index growth stocks grew earnings per share by at least 10% in the past 12 months and have trailing P/E ratios below 15. Interestingly, more than one-third of these stocks have market values below $3 billion, showing that you can find good values among the index's smallest members.
Below we review five stocks that have built a solid growth record yet remain attractively valued. Another, Southwest Airlines ($45; LUV), is reviewed in Analysts' Choice.
Alphabet ($737; GOOGL), the company formerly known as Google, posted robust September-quarter results and launched a stock-repurchase plan, causing shares to surge to a record high. Per-share profits advanced 18% to $7.35, versus the consensus of $7.21. Revenue, up 13% to $18.68 billion, also exceeded analyst expectations. At constant currency, sales rose 21%. Advertising revenue increased 13% to $16.78 billion, as 23% growth in paid clicks (the number of online ads users clicked on) more than offset an 11% decline in cost-per-click (average ad price). Sales from the company's other ventures climbed 11% to $1.89 billion. Cash from operations held virtually flat.
Cash net of debt rose 19% to $67.54 billion, and investors cheered that they will finally get a piece of Google's cash hoard, if only indirectly. Under the first stock-buyback plan in its history, Alphabet said it will repurchase up to $5.10 billion of its Class C shares, which trade under the ticker GOOG. Although Google earns a QuadrixÂ® Value rank of just 28, the company's operating momentum and investor-friendly actions could propel the shares higher. At 27 times trailing earnings, the stock trades at a 14% discount to its 10-year average P/E ratio. Alphabet is a Focus List Buy and a Long-Term Buy.
JetBlue ($25; JBLU) commenced service in 2000 and has become the fifth-largest passenger airline in the U.S. by capacity. The stock scores above 60 for all six Quadrix category scores, contributing to an Overall score of 99. In the September quarter, JetBlue's per-share profits jumped 142% to $0.58 from $0.24, a penny above the consensus. Operating revenue rose 10% to $1.69 billion.
The airline's profitability has surged amid lower fuel prices. By declining to hedge any of its expected fuel needs in 2016, management is betting fuel prices will remain low. There are some concerns regarding the pricing environment for the budget airlines, as revenue per available seat mile is on the decline. However, JetBlue is enjoying strong demand for its Mint service, which offers premium seating for business travelers, and continues to expand capacity in this program that was launched in June 2014. JetBlue is rated Best Buy at sister publication Upside.
Among Dow Jones U.S. growth stocks, Lam Research ($76; LRCX) is one of three in the technology sector to score above 80 in Quadrix for both Momentum and Value. Its sales grew at an annualized rate of 20% over the past five fiscal years ended in June. Fiscal 2016 has gotten off to a strong start, with Lam posting 39% higher revenue in the September quarter; the consensus projects 28% growth for the full fiscal year. The stock trades at just 13 times estimated earnings for the year.
Free cash flow climbed 23% in the 12 months ended September, pushing cash net of debt to $1.96 billion, or more than $11 per share. Lam's strong balance sheet emboldened management to agree to acquire KLA-Tencor ($66; KLAC) in a cash-and-stock deal valued at $10.6 billion. The deal figures to give Lam a 42% share of the wafer-fabrication-equipment market. Management claims there is zero product overlap between the two companies, meaning it is less likely to face the regulatory opposition that sank rival Applied Materials' ($17; AMAT) plans to acquire Tokyo Electron for $29 billion in April. Lam is a Buy and a Long-Term Buy.
Per-share profits for staffing agency Robert Half International ($52; RHI) surged 23% for the 12 months ended September on 10% higher sales. The staffing company's operating profit margins have risen in 22 straight quarters. Profit margins could have room to expand further, given Robert Half's improved pricing power. A focus on midsized companies allows Robert Half to command above-market rates, and recent pricing growth remains below the average rate experienced in the last positive economic cycle that ended in 2008, suggesting a long runway ahead for wage inflation.
In the first two weeks of October, management said revenue growth for its temporary and consulting business accelerated to 9%, up from 7% in September. Robert Half's December-quarter guidance calls for per-share profit growth of 8% to 16% on sales growth of 5% to 9%. Robert Half is a Buy and a Long-Term Buy.
Despite operating in a highly cyclical industry, Thor Research ($54; THO), the largest maker of recreational vehicles in North America, has been profitable every year since its 1980 launch. In fiscal 2015 ended July, Thor grew per-share profits 15%, revenue 14%, and cash from operations 66%.
Thor seems capable of continuing that growth. The consensus projects 22% higher per-share profits on 10% higher sales in fiscal 2016. Yet shares trade at just 12 times estimated year-ahead earnings, versus the median of 19 for Dow Jones U.S. growth stocks in the consumer-discretionary sector. At 14 times trailing earnings, the stock also fetches a 14% discount to its five-year average and a 34% discount to the growth-stock median. As evidence of management's confidence in future prospects, Thor raised its quarterly dividend 11% in October. Yielding 2.2%, Thor is rated Buy in our sister publication Upside, which focuses on small-cap stocks.