Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 409

Single-period measures do not work for great growth companies

The growth versus value dichotomy lies in plain sight, as broad market indices such as the S&P 500 have outperformed the tech-heavy NASDAQ in recent months. These gains are in contrast to movements in calendar 2020 where tech ran strongly ahead. Investors of both persuasions are wondering whether the price of growth companies has largely been captured with value companies yet to fully reflect the 're-opening trade' as vaccinations increase, borders reopen selectively and airline bookings pick up.

We think not. Earlier this month, the Wall Street Journal published the following chart with accompanying commentary, of the quite mind-bending revenue growth numbers produced by the disruption giants in the March 2021 quarter, relative to the same period last year. These numbers show a pattern of growth accelerating coming out of the COVID year.

Remember, this group picked up steam even as COVID hit. A fall in revenue growth could have been expected as the world began the slow climb to recovery.

Doing well, even in a pandemic

These companies are recording (for the most part) their strongest quarterly revenue growth in five years. Microsoft chief Satya Nadella, on the most recent earnings conference call, said:

"Over a year into the pandemic, digital adoption curves aren’t slowing down. They’re accelerating, and it’s just the beginning. We are building the cloud for the next decade, expanding our addressable market and innovating across every layer of the tech stack to help our customers be resilient and transform.”

But the share prices of these stocks did not rise following these blow-out numbers - indeed a couple fell. In truth, they mostly rose in the weeks leading up to the results, so perhaps no further lift on the result was to be expected.

Meanwhile, there is no doubt that some of the beaten-down value players are enjoying their period in the sun, as the chart below on growth versus value shows.

Our caveat is that this value resurgence should be regarded with some circumspection. Take for instance the European car makers. On the one hand, Volkswagen, the largest car producer in the world with production of over 10 million vehicles annually, has fully embraced the electric vehicle, committing to the virtual phase-out of internal combustion engines entirely within a decade. It has been reported that VW's admittedly smaller rival, BMW, has not committed to the electric switch, with the BMW board against it because the margins are lower than for the ICE cars. Frustrated innovative, creative, and smart engineers left BMW, partly founding their own battery electric vehicle startups in China or the United States, it has been widely reported.

Traditional valuation methods do not apply to strong growth stocks

In our view, there are value (lowly-priced) stocks, and there are value companies which have a plan for the future, and they are different. Disney is in the latter group, moving from a model in which it relies on cable companies to sell its programming in favour of a streaming service like Netflix.

Kodak is an example of a value company which failed to adapt, and so never realised its value promise.

The key is a systematic approach to valuation. We apply a multi-year discounted cashflow valuation process, designed to capture shifts in business strategy (positive or negative). We do not use single period measurement tools such as P/E or EV/EBITDA but consider the likely cashflows looking out over a number of years. This allows us to understand the prospects of the giants mentioned in the Wall Street Journal article as well as many other companies that we expect to be household names in the future.

For example, we have held Xilinx, Nvidia and Qualcomm for over three years as our expectation of the companies' valuation has emerged and the share prices rocketed. The earnings power of these companies cannot be assessed using single period measures.

The process is also useful in assessing the valuation of companies which are moving from loss to profit. We hold a small number of these companies because we consider that their growth potential is significant (meaning global). Netflix was only barely profitable when we initially opened the position yet this quarter announced a US$5 billion buyback of stock.

There are some years to go before Netflix reaches our future valuation of the company. Similarly, with the other FAANG companies (Facebook, Amazon, Apple, Google) we see multi-year growth paths for these companies.

It also helps us to screen out companies which have deep-seated problems which are not being properly addressed by management, notwithstanding how good their earnings may be in any given period.

 

Alex Pollak is Chief Investment Officer and Co-Founder of Loftus Peak. This article is for general information only and does not consider the circumstances of any individual.

 

  •   26 May 2021
  • 2
  •      
  •   

RELATED ARTICLES

Reece Birtles on selecting stocks for income in retirement

Irrational exuberance in growth versus value

Is FOMO overruling investment basics?

banner

Most viewed in recent weeks

Retirement income expectations hit new highs

Younger Australians think they’ll need $100k a year in retirement - nearly double what current retirees spend. Expectations are rising fast, but are they realistic or just another case of lifestyle inflation?

Four best-ever charts for every adviser and investor

In any year since 1875, if you'd invested in the ASX, turned away and come back eight years later, your average return would be 120% with no negative periods. It's just one of the must-have stats that all investors should know.

Why super returns may be heading lower

Five mega trends point to risks of a more inflation prone and lower growth environment. This, along with rich market valuations, should constrain medium term superannuation returns to around 5% per annum.

Preparing for aged care

Whether for yourself or a family member, it’s never too early to start thinking about aged care. This looks at the best ways to plan ahead, as well as the changes coming to aged care from November 1 this year.

Our experts on Jim Chalmers' super tax backdown

Labor has caved to pressure on key parts of the Division 296 tax, though also added some important nuances. Here are six experts’ views on the changes and what they mean for you.        

Why I dislike dividend stocks

If you need income then buying dividend stocks makes perfect sense. But if you don’t then it makes little sense because it’s likely to limit building real wealth. Here’s what you should do instead.

Latest Updates

Investment strategies

LICs vs ETFs – which perform best?

With investor sentiment shifting and ETFs surging ahead, we pit Australia’s biggest LICs against their ETF rivals to see which delivers better returns over the short and long term. The results are revealing.

Retirement

The growing debt burden of retiring Australians

More Australians are retiring with larger mortgages and less super. This paper explores how unlocking housing wealth can help ease the nation’s growing retirement cashflow crunch.

The ASX is full of broken blue chips

Investing in the ASX 20 or 200 requires vigilance. Blue chips aren’t immune to failure, and the old belief that you can simply hold them forever is outdated. 

Shares

Buying Guzman y Gomez, and not just for the burritos

Adding high-quality compounders at attractive valuations is difficult in an efficient market. However, during the volatile FY25 reporting season, an opportunity arose to increase a position in Mexican fast-food chain GYG.

Investment strategies

Factor investing and how to use ETFs to your advantage

Factor-based ETFs are bridging the gap between active and passive investing, giving investors low-cost access to proven drivers of long-term returns such as quality, value, momentum and dividend yield. 

Strategy

Engineers vs lawyers: the US-China divide that will shape this century

In Breakneck, Dan Wang contrasts China’s “engineering state” with America’s “lawyerly society,” showing how these mindsets drive innovation, dysfunction, and reshape global power amid rising rivalry. 

Retirement

18 rules for ageing well

The rules to age successfully include, 'the unexamined life lasts longer', 'change no more than one-eighth of your life at a time', 'nobody is thinking about you', and 'pursue virtue but don’t sweat it'.

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.