Friends,
We don't think it's a stretch to say investors like growth. Owning a company growing 50%+ can be exhilarating.
But we also understand there are limits.
Think of it this way: last year, NVIDIA grew sales 114%. There's absolutely no way it could keep that up for a decade. If it did, it would have $263 trillion in sales by 2035 (that's more than the globe's GDP).
This is what makes the subject of today's newsletter so tantalizing: when growth rates re-accelerate.
Traditionally, companies are valued with an expectation that profit margins will widen, but sales growth rates will fall over time.
But the Era of Artificial Intelligence is changing all of that. Consider three companies we follow closely that have absolutely wild valuations:
- Cloudflare (NET): The highway for internet traffic is valued at 36 times sales and almost 300 times free cash flow.
- CrowdStrike (CRWD): The leading cybersecurity firm for 30 times sales or 100 times free cash flow.
- Palantir (PLTR): Perhaps the most richly valued of them all, this software firm has a price-to-sales ratio of about 100, and a price-to-free-cash-flow ratio of over 250.
But there's something all three of these have in common as well. The charts below show the revenue growth rates over the past decade, plus expectations for the next three years.
See if you can spot the trends.
In all three cases, analysts expect revenue growth rates to reaccelerate by 2027.
Usually, it would be prudent to expect such companies to be growing at a 7-10% rate a decade from now. But if those rates elevate for a few years before tapering, the cash they bring in could be MUCH higher.
That's a game-changer.
However, that doesn't mean we think you should "back up the truck" on such stocks. There are two important things to remember:
- It needs to be true: If these companies don't witness a sales-growth re-acceleration, there's no way their prices today could be justified.
- It might not matter...for a while: Even if they do live up to the hype, the market could have a meltdown between now and 2035. If it does, these high-fliers will fall the hardest.
This is why investing can be maddening. You not only want to be right about the direction of a company, but right relative to the valuation as well.
It's why the formula for long-term success never changes: buy wide moat companies with a history of optionality, at reasonable valuations, and hold them as long as the thesis is true.
Wishing you investing success,
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Brian Feroldi, Brian Stoffel, & Brian Withers
Long Term Mindset
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