In this Month’s Issue of Cabot Early Opportunities we take a closer look at recent recommendations and evaluate their Q3 earnings reports. I also show why I think the Small cap index is going higher in the near term. Finally, I feature five early-stage growth stocks going after totally different markets that look poised to deliver big gains in 2020 and beyond.
Cabot Early Opportunities 104
Stocks in this Issue | Current Investing Environment |
Another Year (Almost) in the Books
With this being the final Issue of Cabot Early Opportunities in 2019 I want change things up just a little. Normally, I write about some topic of interest that’s related to either small caps or early-stage stocks in this introduction. But we’ve now published three Issues (this being the fourth) since we launched in September and that means I’ve introduced you to a total of 15 stocks.
It’s also been a few weeks since my last Special Bulletin, and several companies from the September and October Issues have reported Q3 results that I have not yet commented on, so a brief update on these positions is in order. That’s what I’m devoting the first part of this Issue too. Here we go!
Arco Platform (ARCE) jumped out to an early start after I featured the education software stock in September, but shares pulled back through October. They’re doing better now and are back to roughly flat. The company’s Q3, typically the slowest quarter of the year, showed revenue up 9%. But analysts see revenue expanding well above 30% annually through 2022 as management rolls up smaller acquisitions and gains market share in a fragmented education software market in Brazil. In the upcoming Q4 (likely out in early-March) the market will be looking for more info on bookings & M&A that will affect the cadence of revenue in 2020.
CryoPort (CYRX) is up around 7% since we jumped on the stock in October. The temp-controlled logistics company’s Q3 report showed continued progress in commercial agreements (revenue up 368% over Q3 2018), powered by agreements with Gilead (YESCARTA) and Novartis (KYMRIAH). A launch with bluebird bio (ZYNTEGLO) early in 2020 should keep this source of revenue clicking. The combined impact of relationships across the biopharma, animal health, reproductive medicine and global bioservices markets drove total Q3 revenue up 81% to $9.6 million and helped adjusted EPS improve by 29%, to a loss of $0.05. The Board also approved a share repurchase program of up to $15 million. The stock appears to be in a steady, albeit slow, uptrend.
Kornit Digital (KRNT) is trading 5% off all-time highs after a brief dip following a murky Q3 earnings report in November. The big picture is still the same with management attacking the digital printing on textiles market on many fronts. The earnings report was a little wonky because of a $5.1 million non-cash impact on revenue resulting from warrants related to growth in business with Amazon (for its Merch by Amazon program) and a higher share price. With those warrants factored in most news outlets reported revenue up 18.6% to $44.6 million, which was about $4 million shy of expectations, and adjusted EPS of $0.09. Removing the warrants from the equation, revenue was up 26% (slightly above consensus) and adjusted EPS was $0.21. Behind the scenes, the company is still ramping up printing with new products (Poly Pro and Atlas) which, once services and support for these product level out, will carry higher gross margins than predecessor printing products. The company’s Q4 is the biggest of the year (not surprising given the holidays) so it will be very interesting to hear how it goes when that report comes out in February.
Lightspeed POS (LSPD.TO), sometimes referred to as a smaller version of Shopify (SHOP), is up modestly since mid-October. The company reported Q2 fiscal 2020 results that highlighted revenue growth of 51% to $28 million ($1 million above the high end of guidance) and an EPS loss of -$0.12, which was much better than the loss of -$0.27 reported a year ago. Customer locations grew by 26% to nearly 57,000 and following the launch of Lightspeed Payments (January 2019) in the U.S. management says around 50% of eligible new retail customers are using the solution in addition to the core offering. Growth continues to come from restaurants as well as golf, where new customers rose by 114% over the last six months and now total 700 golf courses. We also see expansion into Australia and New Zealand with the Kounta acquisition and management guiding for fiscal 2020 revenue growth of 51% to 54%. Sounds good to me.
Survey Monkey (SVMK) is about flat since I covered the software stock on October 15 but there was a wild ride after earnings were reported in November. The deal is that the company beat on both the top and bottom lines with revenue up 22% to $79.3 million and adjusted EPS of breakeven. That last number may have driven the intra-day volatility as many data providers only reported the GAAP earnings number of -$0.12, which could have flustered some computer driven traders/programs (GAAP numbers include some one-time items that adjusted numbers strip out). The bottom line is that it was a good quarter and while there are some (largely expected) impacts from changes in the subscription pricing structure the big picture story here remains intact. Survey Monkey is the leader in its market and has a vast treasure trove of data that will be increasingly valuable as it scales up operations.
What to Do Now
Stay on course. That means keep averaging into the early-stage growth stocks that appeal to you. Don’t go hog wild or do anything crazy thinking that all stocks are sure to go up immediately! But do give yourself the room to take some chances on compelling opportunities and accept that mistakes will be made here and there. When they do, cutting any losses short (-20% or less) will help preserve capital for the next move. Remember, since I don’t know your precise cost basis, it is up to you to take action when you need to sell a stock (both winners and losers).
Evidence supportive of stocks heading higher abounds. The S&P 500 has been in a groove of making higher highs since it broke above 3030 just before Halloween. Then in late-October the S&P 600 Small Cap Index kissed 1000 for the first time this year. It fell back below that critical level soon after, then mounted another rally and has now moved up to 1,016.
This is a big time move in my view since there’s now little in terms of overhead resistance before the index gets back to all-time highs near 1100. I’m not saying it’s going there straight away, but I do think the odds are in favor of it happening in the relative near-term (by the end of January? February?). One takeaway should be that buying an S&P 600 Index ETF (IJS for value, IJR for core or IJT for growth) will probably do well in the near-term (5% to 10% gain potential, maybe more), with relatively low risk.
Is there any more bullish evidence of the increasing breadth of the market’s move higher? You bet. Two-thirds of the 15 stocks I’ve featured in the last three months are up! Already, two from last month, eHealth (EHTH) and ModelN (MODN), are posting double digit gains. And we have our first double; Deciphera Pharmaceuticals (DCPH), featured in the September Issue, is currently up 103%.
We’ll try to keep the streak alive with the five stocks featured today. Again, I spread it around with a little software, some MedTech, and one restaurant stock. We have stocks across the market cap spectrum, from around $700 million to almost $10 billion. There are a few that have been public for years and some that are relatively new. My Top Pick for December is a highly specialized MedTech stock you could probably tuck away and come back to in a few years and get a pleasant surprise!
STOCKS
10x Genomics (TXG)
10x Genomics (TXG) is a life sciences company that develops solutions to advance human health by analyzing biological systems at incredibly high resolution and massive scale. Its products are used by researchers around the world, including at 93 of the top 100 global research institutions and 13 of the top 15 global phama companies, to help make major discoveries in areas such as oncology, immunology and neuroscience. 10x Genomics has a market cap of $6 billion, was founded in 2012, and went public in September 2019.
The product portfolio is built around Chromium instruments, microfluidic chips and consumables, and integrated software. These genetic testing solutions give researchers the power to measure biology at the highest level of resolution, such as at the single cell level, or at high spatial resolution of tissues and organs.
The bulk of revenue (roughly 70%) comes from academic markets, but the company also has exposure to government, biopharma and biotech customers. As with many companies in the life sciences market, consumables play a huge role (over 80% of revenue) and help smooth out fluctuations in instrument sales.
The stock has huge potential but isn’t without risks. There is ongoing litigation with Bio-Rad (BIO) with respect to possible patent infringement on legacy GEM chips (being phased out). Academic spending isn’t always guaranteed, and the Visium launch (discussed below) is in the very early innings. But as compared to the opportunity, these risks seem worth it, and are being actively managed by the leadership team.
10x Genomics currently has an addressable market of roughly $13 billion. But that doesn’t reflect the upcoming launch of the Visium spatial analysis system, which helps researchers understand where biological components are with respect to each other within tissue samples. This understanding could help researchers better understand the underlying causes, and potential cures, of diseases such as Parkinson’s disease and Lou Gehrig’s disease. Visium is launching now and is sure to be discussed on future conference calls.
Growth is at the top of the competitive group of high-growth diagnostic and genetic analysis peers. Revenue soared 106% in 2018 and is seen up 64%, to $240 million, in 2019. In Q3 2019 revenue jumped 67% to $61.2 million, beating by over $6 million. The company is expected to deliver an adjusted EPS loss of -$0.38 in 2019, a steeper loss near -$0.65 in 2020, but reach profitability in 2021.
The Stock
TXG went public at 30 on September 12, 2019 and shot up 29% in its first day. It kept climbing to around 63, then fell all the way back to 45 in early-October. Since then TXG has been climbing and peaked at 68 in mid-November. For the last month shares have mostly oscillated between 61 and 67. There is a 180-day lockup expiration that ends on March 2020 so keep an eye on that date. We often, but not always, see a pullback in the months before lockup expiration so, as always, average into this stock.
CrowdStrike Holdings (CRWD)
CrowdStrike is a $10.2 billion market cap company that was founded in California in 2011 to provide cloud-based cybersecurity and endpoint protection solutions. Its platform currently deploys up to ten modules through the cloud, spanning security and IT operations, endpoint security, and threat intelligence, that secure and protect client endpoints, including laptops, desktops and IoT devices.
The company is different from much of the competition because it was born in the cloud, so is 100% developed for this delivery model. There are no random snippets of code leftover from a prior life as an on-premise business model. Credit for the business model goes to CEO and co-founder George Kurtz, who also co-founded Foundstone (sold to McAfee) and credit for the sales strategy that’s delivering such rapid growth goes to Mike Carpenter (13 years at McAfee).
Because of its cloud-based model CrowdStrike’s Falcon platform can work off a single lightweight agent that runs on the endpoint and requires far fewer computing resources than competitor products. The agent pulls data from the endpoint device and runs it through Threat Graph, a cloud-based sequenced graph database that powers AI algorithms that find security threats.
If this all reads like gibberish to you the punchline is that CrowdStrike has a very efficient platform that offers both immense power and tremendous flexibility. That adds up to a good value proposition for customers in a large and growing addressable market that’s estimated at nearly $25 billion.
The best evidence of customer demand is growth. CrowdStrike has 4,561 customers (up 112% over a year ago), boasts 97% annual recurring revenue and is rapidly expanding sales with existing customers (net expansion rate was 120% in Q3). Over 50% of customers subscribe to four or more modules.
It is one of the fastest growing cybersecurity companies out there. Revenue was up 110% in 2019 and 88% in Q3 fiscal 2020 (reported December 5). That puts CrowdStrike on pace to grow by around 87% this year. Adjusted EPS is still negative, coming in at -$0.07 in Q3 and estimated to be near -$0.55 in fiscal 2020, but could turn positive in 2022.
The Stock
CRWD came public at 34 on June 11 and shot up 71% to 58 on the first day of trading. The stock worked its way higher for the next month, eventually peaking near 102 in mid-August. It then retreated in typical post-IPO fashion and eventually landed near 45 in October. Some of this decline may have been driven by the end of a partnership with Dell after that company acquired Carbon Black (concern over this has since subsided). There was a quick rally to 60 in November, but CRWD then retreated to near 47 and is still trading near 50 now. With the stock just modestly above its IPO price and lockup expiration behind it this looks like a good place to start picking up shares.
Endava Plc (DAVA)
Technology has become increasingly central to the way people live and work. It truly is a digital world, and organizations must constantly evolve so they can be ahead of trend and constantly engaging with their customers in effective and efficient ways. Endava (DAVA), a next-generation technology services provider with a market cap of $2.5 billion, helps clients do just this.
The U.K.-based company went public in 2018 but was started in 2000 by founders who wanted to help people succeed in an increasingly technological world and deliver better products, platforms and solutions to market. They wanted to set up the business to cover the empty space between traditional IT services and consultants. This was done by building multi-disciplinary teams with industry-specific knowledge and expertise across strategy, customer experience and engineering.
It has turned into a winning formula for a rapid growth market. Digital transformation services now represent a roughly $390 billion global market growing at 17% a year. That puts it on pace to reach $622 billion by 2022.
Endava has been going after the opportunity by consistently expanding across the globe and through select partnerships, including one with Bain & Company in November 2019. It now has over 5,900 staff members spread across the U.S., U.K., European Union and Latin America (Argentina, Colombia, Uruguay and Venezuela). At the end of September 2019 the company had 278 clients, including Worldpay/FIS and a number of Private Equity firms.
The bulk of its revenue is from work related to payments and financial services (53% of revenue), technology, media and telecom (25% of revenue), and consumer, healthcare, logistics and retail (22% of revenue). Typically, 80% to 90% of revenue comes from clients that were with Endava in the prior year.
Revenue was up 24% to $360 million in fiscal 2019 (ended September 25) while adjusted EPS of $0.98 was up 46%. Revenue is seen up around 23% in each of the next two years. First quarter fiscal 2020 revenue (reported November 19) was up 25%, while adjusted EPS was up 36% to $0.30. An investment in Endava does carry some currency risk as revenues are recorded in pounds, as well as exposure to business conditions in overseas markets. However, these risks currently appear balanced given increased clarity on Brexit.
The Stock
DAVA went public in July 2018 at 20 and jumped 26% in its first day of trading. The stock traded over 30 a couple times then slid back into the low 20s in the final months of 2018 and early-2019. Unlike many IPOs however, DAVA never fell apart to trade below its IPO price. In April 2019 shares jumped above 30 and stayed there, climbing all the way to 44 before pulling back and consolidating in the 34 to 42 range through October. DAVA recently broke out and has climbed into the high 40s.
LeMaitre Vascular (LMAT)
The human circulatory system is amazing. But it doesn’t always run smoothly. Issues are particularly prevalent in the cardiovascular system, which consists of the arteries, veins and capillaries that move blood around the body. Roughly 3% of the living population suffer from some sort of peripheral vascular disease (PVD), which occurs when there are issues with blood vessels beyond the heart and brain.
When prevention, treatment and lifestyle changes aren’t enough, surgery may be required. When it is, over 50% of surgeons turn to solutions from LeMaitre Vascular (LMAT), a Massachusetts-based medical device company with a market cap of $710 million.
The company was started by George D. LeMaitre, a practicing vascular surgeon with a degree from Tufts Medical. He began with a valvulotome, a specialized device used to cut valves in peripheral veins during arterial bypass surgeries. Over the years his son, George W. LeMaitre, who joined the company in 1992, developed and acquired more devices, each of which offers vascular surgeons a better solution with which to do their job.
LeMaitre now offers implantable and disposable devices for 15 markets worth near $900 million altogether. The company holds either a #1 or #2 market share position in each one. With a systematic and measured growth strategy management sees potential to keep expanding in the $5 billion market for peripheral vascular solutions.
While there are occasional bumps in the road, such as in 2018 when quarterly revenue growth dipped, LeMaitre’s growth profile is about as steady as you’ll find in a small cap medical device manufacturer. That’s largely because the company focuses precisely on what vascular surgeons need.
To keep growth consistent LeMaitre introduces new products through internal R&D and through acquisitions. It has developed 21 products internally to date, with 13 having reached the market (six failed) and two still in development. LeMaitre has also completed 23 acquisitions over 22 years. It adds around five sales reps per year.
The company typically delivers low double-digit revenue growth. Revenue grew by 10%, to $110 million, in 2018 and should expand at about the same rate in 2019. Adjusted EPS was up 6% to $0.91 in 2018 and will be roughly flat in 2019, in large part due to acquisitions, which often mean transitioning manufacturing to Burlington, MA, as well as some additional hiring. LeMaitre also pays a small quarterly dividend of $0.085, which works out to a yield of just under 1.0%.
The Stock
LMAT went public back in 2006 and did just fine until the Great Recession struck and turned it into a penny stock with a share price below 2. LMAT roared back and jumped over 10 in 2015 then worked its way up to 40 by mid-2018. A few bumps in the road impacted growth and the stock pulled back with the market at the end of 2018, eventually bottoming in the low 20s. LMAT has been grinding its way higher since, with the occasional spike and dip thrown in to keep investors on their toes. It’s a good stock to average into on pullbacks.
Wingstop (WING)
Wingstop (WING), with a market cap of $2.5 billion and 1,250 locations in ten global markets, is one of the smaller quick service restaurant (QSR) chains out there. It offers investors a relatively high growth business with a focused product offering and efficient business model.
The history is that the company opened its first restaurant in 1994, then the first franchise in 1997. It went public in 2015. While the menu is all about chicken wings, the market positioning is really all about the flavor experience. Wingstop’s menu features 11 bold flavors of classic and boneless chicken wings along with sides, including fries, veggie sticks and dips.
Wingstop stands out from the pack for several reasons. First, it is a pure play wing shop that’s just starting to emerge as a national brand. Awareness is at 70% and improving but is still well below that of larger QSR peers at over 90%. It’s on the rise because of a recent increase in franchisee advertising contributions (from 3% to 4%) that funded a nearly 50% jump in the ad budget, which has allowed for a national TV ad program.
Second, Wingstop is just starting to digitize its business, a strategy that has paid dividends for other chains, especially those with take-out. To support the effort Wingstop released a new website and app in early-2019 which is driving higher conversion rates and an increase in average check size. It’s early days, but management sees potential for digital to represent the bulk of transactions in the future.
Finally, Wingstop is expanding delivery (just 10% of sales now) to 90% of stores, is expanding density (called “fortressing”) in 25 major markets, and is continuing to expand internationally (Asia, Latin America, Indonesia, UK, France).
It all boils down to a QSR chain that is well on its way to grow franchise locations (which represent 87% of locations in the U.S.) to its target of 3,000 stores because of an efficient business model and attractive unit economics that work for franchisees.
Revenue was up 15% in 2018 and is on pace to rise 30%, to around $200 million, in 2019. Wingstop is profitable. It delivered adjusted EPS of $0.84 in 2018 and, factoring in all the recent investments, is seen delivering around $0.78 in 2019, then over $1.00 in 2020. The company pays a quarterly dividend of $0.44, equal to a yield around 0.50%.
The Stock
WING went public in 2015 at 15.16 and doubled in the first day of trading. Shares didn’t do a lot until late-2017, however, when WING broke above 30 and began a run that didn’t run out of steam until the stock peaked at 107 this past August. From there shares pulled back to 85, then to a low of 72 in November. They’ve been recovering and are currently back around the 85 level, which seems like a good re-entry point.
Previously Recommended Stocks
Below you’ll find previously recommended Cabot Early Opportunities stocks. Stocks rated BUY are suitable for purchasing now. In all cases, and especially recent IPOs, I suggest averaging into every stock to spread out your cost basis.
Those rated HOLD are stocks that still look good and are recommended to be kept in a long-term oriented portfolio. Or they’ve pulled back a little and are under consideration for being dropped.
Stocks rated DROPPED didn’t pan out, or the uptrend has run its course for the time being. They should be sold if you own them. DROPPED stocks are listed in one monthly Issue, then they fall off the DROPPED list and into oblivion.
Please use this list to keep up with my latest thinking, and don’t hesitate to call or email with any questions.
Our top performer continues to be Deciphera Pharmaceuticals (DCPH), which was featured in October and is up 103%. Given the advance Deciphera moves to HOLD. We have two stocks up 20%, including Dynatrace (DT) and eHealth (EHTH). Digital Turbine (APPS) and Model N (MODN) are up 17% and 13%, respectively.
Detractors from performance are Frontdoor (FTDR) featured in October and down -11%, but recovering and looking stable, and Livongo (LVGO), featured in November and down -7% after an offering from a selling shareholder but far from down and out. Both remain on the BUY list.
No stocks are being DROPPED at the moment. This month Kornit Digital (KRNT) gets bumped back up to BUY from HOLD after finding support near 31 in November.
The next Cabot Early Opportunities issue will be published on January 15, 2020.
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