Cabot Early Opportunities 124

In the August Issue of Cabot Early Opportunities we (mostly) return to our roots, focusing on technology and MedTech growth stocks, while adding a little flavor with a consumer stock we’ve been keeping an eye on.

Enjoy!

Cabot Early Opportunities 124

Stock Name	Market Cap	Price	Investment Type
Avantor (AVTR)	$22.4 billion	38.30	Growth – MedTech
Bath & Body Works (BBWI)	$15.7 billion	59.44	Growth – Retail
Global-E Online (GLBE)	$10.6 billion	74.55	Rapid Growth – Software
Lightspeed Commerce (LSPD)	$13.3 billion	93.01	Rapid Growth – Software
Snowflake (SNOW) *	$82.9 billion	280.0	Rapid Growth – Software

* Watch List Addition

A Word on Portfolio Management
Before we dig into the substance of this month’s issue I want to briefly discuss portfolio management.

When we first launched Cabot Early Opportunities almost two years ago, we began with no stocks and no track record. The intent was to cover five early-stage stocks every month and build a portfolio of the best names we could find, then hold on as they did what great stocks are supposed to do – go up!

For the most part things have been going well. We’ve locked in gains on a lot of positions and, excluding today’s additions, have a portfolio of 23 stocks posting an average gain of 83%.

That said, one recurring challenge is managing the sheer number of stocks in the portfolio now that we’re up and running. By my math, adding five stocks every month means 30 new stocks every six months, and 60 new stocks a year.

Clearly, it doesn’t take long to have too many stocks to keep track of. At this point, we need to sell as many stocks as we add each month just to maintain a constant portfolio of 25 (plus or minus) stocks.

A quick aside … 30 is roughly the max number of names I’m capable of covering. If you go down the rabbit hole on modern portfolio theory (MPT) and the efficient frontier, you’ll find that once you go above 20 to 30 stocks of a similar asset class the benefits of diversification are minimal. I tend to aim for a portfolio that falls somewhere in that range.

What are the options to keep our portfolio from swelling out of control?

We can sell one stock for each new position we add. Or we can simply pull in our stop-loss levels and cut stocks quicker when they pull back. Both strategies have merit, however given that we want to be long-term holders of somewhat volatile stocks, my concern is that having hard and fast rules on the sell side could lead us to sell some great names that are just in a short-term funk.

I track the performance of stocks that we’ve sold. The average change of all stocks sold in 2020 since we let them go is -6%. The average change of stocks that we’ve sold over the last 12 months since we sold them is just 1%. In other words, so far we’re not missing out on any gains by using the approach we’re taking to letting stocks go, so I’m hesitant to mess with it too much.

Another option is to add some positions with the intent of holding for a shorter timeframe, something in the realm of one to three months. These types of “swing trades” can be aimed at grabbing a quick 10% to 30% gain, then getting out. I believe this is something we can do successfully.

A final option is to simply add fewer names to the portfolio. While effective, I know many subscribers just pick a few stocks each month instead of buying all five, and I like providing a variety of options. One way to provide variety but not overload the portfolio is to add one or more stocks each month to a Watch List which can become a feeder for official portfolio adds down the road. We did this with Bath & Body Works (BBWI) before it spun out from L Brands last month.

In thinking about how I manage a real money portfolio, all of these strategies come into play. In the coming months I will likely begin to employ them to varying degrees, when appropriate, in Cabot Early Opportunities.

By doing so we can achieve our goals of finding and covering a variety of the best early-stage stocks out there, holding on to them for long enough to let them deliver the gains they’re capable of, and keeping our portfolio to a manageable size.

If you have any feedback or questions about this as we move forward, please don’t hesitate to reach out. It should go without saying that at the end of the day everything I want to do is aimed at helping you achieve the very best financial returns, while providing some entertainment along the way.

What to Do Now
Now that the Q2 earnings season is mostly behind us it’s time to refocus on the stocks you want to own for at least the next three months. The broad market has been mostly on a one-way trip higher since the last meaningful retreat (-11% in September 2020) and there’s no reason a dip couldn’t be right around the corner.

Recognize there could be bouts of stock-specific volatility heading into cold and flu season. Economic data is going to continue to contain a lot of noise given comparisons to such a messed up 2020 and anything-but-normal 2021.

For these reasons, and more, it’s wise to keep some cash on the side and keep life simple. Focus on the basics of portfolio management – diversification in high-conviction positions, position sizing, number of stocks in portfolio, how much rope you’re willing to give positions that pull back, etc.

Please note that I’m not calling for a correction (nobody knows when the next one is). But at the same time, I think a lot of investors have relaxed their attention over the summer since there were so many other things to do and enjoy (finally). If this describes you, it’s probably a good time to take things off cruise control!

STOCKS

Avantor (AVTR)
We’ve made money with Avantor (AVTR) before and are coming back to the name today as the positive trends in the business are pushing the stock steadily higher.

The backstory is that Avantor is a diversified global supplier of mission-critical products and services. Customers are in the extremely strong biopharma/life sciences market, as well as more cyclical markets that include advanced technologies, applied materials, education, and government, all of which are recovering from the pandemic.

Products include chemicals, reagents, lab products and equipment, and are used across all stages of research, development, and production. Avantor also provides specialty procurement and other value-added lab services that help customers advance their R&D and manufacturing operations. Avantor has a market cap of $23 billion.

The company is enjoying a modest boost from COVID-19 (added 1% to 2% in Q2) but is clearly being positioned for sustained growth in a post-pandemic world. Avantor has extensive product offerings, a diversified customer base and significant recurring revenue mix, which is driven by sales of consumables and single-use products. Consumables also support high customer loyalty and free cash flow.

One of the attractions right now is that manufacturing capacity for consumables/single use has been growing both domestically and abroad due to capacity expansion projects in China, Massachusetts, Ohio, and Missouri.

Recent acquisitions, including Ritter (closed June 10, 2021) and RIM Bio (June 1, 2021), have helped round out the product mix (including consumables) while strengthening Avantor’s market position. Ritter is a rapid growth German manufacturer of robotic and liquid handling consumables. Solutions are used in a variety of molecular screening and diagnostic applications (PCR, immunoassays, next gen sequencing, drug discovery, clinical trials, etc.). RIM Bio makes single-use bioprocess bags and assemblies for biopharmaceutical manufacturing applications in China.

Avantor’s recent growth has been broad based, with Q2 2021 revenue growing by double digits across nearly all product lines. The exceptions are advanced technologies and applied materials, but even there the high-single-digit growth rate is not too shabby.

Biopharma revenue is particularly strong, growing by over 30% in Q2 when factoring in COVID-related products sales (adds around 1% to 2% growth). Biopharma now accounts for over 50% of revenue.

Avantor’s diversified revenue mix make it an attractive stock during this murky time. That said, it doesn’t offer snap-your-head back growth. We’re looking for smooth and steady, both in the growth rate and in the share price performance.

Revenue grew by 6% to $6.4 billion in 2020, when adjusted EPS of $0.89 grew by 44%. Growth has accelerated through 2021 (revenue up 26% in the recently reported Q2) and is seen up 15% to $7.3 billion in 2021, when adjusted EPS is seen up 52% to $1.35. The growth rate will likely return to around 6% in 2022 (assuming no acquisitions).

The Stock
AVTR came public at 14 in May 2019 and traded between 13 and 19 until the pandemic-driven market crash, which cut the stock to half its IPO price. AVTR was reasonably quick to recover and broke out to new all-time highs above 20 in July 2020. On a weekly chart the stock’s pattern then shows a series of higher highs and higher lows until it topped out near 31 in February, after which it pulled back by 16%. AVTR was on the move again in April, when it rallied to 34 before a 13% dip. New highs above 34 were reached in mid-June and AVTR has been moving steadily higher since.

Bath & Body Works (BBWI)
We’ve been eyeing Bath & Body Works (BBWI) since July as a special opportunity in retail pending the split from parent company L Brands and sister company Victoria’s Secret (VSCO). With that transaction now behind us and a small pullback, it’s time to jump in.

This is arguably one of the most attractive names in specialty retail. Bath & Body Works is the dominant domestic player in the body care market, selling a wide variety of fragrances, body lotions, body creams, body washes, hand soaps and fine fragrance mists.

Management says the company has more than 20% market share across roughly 60% of the portfolio. Looking back into pre-pandemic time we see the company posted over 10 consecutive years of mid-single-digit (or greater) same-store-sales (SSS) growth.

The consistency is due to millions of customers (55 million as of the end of Q1 2021) making repeat purchases (average three per year) across multiple product categories and channels (in store, online, etc.). Customer retention hovers around 57% and customers spend an average of $40 per visit.

No longer tethered to Victoria’s Secret (which is embarking on a turnaround strategy), a post-pandemic Bath & Body Works is better positioned to begin growing square footage in both the U.S. and Canada, as well as select international markets.

We aren’t likely to see pre-pandemic levels of 7% annual store growth, but even 3% or so should work given the company can likely grow digital sales by 15% (or more) and achieve 20% overseas growth through a franchise model. A customer loyalty program launching in 2022 should also help move the needle. Trials across four markets showed 30% higher spend per loyalty member.

On the product front, management sees opportunities to add more clean, natural and organic products, as well as expand offerings in skincare, hair care and other home and wellness products, all of which could appeal to younger consumers and help push average spend per visit higher.

In addition to these growth initiatives, management is looking to reduce debt (around $5.3 billion now, with $3.5 billion in cash), boost buybacks (could see a 20% reduction in outstanding shares by the end of 2023) and increase dividend payments (current yield just under 1%).

Revenue growth this year should be around 15.5% (to $7.4 billion), then calm down and be closer to 9% over each of the next two years. Adjusted EPS should be around $4.50 both this year and next. In Q2 (results released yesterday) the company reported 54% revenue growth. All product lines grew by 35% or more. The numbers beat expectations and support the bull thesis. I won’t be remotely surprised if we see BBWI trading north of 100 next August, implying around 60% upside.

Please note it’s likely the stock will trade with higher volume today given the earnings report yesterday afternoon.

The Stock
BBWI traded as LB for decades, but what we really care about is the most recent trajectory of the stock. If we look back to the beginning of 2021, we see a stock that has mostly trended higher, above its 50-day line. Once the separation was announced in May shares flattened out as investors digested the news. But they resumed the upward march in June and peaked at 66.2 the day after the separation. In the two-plus weeks since then BBWI has pulled back around 10% in a very orderly and very normal looking fashion.

Lightspeed Commerce (LSPD)
Lightspeed Commerce (LSPD) is a $12 billion market cap company out of Montreal, Canada that has developed a cloud-based omni-channel (online, in store, phone, etc.) commerce solution for small and mid-sized businesses. The company primarily serves businesses in the retail, hospitality and restaurant industries.

The business was started in 2005 and the platform is now live in over 150,000 customer locations around the world (up from 76,500 in March 2020). It’s catching on quickly in the U.S. where management has made a concerted growth push that has been supplemented with meaningful acquisitions. In Q1 fiscal 2022 (just reported in early-August) gross transaction volume (GTV) reached $16.8 billion, up more than 200% versus the year-ago quarter.

Lightspeed’s point-of-sale (POS) solution is succeeding because it is a comprehensive omni-channel platform that eases pain points and handles complex transactions. Many customers have dealt with a hodgepodge of solutions that don’t speak well together.

In contrast, Lightspeed’s platform includes point-of-sale, loyalty, customer relationship, order management, inventory management, payment functions and more. Payments has been a particularly strong growth contributor, currently contributing 10% of GTV.

Moreover, a recently launched Supplier Network and partnership with Google has helped Lightspeed become a strategic partner to its customers, helping them transform their supply chains, manage ad spend and get found online.

Lightspeed’s revenue has been growing quickly, helped by acquisitions (NuORDER, Ecwid, Vend, Upserve, ShopKeep all closed withing the last 12 months) and the many cross-selling opportunities the expanded product offerings provide.

In 2021 (fiscal year ended in March), sales exploded by 84% to $221.7 million. In the most recent quarter (Q1 fiscal 2022, ended June 30) revenue rose 220% to $115.9 million. Organic growth (excludes acquisitions) was closer to 80%, which is still incredibly strong. Management guided for full-year fiscal 2022 revenue growth of 135% to $520 million (around 60% organic). Lightspeed is not profitable. Adjusted EPS in fiscal 2022 is seen around -$0.29.

This is a rapid-growth omni-channel commerce company that’s building a bigger ecosystem to help small and mid-sized business better manage and grow. I like it because both organic and acquired lines of business appear to be doing well and many customers that were negatively impacted by the pandemic could post several years of recovery growth.

The Stock
LSPD has traded publicly in Canada since March 2019 and came public on the NYSE on September 11, 2020, when it closed at 30.25. After a bumpy start the stock took off and spent much of the 2021 winter trading between 63 and 83. Shares retreated in March, then bounced around between 52 and 75 until spring, then in June LSPD rallied to fresh highs near 88. A retreat in July pulled LSPD back down to 75, but shared bounced off the 50-day line near that level and were back near 88 a couple weeks later. LSPD gapped up after the Q1 earnings report on August 5 and closed 7.4% higher that day, at 95.8. Shares remain in the low-90s nearly two weeks later.

Global-E Online (GLBE)

Global-E Online (GLBE) is a big idea company that has developed a cross-border e-commerce platform empowering businesses to sell to consumers all over the world. Cross-border commerce represents a meaningful market opportunity worth nearly $800 billion today. That number would be significantly higher if it wasn’t such a pain in the neck!

The company is on a mission to help businesses sell online in international markets, and to provide a consumer shopping experience that mirrors what people are used to seeing when buying online in their home markets.

This is no small task given the complexities of international sales, which span taxes, duties, delivery, exchange rates, language barriers, local country website variations and more.

Consider what happens if somebody in the U.S. wants to buy a pair of shoes from an Italian company. How do you know if the sizing is accurate? What are the shipping charges? Taxes? When will it arrive? How can you be sure the website is accurately translated and you’re buying the color and material you want? What about reviews? There are so many hurdles to making this a seamless experience.

This is where Global-E comes in. The platform covers the big three categories, tying localized web, payments and fulfillment together into one cohesive package.

Businesses on the Global-E platform give consumers a shopping experience they understand and all-in, to-the-front-door product and delivery prices. This translates into a massive improvement in the customer experience and can drive meaningful sales growth for Global-E customers, some of whom report a 60% bump in transactions once on the platform.

In terms of customers, Global-E skews toward more established companies. Many of the over 400 current customers sell luxury, makeup and clothing, and include brands such as Marks & Spencer, Hugo Boss, Cartier, Marc Jacobs, Forever 21, and Versace.

Once customers see how well the platform works, some even hand over domestic operations. This has helped Global-E’s revenue retention rate soar to 140% and drive average cohort growth of 3x. In short, customers spend more money once on the platform because consumers spend more with them.

There are other players in the space, notably Adyen, PayPal (PYPL), BigCommerce (BIGC) and Shopify (SHOP). Shopify likely poses the bigger risk, but so far caters to smaller sellers, while the bigger ones go with Global-E.

Regarding Shopify, before it came public in May Global-E landed a three-year partnership with Shopify that includes a revenue share agreement. This program could drive significant growth in 2023 and beyond once it’s up and running, and/or could pave the way for a more formal tie up of these two companies (as part of the deal SHOP has warrants to buy up to 19.6 million shares of GLBE).

For now, Global-E offers huge growth as an independent company. Revenue jumped 107% to $136.4 million in 2020, is seen up 56% (to $213 million) then growing another 60% in 2022. Those numbers could easily be conservative. Global-E is not profitable and is expected to deliver adjusted EPS of around -$0.51 this year.

The Stock
GLBE came public at 25 on May 12 and closed just 2% above the IPO price. It’s been going up since. The first phase of the rally continued right through the first earnings report (June 3) when GLBE was trading near 35. Shares kept marching higher until they topped out at 64.5 on June 29. A 21% drawdown took some of the shine off the stock, then shares bounced around between 51 and 70 though the end of July. GLBE then rallied to 75 before a two-day, 10-point decline around August 10. Shares recovered quicky, and since the Q2 earnings report (August 16) have traded as high as 79.5.

Snowflake (SNOW)
Note: This stock is being added as a Watch List stock

Snowflake (SNOW) is one of those software stocks that comes public and which I assume we will own, it’s just a matter of when. We don’t yet because the timing just hasn’t seemed right, but that’s beginning to change (I think).

Since the September 2020 IPO the hype has calmed down, lockup expiration (March 15) has passed and the stock appears to be entering a more stable trading pattern. With earnings coming out on August 25 we’re not ready to jump in yet, but I’m officially putting Snowflake on our Watch List.

Snowflake has massive long-term potential and should post average revenue growth of 40%+ for at least the next seven years, then grow faster than 30% a year for many more. From a large cap tech stock, that’s next-level growth, reminiscent of Microsoft (MSFT) back in the 1990s.

This isn’t a best-case growth scenario either. It’s based on management’s own long-term revenue target ($10 billion in calendar year 2028) based just on the current product lineup. It’s far more likely the company will introduce meaningful new solutions and/or make some acquisitions in the next decade.

What exactly does it do, and why is growth so durable?

Snowflake has developed a disruptive cloud-native data warehouse solution. The technology is hugely scalable, very flexible, easy to use, and different from other options in the market. This has all helped the company address many, many use cases across the data engineering to data science spectrum.

As compared to many other high-tech data software solutions, Snowflake’s isn’t aimed at just the mega enterprises. It is used by small operations of just a few people all the way up to the largest companies in the world.

Given that the solution is cloud-agnostic and allows for simple and user-friendly data sharing, Snowflake has the potential to create its own market, currently referred to as the Data Cloud. Should this vision materialize, we would see a network of data providers and consumers all sharing and analyzing data across clouds and across the world. Those not in the network would want in as the value of being “inside” grows exponentially, thereby fueling significant long-term growth that’s not factored in today.

The main challenge with the stock now – besides the risks of security breaches, software spending trends, etc., is valuation. On an Enterprise Value to Forward Year (EV/2023 Revenue) basis the stock trades with a multiple of 43. That’s roughly twice the multiple for the peer group. Granted, a premium is warranted, but even Shopify (SHOP), a stock that always carries a big valuation, trades with an EV/2023 Revenue multiple of 29.

Taking it all in, SNOW is a stock I’d like to build a position in because I think it will be huge. But I want to give it a little more time to marinate and see how the Q2 fiscal 2022 report (and stock reaction) goes.

In terms of specific growth numbers, revenue jumped 124% to $592 million in fiscal 2021 (ended in January) and is seen up 90% to $1.12 billion in fiscal 2022. Snowflake is not profitable (estimated EPS this fiscal year is -$0.61) and likely won’t be for several years. The current market cap is $83.5 billion.

The Stock
SNOW came public at 120 in September 2020 and jumped 112% the first day. After chopping around in the 200 to 300 range for a few months, shares rocketed up to 429 in December. That was the peak, and SNOW came back to earth in the following months, ultimately falling as low as 185 on May 13. The stock has looked a lot healthier since. SNOW moved back above its 50-day line on May 18 and has remained there for the last three months, trading in a relatively tight range. With earnings due out on August 25 we’ll put the stock on our Watch List now.

Previously Recommended Stocks
We’ve trimmed a number of positions since the July Issue of Cabot Early Opportunities came out.

We said goodbye to AtriCure (ATRC), Lyft (LYFT), Driven Brands (DRVN), Semler Scientific (SMLR) and Vail Resorts (MTN). We also took partial profits on 10X Genomics (TXG), selling a quarter of our position.

An updated table of all stocks rated BUY and HOLD, as well as recent stocks SOLD and WATCH, is included below.

Please note that 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.

For stocks rated BUY A HALF, you should average into a position size that’s roughly half the dollar value of your typical position. We may do this when stocks have little trading history (for instance IPOs), when there is more uncertainty in the market or with a stock than normal, or if a stock has recently jumped higher.

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 WATCH are being considered for future purchase and are not officially in the portfolio.

Stocks rated SOLD didn’t pan out, or the uptrend has run its course for the time being. They should be sold if you own them.
Please use this list to keep up with my latest thinking, and don’t hesitate to email with any questions.

The next issue of Cabot Early Opportunities will be published on September 15, 2021.

Cabot Wealth NetworkPublishing independent investment advice since 1970.

President & CEO: Ed Coburn
Chief Investment Strategist: Timothy Lutts
Cabot Heritage Corporation, doing business as Cabot Wealth Network
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