Growth stocks can be tricky. Investors must balance paying a fair price versus buying into the upward momentum related to a growth stock. Nobody wants to get caught holding the bag when growth declines and valuations deflate.
Be careful of stocks that only grow for growth
For example, Shopify (TSX:SHOP) stock was one of the best performers on the TSX for several years. Yet, when growth and market momentum declined, the stock fell by over 75%. It has recovered over 100% of its value from its 2022 low. However, Shopify stock is still trading down 57% from its high set in 2021. The point is that no growth stock is worth buying at any cost.
Unfortunately, stocks with great business fundamentals and strong per-share earnings growth tend to trade at higher valuations. Yet, some of the best stocks to own for the long term are those that steadily and moderately grow. They take the long-term horizon and grow in a measured way to sustain steady, upward returns for shareholders over time.
When looking for long-term stocks, growth is important, but so is profitability, sustainability, and an enduring business model. Here are two stocks that appear to encapsulate these qualities.
Constellation Software: A model of consistency
Constellation Software (TSX:CSU) is not the fastest-growing stock in Canada (although there is nothing wrong with approximately 20% annual growth in revenues and earnings per share over the past five years). It is the consistency of shareholder returns that is so impressive.
Over the past five years, the stock has delivered a 200% total return. That equates to a compound annual growth rate (CAGR) of 24.6%. If you look at the stock chart, over the past five to 20 years, the stock has been steadily up and to the right.
Constellation operates and acquires micro-sized software businesses around the world. Since it has a decentralized operating model, it leaves the acquisitions to its smaller operating units. As a result, it can acquire many small businesses around the globe simultaneously.
Constellation rewards its employees and management by buying them stock in the market. It actually has an incentive to slightly restrain growth and maintain reasonable valuations. At 20 times free cash flow, Constellation stock isn’t pricey, but it isn’t cheap.
If Constellation can continue to perform at that approximate 20% growth rate, there is no reason why there couldn’t be further upside for long-term shareholders ahead.
Alimentation Couche-Tard: A growth stock at a fair price
Another Canadian stock that has been on the steady up and up is Alimentation Couche-Tard (TSX:ATD). Alimentation has only grown revenues by an approximate 7% CAGR over the past five years.
However, it has grown earnings per share at double that rate with a 15.7% CAGR. Its stock has delivered a 136% total return over the past five years. That represents an 18% CAGR.
Couche-Tard has taken a relatively boring business (operating convenience stores and gas stations) and found a way to earn elevated returns. The company has a great brand, economies of scale, and operating expertise that enable high returns on its investments. Couche-Tard is exceptional at both capital allocation and business operations.
As a result, this company generates a lot of excess cash. It uses this to aggressively buy back stock and make smart acquisitions when the price is right. Earnings per share should continue to rise at a faster pace than revenues.
Like Constellation, Couche-Tard is not cheap. However, it is also not overly expensive. It trades with a price-to-earnings ratio of 18. It is not an unreasonable price to pay for a very well-managed company that still has significant growth ahead.
