Great stocks share three winning traits:
- They're self-funded. Top stocks produce bushels of free cash flow. Oracle (Nasdaq: ORCL ) and Google (Nasdaq: GOOG ) are perfect examples of this. Combined, they've produced nearly $10 billion in FCF over the past 12 months alone.
- They're growing fast. Big winners tend to attract customers and produce massive revenue growth, as Baidu.com (Nasdaq: BIDU ) has since coming public in 2005.
- They possess sustainable advantages. Great stocks have the chops to fund growth and expand margins. Think of Toyota (NYSE: TM ) with its cost advantages in the car business. Or Nokia (NYSE: NOK ) with its global reach, strong brand, and rapid development cycles in the mobile phone market.
Every one of these firms is a great business. I highlight them here because history proves that, while low-priced businesses can make for good returns, reasonably priced great businesses can make you rich.
Cheap stocks, cheap returns
Consider Google. When the search king was preparing for its August 2004 IPO, hundreds of stocks sold for less than 15 times earnings. Why pick 15? Jeremy Siegel pegs the 130-year average P/E of the market at 14.45.
Google, selling for around 100 times earnings, wasn't anywhere near that. Investors adhering to the investapo's party line -- that pricey multiples are rarely rewarded -- opted out of Google and into stocks trading for historically cheap multiples. Ford (NYSE: F ) and Citigroup (NYSE: C ) , for example, which were trading for 11.1 and 12.3 times earnings, respectively, on the day of Google's public debut.
But it was the cheapskates who went unrewarded. Ford and Citigroup have badly lagged Google and the market since the summer of 2004.
Great businesses, great returns
Were you to check my portfolio today, you'd see that I'm one of many who didn't cash in on Google. That said, you'd also see that I adhere to the strategy I've outlined here: I own great businesses.
My fervent belief is that, by concentrating my resources in the very best businesses -- the ones that are self-funded, growing fast, and feature sustainable advantages -- I'll reap millions.
And I do mean "concentrate." One of my holdings accounts for a full 17% of my portfolio. It's the best stock idea I've ever seen:
- Free cash flow exceeded $100 million last year.
- Revenue is up more than 20% over the same period.
- Operating margins are expanding dramatically, and net margin is north of 25%.
Ready to find out the ticker?
What really excites me, though, is that this stock, which commands just $2 billion in market value, is about to enter a hypergrowth phase that could unleash tens of billions in additional value.
David Gardner agrees. He names this stock, which was first recommended in the July 2002 issue of Motley Fool Stock Advisor, as one of his five top stocks for new money now.
Find out why by clicking here to join the service free for 30 days. You'll get unfettered access to all of David's picks, and there's no obligation to subscribe.