The following is part of our Rising Stars portfolios, where Fool analysts create real-money portfolios for investors to follow. You can access Eric's real-money portfolio, and follow all of his tech buys and tech market commentary on Twitter.
When investing in a consumer staple like underwear, it's pretty clear what your total market size is. There's no self-bleaching technology around the corner for tighty whities, the market size is pretty easy to estimate, and it'll be largely the same today as it is in five years.
In technology, the picture is a bit more complex. A fantastic new technology can build new markets yet unseen, or a company can move into adjacent markets and double its footprint. Today, I'm planning on buying three companies I think can continue expanding their footprint and benefit shareholders along the way. In each case I'll give a quick hit on the opportunity, and across the next week I'll provide longer write-ups on the companies in question to explain the opportunity in greater detail.
Buy No. 1: Ancestry.com
I'll admit, the first time I saw Ancestry.com (Nasdaq: ACOM ) recommended I laughed at the idea that millions of people would pay monthly fees to chart their genealogy. However, I've come to realize that my knee-jerk reaction to the company was dead wrong. While Ancestry freely admits that its customer base is atypical, going so far as to describe them as "your crazy aunt," all those crazy aunts add up to 1.7 million subscribers.
That's a tremendous subscriber base, and I'm not sure how much further it has to grow. However, negativity surrounding rising subscriber acquisition costs and slowing subscriber growth rates is already priced in to Ancestry. The company trades for 19 times earnings, but it's closer to 10 times on a cash-flow basis.
The important point to me is that as of right now, Ancestry has barely scratched the surface on up-selling its loyal customer base to better and more comprehensive services. In the short term, this situation hasn't played out. Average monthly revenue per user was $18.38, which is actually a dip from the $18.68 subscribers paid in the prior period.
However, future advances like DNA tests should be able to change this equation. As subscriber growth continues slowing and Ancestry casts about for plans on continuing growth, I believe the company will be able to capitalize on this opportunity. Ancestry will grow its market, by offering even greater services that loyal customers are willing to pay more per month for. With its valuation and lack of pure-play competition, Ancestry should be a winner over the long-term.
Buy No. 2: IBM
IBM (NYSE: IBM ) might be a pretty unsexy pick, but that hasn't stopped it from being a winning investment over the past several years. I picked the company in the late summer of 2010 and purchased it with the Fool's own money. My thesis hasn't differed much from my thinking at the time, so you can read my original buy recommendation. Since that buy, however, a lot has changed for the company. IBM has soared 70%, crushing the market's 28% return, but I still think IBM's placement in technology and valuation remain very fair even after that outperformance.
I'm not expecting IBM to thump the market again by more than 40% with this pick, but I do think I'm able to buy one of the best-run tech companies with a disciplined vision for well-managed growth. Of the large IT organizations, IBM has not only set itself up to continue growing with the global economy the best, but it has also maintained the tightest focus on expanding into markets like data analytics that continue growing in importance.
Buy No. 3: Riverbed Technology
I've long eyed Riverbed Technology (Nasdaq: RVBD ) as a great "best of breed" play in the networking space. I think its core WAN optimization space could be a huge technology across the next decade, and my discussions with IT managers only seems to confirm that not only will WAN optimization be a big deal, but also Riverbed's place as the top dog is secure.
Riverbed has been selling off because its growth is slowing, primarily attributable to lessened sales in its flagship "Steelhead" product line, which is undergoing a major refresh. However, beyond WAN optimization, the company continues pushing into adjacent markets with its "Granite" product line, which targets the growing storage-area network market and continues solidifying Riverbed as a company in the pole position of data-center consolidation.
In the end, I think Granite has a great opportunity to move Riverbed into new markets and that market reaction to recent sales slowdowns is overblown. Throw in the fact that Riverbed's accounting for long-term deals makes it cheaper than it looks (but still not inexpensive by any means) on a cash-flow basis, and I think this company looks poised to see strong growth in the years ahead.
Tomorrow I'm planning on buying about $1,000 worth of both Ancestry.com and IBM in my portfolio, and I'll nibble on Riverbed by buying about $500 worth of its stock. I remain cautious on the strength of the tech rally and would prefer keeping Riverbed as a Watchlist stock in case growth stocks see big losses in any pullback, but all the same I've been sitting out the rally for far too long and want to buy into an IT franchise that I believe has better days ahead.
One more idea for the road
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