The First Stock for a Young Investor's IRA

Stamps.com is the unlikely first addition to the Pencils IRA Project, a new real-money IRA portfolio managed by a 21 year old.

Mar 1, 2014 at 12:00PM

The Pencils IRA Project is dedicated to building a portfolio of promising businesses that can be followed and replicated by both young and new IRA investors. Each holding of the Pencils IRA Project must meet the five pillars of a "megagrower" business -- purpose-driven business, innovative products, visionary leadership, increasing cash flow production, and strong company culture -- with significant potential to create stakeholder value and substantially beat the market over the long haul. 

It's never too early to open an IRA and begin investing for retirement. Any money young adults add to an IRA should be money that will not be needed until retirement age. (Withdrawing funds from an IRA before hitting retirement will, in many cases, lead to penalties.) This is all the more reason for young investors -- who likely have between 30 and 40 years before they hit retirement age -- to maintain a long-term horizon when making investment decisions in the present day. While there are certain circumstances where Roth IRA funds can be withdrawn before retirement without consequences, it is best to treat and IRA as a very long-term-focused investment vehicle.

Last month I added Stamps.com (NASDAQ:STMP), a leading provider of online postage and shipping solutions, to my watchlist. This month, Stamps.com is the first addition to my Roth IRA as part of the Pencils IRA Project.

Before the inevitable question arises -- "Is there even a need for postage anymore?" -- there is a critical point to keep in mind.

Online shopping is becoming the new norm. Consider that Amazon Marketplace -- Amazon.com's (NASDAQ:AMZN) marketplace for more than 2 million independent sellers -- saw record sales in 2013:

In 2013, Marketplace Sellers on Amazon sold more than a billion units worldwide, cumulatively worth tens of billions of dollars. The Amazon Marketplace, which consists of more than 2 million Marketplace Sellers of all sizes worldwide, experienced record growth during the busy holiday selling season. On Cyber Monday, more than 13 million units were ordered worldwide from Marketplace Sellers on Amazon, growing the total units ordered by over 50 percent year-over-year. 

Increased online shopping necessarily makes for increased shipping (and postage) needs. Stamps.com is poised to benefit from the ongoing expansion of Amazon Marketplace, given its partnership with Amazon allowing Marketplace sellers to print postage through Stamps.com's Marketplace shipping label service.

In short, I believe Stamps.com stands to capitalize on the trend toward online retail in the coming years. It also offers a disruptive alternative to traditional postage solutions providers like Pitney Bowes (NYSE:PBI), offering customized shipping-software solutions for a growing number of businesses engaged in e-commerce.

With that said, how does Stamps.com stack up with our five "megagrower" pillars?

Pencils

Purpose-driven business
Helping the world deliver packages isn't the flashiest of endeavors. Stamps.com -- recently ranked by Forbes as one of America's Best Small Companies -- is committed to helping business owners and shippers save time and money by offering convenient and cost-effective postage, shipping, and online checkout solutions.

Part of what separates a purpose-driven business is the answer to the question: "What makes employees excited to work for this company?" As you will see in the leadership and company culture pillars, Stamps.com stacks up well in this department. 

Innovative products and services
Stamps.com is one of only three vendors approved by the United States Postal Service to sell postage and shipping solutions online. Not only does this provide a sizable moat for Stamps.com, but the company is currently in the process of scaling its business to meet the needs of higher-volume enterprises that are increasingly utilizing online shipping services. Additionally, Stamps.com continues to invest in strategic partnerships with Amazon and eBay to seamlessly integrate with e-commerce platforms and online shopping carts.

This January the company was assigned a patent -- four years in the making -- "for the computerized generation and printing of a U.S. Postal Service Shipping Label over the Internet." After many years of negotiating with the U.S. Postal Service, Stamps.com is also now able to sell first-class stamps for $0.48 versus the $0.49 charged by the U.S. Postal Service, marking "the first time in history that such a single piece letter discount has ever been made available by the postal service." In short, Stamps.com provides an innovative service that saves both the U.S. government and a wide array of enterprises time and money.

It benefits the little guy, too: Stamps.com's cumulative monthly subscriber count stands at 468,000, up from 385,000 in 2011 and 435,000 in 2012. 

Visionary, experienced, involved leadership
Stamps.com has a slate of executive leaders who have been with the company since 1999 and are still 45 years old or younger. This management team has proven their commitment to the business, sticking with Stamps.com through the bursting of the tech bubble and the 2008 economic meltdown. In addition, Stamps.com's independent directors own 14% of all shares outstanding, which indicates confidence backed by large personal investments. This, in turn, gives me confidence that management's actions are aligned with the interests of long-term shareholders.

"We believe we have a very attractive and sustainable business model and are looking forward to delivering results over the next five years," says co-president and CFO Kyle Huebner. Experienced, innovative, and forward-thinking management -- that's a winning combination, if you ask me. 

Consistently increasing cash-flow production
In the first three quarters of 2013 Stamps.com produced $33.2 million in operating cash flow, surpassing the $27.3 million in operating cash flow generated by the business in 2012. This is a marked improvement from the $4.8 million in operating cash flow generated in 2010. 

This stellar cash-flow production has led to a sturdy balance sheet with $87.21 million in cash and no debt. To top it off, in 2013 sales grew by 11% and earnings grew 35% to $38.9 million. With strong margins, continued cash-flow production, and a rock-solid balance sheet, Stamps.com is in excellent financial condition to capitalize on future opportunities.

While the company may report relatively slower results in 2014 due to shifts within the business, I believe management is making the proper adjustments -- and has the financial backing -- to ensure Stamps.com continues to grow over the long haul.

Strong company culture
Stamps.com prides itself on an entrepreneurial culture where employee creativity is encouraged. On Glassdoor.com, Stamps.com employees give the company a rating of 3.5 out of five, and CEO Ken McBride has an impressive 88% employee approval rating.. The Better Business Bureau gives Stamps.com an "A+" grade based on factors like the company's low volume of customer complaints. 

Foolish bottom line
I opened my position in Stamps.com prior to the company's mid-February earnings release, when the stock was trading at a P/E of 18. Despite beating analysts earnings estimates, the stock was hit by as much as 11% following the company's earnings report. Today the stock trades at a P/E of 15, which strikes me as an exceptional value for a quality business capitalizing on the growing online retail market.

With a market cap of less than $600 million, Stamps.com will probably be one of the smaller (and lesser-known) businesses added to the Pencils IRA Project. Despite the market's negative reaction to the company's latest earnings report, I remain confident that Stamps.com will continue to generate value for its numerous stakeholders and offer market-beating returns in the coming years.

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David Kretzmann owns shares of Amazon.com and Stamps.com. You can follow David on his Foolish discussion board, Pencils Palace, on CAPS, or on Twitter @David_KretzmannThe Motley Fool recommends Amazon.com. The Motley Fool owns shares of Amazon.com. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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