Investing legend Philip A. Fisher, who pioneered the "growth stock school of investing" once said, "I don't want a lot of good investments; I want a few outstanding ones".
With that said, the increasing flight of consumer dollars from brick and mortar companies to e-commerce platforms will bode well for companies such as online conglomerate Amazon (NASDAQ:AMZN) and online streaming and direct DVD rental service Netflix (NASDAQ:NFLX). Moreover, the increasing preference for fast casual dining serves as a boon for restaurant chains such as Chipotle Mexican Grill (NYSE:CMG). However, it always pays to look under the proverbial hood to check the fundamentals such as revenue, net income, free cash flow, and long-term debt as well as how much cash is retained on the balance sheet. If a company can't generate cash or if that cash goes toward paying interest on debt then you may want to shy away.
The online mall
If you walk in a brick and mortar mall you may find clothing shops, art supply stores, toy shops, movie theaters, anchor stores at the ends of the building and maybe even a grocery store. Amazon wants to be your one stop shopping mall online where you can buy food, clothes, watches, books, and even watch movies via its streaming service made available through Amazon Prime. Amazon grew its revenue and net income 23% and 32% respectively in the most recent quarter. However, its free cash flow came in at a negative $3.6 billion during that time.
Increased sales stemmed from increased movement of merchandise, price reductions for the customers, increased availability of inventory, and increased selections according to its latest 10-Q. Favorable currency and equity method investment gains contributed heavily to higher net income. A huge payment in accounts payable and increased capital expenditures due to investment in its infrastructure resulted in the negative free cash flow. On Amazon's balance sheet cash and long-term debt to equity ratios clocked in at 84% and 30% respectively last quarter.
Internet television network
Netflix calls itself the "world's leading Internet television network." The company rents DVDs by mail and streams movies and television shows online. Netflix grew its year over year revenue and net income 24% and 1,875% respectively in the most recent quarter. Furthermore, its free cash flow swung from a negative $45.6 million to a positive $8.1 million during that time.
Subscriber growth contributed to the huge expansion in revenue while a research and development tax credit contributed to the astronomical gain in net income. Favorable working capital differences and lower capital expenditures accounted for the positive free cash flow. Netflix possesses a good balance sheet. Cash came in at an amazing 113% of stockholder's equity. However, it increased its long-term debt in the twelve months ending the last quarter pushing its long-term debt to equity from 38% to 61% respectively. Investors should strive to look for companies with long-term debt to equity ratios below 50%. This may result in increased interest expense that could choke out future profitability and cash flow.
Chipotle forges ahead
Fast casual Mexican restaurant Chipotle Mexican Grill opened 44 out of the roughly 180-195 restaurants it plans to open in 2014 during the most recent quarter. Its comparable store sales increased 13% during that time. Consumers are drawn to its high quality food and the "Food with Integrity" motto where the company sources from socially responsible vendors. Chipotle Mexican Grill's commitment to food quality and public relations translated into excellent fundamentals with revenue, net income, and free cash flow increasing 24%, 8%, and 49% respectively last quarter. The company sits on an excellent balance sheet with cash clocking in at 25% of stockholder's equity and no long-term debt.
Amazon investors should expect lumpy free cash flow in the near future as it continues to invest in its distribution, technological, and content infrastructure. Expect global adoption of online streaming video content, content partnerships, and increasing original content to serve as market opportunities for Netflix. Expansion, food quality, and the "Food for Integrity" program will serve as a draw to Chipotle Mexican Grill. Finally, high growth companies typically command a premium on the stock market meaning they succumb to extra volatility. Ease into these companies slowly and buy more in a market downturn.
William Bias owns a share of Amazon.com and Chipotle Mexican Grill. The Motley Fool recommends Amazon.com, Chipotle Mexican Grill, and Netflix. The Motley Fool owns shares of Amazon.com, Chipotle Mexican Grill, and Netflix. 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.