Hey, I've got this great septic tank company I want to tell you about this week. What? You're not interested in investing in "number two," you say? Hold on a second. Let's not be so quick to write off the underdog.
In an era in which the Anaheim Angels are in the World Series and the New England Patriots won the Super Bowl, let's not give the unlikely overachieving winners the short shrift. Sometimes that David can pack a pretty mean slingshot when Goliath is towering over him.
Freight logistics specialist Pacer International (Nasdaq: PACR) went public back in June. As the country's second-largest truck broker and intermodal marketing company, hitting the market in inclement weather is just something that a trucker's got to do. While the stock has surrendered 20% of its $15 IPO price, which is still a relative success in some ways, let's take a quick kick of the tires.
In its first publicly traded quarter, the company earned $0.19 a share -- a full nickel ahead of analyst projections. When you figure that many of these targets came from companies that helped take Pacer public, and that they should have had a much better understanding of the company's earnings capabilities, the miss is a blessing to the individual investor.
Sure, Pacer is a company at the mercy of others, and it had been posting lower profits with every passing year despite growing revenue every year. Want something even more strange? While 2002 will mark the first time that it grows the bottom line since 1997, it will also be the first time that the top line takes a breather. Analysts expect profits to continue to grow, with the stock now fetching just 15 times next year's income estimates.
But Pacer is not the top dog, and you've been taught that gold is worth more than silver. Of course it is, but is it priced accordingly? Warren Buffett has a great saying: "It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price."
While that might have the Rule Maker crowd nodding its collective head, I'm left to ponder what exactly is a wonderful company? What is a fair one?
Is a wonderful company the behemoth that has it all, yet, while it has the most to lose, is also the least nimble to respond to an assault on its market share? Is a fair company the smaller one that may be growing faster because it has so much room to go before its head bops the ceiling?
If you buy into the possibility that the smaller company may be the better growth prospect -- and that being neglected by Wall Street creates stock-pricing inefficiency -- why can't you have your cake and sling it, too?
It's far better to buy a wonderful company at a wonderful price than a fair company at a fair price.
Hollywood Entertainment (Nasdaq: HLYW) has outpaced video rental titan Blockbuster (NYSE: BBI) this past year, with its stock more than doubling in the process. We all know that Home Depot (NYSE: HD) rules the home-improvement space, but its stock is trading lower than it was two years ago. If you had gone with rival Lowe's (NYSE: LOW) at the time, your investment would have doubled.
If an investor is willing to take on the additional risk for the potential of greater reward, there are far more options than the obvious top-crust servings.
Does this mean that blue chips are toast? No way. If I had a penny for every time that a company was billed as "the next Microsoft (Nasdaq: MSFT)" I'd probably be able to use it to buy a share in that company -- with change to spare.
But it's also worth noting that Wal-Mart (NYSE: WMT) was once just Sam Walton's modest five-and-dime store. Dell (Nasdaq: DELL) was once simply assembling personal computers out of an Austin dorm room. Blue ribbons change hands.
Now, I'm not suggesting that you roll past Intel (Nasdaq: INTC) to load up on Advanced Micro Devices (NYSE: AMD). When two factions are mud wrestling in quicksand, it's probably best to keep your distance.
Folks who follow number twos like a pooper-scooper law enforcer would be right to note that Flextronics (Nasdaq: FLEX) -- second to Solectron (NYSE: SLR) in electronics contract manufacturing at this time last year -- has seen its stock shed more than 80% of its value since December. However, as grim as that may seem for Flextronics, Solectron investors are smarting worse.
While "No Coke (NYSE: KO), Pepsi (NYSE: PEP)" was a popular order in Saturday Night Live's Olympia Restaurant, it has also been solid investing advice in recent years. You would have lost money on Coca-Cola over the last four years. The same cannot be said for Pepsi.
But that poses a problem with mixed companies. While Microsoft is clearly a Goliath in software, it's a distant David in everything from video games to online subscriber services. But, by and large, it's large. Pepsi is a perpetual second-place finisher in the cola wars but it's dominant in salty snacks.
Investing in small caps is all about not investing in the biggest, but it doesn't mean that you have to deny yourself the opportunity to buy into the best. Even in a market like this, where it seems as if there is often a flight to quality, the list of top market performers continues to tilt towards the obscure.
Yes, you could have made some money this year if you recognized that the soft economy would produce gains in furniture leasing and bought into leader Rent-A-Center (Nasdaq: RCII). However, more green has been made for those who bought into smaller rival Aaron Rents (NYSE: RNT), which is projected to grow its earnings twice as fast as Rent-A-Center next year.
Now, getting back to that septic tank company. My apologies. I don't have one for you this week. But it made far more sense to lead things off that way. I certainly wouldn't have made too many friends in the large-cap world if I had referred to those who refuse to give number twos their due as constipated. That just wouldn't be right. Don't you think?
Rick Aristotle Munarriz has a nephew named David. He's fond of a roller coaster named Goliath. Rick's stock holdings can be viewed online, as can the Fool's disclosure policy.
