You could invest in the flashy, high-growth stocks that get all of the headlines and coverage. But ample attention can be a double-edged sword. When a thoroughly covered company fails to live up to its potential, whether as hyped up by Wall Street or otherwise, investors could be in for a volatile stock price.
That doesn't mean you should avoid well-known high growth stocks altogether. However, you should know that not every high growth stock is well-known. Take A.O. Smith (AOS 0.14%) as the perfect example. It owns the leading brand of residential water heaters in the United States and China, wields commanding market share in industrial boilers, and is expanding into home water purification and air purifier products.
You may have never heard of it, or may not think water heaters are worth owning, but the stock has outpaced the returns of many popular growth stocks since 2011, when it began focusing exclusively on water technology products. If you're losing sleep over the volatility of holdings in your stock portfolio, then you should strongly consider buying A.O. Smith.
Image source: Getty Images.
The simple case for A.O. Smith
The company has everything investors could want. Steady and predictable revenue and earnings growth? Check. A strong core business that de-risks expansion into high-growth markets with quickly growing ranks of middle-class citizens? Check. Management that tells investors what it's going to do, then goes out and executes? Check.
The stock chart for A.O. Smith communicates the company's excellent track record of creating shareholder value in recent years.
AOS Total Return Price data by YCharts
That track record should inject confidence in investors concerning management's ability to continue executing on its growth plans, as should the fact that the company has increased its full-year 2017 earnings guidance three times this year. A.O. Smith reported record results for any third quarter and any first nine months to open a calendar year.
|
Metric |
First Nine Months 2017 |
First Nine Months 2016 |
% Difference |
|---|---|---|---|
|
Revenue |
$2.23 billion |
$1.99 billion |
12% |
|
Gross profit |
$914 million |
$829 million |
10% |
|
Diluted EPS |
$1.57 |
$1.38 |
14% |
Data source: A.O. Smith.
Much of the growth is built on the rising middle class of China, which boasts many households that are buying water heaters for the first time. Ever. By contrast, the North American market is mostly carried by households buying replacement water heaters when older models give out. A.O. Smith is also using its market presence and brand-name recognition to tailor its product offerings to the needs of its customer in the East. How? It also sells home water and air purification systems in China, which are both in high demand.
Both of those product lines were aided by acquisitions, which the company isn't shy about making. It recently acquired water-softener specialist Hague to pair with its products in China and other countries. Management also noted that its updated full-year 2017 guidance -- now calling for EPS of $2.12 to $2.14 -- excludes the impact of "future acquisitions," perhaps hinting that the recent Hague acquisition won't be the last made in 2017.
Here's the best part: The Chinese market is far from saturated. That means A.O. Smith shareholders have many more years of growth to look forward to, and that China will likely (perhaps easily) become the largest single market for the company. Moreover, as the company's foothold grows, it will begin to see higher margins in the country, especially once its Chinese manufacturing facility is up and running.
And even when growth begins to slow in China in the distant future, investors may not notice. Management believes India, similar to China, could represent a $1 billion market opportunity over time. It's a completely different regulatory and political environment, which suggests market penetration won't come easy, but recent developments provide hope the market is opening up. Besides, India is expected to generate just $24 million in sales this year, which means the opportunity is all upside.
What does it mean for investors?
Let's be honest: Water heaters aren't a sexy business. But they're one of the first things purchased by newly middle-class households. Turns out people enjoy the luxury of warm water. We may take it for granted in the United States, which may explain why A.O. Smith Corp. is overlooked as an investment, but that doesn't negate the massive opportunity elsewhere on the globe. If you're losing sleep over your portfolio, then consider buying this boring stock that can't stop growing.
