Investing in high-quality growth stocks is an effective way to beat the broader market's returns. But finding the best growth stocks is easier said than done.
To that end, one way to narrow your portfolio candidates is by searching for companies that are absolutely dominating a growing industry. So we asked three top Motley Fool investors to each pick a growth stock that operates with a virtual monopoly. Read on to learn why they chose Baidu (NASDAQ:BIDU), Alphabet (NASDAQ:GOOG)(NASDAQ:GOOGL), and Iron Mountain (NYSE:IRM).
The undisputed Chinese search engine champion
Keith Noonan (Baidu): Most Americans probably haven't heard of Baidu, but the average internet user in China uses its services on a daily basis. The company has somewhere around a 75% share of the Chinese search engine market and appears to be in position to retain leadership in the space and take advantage of some big growth opportunities.
Roughly 40% of China's population has yet to connect to the internet, and the search giant will almost certainly benefit as a greater number of people in the country connect to the web. The September-ended quarter saw the company post a 29% year-over-year sales increase and a 156% jump in net income. Search remains a high-growth business, with online advertising sales rising 22% over the prior-year period last quarter, and it gives the company access to a vast treasure trove of data that can be leveraged to build sustainable advantages in other areas.
The company is making big investments to ensure that it secures a leadership position in emerging technologies like artificial intelligence and autonomous cars. It also has an opportunity to benefit from rapid growth in mobile payment services, although it's currently an underdog in the space compared to rivals Alibaba and Tencent Holdings.
Earnings growth could be smaller in the short term as the company invests in infrastructure and new product categories that complement its ecosystem, but the long-term outlook remains promising. With a rock-solid hold on the Chinese search engine market, an expanding number of internet users, and plenty of growth opportunities outside of its core competency, Baidu looks like a worthwhile investment trading at roughly 27 times forward earnings estimates.
The world's most dominant internet search engine
Steve Symington (Alphabet): Alphabet Inc. isn't exactly a household name yet. But as the parent company of Google, it's the proud owner of seven products that each have at least 1 billion users, including Gmail, Android, Chrome, Google Maps, Google Search, YouTube, and Google Play. Together with its budding "other bets" segment -- composed of early-stage businesses like Nest smart home products, Google Fiber internet, and its various "moonshot" initiatives -- as well as various hardware products like Chromecast, its Pixel smartphones, and its vastly popular Google Assistant-enabled Google Home devices, Alphabet is expected to grow revenue next year by nearly 19% to a whopping $131 billion.
Zooming further in, the network effect created by that enviable stable of products has only served to further solidify the dominance of Google Search in particular, which is still arguably the company's greatest asset. Even as it faces persistent competitors like Baidu, Yahoo!, and Microsoft's Bing, Google Search still maintains a nearly 87% share of the global internet search market.
But such dominance also means direct competition isn't Google's only concern. Last year, the European Commission (EC) imposed a record $2.7 billion antitrust fine on Google for allegedly favoring its own comparison-shopping service over those of competitors in search results. Alphabet unsurprisingly disagreed with the EC's assertion and subsequently filed an appeal this past September. But in the meantime, the company was able to absorb the fine in its entirety as a separate operating expense in its Q2 2017 results -- and still generated quarterly net income of more than $3.5 billion in the process.
In the end, that kind of virtually un-disruptable business is exactly the kind of place growth-hungry investors should want to put their money to work.
This REIT has lots of room to grow
Matt Frankel (Iron Mountain): When it comes to record storage and document security, there's Iron Mountain, and there's everyone else.
Check out these impressive stats. Iron Mountain has 680 million cubic feet of hardcopy records archived, scans 627 million images annually, and stores 1 billion medical images. Iron Mountain's 230,000 customers include 95% of the Fortune 1000.
Iron Mountain is structured as a real estate investment trust (REIT) and owns 1,433 facilities all over the world. With such a dominant presence already, you may think that the company has little potential to grow.
On the contrary, there are plenty of catalysts that could propel Iron Mountain's revenue higher. For example, the company has a big opportunity to grow in emerging markets. And the cloud storage, disaster recovery, and data archiving solutions market is expected to grow by as much as 30% by 2021.
Finally, Iron Mountain has been quietly getting into the data center real estate business, which I see as the company's biggest long-term opportunity. The market for data centers has exploded in recent years, and Iron Mountain has the ability to leverage its highly respected brand name and extensive customer list to its advantage as it makes data center acquisitions.
As a REIT, Iron Mountain works especially well as an IRA investment. The stock pays a sky-high 6.4% dividend yield, which means you'll enjoy a nice income stream that should get bigger as the company grows.
The bottom line
We can't guarantee that these three promising stocks will be able to maintain their "virtual monopolies" forever. But given the dominance that Baidu, Alphabet, and Iron Mountain have already established in their respective core markets, it would be exceedingly difficult for their industry peers to wrestle it away. As such, we believe market-beating gains are in store for investors who buy now and hold as they only continue to grow stronger.