Berkshire Hathaway (BRK.A -1.01%) (BRK.B -1.12%) holds tens of billions of dollars in cash and currently sports a market cap near $500 billion. Those gargantuan numbers limit Berkshire's investment universe to only the largest and most liquid stocks.
This is a "problem" that Berkshire's Warren Buffett has openly acknowledged for years. He has said numerous times that "a fat wallet is the enemy of high investment returns," meaning that he can no longer buy smaller businesses that have big growth potential, no matter how attractive they might be.
So which businesses would interest Buffett today if he didn't manage so much money? I think Axon Enterprise (AXON -2.15%), Q2 Holdings (QTWO -2.38%), and EPAM Systems (EPAM -1.64%) would be his kind of companies.
Axon Enterprise is a business focused on nonlethal law enforcement. The company boasts a near monopoly in three growing markets. The two that you are probably most familiar with are its TASER stun guns and its body cameras. These products currently represent the lion's share of Axon's revenue and are growing nicely as they gain popularity.
However, what makes Axon such an attractive "Buffett business" is its growing Evidence.com software-as-a-service segment. Whenever data is captured on one of Axon's cameras, it can be uploaded to Evidence.com for storage, analysis, and even sharing with other police forces.
The great news for investors is that police forces are charged a monthly subscription fee to use Evidence.com. What's more, it would be a huge burden for a police force to change providers because they would risk losing all of that data in the transfer. This makes the company's revenue very sticky.
Axon's near-monopolies in stun guns, body cameras, and police data storage provide it with a wide and durable moat that Buffett would appreciate. Better yet, the need for law enforcement is immune to the economic cycle, which helps Axon to produce profits in nearly any market condition.
So why wouldn't Buffett be interested in Axon? The primary reason is that the company's market cap is under $3 billion. That makes it too small to matter.
Buffett currently holds substantial positions in Wells Fargo, Bank of America, and U.S. Bancorp, so it is obvious that he finds the banking industry attractive. One small-cap "banking" stock that I think he could learn to love is Q2 Holdings.
Q2 is a software-as-a-service company focused on the needs of small banks. Most modern banking consumers want to be able to transact online. However, small banks often lack the resources to develop the technology to meet these needs. That's where Q2 comes in. It can partner with nearly any bank to allow it to grow its technological offerings without having to develop the products in-house. Q2's software can help a small bank take advantage of features like online bill pay, mobile deposits, and more.
Small banks have been flocking to Q2 for years. This has allowed the company's revenue to consistently grow at a 20% rate and for its net loss to shrink (it's actually profitable on a non-GAAP basis). With thousands of banks out there to target, I think that Q2 can keep up this pace for years.
For investors, the beauty of Q2 is that small banks become heavily dependent on the company's services once they become customers. That dependency leads to recurring revenue and pricing power that the company can use to reinvest in itself and expand margins.
In total, I'm convinced that Buffett would find Q2 Holdings to be an attractive investment opportunity. However, the company's market cap of just $2.5 billion is way too small for him to even bother.
Nearly every business relies on software to function. However, not every project can be handled by off-the-shelf software. Lots of companies need to create custom software to fit their specific needs, which is a problem since they often lack the technical expertise to create it on their own.
EPAM Systems has been solving this problem for decades. EPAM is a leading provider of software engineering, design, and IT consulting services around the world. The company employs thousands of experts who can be hired on a moment's notice to complete any project that its clients can dream up.
For investors, that flexibility has translated into stellar long-term financial results. A key reason is that EPAM does a fantastic job at winning new business while it simultaneously expands its relationship with existing ones. In fact, EPAM's top 10 clients have been customers for an average of 10 years.
That dependable book of business means that EPAM has visibility into more than 90% of its revenue at the start of any year. The company's knack for winning new business has helped drive organic revenue growth of more than 20% annually for 31 quarters in a row.
If the company's stellar financials weren't enticing enough, I'm sure that Buffett would appreciate that EPAM's founder Arkadiy Dobkin is still in the corner office. Dobkin boasts a long track record of creating shareholder value and still owns 5% of shares outstanding. That aligns his incentives perfectly with shareholders.
It's possible that EPAM's market cap of $7.5 billion might be big enough to entice Buffett to make an investment. But swallowing this business whole wouldn't impact Berkshire all that much. Either way, I think this is a great stock for buy-and-hold investors to get to know.