Finding quality companies that aren't already on Wall Street's radar is challenging since investors tend to take notice of businesses doing extraordinary things. That said, under-the-radar candidates can sometimes be found behind the scenes. Three companies for your watch list include niche payments-network company WEX (WEX -1.79%), manufacturing enabler MKS Instruments (MKSI -7.00%), and identity software player LiveRamp Holdings (RAMP -1.10%).
All three of these companies are growing, and hardly anyone has noticed. That oversight could be your opportunity.
1. WEX: Offers a payments network for health benefits plans
Headquartered in Maine, WEX operates a payments network (like Visa and Mastercard) primarily used for corporate spending. It offers fuel cards and products for travel-related purchases under its two largest business segments. That being the case, it's not surprising to see the stock's still down over 50% from 52-week highs -- response to the coronavirus pandemic has reduced fuel demand, fuel prices, and corporate travel spend.
However, WEX has a third business segment that deserves investors' attention. WEX Health Cloud helps businesses administer their benefit plans, and it gives consumers a convenient platform to track expenses and pay health bills. For 2019, WEX's health and employee benefits segment's revenue grew 48% year over year to $317 million.
Granted, most of the health segment's growth came via acquisitions. In the fourth quarter, the health segment's revenue grew 69%, but organic growth was just 18%. The rest came from the company's $425 million acquisition of Discovery Benefits. It was an important acquisition, giving WEX over 1 million new users across the U.S. That user growth is crucial for leveraging the largely fixed software cost, which will drive profitability.
WEX earned $2.26 per share by generally accepted accounting principles (GAAP) in 2019. That makes it's stock look quite pricey at around 50 times earnings. However, acquisitions alone affected earnings by $3.64 a share. Adjusting only for acquisition costs, Wex trades under 20 times trailing earnings.
This context coupled with its growth prospects once normal travel resumes are part of why I think WEX is undervalued today.
2. MKS Instruments: Diverse product lineup helps in a downturn
MKS Instruments may not be completely off Wall Street's radar: It's been on Fortune's 100 Fastest-Growing Companies list for three consecutive years. However, the company is likely misunderstood since it's often misrepresented as a pure-play in the semiconductor industry. But its products are used in a variety of industries, including the medical and scientific fields. In 2019, only 49% of revenue came from semiconductors.
The diverse use cases for its products are part of why I believe MKS Instruments is one of the better companies in this space for investors. Unlike some companies, it's not over-concentrated in a single industry or customer. In 2019, its top 10 customers combined only accounted for 33% of total revenue.
MKS Instruments' diversification has come via acquisitions. In 2016, it acquired Newport Corp. for $980 million, and in 2019, it acquired Electro Scientific Industries for $1 billion. While management isn't afraid to make large purchases like this, it likes to pay debt back down in a timely manner. Despite these being recent acquisitions, MKS Instruments only sports $872 million in long-term debt on its balance sheet, with $415 million in cash and equivalents.
MKS Instruments is able to deleverage quickly thanks to strong free-cash-flow generation. Over the last four quarters, it's generated $181 million in free cash flow. It also uses this cash flow to reward shareholders, with a dividend that yields just under 1%. While it's a modest payout, MKS has raised the dividend in six of the last nine years.
3. LiveRamp: This SaaS is growing its recurring revenue stream
We're in the early innings of the big-data age, and one data-centric company for your consideration is identity marketing player LiveRamp. This software-as-a-service (SaaS) business aggregates data from multiple sources and connected devices, creating a more complete customer identity profile. This information allows for more targeted and effective advertising from LiveRamp's consumer-brands customers.
Until recently, LiveRamp was just a small part of Acxiom Corp.'s business. But in 2018, the company sold off the Acxiom part of its business and went all-in on LiveRamp's software. That means this business is still taking shape, but the pivot looks to be paying off. LiveRamp's annual recurring revenue (ARR) is now $286 million, up 28% year over year.
There's another trend worth watching, though. Since the fiscal fourth quarter of 2019, ARR is up 23%. Meanwhile, sales and marketing is only up 6% as LiveRamp's customer pipeline strengthens. ARR growth outpacing sales and marketing costs is a trend that, if it continues, puts LiveRamp squarely on the path to profitability. Indeed, in the third quarter, its operating loss improved by $14 million quarter over quarter to just a $5.5 million loss. And it was free-cash-flow positive.
Some investors may worry about LiveRamp's business in the near term. Its customers are businesses, and businesses are cutting back on advertising due to the COVID-19 pandemic. It's worth monitoring. However, LiveRamp's software increases the advertising success rate. Therefore, the current economic climate could be a net positive for this business, as LiveRamp can help make those precious ad dollars more effective.