Cathie Wood is the hottest name in investing right now.
Investors have been clamoring for stocks that are owned in exchange-traded funds run by Wood's ARK Investment Management LLC thanks to the success of the ARK Innovation ETF (ARKK +2.44%), which is up more than 200% over the past year.
Wood and her team are doing an impressive job on their own. But there is always a place for new ideas. Here is why three Fools believe Leidos Holdings (LDOS 0.83%), QuantumScape (QS +0.92%), and ABB (ABB +4.13%) should be on Wood's radar screen.
Image source: Getty Images.
Why limit autonomous to driving?
Lou Whiteman (Leidos Holdings): We know ARK sees the potential in autonomous technologies based on its bullish stance on Tesla, and stakes in Palantir Technologies and Kratos Defense & Security show the firm is not opposed to dabbling in defense stocks. With that in mind, I suggest Leidos Holdings as a good fit for the portfolio.
Leidos is a defense tech company. It is the largest provider of outsourced IT services for the Pentagon and civil agencies, including a substantial classified business working with spy agencies. But in recent years Leidos has grown to be much more than that, and is now one of the first companies that comes to mind when thinking about futuristic defense tech.
In 2019, the U.S. Navy passed a key autonomous milestone when it sailed a Leidos-designed ship from San Diego to Hawaii and back with little human intervention. While drones get most of the attention for now, autonomous operations are key to the Navy's planned growth because they offer the potential for the government to expand its fleet without taking on massive new personnel costs.
Leidos added to its high-tech hardware business last year when it spent $1.7 billion to acquire Dynetics, a research shop focused on intelligence, missiles, aviation, and space. Dynetics has a lot of futuristic contracts, including serving as the lead contractor on the "Gremlins" project aiming to launch a swarm of autonomous drones from a plane. It is working with Kratos on that effort.
By ARK standards Leidos is a value play, trading at 1.1 times sales and 15 times forward earnings. The stock has been flat since the beginning of 2020, in part due to market nervousness that with pandemic-related government spending heating up the Pentagon budget is going to have to take a hit.
But over the past five years Leidos has outperformed the S&P 500, and the company's suite of products is well suited to match areas of Pentagon demand in the years to come. Leidos is an underappreciated long-term tech play.
Big risks, big potential, and electric cars: This one is right up ARK's alley
John Rosevear (QuantumScape): We should be clear up front that this stock is kind of an all-or-nothing bet. But if it pays off, it could pay off big -- making it just the kind of stock that Wood and her team seem to love.
QuantumScape went public late last year, but it isn't a new company. It has been working for over 10 years on a "holy grail" technology that the battery industry has been hoping to commercialize for decades, namely solid-state batteries for electric cars. And it may have solved a key puzzle that will finally open the door to the technology.
This is a big deal. Solid-state batteries have the potential to be more energy-dense, lighter in weight, less expensive, quicker to recharge, and safer than current lithium-ion batteries in vehicle applications. To put it even more simply, a solid-state battery that is reliable and that can be affordably mass-produced will be a big advance for electric vehicles.
Volkswagen has made a huge bet on electric vehicles, and QuantumScape is a $300 million piece of that bet. Image source: Volkswagen AG.
That has all been known for years, but of course it's not that simple. The industry has struggled to develop a solid-state battery that works outside of a laboratory setting and that has the durability necessary for automotive applications. The details are somewhat complicated, but what investors need to understand is that solid-state batteries require a "separator" that behaves in certain ways, and nobody has been able to come up with one that works.
That's the puzzle that QuantumScape may have solved. The company said in December that it has developed a new flexible ceramic material that appears to make a good separator for a solid-state battery. That's genuinely exciting, and it could make QuantumScape a big winner in the EV battery space -- but Cathie Wood and her team will need to keep in mind that the timeframes are quite long.
Let's put it this way. Volkswagen (VWAGY +2.23%), which has invested about $300 million in QuantumScape, doesn't expect to be shipping cars with solid-state batteries for at least five years, and possibly longer. QuantumScape itself is hoping to begin manufacturing in 2024.
The long timelines mean that there's a lot of risk here. QuantumScape has promising technology, but there are other solid-state battery efforts under way, and there's no guarantee that QuantumScape will be first to market even if its tech pans out.
But for an aggressive investor who is convinced (as I am, and as Cathie Wood certainly seems to be) that electric vehicles are the future, it's an intriguing bet.
ARK Invests in the future, and robots are the future
Rich Smith (ABB): According to its mission statement, ARK Invest "aims to provide broad exposure to disruptive innovation" such as "artificial intelligence, robotics, energy storage, DNA sequencing," and others. And yet, if you go down the list of stocks that ARK Invest currently owns, one name is notably absent: ABB.
One of the biggest robotics stocks in the world, Swedish-Swiss conglomerate ABB (which also has substantial operations in the fields of electric car charging and solar power solutions, hint-hint) is a titan of industry. By market capitalization, it weighs in at $62.3 billion. By sales, it boasts a $26.1 billion revenue stream.
ABB also earns a lot of profit on those sales. Over the past five years, total profits as calculated according to generally accepted accounting principles (GAAP) amounted to $12.8 billion. Real free cash flow backed up about 84% of those reported profits -- not ideal, but not too shabby at $10.8 billion. That's especially true when you consider how much the coronavirus pandemic disrupted operations last year, cutting free cash flow to a mere $1 billion.
And yet, as the world emerges from a recession, ABB is ramping its business back up. To illustrate, almost all of ABB's free cash flow last year came in just the fourth quarter alone -- $920 million of it -- and this implies that the company has significant momentum as the world emerges from its economic crisis in 2021. Over the next five years, analysts who track ABB actually see profits growing 19.5% every year for the next five years, a fantastic growth rate for a company of ABB's size.
At a recent valuation of just 12.2 times trailing earnings, I think ABB is the kind of robotics stock Cathie Wood should buy.
