In the current market downturn, it's been challenging to find growth stocks capitalizing on large opportunities and also achieving profitability. This combination is the holy grail for growth investors. It generally indicates a company with a profitable business model that can flourish because it's taking market share in a lucrative industry.
As rare as these stocks are, Adyen (ADYE.Y 1.87%) and PubMatic (PUBM -0.68%) are two hidden gems that managed to achieve this balance. I say hidden because both stocks are currently trading down over 51% year-to-date. While some investors might shy away from stocks trading down this much, others have discovered their monster potential.
If you have $1,000 available that isn't needed to pay bills, or reduce debt, or build up an emergency fund, you might want to consider investing in these two stocks. Let's explore some further reasons why.
1. The case for Adyen
Adyen is an emerging digital payments platform based in the Netherlands that increased its revenue by nearly 40% or more every year since 2016. Even at its low growth point in the first half of 2021, Adyen saw a 37% revenue increase compared to the year-ago period and that still far outpaced the industry's expansion. The global digital payments market is anticipated to reach almost $20 trillion by 2026, which represents a compound annual expansion rate of 24.4% from 2018.
Notably, Adyen isn't sacrificing profitability to achieve this higher rate of adoption, showing its current rise in activity is sustainable. Adyen is immensely profitable. In the first half of 2022, Adyen boasted a net income margin of 46% and a free cash flow margin of 51%. That's far higher than rivals like PayPal Holdings (PYPL 1.51%), which only had a net income margin of 1.3% and a free cash flow margin of 18% over the same period.
Given these jaw-dropping financials, why is Adyen stock trading down so much this year? It mostly has to do with worsening economies in the U.S. and parts of Europe. A global economic slowdown would undoubtedly hurt Adyen over the short term as payment activity slows. But even that might not deter Adyen over the long haul. Even factoring in this short-term pain, management still projects mid-20s to low-30s revenue increases over the medium term.
Adyen's stock isn't the cheapest on an absolute basis: It trades around 68 times earnings, compared to rivals like PayPal, which trades at 48 times earnings. However, there is a noticeable quality disparity between the two companies. Given Adyen's much higher profitability, fast growth, and balance sheet with no debt and lots of cash to weather this economic storm, the company deserves to trade at a premium. Adyen should be near the top of your watchlist if you want to add another stock to your portfolio.
2. The case for PubMatic
Like Adyen, PubMatic also strikes a great balance between profitability and top-line improvements. This small, sub-$900 million advertising technology company has been profitable for 13 consecutive quarters, posting a 12% net income margin in Q2 2022.
How is it doing this? PubMatic owns its own technology infrastructure, allowing it to store and analyze data to give customers insight into what advertising methods will be most effective. Since the company owns this internally, it doesn't have to spend money on public cloud alternatives and this saves it and its clients money. Take Magnite (MGNI -1.79%) -- PubMatic's main rival -- for example. Magnite (which doesn't own its own tech stack) hasn't generated more than $500,000 in annual net income since 2012. While it was likely expensive to build initially, this strategy now gives PubMatic a sustainable edge.
That's not to mention PubMatic's steady revenue growth: The company has seen revenue rise 20% or higher on a year-over-year basis for eight consecutive quarters. That continued in Q2, when the company posted a 27% year-over-year top-line increase. It makes sense that PubMatic is seeing rapid adoption, given its opportunity. PubMatic helps publishers fill open ad inventory, so the company will likely benefit from rising digital advertising spending. That's expected to reach $627 billion by 2024 -- a 12.6% compound annual increase from 2021.
What's better than a tech stock with rising revenue and profits? A cheap tech stock with rising revenue and profits. PubMatic currently trades at just 18.4 times earnings -- which is dirt cheap. PubMatic looks like a fantastic place to park some cash for the long term.