While looking for supercharged tech stocks feels a lot more intimidating after many were sold off heavily in 2021, now may be the time to revisit the best businesses in this area.
Specifically, focusing on high-growth companies with improving cash generation can give investors a margin of safety.
Keeping this combination of supercharged tech stocks and improving cash generation in mind, let's explore why Airbnb (ABNB 0.25%), DigitalOcean (DOCN 1.92%), Paycom Software (PAYC -1.85%), and ServiceNow (NOW 1.00%) are great stocks to add to a buy list.
1. Airbnb
Like most of its tech-focused growth stock peers, Airbnb -- a robust platform of rental listings that matches hosts and guests -- faced declining sales growth rates following its post-pandemic jump. Spooked by this decelerating growth rate, many investors have fled from the company's stock.
But despite Airbnb's sales only growing by 24% in the fourth quarter of 2022, its stock spiked by more than 40% in 2023.
So what is causing this recent optimism? Two things.
First, Airbnb set new records for generally accepted accounting principles (GAAP) net income margin and free cash flow (FCF) margin in 2022 at 23% and 40%, respectively. Even after subtracting stock-based compensation from FCF -- which otherwise makes FCF look artificially higher -- the company's FCF margin was 29%.
With this cash generation, Airbnb built its cash hoard to nearly $10 billion -- despite spending $1.5 billion on share repurchases in the last two quarters. While most young growth companies merely buy back their shares to offset stock-based compensation, Airbnb lowered its share count by 1.3% from 2022 to 2023.
Second, Airbnb's moat from its two-sided network effect keeps growing stronger. Not only did new listings grow by 16% year over year in Q4, but 36% of new hosts were past guests. Finding new hosts from prior guests is a fascinating network effect, as it essentially acts as in-house advertising for discovering new interested hosts.
Trading at 37 times next year's estimated earnings, Airbnb's slowing sales growth may look expensive. However, its burgeoning network effects and profitability make it a captivating buy-and-hold forever investment today.
2. DigitalOcean
Offering simplified infrastructure and platform tools to start-ups and small and medium-sized businesses (SMBs), DigitalOcean's cloud-computing platform stands in stark contrast to its hyperscaling peers. Streamlining the complexities of cloud computing, DigitalOcean allows its upstart customers to focus on their operations rather than complex technological issues they have limited time to handle.
In fact, after acquiring Cloudways in 2022, the company now offers a managed hosting product -- meaning that if its customers want to avoid the "on-ramp to the internet" entirely, they can. Between this hosting, DigitalOcean's focus on customer service, and its database of self-help resources, the company is already being used by over 677,000 SMBs.
Despite this rapid uptake from SMBs and revenue growing 81% since its 2021 initial public offering, DigitalOcean's stock has been mauled since doubling shortly after it debuted.
Now trading at a price-to-sales ratio of 6 (a far cry from more than 20 in 2021), the company and its streamlining efficiencies look attractively priced. For example, with its capital expenditures as a percentage of revenue dropping from 35% in 2020 to 19% in 2022, look for DigitalOcean to begin posting GAAP profits as it grows alongside its small customers.
3. Paycom Software
Serving more than 6.5 million employees across its 36,600 clients, Paycom's cloud-based human capital management products are beloved by many. With a Net Promoter Score (NPS) of 39, Paycom is the only one of its major payroll-related peers to receive a positive rating from its clients.
NPS is rated on a scale between -100 and 100, with a positive score signifying that a company's customers would recommend its products to a friend. This makes Paycom's mark very promising and helps explain how it has averaged 33% sales growth over the last decade. Furthermore, since its IPO in 2014, Paycom has seen its net income grow from $6 million to $281 million in the previous 12 months.
Thanks to this incredible growth (and a net income margin of 20%), the company traded at towering valuations before being sold off heavily in the last year and a half.
Still trading at a premium price-to-earnings ratio of 60, Paycom is by no means cheap yet. However, its average return on invested capital (ROIC) of 31% over the last 10 years signals that it could quickly outgrow this premium valuation -- especially considering its past revenue growth rates.
ROIC measures a company's profitability compared to its debt and equity, with top-tier ROICs historically outperforming lower-scoring peers. Thanks to this steady profitability and high NPS ratings in a largely unloved industry, Paycom's supercharged growth shouldn't be passed over simply because of a premium valuation.
4. ServiceNow
Optimizing workflows for technology, employees, customers, and creators, ServiceNow consolidates once-siloed departments onto its Now platform, helping businesses digitize their operations.
Its products that enable the automation and simplification of previously manual processes are currently used by 85% of Fortune 500 companies.
After seeing this widespread adoption, it may be no surprise that the company's NPS is an incredible 47 -- good for 94th across all technology brands. Riding this popularity, ServiceNow grew sales by 31% annually over the last five years but has seen its share price plummet since 2021 as this growth decelerated.
While ServiceNow is yet to fully flip the profitability switch, paying out roughly 20% of its revenue in stock-based compensation annually, it generates incredible amounts of FCF to fund new product ideas.
Counting over 1,600 customers with an annual contract value of $1 million or more, ServiceNow is deeply engrained across the biggest companies in the U.S., yet still has ample room to grow alongside them. Furthermore, ServiceNow only generates 35% of its revenue internationally, leaving a tremendous growth runway ahead, making this an interesting supercharged tech stock to buy.
