Finding a stock with the growth potential necessary to make its share price go parabolic is tough. However, in reality, investing in such stocks -- provided you identify them -- gets even more difficult because most of these stocks already carry a premium valuation.
Yet, finding such stocks isn't impossible.
Two businesses we will look at today, Doximity (DOCS +1.36%) and InMode (INMD +0.35%), are steadily growing operations, and yet trade at discounted prices today -- something that may not last forever. The two businesses are wildly profitable and cash-generative, with free cash flow (FCF) and net profit margins above 25%.
Focused on niches of the healthcare industry that seem to have decades-long tailwinds at their backs, these two magnificent stocks look poised to go parabolic.
1. Doximity: Quietly dominating the digital healthcare industry
Founded in 2010, Doximity has built the most prominent digital platform for the United States healthcare industry. Used by over 80% of U.S. physicians, more than 50% of nurses and physician assistants, and an incredible 90% of medical students, the platform is home to 2 million-plus medical professionals.
Doximity created this massive healthcare-facing platform by offering three core solutions to its members through its market-leading app:
- Professional Network: Profiles, connecting with colleagues, and career management.
- Newsfeed: Medical articles, news, clinical discussions, educational items, and sponsored content.
- Productivity: Dialer (telehealth voice and video calling), digital fax and e-signatures, Amion (scheduling), and messaging.
This suite of solutions makes Doximity's app a one-stop shop for medical professionals, which is why Jeffrey Tangney, its Chief Executive Officer and founder, likens it to a "Bloomberg for physicians."
Through its importance to and widespread adoption by the medical industry -- particularly physicians, who account for roughly 73% of healthcare spending -- the app has become precious marketing territory for pharmaceuticals and hospital systems.
Counting all 20 top pharmaceutical companies and hospital systems as customers, Doximity has the receipts to support this notion. Most importantly for investors, these massive clients aren't just advertising with the company here and there but steadily increasing their spending over time. For example, Since fiscal 2021, Doximity has grown the number of $10 million-plus clients from two to 11.
Despite this success, the market has continued worrying about Doximity's decelerating sales growth, which only rose 20% in the first quarter and 11% in the second quarter of this year -- a far cry from 90% growth at its initial public offering (IPO). Thanks to this slowdown stemming from a broad downturn in advertising spending across the U.S., Doximity's share price has dropped 76% from its all-time highs.
NYSE: DOCS
Key Data Points
Thanks to this decline, the company trades at a much more palatable valuation, with an enterprise valuation (EV) to FCF ratio of 23.
DOCS EV to Free Cash Flow data by YCharts.
I've used an EV-to-FCF ratio instead of a traditional price-to-FCF ratio (which uses market capitalization) because Doximity holds over $700 million in cash and short-term equivalents with no debt. This means that roughly one-sixth of the company's market cap comes from cash, which somewhat impairs traditional valuations.
With this massive cash balance (relative to its $4.4 billion market cap), management has rapidly begun buying back shares on the cheap, lowering its share count by a staggering 5% in the last six months. With plenty more ammunition available to continue these buybacks -- not to mention Doximity's 28% FCF margin continuously bringing in more cash to spend -- the company looks primed to weather the advertising market's current downturn.
Accounting for just 5% of the estimated marketing budgets from the 430 U.S. pharmaceutical brands with $100 million in sales, Doximity's growth story could still be in its early chapters. This growth potential, the company's cash balance, willingness to return cash to shareholders, and reasonable valuation combine for one magnificent stock that could go parabolic.
2. InMode's cash balance accounts for 36% of its market capitalization
Led by the power of its seven patents, InMode has an array of devices that use radio-frequency (RF) technologies to contour, tighten, and de-wrinkle skin on faces and bodies alike. These devices fill what management calls a "treatment gap" between laser procedures that usually need to be repeated and often have low efficacy and plastic surgery that is a massive expense, could leave scarring, and requires downtime.
Capitalizing on this niche as consumers continue looking for minimally invasive alternatives to plastic surgery, InMode saw its revenue and FCF nearly quintuple in less than five years since its IPO. However, much like Doximity, InMode has seen this staggering growth start to decelerate. In its most recent quarter, sales growth barely increased by 2% -- a dramatic drop from the 40% growth it has averaged over the last five years.
This slowdown, paired with the current geopolitical risk surrounding InMode's home country of Israel, has left the market taking a wait-and-see approach toward the company's stock, sending it crashing downward.
NASDAQ: INMD
Key Data Points
However, now down 76% from its all-time highs, it may be time for investors to reconsider the company for a couple of reasons.
First, while sales growth was minimal last quarter, recurring revenue sources of consumables and services rose by 28%. This highlights that consumer demand for the procedures offered by InMode continues to be high -- even if doctors temporarily install fewer platforms amid the challenges of the broader macroeconomic environment.
Second, while FCF dipped by 9% in the third quarter, the company has maintained an incredible 26% FCF margin. Thanks to its history of immense FCF generation, InMode now boasts a $678 million cash balance, which accounts for 36% of its market capitalization. Not only does this arm management with an "elephant gun" for mergers and acquisitions, but it also leaves the possibility to start buying back shares on the table.
Finally, and partially thanks to this massive cash balance, InMode trades with an EV/FCF ratio of just 7.
INMD EV to Free Cash Flow data by YCharts.
This ridiculously low valuation, paired with procedures that could be set to benefit from new weight loss drugs gaining traction throughout the world, could act like a coiled spring that makes this magnificent stock go parabolic.
