Great growth stocks can be expensive. Take eBay, Dell, or Google, for example. Analysts are predicting 30%, 20%, and 30% growth for each of these companies, respectively. That's heady growth that investors would be smart to pursue. The question is: Are you willing to pay for it? Those stocks each trade at price-to-earnings (P/E) ratios north of 20 -- and Google's is closer to 90.
But there is a way to sometimes get in on that great growth without paying a premium. The trick? Look behind the scenes.
Put on your sleuthing cap
Across all industries, it seems that Wall Street focuses on the front-runners and media darlings. Yet because they're small or -- worse -- boring, behind-the-scenes companies can rack up sales by supplying the big dogs and still manage to stay under Wall Street's radar.
"Small" and "boring" are two things Peter Lynch looked for during his tenure at Fidelity Magellan, and it's what Fool co-founder Tom Gardner looks for in his Motley Fool Hidden Gems newsletter service. These companies are often underpriced by the market, yet offer the same monster growth opportunities as their better-known brethren. Consider a few examples:
Make fast food faster
No matter how many dire warnings we hear from health experts, fast food is not going away anytime soon. So who's making money behind the scenes here? Well, walk into a McDonald's (NYSE:MCD) or Domino's (NYSE:DPZ) and you see that, quite obviously, they all have to cook stuff -- with ovens, fryers, and toasters.
Somebody makes that equipment -- and probably has some lucrative service contracts to maintain it all. That somebody is Middleby. In addition to McDonald's and Domino's, other big-name customers include Yum Brands (NYSE:YUM), which owns the KFC and Pizza Hut franchises, and Papa John's (NASDAQ:PZZA).
And the company is on a roll. Tom Gardner recommended Middleby to subscribers of his Hidden Gems newsletter service back in the fall of 2003, after CEO Selim Bassoul refocused the company's efforts on what it does best: commercial ovens. The stock has since posted a nearly 300% gain.
Natural foods for healthy gains
If fast food is not your thing, maybe you've noticed that natural foods stores are popping up like organic mushrooms after a rainstorm. Whole Foods (NASDAQ:WFMI) has grown from 11 stores in 1991 to 172 stores in the United States, Canada, and the United Kingdom today. Wild Oats began in 1987 with just one store and now has more than 110 stores in North America.
Who's stocking the shelves at all these new stores? Answer: United Natural Foods, the primary distributor to both Whole Foods and Wild Oats.
By serving this booming market, United Natural Foods has reaped some healthy rewards. Sales have grown 18% annually over the past three years, and the stock has tripled in price. United now trades at a P/E that is less than half Whole Foods' (21 to 56).
The company that keeps Intel "in the chips"
If you've got your eye on the microchip manufacturing process, you know that all those chips have to be tested to make sure they work. It turns out that FormFactor (NASDAQ:FORM) is the leading supplier of devices that test these chips.
One of its major customers is industry giant Intel (NASDAQ:INTC). But Intel is widely known -- capitalized at $150 billion, it's followed by about 40 Wall Street analysts and has posted little in the way of stock market gains since 2001. The chances of this stock doubling in the next three years are slim.
Meanwhile, little-known FormFactor has been quietly developing breakthrough technology to test microchips faster. And the chipmakers have been flooding FormFactor with orders for its latest products. FormFactor has been public since July 2003. Investors who discovered it in 2004 have earned outsized 25% gains (despite its volatility), and the behind-the-scenes player still offers some room to run.
How to outfox the experts
One of the most exciting parts about investing is discovering a company you've never heard of, investing in it, and making money on that idea. And that's exactly what Tom and his team are doing over at Hidden Gems. Since the newsletter's inception in July 2003, Hidden Gems picks are outperforming "the market" (as measured by the S&P 500) by 18 percentage points. Right now you can get a free peek at Tom Gardner's techniques and recommendations for 30 days at no cost.
In the meanwhile, keep sharpening your sleuthing skills, and you too may discover the next behind-the-scenes winner.
Fool contributor Brad Mager does not hold positions in any of the companies mentioned in this story. Dell, eBay, and Whole Foods are Motley Fool Stock Advisor recommendations. The Motley Fool has a disclosure policy.
