Growth stocks can deliver most of your portfolio’s gains, and even make up for a few laggards. But they have a downside: One misstep can be all it takes for Wall Street to turn against them. That’s exactly what’s happened in 2018 to the world’s top lithium producer, Albemarle (NYSE: ALB), and the most reputable marijuana stock, Scotts Miracle-Gro (NYSE: SMG). That shouldn’t scare investors from buying high-growth companies, however. For instance, it looks as if tiny biotech Codexis (NASDAQ: CDXS) will grow into its premium valuation (and then some) sooner rather than later.
If you’re looking for above-average returns for the long haul, these businesses are a great place to start. Here’s why all three growth stocks are buys right now.
A level-headed approach to lithium market expansion
Back in February, analysts at Morgan Stanley issued a bearish outlook for the global lithium market. In short, the report concluded that production capacity expansion projects would result in a severe mismatch between future supply and demand by 2025, and that selling prices for lithium hydroxide would fall precipitously as a result. The bleak forecast has continued to weigh on shares of lithium producers, as demonstrated by Albemarle stock’s 28% year-to-date decline. I think that has created a buying opportunity.
Management has taken the Morgan Stanley report in stride, using it to become more transparent with its growth strategy and the way it accounts for dynamics in the lithium market. At recent investor conferences, Albemarle has walked investors through a scenario in which lithium demand for transportation grows 11-fold between 2017 and 2025. To get there, the company thinks battery electric vehicles (BEVs) only need to represent 6.7% of all vehicle sales. That alone would push annual lithium demand for transportation applications to 360,000 metric tons, compared to just 50,000 metric tons last year. Another 190,000 metric tons of demand could come from hybrid electric vehicles (HEVs), plug-in electric vehicles (PHEVs), and larger vehicles, such as trucks and buses.
Throw in consumer electronics and other industrial uses of the metal and Albemarle thinks the global market could reach 800,000 metric tons per year by 2025 — and that’s relatively modest compared to other estimates. The Morgan Stanley report warned of a grossly oversupplied market, with 715,000 MT per year of supply available in 2025.
Investors might be wary of blindly accepting a market outlook from a company, but Albemarle’s walkthrough is rather persuasive. That’s because management has also taken the time to explain the lithium value chain, the lead time needed to ramp up supply for future battery factories, and the fact that customers (i.e. large automakers) want the stability provided by long-term contracts. Some customers are already making investment decisions for supply commitments in the 2030s. In other words, while it may look like lithium production is being expanded carelessly today, in reality there’s a well thought out plan in place behind the scenes.
A top synthetic biology stock
Codexis stock can do no wrong lately: Shares have gained 227% over the last year in a slow and steady ascent. Wall Street appears to finally be catching on to the potential of the technology platform, which combines lab automation and machine learning techniques to design enzymes that can aid in the manufacture of pharmaceutical, food, and chemical ingredients. These products earned a 46% gross margin in 2017.
Engineered enzymes can also be used directly as a biologic drug. That’s the hope, anyway, as Codexis expects to move closer to initiating clinical trials for its first drug candidate, a potential treatment for a metabolic disorder called phenylketonuria (PKU), in 2018. Those efforts will be supported and de-risked by the high-margin supply of industrial enzymes, and partner Nestle Health Science.
Most development-stage biopharma companies don’t have the advantage of owning a business completely separate from their clinical efforts, so Mr. Market has gone ahead and handed Codexis a market valuation of $830 million. That’s a premium to be sure, and it will take time to grow into that, but management is confident that’ll happen. Full-year 2018 revenue is expected to grow at least 20% compared to 2017 — and that estimate was actually a disappointment.
If new industrial enzymes get off to a strong start in 2019 and 2020, the supply business could achieve profitable operations. The phase 1 trial for PKU should be completed by then, and if it’s successful it will be handed over to Nestle Health Science for mid- and late-stage development. That would be accompanied by milestone payments, a reduction in direct R&D expenses (the partner is funding development after the first study), and the announcement of the next drug candidates being targeted. Simply put, Codexis has a wide open path to multiple avenues of profitable growth and clinical catalysts in the next few years.
The top marijuana stock (and a lot more)
Wall Street is dazed and confused over the sudden slowdown in growth at Scotts Miracle-Gro, but it appears to be a short-term concern. The company’s fiscal 2018 has so far been sabotaged by two factors: an unusually slow start to the consumer lawn care season, and regulatory uncertainty concerning the legalization of marijuana. That has pushed the stock 22% lower year-to-date.
While Mr. Market may have flinched, management hasn’t. Scotts Miracle-Gro stuck to planned consumer lawn care product launches and acquired Sunlight Supply, a leading distributor of marijuana production products, to go along with its leading hydroponics business, Hawthorne. But the hits have kept coming. Despite announcing that the consumer market rebounded to year-ago levels following record purchases in May, the company lowered its full-year adjusted EPS guidance in mid-June.
That has kept a lid on any possible rebound in share price — or, put another way, extended the buying opportunity. Investors will notice that all of the pieces are in place for Scotts Miracle-Gro to resume its growth in fiscal 2019. The U.S. Consumer segment contains some of the top brands on the market, while Hawthorne is uniquely positioned to capitalize on the budding marijuana market. In fact, the recent acquisition of Sunlight Supply will double the latter’s annual revenue from last year to $600 million.
Wall Street’s obsession with near-term results simply isn’t taking the long-term opportunities into account, and that’s pushed the stock’s dividend yield to 2.6% and valuation to just 18x future earnings. That doesn’t seem likely to last long, so investors may want to make a move soon.
Don’t be shy about these growth stocks
The way I see it, Wall Street is overlooking the fact that Albemarle and Scotts Miracle-Gro have plenty of growth ahead of them. That’s not surprising given the market’s hyper-focus on near-term results, and investors may not want to pass up the opportunity to buy shares at current prices. Meanwhile, Codexis stock has been on quite a run in the last year, but it should be able to grow into its premium valuation — and then some — so investors shouldn’t necessarily think they’ve missed their shot to own the synthetic biology stock at a reasonable price.
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