How to invest in tech stocks?
11/12/2019
div>How to invest in tech stocks?
The tech companies on NASDAQ increased 35% year-on-year, moreover individual companies also showed excellent results:
  • Microsoft shares +55%
  • Apple shares +86%
  • Facebook shares +57%
  • Amazon shares +23%
  • Alphabet shares +29%.
At the beginning of 2020, the capitalization of the five largest technology giants was as follows:
Last year Apple and Microsoft showed excellent financial results, which positively affected the value of their shares. The price of Apple share exceeded $ 300 for the first time. Over the past year the price of shares has doubled: in early January 2019 Apple share price reached about $150. And five years ago it was approximately $100.
Tech stock analysis: which key metrics and characteristics are worth paying attention
Although the analysis of tech stocks involves its own specifics, the fundamental principles that are used to invest in any stocks can also be used here. For example, investors must be sure in the followings:
  • Competitive advantage, for example, unique patented technology, high cost of switching to another provider or a powerful brand
  • Acceptable level of debt and sufficient level of cash
  • Reasonable price (even a great company can be a bad investment if its shares are overvalued)
  • In addition to these basic principles, there are other metrics that are important for tech stocks, for example gross revenue margin, operating leverage, solid customer base and revenue growth indicator.
Gross revenue margin
Business models are widespread in technological industries (and even within industries) and differ greatly from each other. Therefore the gross profit (total revenue minus direct costs for the production of goods or services) can differ significantly in each company. To get the gross margin margin you should divide the gross margin by the total revenue. This indicator gives investors an idea of the economic condition of the company’s business. The greater the margin the more profitable the company's business model is.
Operational Leverage
Although many technology companies, especially software vendors, boast high gross margins, a significant portion of their expenses may be in operating expenses. If a technology company has operational leverage, then its business model is considered scalable. In other words, the financial position of her business improves as revenue grows.The low value of the operating leverage ratio indicates the prevailing share of variable costs in the total costs of the company. Thus sales growth will have a weaker effect on growth in operating income, however, such companies need to generate lower sales revenue to cover fixed costs. Such companies are more stable and less sensitive to changes in sales.
Solid customer base
Investors should evaluate the customer base of a technology company. The revenues of some companies, such as equipment suppliers or companies that provide software for business, can largely depend on several large customers. If the loss of one client can have a significant impact on the company's business, then this means additional risks for shareholders.
Revenue growth
The growth rate of revenue for the quarter may give the investor an idea of the dynamics of the company. For example, when the growth rate in one of the quarters of the current year is higher than in the previous quarter, then it will be natural to assume that the company has accelerated growth.
There are plenty of opportunities in the technology sector. As exciting as those opportunities can be, however, make sure to carefully consider what moats are protecting the company.