This is the second piece in my mini series of checklists highlighting the characteristics I look for in different types of shares. You can find the previous piece on quality stocks here.
In this piece I’ve focused on the approach I’d use to find growth stocks.
Screening for potential winners
I always start with a financial checklist, before moving onto a more qualitative review of the characteristics I look for in a possible growth investment.
It’s worth pointing out that the financial metrics I discuss below aren’t cast in stone. They are simply generalities that I find to be useful as a source of plausible ideas for further research.
Narrowing down the market
If I’m focused on growth stocks, then I’ll start by narrowing down the market by size. I will also rule out companies that show obvious signs of being unable to fund their own growth, as I’m only interested in businesses that are profitable and largely self-funding.
I’ve listed two rules of thumb that I use below, together with screenshots showing how these checks can be made quickly using the StockReports. Of course, these criteria can also be added to a stock screen.
Not too big, not too small: to avoid speculative micro caps and more mature businesses, I generally narrow down my search to companies with a market cap of between £25m and £1.5bn:
Self-funding growth model: I want companies that have reached a stage of sustainability that allows them to fund growth through retained profit and perhaps some debt. I don’t want to invest in companies that depend on regular share placings to raise cash.
As an initial test, I’ll check the share count history to see if shareholders have been diluted in recent years. Ideally, I want to see a fairly flat chart, such as this excellent example from Fonix Mobile (LON:FNX):
Growing and profitable
I’m not looking for early-stage businesses that are speculative or loss-making. Such companies require in-depth research and a different approach to managing risk, in my view.
The growth businesses I look for are already profitable, with proven business models. The opportunity I seek is to find companies with the potential to become much bigger – and preferably…
