Last month I sold some shares in logistics software company WiseTech Global Ltd (ASX: WTC).
WiseTech is a fantastic business with incredibly robust revenues and along with the likes of Altium Limited (ASX: ALU), Appen Limited (ASX: APX) and Xero Limited (ASX: XRO), has seen a rapid increase in its share price over the last 12 months.
One reason it is so loved is that the company has a great story to tell. WiseTech’s high-margin software platform is targeting a deep, growing market of online cross-border shopping which is seeing rising volumes of low-value packages.
A story doesn’t determine investment success
Times are extremely good for tech stocks without a doubt. But as investors, we still need to evaluate risk and potential returns. We still need to remain critical.
As Howard Marks puts it, it is not a fast-growing company, a desirable asset or a great ‘story’ that determines investment success. What matters is the price you pay and the value you get.
Recently I began feeling being paid for WiseTech shares had become stretched and that I was being offered tomorrow’s share price today.
Valuation will always be important
To successfully compound returns and grow wealth requires the conviction to hold on for long periods of time, but in my view, a sense of valuation is still important – even for high growth companies that look like they can’t lose.
As Howard Marks again puts it:
We think no asset is so bad that there’s not a price at which it’s attractive for purchase, and no asset so good that it can’t be overpriced. – Howard Marks.
Valuation today will define the level of risk we accept and dictate the returns we get in the future.
And at a price to sales ratio of around 16x consensus 2019 revenue (compiled by Reuters), I felt the market was offering me a price that left little margin for error, even by my very long-term perspective and baking in generous growth assumptions. By comparison, Xero sells for a price to sales ratio of around 11x 2019 earnings.
Of course, a company’s value is not measured by sales, but by what they can keep. Yet even here I felt WiseTech would require a perfect, uninterrupted run for many years to come.
It is possible this will happen and I will be proven completely wrong. But let me leave you with a final thought from Marks; it pays to remember the lessons from the past:
When the tech bubble was roaring ahead in late 1999, no one could think of any development that might be capable of bringing it to an end. Technology was certain to revolutionize everyday life. Revenue growth was strong.
Even when times are great, things can change more quickly than we anticipate.
We’re living in one of the most exciting times in investing history. Innovation and a booming culture of entrepreneurship are constantly creating new companies with the potential to make forward-thinking investors very rich. Now more than ever, one small, smart investment could make a huge difference to your wealth.
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You can follow him on Twitter @Regan_Invests.
The Motley Fool Australia owns shares of Altium, Appen Ltd, WiseTech Global, and Xero. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.