With the broader market trading well off recent highs, it’s getting easier to find reasonably valued growth stocks that can deliver above-average returns.
Tripling your investment in eight years is not that hard. Basically, you’re looking for a company that can grow revenue, and ideally, profits, at a compound annual rate of 15% or better. That translates to a cumulative return of about 300% over eight years. If you pay a fair valuation for the stock, you should earn a return on investment over that time period that tracks closely with the company’s underlying growth.
Etsy (ETSY 3.17%) and Airbnb (ABNB -2.68%) are two growth stocks that have taken a beating this year but now trade at attractive valuations relative to expected earnings growth. Let’s find out a bit more about these two stocks.
The growth of e-commerce is a megatrend worth investing in. Recent growth estimates from eMarketer show that total retail e-commerce sales are expected to increase 12% in 2022, which is strong considering the tight supply chains and inflationary pressure hitting the economy right now. Sales should grow every year through 2025, reaching $7.4 trillion worldwide. Even then, online sales will comprise less than a quarter of total retail sales.
It’s time for investors to look past the big players like Amazon and look to rising stars like Etsy. Etsy has a great record of growth. Through 2019, Etsy grew revenue from $75 million in 2012 to $818 million. After strong organic growth and a revenue boost from acquisitions, Etsy generated $2.3 billion in 2021, and there’s more growth ahead.
The stock is down over recent slowing growth, where Etsy posted an increase in gross merchandise sales of just 3.5% year over year in the first quarter. Investors are not taking a long-term perspective with the company. For example, the acquisition of Depop last year significantly expanded the company’s addressable market to the secondhand clothing market that is growing 39% per year and could reach $77 billion by 2025.
Even though the stock has fallen hard over the last year, analysts still expect earnings per share to grow 42% on an annualized basis over the next five years. One reason Etsy can deliver this level of growth stems from its capital-light business model, where millions of sellers provide their own inventory. Etsy primarily generates revenue from charging a small fee on each sale.
Given the long-term opportunities in e-commerce, especially in secondhand items, the stock looks like a bargain at a PEG ratio of 0.61. Generally, a growth stock is considered undervalued if the price-to-earnings ratio is less than the expected earnings growth rate, or PEG. Etsy is a steal on that basis.
The long-term growth in travel is another megatrend worth considering, especially with a tech-driven brand like Airbnb posting phenomenal growth coming out of the pandemic. The business experienced tremendous pressure in 2020, with revenue falling 30%, but Airbnb emerged from the shelter-in-place environment with record revenue in 2021. Revenue surged 77% year over year, and the future looks bright.
What makes Airbnb such a great investment is that it is not just gaining market share in the $637 billion travel and tourism market. It is also benefiting from the shift toward remote work, as co-founder and CEO Brian Chesky explained on the first-quarter earnings call: “Millions of people are now more flexible about where they live and work, and as a result, they’re spreading out to thousands of towns and cities, and they’re staying for weeks, months or even entire seasons at a time.”
The travel market is expected to grow 10.5% per year through 2026. Airbnb has been growing much faster than that, so with the industry growth serving as a tailwind, it won’t take much extra growth from Airbnb to deliver a triple-bagger to shareholders through 2030.
Analysts currently estimate Airbnb to grow earnings by 64% per year for the next five years. Like Etsy, Airbnb operates as a lucrative service platform, where it charges various fees to hosts for listing their properties for rent. Airbnb is using its growing free cash flow to invest in new features, and therefore, cementing its brand as the go-to option for people looking for the right place to stay.
The new I’m Flexible feature introduced last year was used more than 2 billion times. It’s little improvements like this that make the experience more pleasurable for guests, which in turn attracts millions of people to list their homes and apartments for rent to gain exposure to Airbnb’s massive base of users.
Airbnb trades at a PEG ratio of 1.33, but looking at earnings estimates next year, the stock’s price-to-earnings multiple drops to 40, which would represent a forward PEG ratio of 0.64. The combination of growing travel spending and market share gains from Airbnb could deliver a triple-bagger to investors through 2030.