Thinking of investing in a tech company? We have come up with five tips you could refer to for investing in tech companies. Technology companies are generally very popular with investors because they bring innovations that offer them great prospects for growth, both in terms of revenue and profits. However, the sector is also at the origin of major stock market crashes, such as the “.com” bubble in the 2000s. The Brokered Business gives you five criteria for making a good investment in technology companies on the stock market and thus maximizing your earning potential.
What innovation and value proposition does this technology bring?
Technology can be defined as science or knowledge put into practice to solve problems or invent useful tools. A primitive example is the first knife in the Stone Age, which made it possible to cut meat better and therefore improved the diet of men.
More recently, the Internet has developed and is now ubiquitous in our society for accessing information (like this article you are reading, by the way). The development of new technologies is accelerating, and it is certain that some of them will revolutionize the societal landscape in the coming years.
There are many candidates: artificial intelligence, blockchain, augmented reality, IoT, biotechnologies, etc. There are many opportunities to invest in technology!
However, it is important to understand what value proposition brings this technology to its market: the technology must be a means to create value and not an end in itself. So, when considering a technology company for potential investment, ask yourself the following questions.
What does the company actually sell? Who is interested in this offer? What is the added value of this offer for interested parties? Once you have answered these questions, you can move on to the next step: understanding the business model.
Understanding the business model: how does the company make money?
Once the value proposition has been identified, it is necessary to understand how the “business model” works, i.e. to answer the question: how does the company make money?
This question seems trivial but has become much more complex with technology companies: today there is a multitude of models and companies sometimes use several of them.
This is particularly true in software (freemium, subscriptions, monetization through advertising, etc.). In addition, many technology companies focus their strategy on hyper-growth (rapid capture of market share) without first focusing on generating profits, which can leave investors in the dark as to their real ability to create value over the long term.
Companies such as McPhy Energy (hydrogen technology) or Uber (internet ride-hailing services), for example, have not yet generated profits and are ending up correct in the stock market because of investors' uncertainty about their ability to generate benefits.
From the perspective of an investor, it is important to understand how the company will create value now and/or in the future.
Study the dynamics of growth: turnover, profits, and investments.
After having studied the value proposition and the business model of the company, you can be interested in three financial fundamentals that are characteristic of a company in virtuous growth.
On the one hand, of course, look at revenue growth. It must be significant in the marketing of the product and service to reflect the strong value proposition and the commercial capture of this value. This growth should also ideally accelerate, especially if the maturity of the company is low.
On the other hand, you will have to pay attention to the profits. Is the company able to generate this turnover while maintaining a sustainable level of expenses? Have profits grown over the last few years? To answer these questions, you can, for example, study operating margins and net margins, as well as their growth over the last 5 years.
Finally, look at the investment amounts. It can be located on two different lines of financial documents: for some companies, and in particular for software, it is a question of looking at the amount of R&D (research and development) expenditure and ensuring that it is high (~ 30% of costs), that it remains stable, or even increases over the years.
For other, more industrial companies, it is a matter of looking at the amount of CAPEX in the financial flow table. This amount must be high, stable, or growing to ensure that the company continues to invest in its technological assets. A good level of investment is a good indicator of growth prospects.
The market: what size? At what maturity of the technology?
It is essential to study the market of a technology company according to two prisms: on the one hand, the size of the addressable market; and on the other hand, the maturity of the market.
The addressable market is simply the sum of all of the company's possible sales to all of its potential customers. We want this market to be large enough for the company to ensure its long-term sustainability, even with increased competition.
Then, you have to look at the company's market share in this addressable market. The company must have enough market share to demonstrate its credibility but enough space to grow further. Consider that a mature company typically has a 10-20% market share.
Finally, let's remember the existence of a very important criterion for technology companies: the maturity of the market in relation to the technology. Do the offers already exist?
Do customers know that this technology can bring them value, or do they need to be educated? Does the technology have a large-scale deployment capability? Technology like blockchain, for example, is still at a low level of maturity, while the cloud has reached a higher level of maturity.
Mix two strategies: stock picking of shares on the stock market and ETFs.
Our final piece of advice relates to investment strategy. It is important to diversify your stock market investments, and even more so when it comes to technology companies. Even if you choose companies that meet the criteria presented above, technology companies remain a high-potential and therefore high-risk investment.
To try to diversify your portfolio, you can apply the following strategy: on the one hand, select companies with very high potential to try to invest in the next nugget; on the other hand, invest in trackers made up of companies from various sectors and different levels of maturity, such as ETFs on the Nasdaq or on North American technology stocks. In addition, there are also thematic ETFs around certain technologies if you want exposure to a particular technology, such as Global X's ETF BOTZ on AI and robotics.
Disclaimer:
All of our information is, by nature, generic. They do not take into account your personal situation and do not in any way constitute personalized recommendations with a view to carrying out transactions and cannot be assimilated to a financial investment advisory service nor to any incentive to buy or sell instruments.
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