Innovation at a Reasonable Price Investing Is Always In Favor, Terry Gardner, C.J. Lawrence 3/8/23
In this video, Terry Gardner discusses CJL’s Innovation at a Reasonable Price investment strategy. Terry contends that IRP is always in favor and that today’s innovators have more attractive investment characteristics than those in past cycles.
Good afternoon, everyone. I’m Terry Gardner from CJ Lawrence coming to you from Midtown Manhattan on Wednesday, March 8th.
Today I want to discuss a strategy we employ here at CJ Lawrence which we call Innovation at a Reasonable Price, because regardless of where the market is and where the economy is in its cycle, innovation never goes out of favor. The key discussion points are The Nifty 50, the Internet Bubble and today’s environment. The main point is that investors, particularly growth investors, want to buy innovation and disruption. You want to own companies that represent the future.
A good example and a reminder is what ChatGPT recently did for Microsoft and for the entire technology space. It reinvigorated the enthusiasm around innovation. There have been times in our market history where buying that innovation has been expensive. One period that you can run somewhat as a parallel is during the 60s during the period known as the Nifty 50, when companies that were innovative but also had very steady streams of revenue and earnings, were awarded very high multiples. Companies like Avon Products and Procter and Gamble, who were consistent growers, put out new products on a regular basis, trading at 60-70, even 80 times earnings. And that Nifty 50 bubble burst in the 70s with the onset of inflation. That was when the inflation rate pushed down and pressured stock multiples so those multiples came in the ensuing years.
Another period of time where innovation generated a lot of enthusiasm and high multiples and high stock prices was as the internet bubble inflated in the late 90s. We know how that ended in 2000 into 2001, with a complete deflation of that bubble and an onset of a recession. But at the time, investors had to go way out on the risk curve to buy innovation. They had to pay extremely high multiples, sometimes for companies that weren’t even generating any sales and earnings, and that ended in tears as well.
What is different this time and why do we stay focused on innovation but at a reasonable price? A lot of the innovation that we’re seeing now is being generated by companies that are very solid in terms of their balance sheet and cash flow generation, have excellent business models and deep competitive moats and trade at a reasonable price.
We look historically at research and development spending or R&D, which we like to use somewhere as a proxy for a company’s appetite for innovation and development. Historically the top of the R&D spending list was dominated by the auto companies and by pharma companies – certainly pharma companies because they were constantly looking to develop new drugs and pharmaceutical products to rebuild their pipelines. That is how they competed against each other.
Same thing with the auto companies who were constantly looking to innovate and had to put a lot into R&D to try to generate the new buzz around a new model of vehicle being rolled out or, more particularly in recent times, around fuel efficiency.
But what we’ve seen over the last eight to ten years is a shift where technology really dominates the top of the spending list for research and development. There are a couple of household names, which is really the point of this call, which are spending the bulk of R&D spending within the S&P 500. Of note, and I’m not making a buy or sell recommendation, I’m just making mention that Amazon.com spends the highest amount in R&D per year by far over any of the S&P 500 companies. In fact, they are expected to spend about 75 billion dollars this year in 2023 in R&D spending. Just to give you some comparison, that is about seven and a half times what Pfizer spends, which is the largest spender of the pharmaceutical companies. It makes you wonder what amazon.com may have brewing in its basement or in its garage. The rest of the list is dominated by other household names that you would recognize including Alphabet, the parent of Google, Meta, the parent of Facebook, Microsoft and Apple.
But again, going back to our earlier point about a reasonable price, many of these companies are trading at relatively reasonable multiples, close to a market multiple, or slight premium. We’re not seeing instances where there’s such a high premium that you’re taking excessive risk to own them. You’re getting innovation at a reasonable price. That’s the theme that we’re following as the debate takes place in the market as to whether we should be owning large cap or small cap, value versus growth. Our point is innovation at a reasonable price is always in favor.
We wrote up this topic for an article that was published about a week or two ago in Benzinga, which is benzinga.com if you want to check it out. We will include the link in our email, or you can reach out to me, and we’ll send you the link directly. In the meantime, have a great rest of your week. If you have any questions, give me a ring at 212-88-6403 or shoot me an email at TGardner@cjlawrence.com. Take care.