Hypergrowth to...HyperGARP?

Feeling forced to hold hypergrowth as it ages.

Like most of us, I’m trying my best to make sense of the current market. Having been at it almost 30 years, I know evolution is a big part of investing survival. The bulk of my early portfolios focused more on long-term buy and hold. Apple, Microsoft, Berkshire Hathaway…all the usual suspects. However, in mid-2018 I took a more active role and began running a concentrated hypergrowth portfolio. I’d best describe this style as S-curve investing, at least as I’ve practiced it (I wrote a lot more about thinking in S-curve here). It involves finding younger, smaller companies hopefully just starting the fastest-growing stages of their upward journey. Yes, there’s additional risk, and it requires paying a lot more attention. However, owning a firm just entering exponential growth often leads to exponential returns. That’s the theory anyway.

It turns out that theory has some data behind it. The concept is laid out well in this McKinsey & Company article entitled "Grow Fast or Die Slow." The basic takeaway is the bulk of hypergrowth returns happen when companies are between $100M and $1B in revenue, especially in the software space. While this revenue range may have shifted somewhat since that original 2014 article, the concept is a solid representation of how our portfolio played out from 2018-2021. During that stretch we saw a lot of sexy S-curves. When one holding got long in the tooth, there was always a younger, faster grower to take its place. That process led to a series of outsized positions from Alteryx (AYX) to Livongo (LVGO) to Zoom (ZM) to Upstart (UPST). All were wildly fast growers which in turn became wildly profitable investments, especially as those companies passed from cash burn and losses to cash flows and profits. Of course, what cemented those wins was being willing to exit when a stronger S-curve came along.

One of the challenges with this style since the start of 2022 has been a lack of obvious replacements when current holdings exit hypergrowth. Macro effects have certainly played a role. So has a shortage of IPO’s as firms avoid going public into the teeth of a tough market. Our only current holding I’d say fits the traditional hypergrowth curve is TransMedics (TMDX). I’m glad we own it and can definitely see it becoming a bigger allocation if it continues to execute.

In the meantime, 2023 has forced me to assess our holdings less like a hypergrowth investor and more like a GARP one. GARP, an acronym for “growth at a reasonable price,” is a style in which top line growth is balanced with more stable, value-based metrics like cash flows and earnings. The market has trended this way as well with some of 2023’s biggest winners being larger, “safer” firms viewed as having the cash flows and profits to weather the storm. This lack of younger, faster-growing alternatives has forced me to carry larger companies where slowing growth must be more carefully balanced with its execution and bottom line. First world investing problems, I guess.

I’m not worried though. History tells us in no uncertain terms more youngsters are coming. When they do, I’ll be ready. Until then, I’ll keep playing the hand I’ve been dealt and learning to appreciate a slightly different way to look at things. If it’s anything like the other lessons I’ve learned, I’ll certainly be better for it.

As usual, thanks for reading and good luck out there.