Redefining Growth Stocks


With tech and telecom stocks in a slump, investors need a new way to look for growth stocks, says Susan Everly, director of Credit Suisse Asset Management and manager of its U.S. Select Equity portfolios. The best places to find growth now, according to Everly, are in niche areas and names that would ordinarily be considered cyclical.

She looks for companies that are investing wisely for future profits as well as for companies that are interesting restructuring plays. These were among the comments Everly made in a chat presented on Apr. 11 by BusinessWeek Online on America Online, in response to questions from the audience and from Jack Dierdorff and Karyn McCormack of BW Online. Following are edited excerpts from this chat. A complete transcript is available from BusinessWeek Online on AOL, keyword: BW Talk.

Q: When do you think it will be time for growth stocks again? Or is it already here for canny investors?

A: It depends how you define growth. Some growth stocks in the market today that historically have been considered cyclical stocks, aren't growth stocks. Cyclical stocks that are at the bottom of their cycle and ready to turn up may be considered growth stocks for the near future -- could be 4 months, 9 months, 18 months, depending on the economic climate.

The companies that investors have normally considered growth stocks, like tech and telecom sector, aren't in that category now and won't be for quite some time. So when you look for growth companies and those that exhibit growth characteristics, you might find them in unlikely places. Today, growth stocks are to be found in niche areas, or more cyclical spaces.

Q: How do you pick your holdings? Do you look for revenue growth more than earnings?

A: We look at the way a company invests in its business, and by "invests" I mean it could be building a new facility, research and development to uncover a new drug, or it could be spending on advertising.

They're investing cash in their business, and generating positive cash flow as a result of this investment. In some cases, that may be a traditional growth stock, like Pfizer (PFE), which invests a tremendous amount in R&D, but clearly benefits from both revenue growth and earnings growth. On the flip side, we also look for companies that are restructuring their businesses. These may be companies that don't have a lot of revenue growth but are improving their operating margins. We own both classic growth companies and some value stocks.

Q: What are your favorite or top holdings now? And why do you like them?

A: One of our favorite positions is Cendant (CD). We like this company for its diverse and dependable earnings stream. Not only does it have one of the largest mortgage businesses in the country, it's also involved in rental cars, hotels, and real estate franchises like Century 21 and Coldwell Banker. It's a large generator of free cash flow, and we think this stock is clearly placed to move higher over the next 12 months, despite the current economic environment.

Another company we like, more on the value side than the growth side, is Gillette (G). You may think that it sounds boring -- the manufacturer of razors and batteries -- but this is a restructuring story. Gillette has fantastic brands, leading market share, and a wide range of knowledge of its customer base, but it [has lacked] the right kind of strategic leadership and discipline.

Last year, a new CEO was brought in from Nabisco, and he has really begun to turn the company around and focus on the right advertising and capital-expenditure decisions. We think this is an interesting opportunity for a long-term investor as well.

Q: Your words about "niche" areas for growth are intriguing. What niches -- and companies -- attract you?

A: A niche area for growth that we see is within the health-care area, with medical device manufacturers such as Medtronic (MDT). This company is one of the largest manufacturers of pacemakers. Obviously, it benefits from the demographic trend within the U.S., and it's also investing in R&D to improve the technology of these devices.

So while this is not a large growth arena, the company can clearly generate strong revenue growth of 15% to 20% per year by improving the technology. Medtronic is also involved in the congestive heart failure market, and this should be a big growth driver over the next two years.

Q: You mentioned cyclical stocks earlier. Do you have any favorites in this area?

A: Within the cyclicals, we own Du Pont (DD), which should benefit from any economic rebound that we see later this year as its products include both industrial and specialty chemicals, nylon, polyester, adhesive, and other specialty products.

The other reason we like Du Pont is that it's also a restructuring story. It's selling underperforming units, and we think the valuation is attractive right now.

Q: What do you think about restaurant stocks? I see that McDonald's (MCD) is one of your top holdings.

A: We own McDonald's, although it's a unique story within the restaurant world. Clearly, it isn't a fast grower, and the stock has been hit by Mad Cow worries in both Europe and Japan. We think that McDonald's has tremendous opportunity to reaccelerate its international businesses, particularly as the global economy rebounds, and it's facing less competition here in the States from weakened competitors such as Burger King.

Q: AOL Time Warner (AOL) stock has really taken a hit lately. Is it a buy?

A: We like AOL for the long term for a couple of different reasons. It's in a fantastic position [to benefit] once the advertising market begins to turn, and that's something we expect to happen later this year. We also like AOL because it's the most diversified of all media companies, with businesses in the Internet, entertainment, cable, music, and many strategic alliances.

We think that, long term, this company has great growth prospects and has been recently punished by the market and the downgrade by a few brokers. We like the recent management changes it has announced, such as [AOL Time Warner Chief Operating Officer] Bob Pittman coming back to run the AOL unit.


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