7 Undervalued Quality Growth Stocks

After a brutal first half, high-growth technology stocks and cyclical consumer stocks are back at the top of the market. However, there are still high quality grow names such as MercadoLibre (MELI) and Salesforce (RCMP) trading at deep discounts.

Growth stocks are up 18.0% since the bear market low on June 16, as measured by the Morningstar US Growth Index, 6 percentage points ahead of the broader US market. But those stocks are still down 22.3% for the year to Aug. 10. That puts the growth index on track for its worst year since 2008. It left whole swathes of growth companies trading below their fair value estimates from Morningstar stock analysts.

Growth stocks typically have higher readings on earnings and sales ratios than their value counterparts, as well as lower dividend yields. Valuations of growth stocks are largely based on expectations of their future earnings, so they are more affected by interest rate movements than other market segments. That’s part of the reason growth stocks underperformed so much at the start of the year, dragging down names like Salesforce, down 25.8%, and Teradyne. (TER)which fell 39.3% as of August 10. Both stocks are undervalued according to Morningstar analysts, Salesforce by 38% and Teradyne by 41%.

To compile a list of the highest quality undervalued growth stocks, we looked at the Morningstar US Wide Moat Focus Index, a group of companies with enduring competitive advantages that also trade at the lowest prices relative to to their analysts’ fair value estimates. In addition to looking for undervalued names, the screen looked for stocks that have the highest Morningstar Growth Value Scores, in other words, the “fastest growing” undervalued stocks in the index.

7 undervalued wide-moat growth stocks:

  1. MercadoLibre
  2. ServiceNow
  3. Amazon
  4. Veeva systems
  5. Selling power
  6. Adobe
  7. Microsoft

Growth scores are based on companies’ long-term projected earnings growth, as well as historical book value, sales, cash flow and earnings growth. Growth companies perform worse on price-to-book, price-to-sales, and price-to-cash-flow ratios, and they tend to have lower dividend yields than value companies.

A chart of undervalued growth stocks with wide economic moats.

MercadoLibre

  • (MELI)
  • Industry: Internet retail
  • 2022 performance since the start of the year: down 21.1%

“As we wait [MercadoLibre’s] monetization of the platform is only increasing gradually, we anticipate that increasing customer expectations for less than 48 hour shipping times, increased fulfillment penetration, and small merchant credit from sales of the platform should make MercadoLibre’s services more and more sticky.

–Sean Dunlop, Equity Analyst

ServiceNow

  • (NOW)
  • Industry: Software – Application
  • 2022 performance since the start of the year: down 20.5%

“ServiceNow will continue to use its position to attract new IT-focused customers and sell ITOM features on the platform, but we believe the company will increasingly sell emerging products in HR and service. client, as well as the platform as a service (PaaS) offers. We believe product strength, market presence and a strong sales push in areas outside of IT will continue to drive robust growth.

–Dan Romanoff, Senior Equity Analyst

Amazon

  • (AMZN)
  • Industry: Internet retail
  • 2022 performance since the start of the year: down 14.4%

“From a retail perspective, we expect continued innovation to help drive further market share gains. We are also looking for [Amazon’s] continued penetration into categories such as grocery and luxury goods, which have not previously translated to the same level of success as other retail categories. We see AWS’s technological advancements and greater push to serve enterprise customers helping to maintain the company’s lead in this area. Overall, we expect strong revenue and free cash flow growth in the years to come. »

–Dan Romanoff, Senior Equity Analyst

Veeva Systems

  • (VEV)
  • Industry: Health information services
  • 2022 performance since the start of the year: down 10.7%

“Efficient technology and a dominant position allow Veeva to generate excess returns commensurate with a wide-moat business. Its strong retention, continued development of new applications, growing penetration with existing customers, addition of new customers and expansion into industries outside of life sciences should, in our view, enable the company to extend its market leadership.

–Dylan Finley, equity analyst

Selling power

  • (RCMP)
  • Industry: Software – Application
  • 2022 performance since the beginning of the year: down 25.8%

“We believe that Salesforce.com represents one of the best long-term growth stories in software. Even though revenue growth is likely to dip below 20% for the first time at some point in the next few years, we believe that continued margin expansion should continue to worsen earnings growth by more than 20%. % per year for much longer.

–Dan Romanoff, Senior Equity Analyst

Adobe

  • (ADBE)
  • Sector: Software – Infrastructure
  • 2022 performance since the start of the year: down 22.7%

“In our opinion, there is no more comprehensive marketing platform. This approach makes sense to us as Adobe leverages its already strong position in the professional creative market. We believe switching costs are shrinking Adobe’s digital experience segment. While we believe in robust and comprehensive solutions under this umbrella, we note that Adobe did not create the affected marketplaces, does not have first-mover advantage, and enjoys no near-monopoly status with products here.

–Dan Romanoff, Senior Equity Analyst

Microsoft

  • (MSFT)
  • Sector: Software – Infrastructure
  • 2022 performance since the start of the year: down 13.6%

“Office 365 retains its virtual monopoly on office productivity software, which we don’t expect to change in the foreseeable future. We believe that [Microsoft’s] customers will continue to drive the transition from on-premises to cloud solutions, and revenue growth will remain robust with margins continuing to improve over the next few years.

–Dan Romanoff, Senior Equity Analyst

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