The troubled year 2022 has come to a close, and with it has ended our worst year ever (by far) of investment returns on our portfolio companies. That worst year of performance follows immediately on the heels of 2021, which, until Nov 2021 was our best two-year period of investment returns in our Core Growth Strategy. Conversely, our Income Strategy performed quite well, but we will focus here on Core Growth. Such wild and violent swings in market values give rise to some analysis and reflection on the state of the underlying businesses themselves, as well as on the state of the markets, which set the prices of our investments.
Over the years, we have in our blog posts referred to the well-known story of Rip Van Winkle, published by the famous early American author Washington Irving. A somewhat unreliable fellow tells a tale about falling asleep in the Catskill Mountains of upstate New York for twenty years (nonstop), and returns to his sleepy little village to find that it is now a bustling town, full of people he does not recognize and who do not recognize him. And what is more, there has been a revolution in his absence, where the former colonies of the British Empire are now an independent democratic republic!
We first wrote about Rip Van Winkle in September of 2009, asking what a similar sleeper who had slept for one full year (nonstop) since September of 2008 might observe about the markets, had he or she not been awake through the tremendous crash and subsequent return of market prices in the interim -- and we revisited this theme in 2010 and again in 2013.
Now, having experienced both the most violent upward movement of prices (in 2020-2021) and the most violent downdraft in prices (in 2022) of our portfolio companies that we have ever experienced in over 35 years of professional investing, we ask the question: “What if Rip Van Winkle had fallen asleep at the end of 2019 – completely unsuspecting of the oncoming Covid panic and lockdown – and then stayed asleep all the way until the end of 2022?”
In asking this question, we want to imagine that this sleeper awakens to look at the actual business performance of the companies in the Taylor Frigon Core Growth Strategy during the period encompassing the end of 2019 through the end of 2022. While it may come as a tremendous shock to most readers, our analysis found that during the period that our modern-day Rip Van Winkle took his most-recent nap, every single one of our portfolio companies grew their annual revenues – and in most cases they did not just grow those revenues by an insignificant amount but instead grew them at a very respectable rate!
In other words, even though the growth companies are going through one of the most brutal bear markets that we have ever seen in all our years of managing investments, the companies in which we are investing are growing their businesses – and in most cases are doing so at strong rates of growth – despite the fact that many of them have seen vicious reductions in their stock prices over the same Rip Van Winkle period (although not all have seen net declines in stock price: some of our companies are trading higher than they were at the end of 2019, despite the current bear market).
To cite a few examples, we might point to Twilio, a provider of customer engagement solutions consisting of communications and data analysis tools for business customers, which had revenues of $1.1 billion over the four quarters ending December 2019, and which had $3.7 billion in revenues over the four quarters ending September 2022 (we used the four quarters ending in September because most companies have yet reported their official numbers for the quarter which just ended on December 31, 2022). So, Twilio revenues are now 223% higher than they were when Rip Van Winkle went to sleep at the end of 2019 – and yet Twilio’s stock price has declined by fully 50% over a similar period.
Other examples of portfolio companies who have grown their revenues at a very respectable rate include two companies which sell devices used for aesthetics and cosmetic surgery: Apyx (makers of the Renuvion line of devices) and Inmode (makers of the BodyTite line and other lines of products). During the period of Rip Van Winkle’s 2019 to 2022 nap, these two companies have grown their one-year revenues from $28 million to $49 million (in the case of Apyx) and from $156 million to $431 million (in the case of Inmode).
As a final example, Vapotherm (makers of the HVT line of high-velocity respiratory devices and other products for respiratory therapy and support) has seen their revenues increase from $48 million for 2019 to $70 million for the four quarters ending September 2022. In the interim, their revenues shot even higher, driven by hospital purchases during Covid in 2022 – but even after that extraordinary year ended and purchases decreased, the company’s revenues are much higher in 2022 than they were at the end of 2019 before the pandemic had been declared (and before it had even hit the news). Had Rip Van Winkle fallen asleep in 2019 and awakened at the end of 2022, he would observe that Vapotherm has done a good job of almost doubling its annual revenues – and yet the stock price and market capitalization of the company declined by over 70% during the same interval.
We would readily agree with the argument that the “recovery-induced mania” of 2021, during which stock prices rose rapidly across the board during the first three quarters of the year and during which our portfolio stocks rose even more rapidly, was probably overdone. But we would also argue that stock prices and valuation multiples almost certainly should not have been crushed to the degree that they have been crushed in 2022, either.
The main cause of the pounding that growth company stock prices experienced during 2022 was external to the businesses themselves: the Federal Reserve initiated the most rapid (in many decades) raising of interest rates during 2022 in order to come to grips with inflation, and by all appearances the Fed is not done yet. We are on record having warned about the danger of inflation caused by easy money – and during 2022 we certainly saw the inflationary results of tremendously easy money, which led to the Fed’s tightening campaign.
But the whole point of imagining Rip Van Winkle taking naps over various periods is to advise long-term investors to avoid fixating on the quarter-to-quarter or even year-to-year fluctuations that will always be part of the market’s landscape. We recognize that these violent swings – and especially the violent swings we have experienced in recent years – are very painful, and we certainly do not deny that or belittle it. However, we are convinced that the right way to invest is to focus on the businesses – and we continue to be impressed with the progress that our portfolio companies have shown over the years. We anticipate that business success will, in the long term, lead to investment success.