Technology, by its nature, is challenging. It is not so much a sector as a dynamic – technology stocks commercialise breakthroughs in science; principally computing, data, and software.
We will leave bio-technology for another day, but this area is also seeing rapid advances and exceptional growth opportunities.
Some investors have missed the technology boom, or have a value style which makes assessing the stocks difficult. Others blandly call the whole thing a bubble – maybe more a matter of sour grapes than because they have checked their valuation work.
Investing in scientific breakthroughs suggests that you have to understand post-graduate level science. I doubt that this is necessary or wise. I have spent some time over the years with academics and I have found that many believe their ideas have commercial potential.
However, there are multiple busts for each bonanza and not every scientific breakthrough leads to a commercial success.
The problematic ratio of busts to booms can maybe be demonstrated: for the last twenty years IP Group plc has had privileged access to Oxford University’s chemistry research alongside other UK university rights.
Punching air
Its share price has gone from 58p to 48p over those twenty years, peaking at 214p about nine years ago. They say early stage investing needs patience – shareholders in IP have been patient for no reward.
Quoted technology companies are more mature businesses than ideas out of University labs.
Indeed investors are often wary of the returns that private equity managers have made ahead of IPO – maybe forgetting these seed investors have always had many failures you never hear about. Also, the companies coming to the market will tend to have a fair amount of revenue, even if some years from earning an operating profit.
When a company is ready to take a stock exchange listing, its technology tends to be comprehensible, if challenging, to the layman. Over the years, one learns about ‘the cloud’ ‘artificial intelligence’ or ‘chatGPT’ by reading about new companies in these areas. Personally, I have often had to read about a number of IPOs (and miss a number of opportunities) before I start to understand the new technologies, but if I didn’t read the IPO prospectuses I would not be keeping up. The reading can be challenging, but it’s also enlivening and can lead you to other online sources explaining new technology areas..
Working out whether to invest in an IPO is, however, daunting. I base all my investing on cash flow based valuations. I am happy to use ten-year discounted cash flow valuations, but for young technology companies these tend to be very fragile. You have some evidence of revenues and even revenue growth, but costs and longer term margins can only be guessed at by looking at similar, more mature companies. I also view stock-based compensation as a cost of doing business; adjusting for this very often deters me from investing in young US technology stocks.
