Can these growth stocks maintain their meteoric trajectories?

Holiday scene, deckchairs and parasol on a beach

Manufacturing ingredients that enhance the flavour and fragrance of products has proven a nicely profitable niche for Treatt (LSE: TET). The shares are up 63% over the last year after a string of upgrades to forecast earnings buoyed investor sentiment.

The shares now trade on a P/E of 17, but I believe the company's ambitious growth plans and solid track record justifies this valuation. The company grew revenues by 24.5% in 2017, with profit jumping 55% to £12.9m, driven by strong growth across all of the group's categories.

Perhaps the company's most promising avenue for future growth is North America. Treatt USA has flourished since it moved to its Lakeland site in 2002. Spectacular demand for its tea and sugar reduction products has outstripped production capacity at the facility and the company has announced a second expansion project that will double the factory's output for these key product categories.

Today Treatt announced a £21.6m placing to fund this expansion along with a relocation of UK operations from the existing Bury St Edmunds site to a brand new purpose-built facility.

Of course, there's a chance that Treatt's migration won't go smoothly or could cost more than expected, which of course could put a spanner in the works in the short term, but on balance I believe demand for its products and sectoral headwinds, such as the rise of diet drinks, should help Treatt maintain growth for years to come. 

Internationally scalable business model

Shares in online holiday broker On The Beach (LSE: OTB) have had a rip-roaring 2017, increasing 58% and have almost doubled since the IPO back in 2015.

As its name suggests, the company specialises in short-haul beach holidays. It boasts 20% of the UK online market and I believe it could go on to take an even greater share. The company doesn't partner with hotel chains or airlines like its competitors, which gives its in-house technology a wider remit from which to construct the perfect trip for customers.

So far, this approach has been wildly successful, with UK revenue up 26% and international up 48% last year. The company plans to roll out its platform to more countries in the future, but has its eyes on Denmark next, targeting an entry into the market for early 2018.

Given its online software-based approach, the company does not have to invest in brick-and-mortar stores like traditional travel agents. The resultant low-fixed-cost base means incremental growth goes straight through to the bottom line, meaning profits could really explode if revenue growth can be maintained. This model also makes entering new territories far less costly - the main expense being marketing.

I'd expect this scalable business model to grow margins and return on capital as it keeps expanding, as demonstrated between 2015 and 2016, where the operating margin ballooned from 11.1% to 23.6% after 13% revenue growth.

The company's expansion has been driven by founder and CEO Simon Cooper, who has significant skin in the game, owning 11m shares worth over £45m at time of writing.

I believe the combination of a scalable business model and motivated management team just about justifies the forward PE of 22. In today's toppy market, there are worse growth options out there. 

 

If I were forced to choose between these two growth companies, I'd choose On The Beach in an instant. The combination of low fixed costs, rapid growth and a motivated founder at the helm is a wonderful formula for outperformance in my experience. Treatt looks good too, but the business requires a lot of capital expenditure to function and in my experience that can hold back rampant growth. 

In fact, I've found buying small-caps with great business models to be an excellent approach to investing. "Thinking Big While Investing Small" is a key step in our free guide to making a million in the stock market, a free report designed to sharpen your investment strategy.

To download this free guide, click here.

Zach Coffell owns no share mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

 
Read Full Story

FROM OUR PARTNERS