Although 2023 was a stellar year for the stock market, volatility has been the name of the game for much of the past four years. The Dow Jones Industrial Average, S&P 500, and Nasdaq Composite have oscillated between bear and bull markets in successive years since this decade began.
When volatility picks up on Wall Street, professional and everyday investors have a tendency to seek out companies that offer a history of outperformance. For the past two and a half years, it’s stocks enacting splits that have fit the bill.
In simple terms, a stock split is an event that allows a publicly traded company to alter its share price and outstanding share count while having no impact on its market cap or operations. Think of it as a purely cosmetic procedure that can make shares more nominally affordable for retail investors (i.e., a forward-stock split), or can increase a publicly traded company’s share price to ensure continued listing on a major stock exchange (i.e., a reverse stock split).
While there are instances of companies conducting reverse-stock splits and going on to deliver big-time gains for their shareholders (e.g., Booking Holdings), most investors are laser-focused on companies conducting forward-stock splits. That’s because forward splits are enacted by high-flying companies that have often out-innovated and handily out-executed their competition.
Since the midpoint of 2021, nine prominent companies have completed a forward-stock split:
Nvidia (NASDAQ: NVDA): 4-for-1 split
Amazon (NASDAQ: AMZN): 20-for-1 split
DexCom (NASDAQ: DXCM): 4-for-1 split
Shopify (NYSE: SHOP): 10-for-1 split
Alphabet (NASDAQ: GOOGL)(NASDAQ: GOOG): 20-for-1 split
Tesla (NASDAQ: TSLA): 3-for-1 split
Palo Alto Networks (NASDAQ: PANW): 3-for-1 split
Monster Beverage (NASDAQ: MNST): 2-for-1 split
Novo Nordisk (NYSE: NVO): 2-for-1 split
Every single one of these businesses is a dominant player with well-defined competitive advantages in their respective industries. For example, Nvidia’s graphics processing units are the infrastructure backbone of the artificial intelligence (AI) movement, Amazon accounts for roughly 40% of U.S. online retail sales, Tesla is North America’s leading electric vehicle (EV) manufacturer, and DexCom is a top-two producer of continuous glucose monitoring systems.
However, the individual outlooks for these nine stock-split stocks differs greatly in 2024 (and beyond). Whereas one stock-split stock is historically inexpensive and primed for additional upside, another highflier appears to be headed for a breakdown.
The stock-split stock to buy hand over fist in 2024: Alphabet
Though all nine of these prominent companies have run circles around the benchmark S&P 500 over the long run, it’s Alphabet that stands out as the stock-split stock to buy hand over fist in the new year. Alphabet is the parent company of popular internet search engine Google and streaming platform YouTube.
The biggest “problem” (if you want to call it that) for Alphabet is that it’s cyclical. Approximately 78% of the company’s third-quarter revenue is derived from advertising. When the slightest hint of trouble is detected by businesses, it’s not uncommon for them to quickly pare back their ad spending. This leaves Alphabet susceptible to weakness during recessions. A couple of money-based metrics and predictive tools suggest an economic downturn is in the cards for 2024.
However, this is a two-sided coin that’s far from proportionate. Though it’s true that recessions are a perfectly normal and inevitable part of the economic cycle, only three of the 12 recessions since the end of World War II have lasted at least 12 months. Further, not a single one has surpassed 18 months.
By comparison, most economic expansions endure multiple years, with two periods of post-World-War-II growth lasting more than a decade. In short, ad-driven businesses are well positioned to succeed as the U.S. economy expands.
Alphabet’s clearest competitive advantage has long been its search engine, Google. In November, Google totaled 91.54% of worldwide search share, according to data from GlobalStats. You’d have to go back to March 2015 to find the last month Google hasn’t accounted for at least 90% of global internet search share. Being the undisputed go-to for advertisers wanting to reach users has afforded the company exceptional ad-pricing power in virtually any economic climate. This moat isn’t going away in 2024.
The new year should also feature double-digit growth opportunities for two of Alphabet’s fast-growing ancillary segments. YouTube is the second most visited social site in the world, with more than 2.7 billion monthly active users. Rapid growth in Shorts (short-form videos often lasting less than 60 seconds) should put ad-pricing power in YouTube’s corner.
There’s also Google Cloud, which has gobbled up a 10% share of worldwide cloud infrastructure service spending, based on estimates from Canalys, as of the third quarter. Enterprise cloud spending still has a long growth runway, and Google Cloud looks to have made the permanent shift to recurring profitability.
Despite sustained double-digit earnings growth potential over the next five years (if not well beyond), Alphabet stock can be purchased for roughly 14 times estimated cash flow per share in 2024. That’s a 20% discount to its average multiple to cash flow over the past five years.
The stock-split stock worth avoiding in 2024: Tesla
To quote the most famous investment disclaimer on Wall Street: “Past performance is no guarantee of future results.” Although EV maker Tesla has made a habit of proving naysayers wrong for more than a decade, it’s the clear stock-split stock to avoid in 2024 for a variety of reasons.
Before digging into those reasons, allow me to give credit where credit is due. As of right now, Tesla is the only pure-play EV manufacturer that’s profitable on a recurring basis. While there are other profitable automakers, none of the legacy companies are generating a recurring profit from their electric-only divisions. When Tesla reports its fourth-quarter operating results, I’d expect it to wrap up its fourth consecutive year of generally accepted accounting principles (GAAP) profit.
Unfortunately for the world’s largest automaker by market cap, its first-mover advantages are beginning to wane, and there are very evident cracks in its foundation.
The most front-and-center evidence that Tesla is in trouble can be seen via its operating margin, which has been more than halved to 7.6% over the trailing year, ended Sept. 30.
In 2023, North America’s leading EV company slashed prices on Model’s 3, S, X, and Y on more than a half-dozen occasions. Based on comments provided by CEO Elon Musk during the company’s annual shareholder meeting in May, these price cuts were based solely on demand. With vehicle inventory levels rising, it’s plainly evident that demand for the company’s EVs has declined. It also suggests that additional price cuts may be necessary to keep inventory levels under control as Tesla continues to ramp up its production.
Another potential problem with Tesla is how it’s deriving its income. During the third quarter, Tesla booked $554 million in profit from selling renewable energy credits given to it for free by governments. It also generated $282 million in interest income from its sizable cash pile. That’s $836 million in pre-tax income — 41% of the company’s pre-tax income in the third quarter — that can be traced back to unsustainable sources.
Although Elon Musk is a big reason Tesla has been such a success since going public in 2010, he’s also a genuine liability for shareholders. Putting aside that he’s drawn the attention of securities regulators on a couple of occasions, his biggest flaw is that he regularly overpromises new innovations (including new EVs) and fails to deliver them. Tesla’s enormous valuation looks to be based on countless promises from Musk that remain unfulfilled.
Lastly, Tesla’s efforts to become more than a car company have mostly missed the mark. Its ancillary segments generate low margins, while auto margins continue to fall. Whereas most auto stocks trade between 6 and 8 times forward-year earnings, Tesla is valued at 65 times consensus earnings in 2024. That’s not a valuation that’s going to hold up in the face of a rapidly declining operating margin.
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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Sean Williams has positions in Alphabet and Amazon. The Motley Fool has positions in and recommends Alphabet, Amazon, Booking Holdings, Monster Beverage, Nvidia, Palo Alto Networks, Shopify, and Tesla. The Motley Fool recommends DexCom and Novo Nordisk. The Motley Fool has a disclosure policy.
1 Stock-Split Stock to Buy Hand Over Fist in 2024 and 1 to Avoid was originally published by The Motley Fool