Companies with 20%+ growth guidance for next few years

Sorry to be a party pooper but I just want to add a different perspective to this discussion.

Best way to invest in micro-caps of unknown provenance is to answer the following question.

Between two investment options where First gives you 100% return with 75% probability of losing your money and Second gives 25% guaranteed return with no loss of capital, which do you think is better option?

Rational folks will say that both options are equal.

However in investment world many retail investors believe option 1 is better as they only look at potential return (100%) and ignore risk premium (75%). This is what drives rush for micro-caps stocks because they can rise really fast in a bull market when there is a relentless gush of liquidity in the market. But when liquidity dries down, and often without advance warning, drawdown can be severe.

On the other hand high quality companies with a track record of building moated businesses, credible management and strong cash flow generations are ignored because they over long time compound money ONLY at 15-18% (not exciting for someone looking for a multi-bagger in 1 year). One of the reasons they are avoided by retail investor is that they are “well discovered” names.

In my long association with equity market (since before dotcom time), I have seen quite a few bull markets. One consistent principle across all of them, I have seen playing out, is the belief that one wouldn’t lose their capital in micro-cap stocks because of quality of their research or will be able to get out of them in time with good returns. Part of that confidence comes from analyses done on reports, commentary and exciting growth guidance given by the management which during a bull market can be very credible.

I am not an Oracle but by simply extrapolating history I will confidently be able to bet that 20% of the companies giving 20% growth guidance will not survive next 10 years and another 50% will be average investment giving returns not justifying the risk premium. Only a handful will probably make their investors make money.

Not all micro or small cap investments are bad. But evaluating management’s ability to execute well and good intentions to act in shareholders’ best interest is much much harder than many people think it is. There is no free lunch in equity market. More money in short time comes with a lot of risks and some catastrophes.