By Bryan Beach, editor, Stansberry Venture Value
The software industry is hugely capital-efficient – and the market knows it.
These businesses can be immensely profitable, as I showed you yesterday. As a result, investors have been bidding up shares of software companies…
Over the past 15 years, software companies have returned 20% per year, on average. The overall market produced an annual return of around 9% over the same span.
Most investors would be ecstatic if they made twice the returns of the overall market for a decade and a half.
But the thing is, you could have done even better with a small sector of the software industry.
It’s a lesson that Porter Stansberry learned firsthand while building another business about five years ago. This was back when I still had a front-row seat while sharing his office.
It’s the story of how Porter discovered one of the world’s most capital-efficient companies… and the secret to making big gains in software stocks.
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As many of you know, Porter launched OneBlade in 2015 to complete his quest to make the world’s finest shaving razor. I remember sitting in the old bedroom-turned-office back in 2014 and 2015, listening to Porter on calls with OneBlade CEO Tod Barrett as they started to build out the tech infrastructure to operate the company’s online store…
They needed to pay for servers… a data center… an inventory-management system… and a payment-processing system. Plus, they had to hire enough folks to run everything.
The estimated costs? $250,000 and six months’ worth of in-depth planning. But after doing some research, Porter and Tod discovered a better – and much cheaper – alternative.
They found a company that would handle all the headaches for them… Even better, this company would do everything for a relatively small, recurring subscription fee.
I’m talking about e-commerce software pioneer Shopify (SHOP). Porter was so impressed with the company that he asked me to start reviewing it as a potential recommendation in his flagship newsletter, Stansberry’s Investment Advisory.
It was immediately clear what he, as a business owner, found so compelling about Shopify…
OneBlade didn’t need to buy any servers or software licenses. And it didn’t need to hire any new employees. The best part? Shopify would have everything up and running in just six weeks.
You see, Shopify operated its business using the Software as a Service (“SaaS”) model…
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One Finance PhD is calling for the end of this 11-year bull market – but not because of coronavirus. He says, “All of the great crashes in history have this in common. We saw it with tech stocks in 2000… housing in 2008… even Bitcoin in 2018. These bubbles look different to the untrained eye – but they all share the exact same trigger.”
The secret to the SaaS model is “cloud computing” – or using the Internet to access its software. We take it for granted today, but it was still a pretty new idea in the early 2010s.
Porter didn’t know much about how Shopify operated at the time… but he knew its SaaS software solved a major problem he faced. And Porter realized that if this solution worked for OneBlade, it could work for hundreds of thousands of small businesses across America, too.
As I researched the business, I immediately liked the numbers. I also believed Shopify had a cool product. But during a conversation with Tod, he assured me… “Bryan, this product isn’t just ‘cool.’ It changes everything.”
Given my background in software, it’s ironic that Porter, a financial-research publisher, and Tod, a product-development guy at heart, needed to fully convince me about the power of Shopify’s SaaS business model…
But all my previous experience came with the much older, traditional, “perpetual license” software model.
Under the perpetual license model, the customer buys the software and pays a large, upfront, one-time license fee. Customers must also shell out thousands of dollars more to buy servers or computers to store and run the software.
In addition to the license and hardware costs, customers must also pay for the software installation… and to train their employees to use it. These extra fees are known collectively as “professional services.” And the costs don’t end there – customers also need to pay for maintenance.
You can see how this all adds up. As I said earlier, for OneBlade, Porter and Tod figured out that these costs added up to $250,000 up front – not including the maintenance.
That’s the way the software industry operated for decades. But the SaaS model changed all that… SaaS customers rent the software, paying only small recurring fees as they use it.
It wasn’t until I started studying capital efficiency with Porter that I first thought about software as an entrepreneur – and perhaps more important, as a customer.
Buying under the SaaS model saves precious cash for software customers… as well as the time and back-office headaches of installing and maintaining the software. Instead, these companies can focus on building their businesses and keeping their own customers happy.
The SaaS model is a much more capital-efficient model for customers. That capital efficiency translates into fast growth and big profits.
And it’s why investments in pure SaaS companies vastly outperform investments in traditional software companies…
About 400 software companies trade on the public markets in North America. But only around 70 of them are pure SaaS companies that have gone public since 2004.
If you invested in nothing but these pure SaaS companies when they went public, your annual returns would have crushed the return of not only the overall market, but all other software companies.
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“My strategy aims to help you pull one winner out of the market each week, regardless of market conditions!” – Jeff Bishop
Since their initial public offerings, SaaS companies have returned an astounding 56% per year on average. That’s nearly three times higher than the broader software sector… and six times higher than the overall market. No other sector produced results anywhere near that.
Even among the stellar collection of SaaS companies, Shopify is an outlier…
Right after OneBlade signed on as a Shopify customer in March 2016, thanks in part to my deep dive for Porter, we recommended buying SHOP shares in Stansberry’s Investment Advisory.
We made the recommendation long before it became a darling of Wall Street and newsletter pundits in recent years. We hit our trailing stop loss after 18 months… booking an incredible 256% gain.
But in hindsight, we wish we would have held on…
Shopify has continued to soar. The stock is now up more than 1,500% since our initial recommendation! That’s a compounded annualized return of more than 100%.
SaaS companies like Shopify are no longer a secret – so it’s important for investors to be selective today. Legions of professional money managers have finally figured out what Porter learned simply from running his own businesses…
SaaS is the most capital-efficient sector of the already capital-efficient software space.