The 'Entrepreneur's Lesson' Points to This Winning Sector

I don't have an entrepreneurial bone in my body.

I'm a certified public accountant ("CPA"). And as a CPA, I'm naturally a "numbers guy."

So it fascinates me how Porter Stansberry approaches every investment pitch with an entrepreneur's mindset...

A lot has changed since he founded Stansberry Research in 1999. I joined the company in 2012 – when Porter's office was a converted bedroom in a 19th-century mansion.

Because I live in Atlanta, I travel to the office once a month for meetings... So back then, I worked at a desk in the corner of the room when I was in town.

These days, our firm has outgrown the old Victorian mansion. Porter no longer needs to share his space... In our new building, he has a corner office all to himself. And now, when I come into town, I sit out in the "bullpen" with the other analysts.

Despite the change in scenery, I still recall many of Porter's lessons from those early years.

He would always ask us, "Would you want to own 100% of this business for the rest of your life?" That's how an entrepreneur thinks.

I'm convinced that Porter's appreciation of "capital efficiency" is due in large part to this thinking. Today, I'll show you what that means... and why it's at the heart of one of the market's best-performing sectors.

If you're not familiar, capital-efficient businesses grow rapidly without needing to invest in capital expenditures – like new buildings, factories, and equipment. These types of expenditures drain valuable cash and lower returns on investment.

When looking for capital-efficient companies, Porter and I came at the process from different angles...

By looking only at the "statement of cash flows" in a company's financial statements, I could tell if it was a capital-efficient business by the amount of cash it generated from its operations.

I'd also pore over common metrics – like a company's return on invested capital and how well it generated shareholder returns (stock buybacks, dividends, etc.).

Porter appreciated all those financial metrics as well. But to serial entrepreneurs like him, capital efficiency isn't just a bunch of numbers on a page. It hits much closer to home...

It's cash in your personal bank account.

Porter also asks questions like, "How much cash do I need to spend to grow this business?" and, "How much will it cost me to bring in and satisfy one new customer?" The less cash it takes a business to do these things, the more capital-efficient it is.

That's one of the big lessons I learned from Porter's entrepreneurial mindset – how to find these incredible investments by looking at them like a business owner.

After all, as a business, Stansberry Research is incredibly capital-efficient... If we doubled our subscriber base overnight, we wouldn't have to make significant cash investments to fulfill those obligations.

We already have our team of dozens of analysts and editors in place. There would be no factories to buy... No inventory to sell... We would just need to send twice as many e-mails.

That said, I was already familiar with the power of capital efficiency from working in the software industry...

Before coming to Stansberry Research, I worked in accounting and finance at a publicly traded software company – including four years as the company's controller. Then, I started a small accounting and finance consulting practice that catered only to software clients.

And if you look at the software industry, it shows why these companies have been some of the best places for your money in recent years...

Software companies are highly capital-efficient, like our publishing business. The cost to produce each software sale is extremely low.

Software is just computer code... so the cost of producing another copy of a program is next to nothing. It's roughly the same whether you produce a single copy or 1 million copies.

Accounting geeks can appreciate the power of the capital-efficient software model by looking at financial statements...

The average gross margins of all software companies in the benchmark S&P 500 Index equaled 81% last year. That's almost double the 45% average for all other industries.

That's the kind of business you want to own.

So, not surprisingly, software has become one of the most popular corners of the market...

In 2018, Savneet Singh – one of the most successful young entrepreneurs you'll ever meet – explained in an interview why he and a group of investors decided to focus solely on the software industry. As he explained on The Investor's Field Guide podcast with Patrick O'Shaughnessy...

I was running a technology business that had heavy bets on software. My friends were all software investors, and we started saying, "Well, what if you created the 'Berkshire Hathaway of Software?'"

As Singh continued in the podcast...

We were like, "Wow! If Warren Buffett was 30 years old, [software] is all he'd be investing in. It is a business that clearly has a moat... Because your average customer lasts 50 years... you can raise prices every year and no one's going anywhere. And you have the ability to reinvest for growth. That sounds like an amazing place to be."

The software industry is indeed an amazing place to be, thanks to its capital efficiency. But it's no longer a mystery. The entire market knows all about the sector's thick profits.

So tomorrow, I'll explain how it's possible to make big gains in "hidden" software opportunities... buried in the most profitable corner of this space.

Good investing,

Bryan Beach

Editor's note: If you're ready to learn more right now, you should know a select group of software stocks crushed every other sector over the past 15 years. They trounced small caps, biotech, and gold... returning 56% a year on average. And they nearly doubled the return of "FAANG" tech leaders like Apple.

To get the details – including how to access Bryan's favorite ideas at more than 65% off the regular price of his research – check out our short presentation here.

Further Reading

A decade ago, the software industry was dominated by "perpetual licenses." Customers had to purchase both the software and the hardware needed to run their platforms. But this clunky business has given way to a better model... Learn more here.

"Achieving financial independence and letting it slip through your fingers takes an enormous mental toll," Mike Barrett writes. With the right mindset, you'll have a leg up on other investors as their sentiment swings wildly... Read more here: Three Ways to Be a Superior Investor in the Years Ahead.

Market Notes
THIS MEAL-DELIVERY SERVICE IS COMING TO THE END OF ITS LINE

Today’s stock is a reminder of the perils of “fad” stocks…

In 2018, we explained why it pays to be cautious about exciting initial public offerings (“IPOs”). Even though they may seem like a great idea at the time, overhyped companies usually have nowhere to go but down. And today’s stock is another example of how these popular but ill-thought-out ideas can crash and burn…

Blue Apron (APRN) is a meal-delivery company that provides recipes and ingredients for cooking at home. It went public in June 2017… to underwhelming results. Even though it was a popular idea – at first – investors didn’t get on board. Since then, customers have lost interest in meal kits… And the stock has stayed in an almost constant downtrend. In a last-ditch effort to create value for shareholders, Blue Apron now says it’s considering selling the company.

As you can see, APRN shares have plummeted since its IPO. They’re down about 97% on a split-adjusted basis, barely above $2 per share. It just goes to show that popular ideas and IPOs don’t always pan out…