Why we start with the financials
Everyone has heard of Twitter. Few people have heard of Cadence Design Systems. You could call both companies “Technology companies” and their annual revenue is comparable (Twitter’s revenue is about 5.2B, Cadence’s is about 3.3B). But that’s where the similarities end.
Cadence is the better business. By any financial metric (margins, profit growth, return on equity) it comes out ahead. And its stock performance has been better over 1, 3, 5 and 7 year periods.
Twitter is a company that hasn’t proven anything financially. Could the business be turned around into a very profitable enterprise? Potentially. But that requires that something significant must change.
Conversely, Cadence is firing on all cylinders. Their customers are buying more and more of their products, signing multi-year deals. You don’t need some major change or turnaround to find success with Cadence—the future just needs to broadly resemble the past.
We found Cadence by looking at the financial statements first, and then figuring out “what do these guys do?” Prior to this, we’d never heard of it either. It turns out they make essential software for designing semiconductors, and all the largest chip designers in the world rely on their tools.
We didn’t set out looking for a subscription business that benefits from the adoption of 5G, hyperscale cloud computing, and the increasing trend of custom silicon design. But that’s what can happen when you start your search by looking for companies that are already succeeding.
There are many businesses like Cadence that are financially strong, but not household names, and investors would be better served by owning more of these thriving businesses and less of the ones that merely make headlines.
Disclosure: Dock Street Asset Management, Inc. and our clients own Cadence Design Systems (CDNS). This article is not intended to be used as investment advice.