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Innovation - the life and soul of the stock market

What does Bob Dylan have to do with investing?

Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

Bob Dylan has inspired lots of people to do lots of things. But this might be the first time his music has provided the motivation to write about the importance of innovation to investors.

Well, there’s a first for everything.

The lyric that got me thinking is from his 1965 hit ‘It’s Alright Ma’. ‘He not busy being born is busy dying’.

It might not be exactly in-tune with the original meaning, but I think those words sum up how companies have to constantly evolve to survive and thrive.

Ocado – delivering profits

If the FTSE 100 market had an innovation-ometer we suspect there’d be a nice little bump on 15 June 2018. That’s the date Ocado entered the UK’s premier index.

Ocado processes thousands of grocery orders a week. Its virtually seamless systems handle those orders with only minor human intervention. These whirring systems are light-years ahead of its rivals, many of whom send assistants scurrying round the stores filling up baskets to fulfil online orders.

If that’s not enough to qualify as a genuinely innovative company, it’s also worth noting how Ocado has shifted to make its money in a smarter way.

Rather than see other grocers purely as rivals, Ocado treats them as potential customers. It’s realised that because its systems are so far ahead of what’s out there, other retailers are willing to pay for them.

In the last year, the group has got a spate of deals over the line. The biggest of these will see it team up with US giant Kroger, providing the systems to 20 of its distribution centres.

The prospect of having its technology ingrained into the operating model of retailers the world over is a pretty appealing one. Investment is needed, so profitability and returns to shareholders are both likely to be limited in the near-term. But the long-term potential is huge, meaning the shares have skyrocketed.

Past performance is not a guide to the future, and to stay on that upwards trend, the group will need to deliver more deals and execute those already in the bagging area without a hitch.

Ocado share price, charts and research

Amazon – a mighty force

“One thing I love about customers is that they are divinely discontent. Their expectations are never static – they go up...You cannot rest on your laurels in this world. Customers won’t have it.” So said Amazon CEO Jeff Bezos, a man who’s ingrained innovation into the fabric of his company.

That constant drive to be the best has helped Amazon become the top ranked US company for satisfaction 8 years in a row. It’s only got 5 on the spin in the UK, but you can be assured Bezos & Co are working on extending that run.

So how does Amazon deliver its success? Hard work is important, but we think its culture of letting staff take a good idea and run with it really sets it apart.

This has inevitably led to numerous failures along the way. Billions of dollars’ worth, in fact. But we think that’s inevitable when you do things on Amazon’s scale, and the group’s successes have so far outweighed the failures many times over.

Take AWS for example. Amazon’s web services business was born from one individual’s good idea which was given the room to grow. That individual was Andy Jassy.

Fed up with the resource that was getting devoted to IT infrastructure, he suggested creating on demand cloud computing superpower. That idea has morphed into a business that generated over $4bn of profit last year.

2017 saw Amazon roll out over 1,000 new services, so the spirit of innovation appears alive and well.

Amazon might be a stock market colossus already, but we think it’s still got plenty of growth potential ahead. That means management will likely continue prioritising further growth over paying a dividend for some time yet.

As with Ocado, the challenge will be living up to high expectations. But given what it’s accomplished so far, it’d be a brave move to bet against Amazon. Past performance isn’t a guide to future returns.

Amazon share price and charts

Rightmove – moving on up

Rightmove has become the UK’s go-to property portal. Not bad for a company that didn’t exist until the year 2000.

It’s difficult to go through the gears that quickly without some impressive innovations. So impressive, in fact, that Forbes named Rightmove as its innovative growth company of the year in 2017.

The group takes a regular fee from agents, who then get to advertise their properties on the portal. It’s that simple. The attractions are clear, but there are a couple of clouds on the horizon.

Rightmove charges per office, not per agency. The rise of online competitors and a slow housing market means offices are starting to close. That could put the brakes on growth.

Fortunately, it’s not all about the total number of offices. The group’s ability to roll out a steady flow of incremental improvements mean it’s got another lever to pull.

Those new services are chargeable, which brings in more revenue per office. But adding new services only explains part of the 8.7% increase in average revenue per agency reported in July’s half year results. That’s because of Rightmove’s market-leading position.

The portal’s popularity with buyers means the agents just can’t afford not to use the platform. That gives Rightmove the upper hand when terms are renegotiated, enabling it to increase the price of its standard service year-on-year.

Analysts are confident this can continue in the next few years, and impressive operating margins of 75% should mean profits keep rising too, although nothing is guaranteed. Rightmove has consistently used surplus cash for buybacks and dividends, with a prospective yield of 1.3% (not a reliable indicator of future income) and steady increases expected from here on, although of course they’re not guaranteed either.

The shares trade on a price to earnings ratio of 26.2.

Rightmove share price, charts and research

Author George Salmon is an Equity Analyst

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Past performance is not a guide to the future. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

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