3 best ASX growth stocks to buy for the long term
Three high-quality growth companies that have wide moats and a history of good capital allocation.
If we look over to the US, growth stocks had the upper hand inthe past year: The Morningstar US Growth Index has achieved an 18.7% return over the last year, outperforming Morningstar US Broad Value Index which achieved 14.93% (at 5 September)
Back in Australia, the story looks much the same. There are no 5 star stocks under our coverage. 73% of the companies are sitting in fairly valued or overvalued territory (at 5 September 2024).
Our best growth stocks to buy for the long term share a few qualities:
- They land in the growth portion of the Morningstar Style Box.
- Companies on this list have wide Morningstar Economic Moat Ratings. This means that our analysts believe that the company can sustain their competitive advantage for at least 20 years. This is particularly important for this list, when looking for stocks to buy for the long-term.
- They are run by management teams that make smart capital-allocation decisions, with either an exemplary or standard capital allocation rating.Â
- Many growth stocks are sitting in overvalued territory. Two stocks are undervalued, and one is trading near Morningstar’s fair value estimates (at 5 September 2024).
3 Best Growth Stocks to Buy for the Long Term
The 3 most reasonably priced growth stocks with the above criteria are:
PEXA Group Ltd PXA
Price/Fair Value: 0.77
Morningstar Uncertainty Rating: Medium
Morningstar Style Box: Mid Growth
Morningstar Capital Allocation Rating: Exemplary
Industry: Software - Application
PEXA operates a virtual monopoly on digital property settlement and lodgement in Australia, at around 99% market share of digital transactions and close to 90% market share of total transactions.
The remaining market share consists of paper-based conveyancing in some of Australia’s smaller jurisdictions and functional niches. Given the widespread adoption of Pexa’s platform by stakeholders, our analysts expect this remaining market share to eventually move to Pexa’s digital platform as well.
Pexa’s Wide Moat rating is primarily supported by network effects. In Australia, property transactions require the involvement of numerous stakeholders. The benefits created by all these stakeholders using a common platform creates a pull-effect across the ecosystem. Digital competitors to Pexa will also be faced with high switching costs. This is because switching to a different solution would require the integration of technologies and retraining of people, which incurs direct financial costs, opportunity costs, and business risk involved with the switching process.
We expect Pexa’s strategic focus for the foreseeable future to be on its overseas expansion into the United Kingdom. Pexa’s exchange business is mostly saturated in Australia, leaving overseas expansion as the primary driver of growth. However, Pexa does not enjoy an equally supportive environment in the UK as it did in Australia. In Australia, the country's largest banks co-owned it and with a legal mandate from state governments to move to e-conveyancing, this helped drive adoption. Pexa will therefore have to invest heavily into product development, and especially sales and marketing to drive adoption of its platform by sufficient market participants for network effects to kick in.
We see the highest risk in Pexa’s expansion into the UK market. Pexa is currently investing heavily in product development, and sales and marketing in this market and success will be a binary outcome, in our view.
We see low risk from competitive pressures due to Pexa’s Australian businesses being well-protected by network effects and switching costs. Even if interoperability eventually comes to the Australian property exchange market, which would allow third party access to the network, we don’t expect competitors to be financially viable businesses.
We rate investment efficacy as exceptional. Although we do not view Pexa’s recent acquisitions into adjacent products and services as value-accretive, Pexa has managed to secure a 99% market share in digital transactions for property transactions in Australia, which we view as an exceptional achievement. We attribute this at least in part to Pexa’s investments into the economic moat of its Australian exchange business and rate the efficacy of these investments highly.
The shares are currently 23% undervalued (at 5 September 2024).
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Auckland International Airport AIA
Price/Fair Value: 0.95
Morningstar Uncertainty Rating: Medium
Morningstar Style Box: Large Growth
Morningstar Capital Allocation Rating: Standard
Industry: Airport & Air Services
As the primary gateway to New Zealand, Auckland Airport is set to benefit from rising air travel to the island nation. Auckland Airport is the largest airport in New Zealand, and Auckland is by far New Zealand’s most populous city. No other airport in the country is likely to outdo Auckland as an international hub. We expect the airport to capture good medium-term growth from further airline capacity expansion to and from New Zealand. We forecast total passengers handled by Auckland to grow to more than 25% above pre-covid levels over the next decade.
Auckland Airport has carved a wide economic moat, thanks to its near-monopoly position in a stable regulatory environment. We don’t think a second major airport is likely to emerge anytime soon, given Auckland Airport’s expansion potential to accommodate continued growth in passenger numbers, protecting its position for decades to come.
Auckland Airport has no looming competitor, unlike Sydney Airport, which must contend with the scheduled 2026 opening of Western Sydney Airport. Rival airports in New Zealand are currently unsuitable as international landing points. While Auckland Airport is undergoing a significant capital investment program, it has relative earnings confidence with the regulated business to earn a suitable return on investment. Should passenger numbers disappoint, the firm has flexibility with capital deployments to reduce the risk of overcapacity.Â
The primary risks to Auckland Airport are around air travel to and from New Zealand, which is vulnerable to factors such as health epidemics, terrorism, geopolitical tensions, climate, and economic risks. Higher fuel prices could be passed on to passengers in the form of a fuel surcharge, which might also dampen air travel given New Zealand’s remote location. Over the long run, the latter factor is likely to be offset by aircraft that can travel faster, further, or more efficiently, making New Zealand a more accessible destination.
We assign Auckland International Airport a Standard Morningstar Capital Allocation Rating based on our assessment of balance sheet risk, investment efficacy, and shareholder distributions.
The balance sheet is weak. Granted, debt metrics have been appropriate. Investment efficacy is fair. Most of the company’s investments are completed under a regulated scheme, in which it is allowed to generate suitable returns on invested capital. Shareholder distributions are appropriate. The company covers its dividends with free cash flow—adjusted for capital spending needs.
Auckland Airport is 5% undervalued, with a wide moat. It is considered a four-star stock (at 5 September 2024).
The Lottery Corp Ltd TLC
Price/Fair Value: 1.01
Morningstar Uncertainty Rating: Low
Morningstar Style Box: Large Growth
Morningstar Capital Allocation Rating: Standard
Industry: Gambling
We expect The Lottery Corp to thrive now that it is unshackled from Tabcorp's competitively challenged wagering business. Regulation limits competition via compulsory licensing, bestowing Lottery Corp with a near-monopoly on long-dated licences in all Australian states and territories except Western Australia. The only significant licence due to expire before 2050 is for the Victorian lottery, which expires in 2028.Â
The Lottery Corp has just three digital-only competitors with an estimated combined market share of around 5%. None of the digital competitors have the same brand strength, with the 50-year history of The Lottery Corp's brands, physical retailers, range of games, and televised lottery draws all aiding its brand equity. We think a lack of brand recognition will prevent digital competitors from gaining sufficient market share due to their relative obscurity.
We view digitisation of lottery products as an opportunity for The Lottery Corp, which already conducts around 40% of lottery and 13% of Keno sales online. We think the lower commission margin paid on online sales more than offsets the impact from closure of retail outlets such as newsagents.
The Lottery Corp enjoys a wide economic moat by virtue of its intangible assets, including brand equity and regulation which limits competition via compulsory licensing. We forecast return on invested capital to remain above 30% over the next decade—comfortably exceeding the firm's 7% weighted average cost of capital.
We assign The Lottery Corp a Morningstar Uncertainty Rating of Low. The firm has long-dated licences, with an average weighted length of roughly 30 years for lotteries and 24 years for Keno, providing infrastructure like qualities. However, the Victorian licence will expire in 2028 and we think there is a strong likelihood that a second lottery provider will be granted a license. But we do not expect Lottery Corp to forego the licence completely and the impact is immaterial to our fair value estimate.
We assign The Lottery Corporation a Standard Capital Allocation Rating based on our assessment of balance sheet risk, investment efficacy, and shareholder distribution.
The Lottery Corp's balance sheet is in sound condition. Earnings have proven relatively resilient through economic cycles, including the global financial crisis and the COVID-19 pandemic.
The Lottery Corp is trading within a range we consider fairly valued.
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