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The Most Profitable Growth Companies In The U.S.


Chris Barth, 01.11.11, 6:00 PM ET

The Fortune 500 ranks America’s largest corporations–behemoths like Exxon Mobil and Bank of America–by gross revenue, regardless of expenses. The list is bandied by PR people and corporate executives as though it were the gold standard. But what does it really say? It says bigger is better, because it merely ranks companies by total revenue and income; the list fails to take into account profit growth relative to the size of the company.

It’s difficult to compare Wal-Mart ($419 billion in trailing four-quarter sales) against QLogic ($584 million in TFQ sales) without letting sheer size and volume affect the numbers. In fact, when analysts do attempt to compare disparate companies using traditional metrics, inequalities in company size and industry practices make the rankings unreliable and often misleading.

In Pictures: The 25 Most Profitable Growth Companies In The U.S.

Al Ehrbar, president of EVA Dimensions, a company out of Locust Valley, N.Y., thinks his company has built a better mousetrap. The company has developed a metric called EVA Momentum to measure profitability, performance, and momentum on a balanced scale, regardless of market cap or industry sector. Ehrbar calls EVA Momentum, “a bona fide innovation in financial analysis … that promises to open a new chapter in value-based management.”

It looks like they’re on to something. If you invested equally in today’s Top 25 Fortune 500 companies five years ago, you would have gotten a 23.1% total cumulative return on that investment. If you had invested in our Top 25 Most Profitable Growth companies, that return would have been 173.9%. During that same time period, the S&P 500 returned 10.3%.

How EVA Momentum Works

The equation used to determine EVA Momentum is simple: The change in a company’s economic profit in one period divided by the company’s sales in the prior period. Despite its streamlined nature, the equation does a good job of intricately balancing performance and momentum of a company.

The numerator drills down to the change in a company’s economic value added. EVA itself already accounts for Generally Accepted Accounting Principles shortcomings (like the expensing of R&D investments and the practice of keeping rented assets off the books); it also allows for comparison across industries by charging for the opportunity cost of all capital.

Analyzing the change in EVA further levels the playing field, allowing investors to compare companies’ momentum regardless of their relative profits. When looking for companies that are headed in the right direction, most investors look at various shapes and sizes–large mainstays with the strength to withstand downturns, young companies about to make big moves and hard-hit companies rebounding from previous losses. Even though they can make for great investments, companies in the red are often omitted from other company rankings.

Take for example JDS Uniphase; the communications company, despite remaining in the red, has made large strides to move closer to profitability over the last five years, as it has recovered from large expenditures during the dot-com boom.

“JDS Uniphase is a classic example of a firm that is on an upward march, by making a negative EVA less negative,” says Bennett Stewart, who developed EVA Momentum. The metric reflects this positive change for the company, despite the fact that it has yet to bring in a positive cash flow, and allows investors to directly compare the trending tendencies of profitable and unprofitable companies.

Still, we face the difficulty of comparing large and small companies. Certainly, a profit increase of $100 million means a lot more to Verisign than it does to a gargantuan company like Oracle. For that reason, EVA Dimensions divides the change in EVA by trailing period sales. The sales figure acts as a scaling anchor, giving perspective to each company’s numbers; consequently, small and large companies can be analyzed side-by-side without bias.

What We Found

We looked at the EVA Momentum of S&P 500 companies over one-year and five-year time periods, ending in mid-December 2010. The rankings, predictably, varied depending on the time period analyzed, with a 62% correlation between the one- and five-year rankings; only six companies (Gilead Sciences , MasterCard, Intuitive Surgical, IntercontinentalExchange, Google, and Diamond Offshore Drilling) ranked in the top 20 for both one-year and five-year EVA Momentum.

“One thing that has a strong affect on the one-year is that ’08 was so devastating for both financials and energy companies,” says Ehrbar. “If you look at the ranking from a year ago, the five-year bottom was dominated by oil and gas and financials. They leveled off in ’09 and have come back strongly this year in terms of their operating numbers. So you get companies like Legg Mason and Devon Energy at the top of the one-year rankings.”

The five-year rankings, on the other hand, are more stable. Since the five-year analysis–at this point–spans the recession, it is less likely to be influenced strongly by industry booms and busts tied to the financial crisis. The five-year rankings will change at a slower pace, as recent change is tempered by a more robust set of historical data. The one-year EVA Momentum figures serve as a helpful balance to the steady five-year numbers, showing recent inertia and volatility in company profits.

We will be revisiting EVA Momentum throughout the year, checking in on quarterly change and profitability to determine whether or not these EVA Momentum winners are also long-term stock market winners. While they certainly have performed well over the past five years, the companies atop this list have yet to prove that they can maintain their momentum. We’ll keep tabs on them here; for a list of the The 25 Most Profitable Growth Companies in the U.S. from the past five years please click here.

In Pictures: The 25 Most Profitable Growth Companies In The U.S.


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