Software is a huge sector, and like any huge sector there is a mix of wheat and chaff. The trick, then, is to separate the two and focus one's time on the most promising ideas. The following are five above-average software companies that are worth a closer look by investors seeking some technology ideas with solid chances of market-beating performance.

IN PICTURES: Baby Buffett Portfolio: His 6 Best Long-Term Picks

1. Cognizant Technology Solutions (Nasdaq:CTSH)
Cognizant is the youngest of the Tier 1 Indian IT firms (which includes Infosys (Nasdaq:INFY) and Wipro (NYSE:WIT)), and has the added twist of a U.S.-based management. Employee turnover is quite high compared to U.S. software companies, but this is nothing new in this sector. The company has a high reliance on financial services, but recently crossed the $1 billion mark in quarterly revenue despite the uncertain conditions in the sector. Wage and tax pressures in India are concerns to monitor, but recent revenue growth in excess of 40% and increasing analyst estimates suggest solid near-term momentum.

2. DST Systems (NYSE:DST)
DST Systems is the outlier in this group, as the stock has underperformed the S&P 500 over the last year and the valuation is quite a bit below the industry average. DST is the largest third-party shareholder record keeping company, and has a significant share of the outsourced mutual fund business. The company also owns stakes in State Street (NYSE:STT), Computershare and Euronet Worldwide (Nasdaq:EEFT) - and those holding are worth about one-third of the stock's current valuation. Even allowing for risk of the company's reliance on healthy equity and credit markets, DST looks like a software name that could appeal to value investors.

3. MICROS Systems (Nasdaq:MCRS)
Investors are starting to feel quite a bit better about the hospitality industry, as the casino, hotel and restaurant sectors have been outperforming recently. As a provider of software and IT products to that sector, it perhaps not so surprising that the stock of MICROS has been strong as well. As the travel and leisure markets improve, MICROS should see good operating leverage here and from international customers. There is likewise the possibility to deepen its penetration in a sector that has not yet consistently adopted technology outside of the large national operators.

4. Oracle (Nasdaq:ORCL)
Oracle has had a good run over the past year (up about 35%), but still does not look overpriced. Assuming that Oracle can continue past success in middleware and applications and take a leadership position in this hardware/software hybrid model that seems to be emerging in the large-cap IT space, the odds should be pretty good that Oracle continues to outperform the market.

5. Red Hat (NYSE:RHT)
Like Cognizant, MICROS and Oracle, Red Hat has enjoyed a good run over the past year. Unlike the other names on this list, however, Red Hat builds itself on the basis of service and support. Much as Microsoft (Nasdaq:MSFT), IBM (NYSE:IBM) and VMWare (NYSE:VMW) want to break that dynamic and convert customers to their proprietary products, there is likely to always be a segment of the market that prefers open-source software over proprietary systems.

On top of that, Red Hat has the opportunity to expand its service model into the growing cloud and virtualization markets, a move that would likely mean above-average returns if successful.

The Bottom Line
Software, and technology in general, can offer volatility and valuation levels that trouble conservative investors. That said, they are often cash-generating high-margin businesses and even a conservative investor may find that a small allocation to software is worth the trouble. These names are just a starting point for due diligence, but each would seem to have a better than fair shot at solid performance in both the short and long term. (For related reading, take a look at 4 Industry Changing Tech Trends.)

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Stock Analysis

    Analyzing Altria's Return on Equity (ROE) (MO)

    Learn about Altria Group's return on equity (ROE) and analyze net profit margin, asset turnover and financial leverage to determine what is causing its high ROE.
  2. Investing News

    Icahn's Bet on Cheniere Energy: Should You Follow?

    Investing legend Carl Icahn continues to lose money on Cheniere Energy, but he's increasing his stake. Should you follow his lead?
  3. Stock Analysis

    Analyzing Google's Return on Equity (ROE) (GOOGL)

    Learn about Alphabet's return on equity. How has its ROE changed over time, how does it compare to its peers and what factors are driving ROE for the company?
  4. Investing News

    Is Buffett's Bet on Oil Right for You? (XOM, PSX)

    Oil stocks are getting trounced, but Warren Buffett still likes one of them. Should you follow the leader?
  5. Investing News

    Chipotle Served with Criminal Probe

    Chipotle's beat muted expectations and got a clear bill from the CDC, but it now appears that an investigation into its E.coli breakout has expanded.
  6. Stock Analysis

    Analyzing Sprint Corp's Return on Equity (ROE) (S)

    Learn about Sprint's return on equity. Find out why its ROE is negative and how asset turnover and financial leverage impact ROE relative to Sprint's peers.
  7. Stock Analysis

    Why Alphabet is the Best of the 'FANGs' for 2016

    Alphabet just impressed the street, but is it the best FANG stock?
  8. Investing News

    A 2016 Outlook: What January 2009 Can Teach Us

    January 2009 and January 2016 were similar from an investment standpoint, but from a forward-looking perspective, they were very different.
  9. Mutual Funds & ETFs

    3 Vanguard Equity Fund Underperformers

    Discover three funds from Vanguard Group that consistently underperform their indexes. Learn how consistent most Vanguard low-fee funds are at matching their indexes.
  10. Investing News

    Alphabet Earnings Beat Expectations (GOOGL, AAPL)

    Alphabet's earnings crush analysts' expectations; now bigger than Apple?
  1. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  4. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  5. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  6. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>
Trading Center