Value investing and growth investing are not too distinct disciplines. Rather, they are joined at the hip. Any serious value investor understands that value is created by growth. The difference is that "value" investors avoid overpaying for that growth. Paying little for that growth creates an undervalued investment. A business that can grow its intrinsic value by 10-15% may be considered an undervalued investment even if the investor buys at 80% of intrinsic value. Over time, the growth in intrinsic value creates a bigger margin of safety.

IN PICTURES: 20 Tools For Building Up Your Portfolio

An often-used acronym to describe such cheap stocks is GARP, which stands for Growth At a Reasonable Price. Such businesses may not trade at wide discounts to book value or low P/E ratios, but instead the underlying business offers an attractive growth profile relative to the current valuation. In fact, most value-style investments today actually qualify as GARP-style investments. Unless one is investing in a liquidation or special situation opportunity, growth is what creates value. Of course, the key is not paying too much for such growth. (Nasdaq: AMZN) is a high-growth, profitable business, but at current prices investors are too excited about that growth. The stock trades at 52 times earnings - an incredibly generous valuation for any business.

Quality GARP
On the other hand, a name like Forest Labs (NYSE: FRX) fits the bill. The shares trade at 12 times earnings, and shares are in a lull due to the looming patent expiration of its blockbuster Lexapro. Despite accounting for a majority of revenues, Forest currently has nearly 20 new drugs in its pipeline. The odds are quite good that a few of them will succeed. In the meantime, this uncertainty has created an attractive price. Shares trade for $27, including $11 in cash per share, and no debt. (For related reading, check out Stock Picking Strategies: GARP Investing.)

Other names fitting the bill that would make for good investigation include giant industrial construction firm Fluor (NYSE: FLR). It's an $8 billion company with nearly $2 billion in net cash. Its worldwide operations in a wide array of industries give the company a great future. A much smaller but equally intriguing construction business is Sterling Construction (Nasdaq: STRL), a $230 million company that focuses on municipal construction projects primarily in Texas and Nevada. State budgets today don't bode well for Sterling, but the company has a pristine balance sheet and exceptional management that is willing to wait until contract pricing improves.

Be Realistic
Growth is valuable because it is not easy to do year in and year out. When looking at GARP-type companies, it's important to have realistic growth expectations. Assuming a business can grow at unrealistic rates for prolonged periods of time will make any company seem attractive. Unfortunately, such lofty expectations often lead to expensive mistakes. (For related reading, check out The 3 Most Timeless Investment Principles.)

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

Related Articles
  1. Mutual Funds & ETFs

    What Exactly Are Arbitrage Mutual Funds?

    Learn about arbitrage funds and how this type of investment generates profits by taking advantage of price differentials between the cash and futures markets.
  2. Investing News

    Ferrari’s IPO: Ready to Roll or Poor Timing?

    Will Ferrari's shares move fast off the line only to sputter later?
  3. Stock Analysis

    5 Cheap Dividend Stocks for a Bear Market

    Here are five stocks that pay safe dividends and should be at least somewhat resilient to a bear market.
  4. Investing

    How to Win More by Losing Less in Today’s Markets

    The further you fall, the harder it is to climb back up. It’s a universal truth that is painfully apparent in the investing world.
  5. Fundamental Analysis

    Use Options Data To Predict Stock Market Direction

    Options market trading data can provide important insights about the direction of stocks and the overall market. Here’s how to track it.
  6. Stock Analysis

    2 Oil Stocks to Buy Right Now (PSX,TSO)

    Can these two oil stocks buck the trend?
  7. Investing News

    What Alcoa’s (AA) Breakup Means for Investors

    Alcoa plans to split into two companies. Is this a bullish catalyst for investors?
  8. Investing

    A Look at 6 Leading Female Value Investors

    In an industry still largely predominated by men, we look at 6 leading female value investors working today.
  9. Term

    What Is Financial Performance?

    Financial performance measures a firm’s ability to generate profits through the use of its assets.
  10. Stock Analysis

    Top 3 Stocks for the Coming Holiday Season

    If you want to buck the bear market trend by going long on consumer stocks, these three might be your best bets.
  1. Can working capital be too high?

    A company's working capital ratio can be too high in the sense that an excessively high ratio is generally considered an ... Read Full Answer >>
  2. How do I use discounted cash flow (DCF) to value stock?

    Discounted cash flow (DCF) analysis can be a very helpful tool for analysts and investors in equity valuation. It provides ... Read Full Answer >>
  3. 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 >>
  4. What is the formula for calculating compound annual growth rate (CAGR) in Excel?

    The compound annual growth rate, or CAGR for short, measures the return on an investment over a certain period of time. Below ... Read Full Answer >>
  5. 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 >>
  6. When does the fixed charge coverage ratio suggest that a company should stop borrowing ...

    Since the fixed charge coverage ratio indicates the number of times a company is capable of making its fixed charge payments ... Read Full Answer >>

You May Also Like

Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!