Growth shares have had a tough time so far in 2022, with many tumbling. There could be worse falls yet to come. But I am not waiting to try and time the market. I am already taking advantage of what I see as attractive prices for some fast-growing companies I think have strong future prospects. One UK growth share has collapsed 77% in the past year – and I am buying.
Growing pains
The share in question is online retailer boohoo (LSE: BOO). It has all the hallmarks of a classic growth share. The market in which it operates is expected to keep increasing in size. Boohoo has scaled its business to tackle more markets, such as the US. It has been developing a competitive advantage in the form of its branding and customer relationships.
So far, the company’s growth has been impressive. Last year, revenues grew 41% and post-tax profits grew 28%. Unlike many growth shares, this is neither a small nor a loss-making business. So, why has the boohoo share price plummeted?
It has suffered from negative publicity about labour conditions in factories that supply its products. But I think the much bigger concern is about the business model that led boohoo to focus on very cheap factory gate costs in the first place. Its strategy of competing at the bottom end of the market in terms of pricing has been a hit with customers. But it means boohoo has limited room to move when mounting costs threaten its profitability. From pricier fabrics to increases in shipping charges, boohoo has seen surging costs eat into the core of its price-led business model. Investors worry that that could be bad for profitability. The company’s latest profit warning in December stoked those fears.
Looking at the long term
I think fears about profitability are well-founded. The company has also been struggling to maintain sales in some regions. In the first nine months of this year, group total net sales grew 16%. But outside the key UK and US markets, the sales trends were negative. In the most recent quarter, the US also saw sales fall compared to the same period a year before.
But I think it is easy to overemphasise short-term trends. Revenues continue to post percentage growth in double digits. The company’s proven business model has ample room for expansion. Over time I think it will be able to pass cost increases onto customers in the form of higher selling prices. Getting rid of unprofitable sales might hurt revenues, but could help profit margins.
My next move on this UK growth share
Based on my optimism about the future outlook for the boohoo business, I think the shares have been beaten down too much. Given the profit warnings, this year looks set to be a rough one for the business and I do not think profit margins will recover in the short term. But boohoo remains a growing business with a track record of profitability.
I expect it will sort out its problems in the next couple of years. At that point, today’s boohoo share price could look like a bargain. That is why I have been buying boohoo shares for my portfolio. I plan to keep buying.
