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Knowing Gazelle Behavior

Small companies: The population of these fast-growing firms is on the rise. But investing in them can be risky. Many show early promise, then falter.

June 24, 1997|DEBORA VRANA | TIMES STAFF WRITER

There is big money to be made in those fast-growing companies known as "gazelles," but oh, the risk. Indeed, finding the right gazelle to bet on can be just as much of a gamble as picking a winner at Santa Anita.

Gazelles, a favored term to describe companies growing at 20% or more annually, are on the rise nationwide, with an estimated 250,000 now in existence.

Such companies can be a boon to local economies as well as to investors who put their money on the right gazelle early on--and have the stomach to handle the roller-coaster ride these stocks often take.

"Since the beginning of public markets, there has always been the idea that the higher the risk, the higher the reward," said business professor Jon P. Goodman, executive director of EC2, a business incubator project affiliated with USC. "Are these gazelles good investments? Absolutely. No question. But I have a high tolerance for that type of risk; other people don't."

In the accompanying list, The Times ranks the fastest-growing publicly traded gazelles nationwide in the last 12 months, as measured by sales growth. (A similar list published May 6 in the Times 100 section ranked California-based gazelles for 1996.) The list compares data for the most recent four quarters with the previous four.

Of course, high annual sales growth doesn't necessarily mean these companies are profitable. Indeed, most of the companies are not profitable now and won't be for several years. But fast revenue growth can be exciting to Wall Street because sales bursts may indicate a small company is on its way to becoming a big company.

Many such companies are in volatile industries; the bulk here are in communications, biotechnology and computer software. A few are in the energy or real estate industries.

The three gazelles leading the list posted sales growth of more than 3,000%. They are Guilford Pharmaceuticals, a Baltimore-based biotech and drug company; data systems firm Eltrax Systems in Minnetonka, Minn.; and Internet auctioneer Onsale, a Mountain View, Calif., firm.

"Growth doesn't always mean risk. Obviously you have to look at stock price volatility," said James B. Cloonan, director of the American Assn. of Individual Investors in Chicago.

Cloonan, who maintains a portfolio of little-followed small companies, advised that often it is these types of companies that can make investors rich.

"Small stocks are the only place where an investor can really find a bargain," Cloonan said. "Some of these companies that are growing are solid and have good cash positions."

It's important for investors to remember, however, that although many gazelles may qualify as bargains, others may turn out to be disasters, if earnings growth never materializes from their rapid sales growth.

What's more, for much of the past year--at least up until May--smaller stocks in general have been out of favor on Wall Street.

With gazelles, Cloonan cautions against relying too heavily on the numbers--such as stock price-to-book-value ratio (share price divided by the company's per-share net worth).

"Sometimes I don't believe in all these ratios, because what you are really buying is the future growth of a company," he said. "You need to be visionary, in a sense."

The future looks bright for Guilford Pharmaceuticals, a 4-year-old firm that has seen its sales increase more than 4,000% to $30 million in the most recent four quarters. It is the nation's fastest-growing gazelle.

Guilford just had its first profitable year, and the company's stock price has more than doubled from $11 at the end of 1995 to its current $26.25 a share on Nasdaq.

Investors are betting on big success for a Guilford product that delivers site-specific cancer chemotherapy. If a person has a brain tumor removed, the company's product is left behind in the brain after surgery to administer chemotherapy to surrounding tissue only, not to the entire body.

"There're many fewer side effects than with traditional chemotherapy," said Nick Landekic, vice president of business development at Guilford, which has plans to develop similar products to treat other cancers. "The best is yet to come," he says.

Not surprisingly, that sums up the view of most gazelle managements. Typically, these are technology-driven companies that see a business or consumer need and are first to rush in to fill it.

The second-fastest-growing gazelle on the list is Eltrax Systems, whose primary business is hospital information systems. The company is growing through acquisitions of other profitable data companies, said company President Mack Traynor.

In the last 13 months, Eltrax has acquired five data firms that specialize in "wide-area network" systems, including Datatech, a San Juan Capistrano company, and Techline, based in Agoura Hills. The other firms are in Phoenix, Cleveland and Raleigh, N.C.

"We clearly have a consolidation strategy. We will continue to grow until we have a national presence," Traynor said.

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