Motley Fool: Chew on this

Shares of leading online pet-care brand Chewy (NYSE: CHWY) were recently down more than 26% from their 52-week high, in part because of slowing revenue growth. But Chewy is emerging as the go-to online destination for convenient access to a large selection of pet food and other essentials. It’s starting to turn a profit as it expands, and it looks like an attractive investment opportunity.

Pet care is on the rise. As of late 2022, there were 5 million more pets in the U.S. than in 2019, and analysts at Morgan Stanley expect the pet industry to grow from $118 billion in 2019 to $277 billion by 2030. Chewy is well-positioned to capitalize on this opportunity. Its revenue has already doubled over the past three years.

The company reported a small profit of $6.1 million on $2.7 billion of revenue in the fourth quarter, in a reversal of earlier losses. Chewy is starting to benefit from supply chain improvements as well as growth in pharmacy and other high-margin services.

Chewy is copying Amazon’s playbook. It’s not only offering an enormous selection of thousands of pet products, but it’s also adding services on top of that, such as a pharmacy and an auto-ship program, to build customer loyalty. An improving profit margin makes Chewy look more like a genuine value for long-term investors. (The Motley Fool owns shares of and has recommended Chewy.)

Ask the Fool

Q. Are index funds the best mutual funds for beginners? – J.L., Albuquerque, New Mexico

A. Index funds are terrific not only for beginning investors, but also for seasoned ones. Investing without them can be a lot of work, requiring you to study lots of stocks, bonds or mutual funds, make many decisions and keep up with your holdings.

Meanwhile, a low-fee, broad-market index fund offers a quick and easy way to own an assortment of securities that track an index and earn roughly the index’s return. For example, an S&P 500 fund will allow you to instantly invest in 500 of America’s biggest companies and earn the return of the S&P 500 index (less fees). Many of the 500 companies have significant global operations as well, giving you international diversification.

There are broader index funds, too; some track the entire U.S. stock market or the world market, while other index funds might focus on bonds, small companies or particular regions. For whatever kinds of investments you seek, there’s often an index fund.

Q. Is a return on equity above 100% good or bad for a company? – G.H., Santa Maria, California

A. It depends. Return on equity (ROE) reflects the productivity of a company’s net assets (assets minus liabilities). You calculate it by dividing net income by shareholder equity. Net income is found on a company’s income statement, while shareholder equity is found on the balance sheet. In general, the higher the ROE, the better.

Some ROEs, however, can be artificially high if the company has taken on a lot of debt or has bought back a lot of shares. These actions shrink shareholder equity, driving up ROE.

My dumbest investment

My most regrettable investing move was when I was up 800% on my shares of Appian and I didn’t take anything off the table. Then shares dropped and cut my gain. – D.P., online

The Fool responds: Appian specializes in “low-code” software that enables programming in a visual setting, with drag-and-drop components and more. This means applications require less coding and can be created more quickly and inexpensively.

That certainly sounds promising, and plenty of the company’s customers agree: Appian’s revenue has been growing briskly, more than doubling since 2018. The stock has swooned sharply since 2021, though – in part because of the valuations of lots of software services returning to more reasonable levels. Rising interest rates have compounded matters.

Appian shares quadrupled in value in 2020. It wouldn’t have been misguided to hang on then – if the shares still seemed undervalued or reasonably valued.

They averaged a price-to-sales ratio of nearly 38 in 2020, which is steep and suggests overvaluation. The company was also reporting losses instead of gains, in part due to heavy spending on marketing (though it was effectively drawing new customers).

When you’re up a lot on a stock, especially if it seems overvalued, you might consider selling a portion of your shares and hanging onto the rest. Appian looks promising today, with double-digit revenue growth and high customer retention.