When Growth Stocks Attack


It's hard not to love a good growth stock. The ride up is exhilarating, and can double or triple your investment in a matter of months. Yet the fall from grace can be equally dramatic. And it's often initiated by the most innocuous of events. In this article, we'll look at the events that triggered three such collapses in 2011.

1.Netflix (NAS: NFLX)
It isn't an exaggeration to say that Netflix, and notably its CEO, Reed Hastings, was one of the market's darlings in the early part of 2011. Everyone and their mother seemed to be heralding Hastings' prescience and managerial acumen. Even Mark Zuckerberg got into the mix, naming Hastings to Facebook's board of directors and stating that "Reed is an entrepreneur and technologist who has led Netflix to transform the way people watch movies and TV."

And then everything came crashing down on one otherwise nondescript evening in mid-July. It was that night that Hastings pressed Send on his now-infamous email announcing the company's plan to split into two separate entities -- one for streaming content and the other for its traditional DVD-by-mail business -- and thereby markedly increase the cost of monthly subscriptions.

A public relations nightmare ensued. Fool analyst Molly McCluskey compared Hastings' email to that of an ex-boyfriend who felt as if he hadn't had his say. And Fool Brian Stoffel penned an open letter to Hastings expressing his bewilderment at the decision -- read about Hastings' response -- and later claimed to have been wrong to have trusted the Netflix CEO in the first place.

While Netflix eventually reversed course on its proposed split, it was too little, too late for the company's shareholders. As you can see in the chart below, the stock price has fallen a staggering 77% since Hastings' now-infamous email. And while it may eventually recover, as Amazon.com did following the bursting of the Internet bubble, the likelihood of its doing so in a reasonable time frame is remote.

Netflix Stock Chart by YCharts

2.SodaStream International (NAS: SODA)
SodaStream's soda-making home machine seemed to be everywhere last year. CNBC's Jim Cramer and Herb Greenberg chose SodaStream over name-brand pop in a televised taste test. It was prominently displayed at virtually every major retailer. Colleagues at work were raving about it -- see here and here. And my brother-in-law pumped guests full of the homemade virgin brew at my wife's baby shower.

A cursory review of its stock chart, however, suggests a more nuanced story. Yet unlike Netflix, SodaStream didn't commit an egregious error that caused the stock to decline in August. Rather, it got crushed like an aluminum can even after posting stellar second-quarter results (EPS of 0.29 euros versus a consensus estimate of 0.22 euros). The reason? It failed to raise its guidance.

SodaStream International Stock Chart by YCharts

At the end of the day, I agree with Fool analyst Rick Munarriz that it's hard to nail down why SodaStream's stock hasn't been one of the year's biggest winners -- the stock ended the year only $0.01 higher than where it began . But that's the point about growth stocks; they're so volatile at certain points that even the slightest disturbance can send them tumbling downward.

3.Green Mountain Coffee Roasters (NAS: GMCR)
For those who associate growth stocks with start-up companies, you're probably surprised by Green Mountain's inclusion here. Founded back in 1981, the company went public almost 20 years ago, eons in the life cycle of a growth stock.

Yet the company only recently emerged onto the wider scene with its now-popular Keurig brand of single-cup coffee-brewing systems. And boy, did it emerge. As the following chart illustrates, between the beginning of 2009 and September 2011, its stock price increased by 1,250%, going from $8 to $108.

Green Mountain Coffee Roasters Stock Chart by YCharts

The more interesting question is, why the sudden fall from grace? Was it due to poor communication, as in Netflix's case? Or did it succumb to the same unidentifiable sources that caused SodaStream's stock to stumble last August?

In this case, it's actually neither of the above. The crux of Green Mountain's problem is trust. Citing a "litany of accounting questions," investors and pundits lost faith in the veracity of the company's financial disclosures. The main issue, according to Whitney Tilson of T2 Partners, is channel stuffing -- the practice in which a business artificially inflates its sales figures by forcing more products through its distribution channel than the channel is capable of selling to the world at large. And while this charge may or may not be true, perception is oftentimes reality in the universe of growth stocks.

Foolish takeaway
The performance of each of these stocks throughout 2011 tells a unique story. The one thing they have in common, however, is that their stock prices became increasingly susceptible to failure the higher they climbed. While this may already be obvious, it should nevertheless serve as a good reminder to think twice before investing in a stock that's accelerated quickly in price.

While growth stocks are great, I recommend that you check out a company with a greater chance of both protecting and multiplying your capital in years to come, like the one discussed in our recently released free report "The Motley Fool's Top Stock for 2012." To access this limited-time report while it's still available, click here now -- it's free.

At the time thisarticle was published Fool contributor John Maxfield holds no financial stake in any of the companies mentioned above.Motley Fool newsletter serviceshave recommended buying shares of Green Mountain Coffee Roasters, SodaStream International, and Netflix, as well as creating a lurking gator position in Green Mountain Coffee Roasters. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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Originally published