Look for these 3 factors in ASX tech shares for good returns: fund manager

Plenty of ASX tech shares have been smashed in 2022 as the impact of higher interest rates hit valuations.

For example, just look at the Xero Limited (ASX: XRO) share price which is down over 50%.

Just because a share price has fallen doesn’t mean that a company’s prospects have dimmed, it’s just that investors aren’t as willing to pay as much for that potential future.

But, even with lower prices, investors should still keep their investment criteria in mind.

How are we supposed to judge which ASX tech shares are worth investing in?

A leading fund manager from Wilson Asset Management has outlined some of the things that investors could look out for.

How WAM identifies ASX tech share opportunities

With everything that’s going on, fund manager Tobias Yao says that WAM continues to be “very selective” about tech and is drawn to defensive business models and the growth profiles of some of these companies. The valuation has come back “quite a bit”.

For WAM to be interested in that ASX tech share name, it has to tick three boxes:

• Delivering at a minimum of 10% to 15% of organic revenue growth
• Net cash balance sheet
• Strong operating leverage, while trading at a reasonable earnings multiple

Yao also said that WAM likes to look for founder-led businesses because of the stronger focus on costs.

If a business is growing at a double-digit rate, then this can help quickly grow its scale, which may enable a good compounding effect on profit over time.

‘Net cash’ means that a business has more cash on its balance sheet than debt. This could make it a safer investment proposition.

Operating leverage means that when revenue goes up, its profit is able to grow at a faster pace.

The fund manager concluded:

We believe these companies are the ones the market will gravitate towards when they look for growth. In-fact we’re already seeing some signs of this. In-fact we’re already seeing signs of this with private equity players and strategic buyers in the small cap tech space.

Examples

While the fund management team didn’t outline all of their ASX tech share positions, the monthly fund update for November 2022 revealed some of the positions including Life360 Inc (ASX: 360), REA Group Limited (ASX: REA) and Hub24 Ltd (ASX: HUB).

The post Look for these 3 factors in ASX tech shares for good returns: fund manager appeared first on The Motley Fool Australia.

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Motley Fool contributor Tristan Harrison has no position in any of the stocks mentioned. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. has positions in and has recommended Hub24, Life360, and Xero. The Motley Fool Australia has positions in and has recommended Hub24 and Xero. The Motley Fool Australia has recommended REA Group. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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