After weeks of rumors, Dell (DELL) announced this morning a deal to acquire Quest Software (QSFT) for $ 2.4 billion. From their press release:
"The addition of Quest will enable Dell to deliver more competitive server, storage, networking and end user computing solutions and services to customers," said John Swainson, president, Dell Software Group. "Quest's suite of industry-leading software products, highly-talented team members and unique intellectual property will position us well in the largest and fastest growing areas of the software industry. We intend to build upon the strong momentum Quest brings to Dell."
"Clearly, Dell's distribution, reach and brand are well recognized in the industry. Combine that with Quest's software expertise and award-winning systems management products and you have a very powerful combination for our customers and partners," said Vinny Smith, chairman and chief executive officer of Quest Software. "With this transaction, Quest's products and employees become the foundation for Dell's critical software business."
The deal is expected to close in Dell's fiscal third quarter.
Two-thirds of Dell's profit already comes from sources other than the PC*. So this deal will just further reduce Dell's dependence on that relatively unattractive business.
With Quest Software selling at roughly 15 times forward earnings, it's tough to be enthusiastic about the purchase when Dell could instead just buy back its own stock that's selling at very low multiple of earnings (though they've recently made it clear they plan to distribute 20-35% of free cash flow to shareholders via dividends and share repurchases).
The good news is that Quest's free cash flow has been quite a bit higher than net income in recent years. This is mostly due to deferred revenue and depreciation/amortization well in excess of capital expenditures. On that basis, the price being paid seems more reasonable.
The strategic fit of Quest with Dell in the context of where the company is going also has to be given appropriate consideration. Time will tell whether this turns out to be an important part of the transformation of Dell's core business.
Adam
Small long position in Dell
* For the one-third that is PC, most is not the consumer. I point this out because somehow Dell seems to be viewed as mostly a consumer PC business. Even without the Quest deal, it certainly is not at this point.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and are never a recommendation to buy or sell anything.
Monday, July 2, 2012
Friday, June 29, 2012
The Halo Effect & Rear-View Mirror Investing
My prior post focused primarily on the halo effect* in the context of Barron's recent survey of the World's Most Respected Companies.
In this post, I'll focus a bit on the tendency of investors to have their eyes firmly fixed on what's behind them. In other words, to weigh heavily what's in their rear-view mirror in lieu of what can be plainly seen through the windshield. It's a behavior that Warren Buffett did a nice job of explaining a little over ten years ago in this Fortune article:
Warren Buffett on the Stock Market
"People are habitually guided by the rear-view mirror and, for the most part, by the vistas immediately behind them." - Warren Buffett in Fortune, December 2001
For market participants the tendency can adversely impact results if it's not well understood. Recency effect is a cognitive bias that creates a tendency to discount longer term trends in favor more recent events. What Buffett describes in the Fortune article is, at least in part, likely just the recency effect at work. The latest outcomes and recent experiences (good or bad) are projected forward as if they will continue indefinitely.**
As I mentioned, Barron's recently released its latest annual survey on the World's Most Respected Companies. In the prior post, I highlighted four companies that had fallen out of the top twenty of their rankings:
Berkshire Hathaway (BRKa): From 3rd to 15th
Pepsico (PEP): From 9th to 30th
JP Morgan (JPM): From 14th to 49th
Wal-Mart (WMT): From 18th to 51st
Barron's: The World's Most Respected Companies
So is there a company or two (not necessarily the above four) within the Barron's rankings with visible and very real near term difficulties, that led to poor stock performance, yet those difficulties have had little material impact on intrinsic business value?
If there is then comes down to whether that poor stock performance has put the price comfortably below a conservative estimate of valuation. The reason, of course, is that just because reputation has taken a hit or a stock has lagged hardly guarantees it's selling below intrinsic business value (nor does a favorable reputation and a rising stock price guarantee overvaluation).
The next question is whether the business is understandable to the investor. There will always be many businesses that seem cheap to me but I cannot make a reliable judgment of their future prospects. So a stock may, in fact, be a great investment but if it's beyond my abilities to make the judgment call I still can't take action. The discipline of knowing when not to act even if something appears compelling is not just somewhat important in investing. It's simple awareness of one's own limits.
This is one of several reasons why I believe an investor should never buy a stock based upon someone else's opinion.
(Taking an idea you hear from someone, doing your own research and analysis, then drawing your own conclusions with some conviction is a different story.)
Another reason is this: If an investor concludes based on their own research to buy a stock, then when price action temporarily gets ugly they're more likely to hang in there. This is fine as long as judgment of intrinsic worth tends to be generally sound. If not, hanging in there ends up being a great way to assure substantial permanent capital losses. Things like the halo effect and recency effect are some of the many reasons stocks become mispriced. Use of more objective factors can reduce their influence on an investor, but remember that they are always at work even when aware of these and other tendencies and biases.
Finally, the damaged reputation of a company can, of course, be a reflection that the business franchise has really been materially impaired long-term and not just the result of some cognitive bias.
That, as well as whether the reduced stock price is sufficient to reflect the impairment (and provide a safety margin), has got to be judged objectively on an individual basis.
Adam
Long positions on all stocks mentioned
* The halo effect is essentially about how any one powerful impression can spill over to our other judgments. For example, it can make an investor believe they are evaluating a stock's performance (or maybe a series of negative headlines) independent of a business's intrinsic qualities (or maybe the CEO's capabilities), but there's plenty of evidence to suggest that's not what generally happens.
** We also know from psychology that, due to loss aversion, humans get less satisfaction from gain than pain from loss. So it's not symmetrical. Humans much prefer avoiding a loss to acquiring gains. If the recent market trend (recency effect) involved heavy losses (or perceived losses), it's not hard to see why many would still want to avoid getting back in even well after the risk/reward has become more favorable.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and are never a recommendation to buy or sell anything.
In this post, I'll focus a bit on the tendency of investors to have their eyes firmly fixed on what's behind them. In other words, to weigh heavily what's in their rear-view mirror in lieu of what can be plainly seen through the windshield. It's a behavior that Warren Buffett did a nice job of explaining a little over ten years ago in this Fortune article:
Warren Buffett on the Stock Market
"People are habitually guided by the rear-view mirror and, for the most part, by the vistas immediately behind them." - Warren Buffett in Fortune, December 2001
For market participants the tendency can adversely impact results if it's not well understood. Recency effect is a cognitive bias that creates a tendency to discount longer term trends in favor more recent events. What Buffett describes in the Fortune article is, at least in part, likely just the recency effect at work. The latest outcomes and recent experiences (good or bad) are projected forward as if they will continue indefinitely.**
As I mentioned, Barron's recently released its latest annual survey on the World's Most Respected Companies. In the prior post, I highlighted four companies that had fallen out of the top twenty of their rankings:
Berkshire Hathaway (BRKa): From 3rd to 15th
Pepsico (PEP): From 9th to 30th
JP Morgan (JPM): From 14th to 49th
Wal-Mart (WMT): From 18th to 51st
Barron's: The World's Most Respected Companies
So is there a company or two (not necessarily the above four) within the Barron's rankings with visible and very real near term difficulties, that led to poor stock performance, yet those difficulties have had little material impact on intrinsic business value?
If there is then comes down to whether that poor stock performance has put the price comfortably below a conservative estimate of valuation. The reason, of course, is that just because reputation has taken a hit or a stock has lagged hardly guarantees it's selling below intrinsic business value (nor does a favorable reputation and a rising stock price guarantee overvaluation).
The next question is whether the business is understandable to the investor. There will always be many businesses that seem cheap to me but I cannot make a reliable judgment of their future prospects. So a stock may, in fact, be a great investment but if it's beyond my abilities to make the judgment call I still can't take action. The discipline of knowing when not to act even if something appears compelling is not just somewhat important in investing. It's simple awareness of one's own limits.
This is one of several reasons why I believe an investor should never buy a stock based upon someone else's opinion.
(Taking an idea you hear from someone, doing your own research and analysis, then drawing your own conclusions with some conviction is a different story.)
Another reason is this: If an investor concludes based on their own research to buy a stock, then when price action temporarily gets ugly they're more likely to hang in there. This is fine as long as judgment of intrinsic worth tends to be generally sound. If not, hanging in there ends up being a great way to assure substantial permanent capital losses. Things like the halo effect and recency effect are some of the many reasons stocks become mispriced. Use of more objective factors can reduce their influence on an investor, but remember that they are always at work even when aware of these and other tendencies and biases.
Finally, the damaged reputation of a company can, of course, be a reflection that the business franchise has really been materially impaired long-term and not just the result of some cognitive bias.
That, as well as whether the reduced stock price is sufficient to reflect the impairment (and provide a safety margin), has got to be judged objectively on an individual basis.
Adam
Long positions on all stocks mentioned
* The halo effect is essentially about how any one powerful impression can spill over to our other judgments. For example, it can make an investor believe they are evaluating a stock's performance (or maybe a series of negative headlines) independent of a business's intrinsic qualities (or maybe the CEO's capabilities), but there's plenty of evidence to suggest that's not what generally happens.
** We also know from psychology that, due to loss aversion, humans get less satisfaction from gain than pain from loss. So it's not symmetrical. Humans much prefer avoiding a loss to acquiring gains. If the recent market trend (recency effect) involved heavy losses (or perceived losses), it's not hard to see why many would still want to avoid getting back in even well after the risk/reward has become more favorable.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and are never a recommendation to buy or sell anything.
Wednesday, June 27, 2012
2012 World's Most Respected Companies
This past weekend Barron's released its latest annual survey on the World's Most Respected Companies.
Barron's: The World's Most Respected Companies
Here are some notable stocks that have fallen out of the top twenty on Barron's list this year:
Berkshire Hathaway (BRKa): From 3rd to 15th
Pepsico (PEP): From 9th to 30th
JP Morgan (JPM): From 14th to 49th
Wal-Mart (WMT): From 18th to 51st
While it's at least debatable whether these business franchises have been somehow materially impaired long-term, clearly a hit to reputation of some kind has occurred. With this in mind, it's worth a look through the lens of the "halo effect".
Here's one example of the effect. It turns out stock price action can create a dynamic that spills over into the perception of other things (maybe the quality of the person in charge or the intrinsic worth of a business). This is what psychologists have called the "halo effect" and was first documented decades ago. It's important to remember that the "halo" can be both positive and negative. So it cuts both ways. It's also important to note that the above is just one example among many. More generally, the "halo effect" is about how any one powerful impression can influence our other judgments. This Wall Street Journal article by Jason Zweig does a nice job of explaining the effect.
The Halo Effect: How It Polishes Apple's and Buffett's Image
Now, I'm not suggesting that stock price performance is somehow behind the drop in reputation of the above four companies. Actually, Wal-Mart's recent equity performance has been rather good (though by coming into the 2000s way overvalued the business has spent ten years "catching up" to the stock price...that has probably created a considerable negative halo).
What's interesting is that the Zweig article uses Buffett's image as an example of a positive "halo". Well, it's less than a year since the article was written, and Berkshire Hathaway has fallen from number 3 on the Barron's list to number 15 in reputation.
The recently released Barron's article seems to indicate that at least part of the reason for Berkshire's fall is some of Buffett's politics. Well, whether one agrees with Buffett or not on politics, his views have little to do with Berkshire's intrinsic value and how the company will likely perform (create value) in coming decades. Still, at least based upon the survey it's hard to argue that there's been a temporary, even if so far modest, hit to Berkshire's reputation.
Allegations that Wal-Mart executives bribed officials in Mexico to make expansion easier obviously hasn't helped their reputation. As I mentioned, Wal-Mart's very recent stock performance has been pretty impressive. If Wal-Mart's stock were to outperform long enough to erase the decade of poor equity performance, would that halo favorably impact its overall reputation? You cannot oversimplify this stuff or make judgments too quickly but it will be worth watching over time.
In any case the halo effect can make an investor believe they are evaluating a stock's performance (or maybe a series of negative headlines) independent of a business's intrinsic qualities (or maybe the CEO's capabilities), but there's plenty of evidence to suggest that's not what generally happens. The reaction one has to stock performance or headlines can easily disproportionately spill over into the perception of the overall business itself.
It is easy to allow a positive or negative halo distort the perception one has of an individual or a business. A lagging stock price can weigh heavily on the perception of a company. A rising stock price can do the opposite, creating a favorable impression. Use of more objective factors is the best way to prevent price action or some other powerful impression from inadvertently influencing perceptions in a way that leads to expensive investing misjudgments.
Adam
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Barron's: The World's Most Respected Companies
Here are some notable stocks that have fallen out of the top twenty on Barron's list this year:
Berkshire Hathaway (BRKa): From 3rd to 15th
Pepsico (PEP): From 9th to 30th
JP Morgan (JPM): From 14th to 49th
Wal-Mart (WMT): From 18th to 51st
While it's at least debatable whether these business franchises have been somehow materially impaired long-term, clearly a hit to reputation of some kind has occurred. With this in mind, it's worth a look through the lens of the "halo effect".
Here's one example of the effect. It turns out stock price action can create a dynamic that spills over into the perception of other things (maybe the quality of the person in charge or the intrinsic worth of a business). This is what psychologists have called the "halo effect" and was first documented decades ago. It's important to remember that the "halo" can be both positive and negative. So it cuts both ways. It's also important to note that the above is just one example among many. More generally, the "halo effect" is about how any one powerful impression can influence our other judgments. This Wall Street Journal article by Jason Zweig does a nice job of explaining the effect.
The Halo Effect: How It Polishes Apple's and Buffett's Image
Now, I'm not suggesting that stock price performance is somehow behind the drop in reputation of the above four companies. Actually, Wal-Mart's recent equity performance has been rather good (though by coming into the 2000s way overvalued the business has spent ten years "catching up" to the stock price...that has probably created a considerable negative halo).
What's interesting is that the Zweig article uses Buffett's image as an example of a positive "halo". Well, it's less than a year since the article was written, and Berkshire Hathaway has fallen from number 3 on the Barron's list to number 15 in reputation.
The recently released Barron's article seems to indicate that at least part of the reason for Berkshire's fall is some of Buffett's politics. Well, whether one agrees with Buffett or not on politics, his views have little to do with Berkshire's intrinsic value and how the company will likely perform (create value) in coming decades. Still, at least based upon the survey it's hard to argue that there's been a temporary, even if so far modest, hit to Berkshire's reputation.
Allegations that Wal-Mart executives bribed officials in Mexico to make expansion easier obviously hasn't helped their reputation. As I mentioned, Wal-Mart's very recent stock performance has been pretty impressive. If Wal-Mart's stock were to outperform long enough to erase the decade of poor equity performance, would that halo favorably impact its overall reputation? You cannot oversimplify this stuff or make judgments too quickly but it will be worth watching over time.
In any case the halo effect can make an investor believe they are evaluating a stock's performance (or maybe a series of negative headlines) independent of a business's intrinsic qualities (or maybe the CEO's capabilities), but there's plenty of evidence to suggest that's not what generally happens. The reaction one has to stock performance or headlines can easily disproportionately spill over into the perception of the overall business itself.
It is easy to allow a positive or negative halo distort the perception one has of an individual or a business. A lagging stock price can weigh heavily on the perception of a company. A rising stock price can do the opposite, creating a favorable impression. Use of more objective factors is the best way to prevent price action or some other powerful impression from inadvertently influencing perceptions in a way that leads to expensive investing misjudgments.
Adam
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Monday, June 25, 2012
Tech Sector Dividends
Here's a Barron's article on why tech sector dividend payouts tend to be relatively low as a percent of their free cash flow.
The article points out that, according to Moody's Investor Service, the tech sector only pays out roughly 21 percent of its excess cash flow (operating cash flow minus capex).
Other industries pay out more like 43%.
What's a couple of reasons for this?
1) The amount of cash overseas that if paid out would result in repatriation taxes.
Apple (AAPL), Microsoft (MSFT), Cisco (CSCO), and Google (GOOG) alone have more than $ 200 billion in cash and investments but much of it sits outside the United States. Also, since a substantial amount of their future earnings will not be generated inside the U.S., expect the amount of liquid funds that accumulates overseas to continue growing.
2) The inherent uncertainty of the tech industry.
Tech businesses are always susceptible losing their leadership position in the markets they serve. The competitive landscape shifts as a disruptive technology or company comes along that threatens the status quo.
Examples of those left behind by a shifting landscape:
-Digital Equipment Corporation
-Wang Labs
-Eastman Kodak
...among many others. Tech businesses often need to hold more cash so they're ready for unforeseen changes that may occur. The financial flexibility to anticipate and influence the direction of change is key. Fear of not having enough funds to invest internally (or to buy competing smaller companies with key technologies) must at least partly explain what are by just about any standard extremely healthy balance sheets. Tech businesses (at least those who want to be competing from a position of strength) need to have enough funds to not only maintain but ideally enhance their market positions.
Disruptions occur and they're unlikely to be linear. So how much capital will be needed to maintain a strong competitive position is quite a lot less predictable or knowable. Having some insurance cash laying around seems wise when you are competing in extremely dynamic industries.
Being ready when the technology world inevitably shifts from time to time doesn't just come down to the amount of liquid cash and investments available. Yet, financial flexibility is a nice thing to have when something unexpected comes along (Research in Motion: RIMM probably wishes they had more financial flexibility right now). It's easy to argue some of these large cap tech companies have taken the amount of cash and liquid investments they have on hand a bit too far but it's not hard to understand why.
The economic moat of some tech businesses is often less robust than it seems at any point in time and threats to their viability come along faster and more unpredictably. Despite all this, with their ample free cash flow and the enormous liquidity on their balance sheets these days, it is thought that payouts from the tech sector will rise nicely this year.
Well, at least according to this Barron's article they will. Moody's Investor Service expects that dividends from the tech sector should rise 14.3 percent in 2012.
Adam
Long positions in AAPL, MSFT, CSCO, GOOG
Related post:
Technology Stocks
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
The article points out that, according to Moody's Investor Service, the tech sector only pays out roughly 21 percent of its excess cash flow (operating cash flow minus capex).
Other industries pay out more like 43%.
What's a couple of reasons for this?
1) The amount of cash overseas that if paid out would result in repatriation taxes.
Apple (AAPL), Microsoft (MSFT), Cisco (CSCO), and Google (GOOG) alone have more than $ 200 billion in cash and investments but much of it sits outside the United States. Also, since a substantial amount of their future earnings will not be generated inside the U.S., expect the amount of liquid funds that accumulates overseas to continue growing.
2) The inherent uncertainty of the tech industry.
Tech businesses are always susceptible losing their leadership position in the markets they serve. The competitive landscape shifts as a disruptive technology or company comes along that threatens the status quo.
Examples of those left behind by a shifting landscape:
-Digital Equipment Corporation
-Wang Labs
-Eastman Kodak
...among many others. Tech businesses often need to hold more cash so they're ready for unforeseen changes that may occur. The financial flexibility to anticipate and influence the direction of change is key. Fear of not having enough funds to invest internally (or to buy competing smaller companies with key technologies) must at least partly explain what are by just about any standard extremely healthy balance sheets. Tech businesses (at least those who want to be competing from a position of strength) need to have enough funds to not only maintain but ideally enhance their market positions.
Disruptions occur and they're unlikely to be linear. So how much capital will be needed to maintain a strong competitive position is quite a lot less predictable or knowable. Having some insurance cash laying around seems wise when you are competing in extremely dynamic industries.
Being ready when the technology world inevitably shifts from time to time doesn't just come down to the amount of liquid cash and investments available. Yet, financial flexibility is a nice thing to have when something unexpected comes along (Research in Motion: RIMM probably wishes they had more financial flexibility right now). It's easy to argue some of these large cap tech companies have taken the amount of cash and liquid investments they have on hand a bit too far but it's not hard to understand why.
The economic moat of some tech businesses is often less robust than it seems at any point in time and threats to their viability come along faster and more unpredictably. Despite all this, with their ample free cash flow and the enormous liquidity on their balance sheets these days, it is thought that payouts from the tech sector will rise nicely this year.
Well, at least according to this Barron's article they will. Moody's Investor Service expects that dividends from the tech sector should rise 14.3 percent in 2012.
Adam
Long positions in AAPL, MSFT, CSCO, GOOG
Related post:
Technology Stocks
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Friday, June 22, 2012
Tom Russo: Investing in Global Brands - Part II
A follow up to this post on Tom Russo and his investments in global brands.
In this Barron's interview, Russo talks about the market for spirits in China and explains the opportunity. Consider this:
The market for spirits in China is 550 million cases a year.
So how many cases of premium spirits are imported into China each year?
According to Russo, it's just 5 million cases or less than 1 percent.
The funds Russo manages has investments in the shares of companies like Pernod Ricard, Brown-Forman [BF-B], and Diageo [DEO].
Each, with their valuable spirits brands and other abilities, seem in a good position to chip away at the substantial opportunity China represents.
Some of the brands these companies own include:
Pernod Ricard: Absolut, Jameson, Seagram's, The Glenlivet
Brown-Forman: Jack Daniel's, Southern Comfort, Canadian Mist
Diageo: Johnnie Walker, Smirnoff, Captain Morgan, Guinness
Diageo is the largest producer of spirits and also has a major business in beer and wine.
Russo certainly seems to think they're positioned to participate in the transformation of Chinese consumption more toward premium imports.
He also says that some of the barriers (tariffs and duties) to importing spirits (more specifically, whiskey with a preference for scotch) into India are slowly disappearing. 150 million cases of whiskey are consumed in India each year.
Shares of these businesses can be thought of, at least in part, as investments in the conversion from unbranded to branded products (or maybe from non-premium to premium).
This will all take plenty of patience and persistent investment. Managers and owners have to be willing to withstand near or even intermediate term pain with an eye toward long run wealth creation effects.
In the article, Russo explains the substantial opportunity Africa represents for the beer industry.
Heineken and SABMiller [SBMRY] have already built substantial and profitable businesses there and are investing heavily in the region.
Not surprisingly, a large percentage of the portfolio Russo manages is in shares of businesses that produce consumer goods of various kinds.
Russo has also been a long-term owner of Berkshire Hathaway [BRKa]. In the interview, he says that eventually the company could pay quite a dividend because of all the cash it produces.
Check out the full interview.
Adam
Long-term positions in DEO and BRKb established at lower than recent prices. No intention to add to these positions or sell.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
In this Barron's interview, Russo talks about the market for spirits in China and explains the opportunity. Consider this:
The market for spirits in China is 550 million cases a year.
So how many cases of premium spirits are imported into China each year?
According to Russo, it's just 5 million cases or less than 1 percent.
The funds Russo manages has investments in the shares of companies like Pernod Ricard, Brown-Forman [BF-B], and Diageo [DEO].
Each, with their valuable spirits brands and other abilities, seem in a good position to chip away at the substantial opportunity China represents.
Some of the brands these companies own include:
Pernod Ricard: Absolut, Jameson, Seagram's, The Glenlivet
Brown-Forman: Jack Daniel's, Southern Comfort, Canadian Mist
Diageo: Johnnie Walker, Smirnoff, Captain Morgan, Guinness
Diageo is the largest producer of spirits and also has a major business in beer and wine.
Russo certainly seems to think they're positioned to participate in the transformation of Chinese consumption more toward premium imports.
He also says that some of the barriers (tariffs and duties) to importing spirits (more specifically, whiskey with a preference for scotch) into India are slowly disappearing. 150 million cases of whiskey are consumed in India each year.
Shares of these businesses can be thought of, at least in part, as investments in the conversion from unbranded to branded products (or maybe from non-premium to premium).
This will all take plenty of patience and persistent investment. Managers and owners have to be willing to withstand near or even intermediate term pain with an eye toward long run wealth creation effects.
In the article, Russo explains the substantial opportunity Africa represents for the beer industry.
Heineken and SABMiller [SBMRY] have already built substantial and profitable businesses there and are investing heavily in the region.
Not surprisingly, a large percentage of the portfolio Russo manages is in shares of businesses that produce consumer goods of various kinds.
Russo has also been a long-term owner of Berkshire Hathaway [BRKa]. In the interview, he says that eventually the company could pay quite a dividend because of all the cash it produces.
Check out the full interview.
Adam
Long-term positions in DEO and BRKb established at lower than recent prices. No intention to add to these positions or sell.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Wednesday, June 20, 2012
Tom Russo: Investing in Global Brands
There's a good interview with Tom Russo in the most recent Barron's.
Check it out.
Russo is a partner at Gardner Russo & Gardner and oversees a $5 billion portfolio with investments in things like:
Nestlé [NSRGY]
Brown-Forman [BF-B]
Philip Morris International [PM]
Unilever [UL]
Pernod Ricard [RI.France)
Diageo [DEO]
Heineken Holding [HEIO.Netherlands]
Anheuser-Busch InBev [BUD]
SABMiller [SBMRY]
He basically likes companies that own some of the great global brands and have the ability to distribute them broadly and efficiently. Russo knows quite a bit about these types of businesses and is full of insights regarding them.
(His favorites seem to be beer and spirits. I find it difficult to argue.)
The portfolio he manages tends to be very concentrated with low turnover. For example, he first bought Nestlé and Brown-Forman back in 1987.
Russo generally owns what he likes for a very long time. I wouldn't mind seeing more of it in the investing world.
So he's investing in the developing markets by way of the great global brands. What's at least somewhat notable is that he generally prefers to do this by investing in European companies over American companies.
While it's true investing in developing markets can also be accomplished (at least to an extent) with some of the U.S. multinationals, he explains in the article why he favors the European ones.
These companies have desirable brands that historically were not affordable in developing markets yet are slowly becoming affordable. So a taste or preference for a brand has been somehow established but out of reach for many.
With the benefit of persistent long-term investments (and the passage of time so per capita incomes can grow) those brand preferences can be deepened, distribution strengthened, as the product becomes in reach for a larger percent of the population.
This obviously all requires some patience and a long view.
It's the redeployment of cash flows from established brand franchises in the developed markets to expand and strengthen brands in less developed markets.
These businesses have brands the world wants and the funds (free cash flow) to develop them in emerging parts of the world. If management and shareholders are willing to endure some near term pain to accomplish it, there's an opportunity to create plenty of wealth.
So why does he favor the European over American companies?
"Their brands have populated the world because Europeans colonized; their companies were just more global. America has had the great virtue of having a large enough market that companies could get rich without leaving our shores. Nestlé is based in a country [Switzerland] of just seven million people. It had to be global." - Tom Russo
Russo also says the stock option-based executive compensation prevalent in the U.S. has caused some American companies to under-invest. Why? He thinks the near term pressure to produce steady earnings growth makes some of them, in the long run, less competitive.
In the interview, Russo also explains why he likes to own the better family-controlled businesses. This is a bit contrary to what some others might think of investments with substantial family control (Brown-Forman and Pernod Ricard are family-controlled). While some investors would be wary of too much family control, he clearly is not. Well, at least he is not in the case of those specific investments.
His reason? It seems to come down to:
1) These families having lots of their own wealth at stake, and
2) a willingness to focus on long run wealth creation instead of maximum near term profitability.
The great franchises have a steady source of free cash flow from their established brands in developed markets. They can afford (at least the best of these can) to invest and develop in parts of the world that may be somewhat (and, if warranted, maybe more than somewhat) detrimental to near term results.
It's what Russo has called the "capacity to suffer".
A crucial factor is that they can afford to do this without neglecting (underinvesting in) their core franchise in more developed markets.
Check out the full interview.
Adam
Long-term positions in BRKb, PM, and DEO established at lower than recent prices. No intention to add to these positions or sell.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Check it out.
Russo is a partner at Gardner Russo & Gardner and oversees a $5 billion portfolio with investments in things like:
Nestlé [NSRGY]
Brown-Forman [BF-B]
Philip Morris International [PM]
Unilever [UL]
Pernod Ricard [RI.France)
Diageo [DEO]
Heineken Holding [HEIO.Netherlands]
Anheuser-Busch InBev [BUD]
SABMiller [SBMRY]
He basically likes companies that own some of the great global brands and have the ability to distribute them broadly and efficiently. Russo knows quite a bit about these types of businesses and is full of insights regarding them.
(His favorites seem to be beer and spirits. I find it difficult to argue.)
The portfolio he manages tends to be very concentrated with low turnover. For example, he first bought Nestlé and Brown-Forman back in 1987.
Russo generally owns what he likes for a very long time. I wouldn't mind seeing more of it in the investing world.
So he's investing in the developing markets by way of the great global brands. What's at least somewhat notable is that he generally prefers to do this by investing in European companies over American companies.
While it's true investing in developing markets can also be accomplished (at least to an extent) with some of the U.S. multinationals, he explains in the article why he favors the European ones.
These companies have desirable brands that historically were not affordable in developing markets yet are slowly becoming affordable. So a taste or preference for a brand has been somehow established but out of reach for many.
With the benefit of persistent long-term investments (and the passage of time so per capita incomes can grow) those brand preferences can be deepened, distribution strengthened, as the product becomes in reach for a larger percent of the population.
This obviously all requires some patience and a long view.
It's the redeployment of cash flows from established brand franchises in the developed markets to expand and strengthen brands in less developed markets.
These businesses have brands the world wants and the funds (free cash flow) to develop them in emerging parts of the world. If management and shareholders are willing to endure some near term pain to accomplish it, there's an opportunity to create plenty of wealth.
So why does he favor the European over American companies?
"Their brands have populated the world because Europeans colonized; their companies were just more global. America has had the great virtue of having a large enough market that companies could get rich without leaving our shores. Nestlé is based in a country [Switzerland] of just seven million people. It had to be global." - Tom Russo
Russo also says the stock option-based executive compensation prevalent in the U.S. has caused some American companies to under-invest. Why? He thinks the near term pressure to produce steady earnings growth makes some of them, in the long run, less competitive.
In the interview, Russo also explains why he likes to own the better family-controlled businesses. This is a bit contrary to what some others might think of investments with substantial family control (Brown-Forman and Pernod Ricard are family-controlled). While some investors would be wary of too much family control, he clearly is not. Well, at least he is not in the case of those specific investments.
His reason? It seems to come down to:
1) These families having lots of their own wealth at stake, and
2) a willingness to focus on long run wealth creation instead of maximum near term profitability.
The great franchises have a steady source of free cash flow from their established brands in developed markets. They can afford (at least the best of these can) to invest and develop in parts of the world that may be somewhat (and, if warranted, maybe more than somewhat) detrimental to near term results.
It's what Russo has called the "capacity to suffer".
A crucial factor is that they can afford to do this without neglecting (underinvesting in) their core franchise in more developed markets.
Check out the full interview.
Adam
Long-term positions in BRKb, PM, and DEO established at lower than recent prices. No intention to add to these positions or sell.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Monday, June 18, 2012
Buffett on Enduring "Moats"
There's two excellent sources of a sustainable and wide economic "moat" for a business. One is by being the low cost producer in an industry, another by having solid brands and distribution that lead to pricing power.
Those with the widest "moats" have the ability to defend/expand their turf while maintaining high levels of profitability relative to the capital that's needed.
From Warren Buffett's 2007 Berkshire Hathaway (BRKa) shareholder letter:
A truly great business must have an enduring "moat" that protects excellent returns on invested capital. The dynamics of capitalism guarantee that competitors will repeatedly assault any business "castle" that is earning high returns. Therefore a formidable barrier such as a company's being the low cost producer (GEICO, Costco) or possessing a powerful world-wide brand (Coca-Cola, Gillette, American Express) is essential for sustained success. Business history is filled with "Roman Candles," companies whose moats proved illusory and were soon crossed.
Our criterion of "enduring" causes us to rule out companies in industries prone to rapid and continuous change. Though capitalism's "creative destruction" is highly beneficial for society, it precludes investment certainty. A moat that must be continuously rebuilt will eventually be no moat at all.
So it's about how much profit can be produced relative to the ongoing capital requirements and how well that economic equation can remain in tact over the long haul.
Notice there's no mention of growth here.
This Morningstar article explains why not all moats are created equal.
Not All Moats Are Created Equal
It also goes beyond the two sources I mentioned above and walks through five major sources of moats.
According to Morningstar, these are:
1 Cost Advantage
2 Intangible Assets
3 Switching Costs
4 Network Effect
5 Efficient Scale
Not surprisingly, return on invested capital and return on equity are two primary measures that Morningstar looks at to gauge the economic moat of an enterprise.
The article points out some businesses have more than one of the above but, among the five categories, Intangible Assets and Cost Advantage are the sources that Morningstar found to be most prevalent among "wide moat" firms.
In the letter, Buffett also makes the point that the best businesses don't require great management. Those that require a superstar to get results cannot be considered a great enterprise.
That doesn't mean a very good CEO isn't a big asset but, as an investor, you just don't want business performance to be overly dependent on it.
Adam
Long position in BRKb established at lower than recent market prices
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Those with the widest "moats" have the ability to defend/expand their turf while maintaining high levels of profitability relative to the capital that's needed.
From Warren Buffett's 2007 Berkshire Hathaway (BRKa) shareholder letter:
A truly great business must have an enduring "moat" that protects excellent returns on invested capital. The dynamics of capitalism guarantee that competitors will repeatedly assault any business "castle" that is earning high returns. Therefore a formidable barrier such as a company's being the low cost producer (GEICO, Costco) or possessing a powerful world-wide brand (Coca-Cola, Gillette, American Express) is essential for sustained success. Business history is filled with "Roman Candles," companies whose moats proved illusory and were soon crossed.
Our criterion of "enduring" causes us to rule out companies in industries prone to rapid and continuous change. Though capitalism's "creative destruction" is highly beneficial for society, it precludes investment certainty. A moat that must be continuously rebuilt will eventually be no moat at all.
So it's about how much profit can be produced relative to the ongoing capital requirements and how well that economic equation can remain in tact over the long haul.
Notice there's no mention of growth here.
This Morningstar article explains why not all moats are created equal.
Not All Moats Are Created Equal
It also goes beyond the two sources I mentioned above and walks through five major sources of moats.
According to Morningstar, these are:
1 Cost Advantage
2 Intangible Assets
3 Switching Costs
4 Network Effect
5 Efficient Scale
Not surprisingly, return on invested capital and return on equity are two primary measures that Morningstar looks at to gauge the economic moat of an enterprise.
The article points out some businesses have more than one of the above but, among the five categories, Intangible Assets and Cost Advantage are the sources that Morningstar found to be most prevalent among "wide moat" firms.
In the letter, Buffett also makes the point that the best businesses don't require great management. Those that require a superstar to get results cannot be considered a great enterprise.
That doesn't mean a very good CEO isn't a big asset but, as an investor, you just don't want business performance to be overly dependent on it.
Adam
Long position in BRKb established at lower than recent market prices
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Friday, June 15, 2012
Two Low P/E Stocks Selling For Less Than What Warren Buffett Paid
According to the latest filings available, Warren Buffett bought both of the following stocks at prices higher than what they are selling at now.
Tesco PLC (TSCDY)
Sanofi (SNY)
Each are large capitalization European stocks with substantial global franchises. Of course, they are certainly not immune to Europe's troubles.
Buffett added to his stake in Tesco earlier this year after the retailer posted weak seasonal figures that Tesco's CEO Philip Clark called "disappointing."
Tesco has roughly tripled its profits over the past decade or so. Well, that growth in profitability is now in question as the company steps up investments to revamp its UK business and get that important part of its house in order.
The UK business is extremely profitable (two-thirds of the company's sales and profits come from it) but seems to have been neglected somewhat while to company has been expanding overseas.
Tesco is the third largest retailer in the world in terms of revenue.
Buffett Boost Stake in Tesco
Last month Mr. Clark's compensation was cut nearly in half and he waived his annual bonus due to the supermarket chain's recent results and performance (in January Tesco issued its first profit warning in a couple of decades).
These days, there are actually a number of choices among global pharmaceutical businesses like Sanofi (and also quite a few integrated oil businesses) with P/E's around 10 or less and above average dividend yields.
What they lack is an investor like Buffett having established meaningful stakes in them at higher prices.
Now, I've never been all that big a fan of pharmaceutical businesses (or, for that matter, integrated oil), but eventually a big enough discount to a conservative estimate of intrinsic value can adjust my enthusiasm.
Naturally, just because these stocks currently appear not terribly expensive, have nice dividend yields, are owned by* Berkshire Hathaway (BRKa), and sell below the prices he was willing to pay doesn't necessarily make them good investments. Both certainly appear to have some real business challenges in front of them.
Still, these probably aren't the worst possible places to begin doing one's own extensive research and analysis.
Adam
Long position in BRKb established at lower prices. Also, very small long positions in TSCDY and SNY. These two stocks are not likely to be held as long-term positions. BRKb certainly is.
* According to the latest letter these two stocks are still owned by Berkshire Hathaway, but obviously either could have been sold.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Tesco PLC (TSCDY)
Sanofi (SNY)
Each are large capitalization European stocks with substantial global franchises. Of course, they are certainly not immune to Europe's troubles.
Buffett added to his stake in Tesco earlier this year after the retailer posted weak seasonal figures that Tesco's CEO Philip Clark called "disappointing."
Tesco has roughly tripled its profits over the past decade or so. Well, that growth in profitability is now in question as the company steps up investments to revamp its UK business and get that important part of its house in order.
The UK business is extremely profitable (two-thirds of the company's sales and profits come from it) but seems to have been neglected somewhat while to company has been expanding overseas.
Tesco is the third largest retailer in the world in terms of revenue.
Buffett Boost Stake in Tesco
Last month Mr. Clark's compensation was cut nearly in half and he waived his annual bonus due to the supermarket chain's recent results and performance (in January Tesco issued its first profit warning in a couple of decades).
These days, there are actually a number of choices among global pharmaceutical businesses like Sanofi (and also quite a few integrated oil businesses) with P/E's around 10 or less and above average dividend yields.
What they lack is an investor like Buffett having established meaningful stakes in them at higher prices.
Now, I've never been all that big a fan of pharmaceutical businesses (or, for that matter, integrated oil), but eventually a big enough discount to a conservative estimate of intrinsic value can adjust my enthusiasm.
Naturally, just because these stocks currently appear not terribly expensive, have nice dividend yields, are owned by* Berkshire Hathaway (BRKa), and sell below the prices he was willing to pay doesn't necessarily make them good investments. Both certainly appear to have some real business challenges in front of them.
Still, these probably aren't the worst possible places to begin doing one's own extensive research and analysis.
Adam
Long position in BRKb established at lower prices. Also, very small long positions in TSCDY and SNY. These two stocks are not likely to be held as long-term positions. BRKb certainly is.
* According to the latest letter these two stocks are still owned by Berkshire Hathaway, but obviously either could have been sold.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Wednesday, June 13, 2012
Dell Initiates Quarterly Dividend
Looks like Dell (DELL) is going to start paying a dividend for the first time on its common stock.
Beginning in 3Q 2012 of the current fiscal year, Dell expects to pay an $0.08 per share quarterly dividend.
Based on yesterday's closing price of $11.86 the annual dividend yield will be 2.67 percent.
It's something the company would seem to easily have the financial flexibility to do considering its balance sheet strength and free cash flow. To me, the question is and has been whether they can afford to make this kind of consistent payout while also making the necessary investments to continue transitioning the business.
From the press release:
"Our efforts to streamline our operations and shift the mix of our business over the past several years have resulted in sustainably strong cash flow from operations, enabling us to increase the percentage of capital we've allocated to research and development, capital expenditures and acquisitions while maintaining an ongoing share repurchase program," said Brian Gladden, Dell chief financial officer. "The payment of a quarterly cash dividend to Dell’s shareholders adds another element to our disciplined capital allocation strategy."
The company also said it plans to increase its target range for distributing capital to shareholders (via dividends and share repurchases) from what was 10-30 percent of free cash flow to more like 20-35 percent.
In the press release they also point out:
Dell has generated $4.9 billion in cash flow from operations in the past four quarters and has $17.2 billion in cash and investments.
After subtracting debt, Dell's net cash and investments on the balance sheet equals over $ 8 billion or just under 40% of its $ 21.2 billion market value. It's new dividend on an annualized basis equals approximately $ 567 million in cash flow.*
That's not much compared to the $ 3 billion or more the business seems likely to generate in free cash flow this year.
So, yeah, it would seem they have the financial wherewithal to do this. Also, it seems unlikely they'd begin doing this now if they somehow felt their ability to generate cash was about to fall off a cliff.
Adam
Small long position in Dell
Related post:
Technology Stocks
* Based upon diluted weighted-average shares outstanding at the end of the first quarter.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Beginning in 3Q 2012 of the current fiscal year, Dell expects to pay an $0.08 per share quarterly dividend.
Based on yesterday's closing price of $11.86 the annual dividend yield will be 2.67 percent.
It's something the company would seem to easily have the financial flexibility to do considering its balance sheet strength and free cash flow. To me, the question is and has been whether they can afford to make this kind of consistent payout while also making the necessary investments to continue transitioning the business.
From the press release:
"Our efforts to streamline our operations and shift the mix of our business over the past several years have resulted in sustainably strong cash flow from operations, enabling us to increase the percentage of capital we've allocated to research and development, capital expenditures and acquisitions while maintaining an ongoing share repurchase program," said Brian Gladden, Dell chief financial officer. "The payment of a quarterly cash dividend to Dell’s shareholders adds another element to our disciplined capital allocation strategy."
The company also said it plans to increase its target range for distributing capital to shareholders (via dividends and share repurchases) from what was 10-30 percent of free cash flow to more like 20-35 percent.
In the press release they also point out:
Dell has generated $4.9 billion in cash flow from operations in the past four quarters and has $17.2 billion in cash and investments.
After subtracting debt, Dell's net cash and investments on the balance sheet equals over $ 8 billion or just under 40% of its $ 21.2 billion market value. It's new dividend on an annualized basis equals approximately $ 567 million in cash flow.*
That's not much compared to the $ 3 billion or more the business seems likely to generate in free cash flow this year.
So, yeah, it would seem they have the financial wherewithal to do this. Also, it seems unlikely they'd begin doing this now if they somehow felt their ability to generate cash was about to fall off a cliff.
Adam
Small long position in Dell
Related post:
Technology Stocks
* Based upon diluted weighted-average shares outstanding at the end of the first quarter.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
Monday, June 11, 2012
Ralph Whitworth & Ray Lane Buy Hewlett-Packard Shares
The buying and selling of stock by directors and senior executives is sometimes worth watching even if it's tough to come up with useful insights from their behavior.
With that in mind, recent buys that seem at least worth noting are the purchases at Hewlett-Packard (HPQ). Any move by a director or executive is necessarily difficult to interpret, but that doesn't mean the persistence of the behavior and amounts involved should be ignored.
Raymond Lane recently purchased approximately $ 4 million of stock at an average price of $ 22.17 per share. He then followed that by purchasing roughly $ 1 million more at an average of $ 21.50 per share.
Here's where it gets even more interesting.
Ralph Whitworth also recently purchased, over several days, just under $ 400 million of Hewlett-Packard stock at a price range of $ 21.67 to $ 22.71 per share.
The shares of Hewlett-Packard closed on Friday at $ 22.18 per share and are down as I write this.
Ralph Whitworth is an activist shareholder and the co-founder of Relational Investors. Last November he became one of Hewlett Packard's directors and likely a very important one. These are the first purchases since that happened.
(Relational did hold shares before Whitworth was added to the board. The latest moves more than doubles the stake).
Is this a sign that Whitworth's concluded, after getting a good look the company in the past months, that it is worth putting some more meaningful capital at risk?
Whitworth is known for investing in underperforming companies and pushing for necessary reforms and changes.
At a minimum, with just under $ 400 million of shares being bought near the current price, at least this isn't some minor purchase of the stock by Whitworth. It's real money by just about any standard.
Some think there are many possible reasons to sell a stock but only one reason to buy:
The buyer expects to make money.
I'm not convinced it is as simple as that, but anyone who already liked the shares of Hewlett-Packard shouldn't mind seeing this.
If nothing else governance at Hewlett-Packard may be finally getting stronger. Something that is sorely needed. Poor capital allocation and other blunders have been the norm.
When a high profile insider buys occurs it may or may not be a sign that a stock is cheap. It provides no protection from that cheap stock just getting cheaper.
And that's, of course, just the price action. In the near term or even longer just about anything can occur on that front.
More importantly, it's not like insiders aren't susceptible to misjudging the value of the shares they are buying.
As always the most important reason to buy a stock is because, after doing the necessary work, you've concluded with some conviction what the shares are worth and feel there's a comfortable margin of safety.
In my view, making purchases and sales based upon what others are buying or selling never supersedes this.
It's still sometimes useful to keep an eye on insider buying and selling.
Well, at least it is at the margin.
I'd like to see a more conservative balance sheet (especially for a technology business) but, at a bit more than 5x earnings or so, an awful lot has to continue going wrong at HP for a long-term investor.
Stabilization of the earnings stream (even if it turns out to be at a reduced level) combined with wise capital allocation is, at that valuation, all that is needed. No growth required.
Well, that and probably a whole lot of patience on the part of investors (again, what seems cheap will probably get even cheaper). I won't be surprised if owners of the stock experience substantial paper losses that persist for some time as the many problems are being sorted out.
As I've said before, I'm generally not a fan of tech stocks as long-term investments. That doesn't mean I won't occasionally take a small stake in a troubled business like HP. If the price provides enough margin of safety, and there's reasonable prospects for the business problems to be fixed in the longer run, I will.
In fact, I do plan to build up a small long position in HP* over time but, in a world where the shares of many higher quality businesses are available at attractive valuations, it seems just barely worth the trouble. There are simpler ways to invest.
In fact, there's just no tech business that I really like owning for the long run. They've always been and always will be, at most, very small positions.
Adam
Small long position in HPQ
Related post:
Technology Stocks
* My position in HP is a small one and far from a favorite. Unlike the stocks I favor the most (those that have wide moats/less dynamic competitive environments), HP's shares will always remain, at most, a very small position that's accumulated slowly as the price declines. A much larger than typical margin of safety is needed. As I said in this post and others, there's just no technology company that I'm comfortable with as a long-term investment. That doesn't make owning shares of HP a short-term trade. A situation this challenging is unlikely to be resolved quickly. I rarely buy anything -- and that includes HP -- unless I'm willing to own the shares for several years or even longer (though frequent traders likely consider several years to be long-term). When I say long-term, I mean that shares of good businesses (bought initially at a fair price or better) can often be held indefinitely. That's just not the case with most tech stocks. So owning some HP shares fits a very different investing model than what I traditionally favor. (Long-term favorites are in the Six Stock Portfolio and Stocks to Watch. Most of the stocks in those two posts are core long-term positions. I generally buy more shares of these if and when they sell at a discount to my judgment of value. Unfortunately, most are not all that cheap these days.) As always, I never have an opinion on what a stock will do in any time frame less than a few years. I'll let others try to figure out short or even intermediate run price action though I won't be surprised if HP's shares drop substantially from here and remain lower for quite some time. My focus is risk-adjusted returns over longer time frames. As I've said in other posts, it's actually beneficial when the stock price of a sound business franchise drops further for continuing long-term shareholders. Less money is required to buy each additional share over time while each buyback dollar goes further. The same amount of intrinsic value, whatever it happens to be, is bought for less. Of course, intrinsic value must be judged well and that's far from easy to do with HP. The question is always what the core economics of a business will be over the long haul. Well, HP company has -- to say the least -- difficult competitive threats to deal with and a history of poor capital allocation. Also, the balance sheet is not nearly as strong as most big tech companies (directly related to lots of expensive and dumb acquisitions). So whether it is a sound business franchise is reasonably in doubt. That's where the very low multiple of earnings comes into play. Time will tell whether it can all be sorted out in a way that generates attractive returns. Even if they turn the business around, the process could require lots of capital that may or may not be wisely allocated. There's certainly a wide range of outcomes. Considering all the above, clearly patience and the much larger margin of safety is necessary. Those that think HP's business prospects are on a path to negative free cash flow (or similar undesirable outcomes) are naturally wise to avoid the shares. Otherwise, the valuation is such that HP's business can actually shrink substantially from here and still deliver shareholders an attractive long-term result.
(i.e. They don't have to become the next IBM: IBM but they do need to manage technology shifts, deal with the related operational challenges, enhance competitiveness in key areas, and prove they can allocate capital effectively. HP needs to develop sustainable advantages and avoid the high cost pursuit of growth. Lots to prove and it won't be easy.)
There are huge execution risks and smart capital allocation will, again, be crucial (reducing debt, not overpaying for acquisitions, buying back the stock when cheap) along the way. Trying to understand the risks to a business franchise and whether a sufficient discount exists (considering those risks) is a good use of time and energy. Guessing what the near-term stock price action will be, at least for me, is not. A heavily price action oriented culture may dominate the market environment these days but it's still an option (and in my view wise) to choose to not participate in it.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and are never a recommendation to buy or sell anything.
With that in mind, recent buys that seem at least worth noting are the purchases at Hewlett-Packard (HPQ). Any move by a director or executive is necessarily difficult to interpret, but that doesn't mean the persistence of the behavior and amounts involved should be ignored.
Raymond Lane recently purchased approximately $ 4 million of stock at an average price of $ 22.17 per share. He then followed that by purchasing roughly $ 1 million more at an average of $ 21.50 per share.
Here's where it gets even more interesting.
Ralph Whitworth also recently purchased, over several days, just under $ 400 million of Hewlett-Packard stock at a price range of $ 21.67 to $ 22.71 per share.
The shares of Hewlett-Packard closed on Friday at $ 22.18 per share and are down as I write this.
Ralph Whitworth is an activist shareholder and the co-founder of Relational Investors. Last November he became one of Hewlett Packard's directors and likely a very important one. These are the first purchases since that happened.
(Relational did hold shares before Whitworth was added to the board. The latest moves more than doubles the stake).
Is this a sign that Whitworth's concluded, after getting a good look the company in the past months, that it is worth putting some more meaningful capital at risk?
Whitworth is known for investing in underperforming companies and pushing for necessary reforms and changes.
At a minimum, with just under $ 400 million of shares being bought near the current price, at least this isn't some minor purchase of the stock by Whitworth. It's real money by just about any standard.
Some think there are many possible reasons to sell a stock but only one reason to buy:
The buyer expects to make money.
I'm not convinced it is as simple as that, but anyone who already liked the shares of Hewlett-Packard shouldn't mind seeing this.
If nothing else governance at Hewlett-Packard may be finally getting stronger. Something that is sorely needed. Poor capital allocation and other blunders have been the norm.
When a high profile insider buys occurs it may or may not be a sign that a stock is cheap. It provides no protection from that cheap stock just getting cheaper.
And that's, of course, just the price action. In the near term or even longer just about anything can occur on that front.
More importantly, it's not like insiders aren't susceptible to misjudging the value of the shares they are buying.
As always the most important reason to buy a stock is because, after doing the necessary work, you've concluded with some conviction what the shares are worth and feel there's a comfortable margin of safety.
In my view, making purchases and sales based upon what others are buying or selling never supersedes this.
It's still sometimes useful to keep an eye on insider buying and selling.
Well, at least it is at the margin.
I'd like to see a more conservative balance sheet (especially for a technology business) but, at a bit more than 5x earnings or so, an awful lot has to continue going wrong at HP for a long-term investor.
Stabilization of the earnings stream (even if it turns out to be at a reduced level) combined with wise capital allocation is, at that valuation, all that is needed. No growth required.
Well, that and probably a whole lot of patience on the part of investors (again, what seems cheap will probably get even cheaper). I won't be surprised if owners of the stock experience substantial paper losses that persist for some time as the many problems are being sorted out.
As I've said before, I'm generally not a fan of tech stocks as long-term investments. That doesn't mean I won't occasionally take a small stake in a troubled business like HP. If the price provides enough margin of safety, and there's reasonable prospects for the business problems to be fixed in the longer run, I will.
In fact, I do plan to build up a small long position in HP* over time but, in a world where the shares of many higher quality businesses are available at attractive valuations, it seems just barely worth the trouble. There are simpler ways to invest.
In fact, there's just no tech business that I really like owning for the long run. They've always been and always will be, at most, very small positions.
Adam
Small long position in HPQ
Related post:
Technology Stocks
* My position in HP is a small one and far from a favorite. Unlike the stocks I favor the most (those that have wide moats/less dynamic competitive environments), HP's shares will always remain, at most, a very small position that's accumulated slowly as the price declines. A much larger than typical margin of safety is needed. As I said in this post and others, there's just no technology company that I'm comfortable with as a long-term investment. That doesn't make owning shares of HP a short-term trade. A situation this challenging is unlikely to be resolved quickly. I rarely buy anything -- and that includes HP -- unless I'm willing to own the shares for several years or even longer (though frequent traders likely consider several years to be long-term). When I say long-term, I mean that shares of good businesses (bought initially at a fair price or better) can often be held indefinitely. That's just not the case with most tech stocks. So owning some HP shares fits a very different investing model than what I traditionally favor. (Long-term favorites are in the Six Stock Portfolio and Stocks to Watch. Most of the stocks in those two posts are core long-term positions. I generally buy more shares of these if and when they sell at a discount to my judgment of value. Unfortunately, most are not all that cheap these days.) As always, I never have an opinion on what a stock will do in any time frame less than a few years. I'll let others try to figure out short or even intermediate run price action though I won't be surprised if HP's shares drop substantially from here and remain lower for quite some time. My focus is risk-adjusted returns over longer time frames. As I've said in other posts, it's actually beneficial when the stock price of a sound business franchise drops further for continuing long-term shareholders. Less money is required to buy each additional share over time while each buyback dollar goes further. The same amount of intrinsic value, whatever it happens to be, is bought for less. Of course, intrinsic value must be judged well and that's far from easy to do with HP. The question is always what the core economics of a business will be over the long haul. Well, HP company has -- to say the least -- difficult competitive threats to deal with and a history of poor capital allocation. Also, the balance sheet is not nearly as strong as most big tech companies (directly related to lots of expensive and dumb acquisitions). So whether it is a sound business franchise is reasonably in doubt. That's where the very low multiple of earnings comes into play. Time will tell whether it can all be sorted out in a way that generates attractive returns. Even if they turn the business around, the process could require lots of capital that may or may not be wisely allocated. There's certainly a wide range of outcomes. Considering all the above, clearly patience and the much larger margin of safety is necessary. Those that think HP's business prospects are on a path to negative free cash flow (or similar undesirable outcomes) are naturally wise to avoid the shares. Otherwise, the valuation is such that HP's business can actually shrink substantially from here and still deliver shareholders an attractive long-term result.
(i.e. They don't have to become the next IBM: IBM but they do need to manage technology shifts, deal with the related operational challenges, enhance competitiveness in key areas, and prove they can allocate capital effectively. HP needs to develop sustainable advantages and avoid the high cost pursuit of growth. Lots to prove and it won't be easy.)
There are huge execution risks and smart capital allocation will, again, be crucial (reducing debt, not overpaying for acquisitions, buying back the stock when cheap) along the way. Trying to understand the risks to a business franchise and whether a sufficient discount exists (considering those risks) is a good use of time and energy. Guessing what the near-term stock price action will be, at least for me, is not. A heavily price action oriented culture may dominate the market environment these days but it's still an option (and in my view wise) to choose to not participate in it.
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and are never a recommendation to buy or sell anything.
Subscribe to:
Posts (Atom)
