One Year Down

I have now officially been running this blog for a full year now. I’ve had my ups and my downs, but I think I’ve grown considerably as an investor. I truly think I am better than when I started and I am now even more committed to GARP investing. Putting my thoughts out in public has forced me to focus on my core beliefs and has held me accountable. I expect my growth in year 2 to be even greater than in year 1. Just like wealth, knowledge is always compounding.

Year One performance

I started this journey exactly one year ago. I put $10,000.00 of my own money into my 10K Portfolio. I put that money into companies I believed in and let them do the work for me. Thankfully, I didn’t fall flat on my face and I’ve been able to make some money. My portfolio now stands at $10,843.11. As I often state, making a positive return isn’t all that difficult. You can buy government bonds and make a virtually risk free return, it just won’t be very good. I choose to compare my portfolio to the S&P 500. If you can’t outperform the general American index in the long run, you don’t have much business in picking individual stocks. When I started on 8/19/18, the SPY stood at $285.06. As of 8/19/19 the SPY closed at $292.33.

Return(1)          SPY Return(2)         Difference(1-2)

Portfolio value $10,843.11:             8.43                      2.55                         5.88

Simply looking at the SPY ticker isn’t quite fair to the index. My portfolio value accounts for all dividends I have collected over the last year. The SPY does not automatically reinvest dividends. They currently give out a yield of 1.86%. Without knowing the exact days of distribution and all that jazz, I think it is easiest if I just add in 1.86% to the SPY return in order to give a more accurate picture. Therefore a more realistic result would be as follows:

Return(1)          SPY Return(2)         Difference(1-2)

Portfolio value $10,843.11:             8.43                      4.41                         4.02

Overall, I am pretty satisfied with my results in year one. I outperformed the SPY by a hair over 4%. Take this with a grain of salt, one year is not nearly enough time to get an accurate picture. It will likely take at least 3 years to really tell whether this out performance is for real. That being said, I certainly prefer to have this head start.

Mistakes Made

I have learned a number of lessons since starting this blog. Some were completely new to me, while other things I knew but needed to be reinforced. My first punch to the gut came shortly after beginning. I rushed into some companies, rather than waiting for an appropriate entry price. Soon after I bought into my first companies, the market took a precipitous fall. Had I just bought in a couple of months later, my returns would likely be higher by a good 10%. The biggest lesson I learned was not to fight against a large macroeconomic situation. I grossly underestimated both how much effect the trade war could impact my companies and how long such a situation could last. I thought we were looking at a blip on the radar and my companies would return to form in just a couple of months. I was wrong. This trade war has lasted far longer than I had anticipated and has greatly lowered the earning power of some of my companies. I don’t think the end is in sight and for that reason I have chosen to make some changes to my portfolio. I still believe in these companies, in the long run I would bet that all will end up fine. However, I must stick to my principles as a GARP investor and therefore I choose to invest in the path of growth, not turnaround situations.

Portfolio Changes

Within the last month, I have cut out my positions in HII, IPGP, and LEA. As I stated, all are fine companies. They simply haven’t been able to whether this trade war without suffering. Each has seen their earning power eroded greatly and the stocks have followed suit. Unfortunately, I lost money on all three of these investments. Thankfully, some of my winners have more than made up for it. In fact, my investment into FND alone has made up all losses in these three companies. With the money from selling, I bought one additional share of FB for $180.17. I now sit on a cash balance of $1,688.44. I have a number of companies on my watch list that I am following and I will be waiting for a good time to enter into two or three new positions. I’ll be sure to let you know when that happens.

As always, thank you for reading. I have appreciated your support over the last year and look forward to seeing where this journey takes me. Be sure to subscribe and follow me on Twitter @Thegarpinvestor. Feel free to share the post, thanks!

 

 

Blogging Is Hard (Q2 Update)

I hope everyone has gotten to enjoy the long holiday weekend. This time of year, we get to celebrate America and appreciate all the freedoms we are given. On the investing front, we should acknowledge how fortunate we are to invest in a country that has provided long term annual market returns of 8-10%. If you can just keep up with the market over the long run, you’ll end up pretty well off.

Just like the market though, running a blog has its ups and its downs. Sometimes you feel the jolt of inspiration, a never ending flow of thoughts simmering at the surface just waiting to be written down. At others, writing a post can seem like the greatest hassle in the world.  Recently, writing for the blog has frankly been a challenge. This is my first post in three months, since my last portfolio update. What starts as a one week lapse, quickly turns into two, which inevitably carries on for many more. Just like investing, the weeks tend to compound.

It isn’t like I haven’t had any good ideas, I just haven’t been able to muster the energy to sit down and write out a full post. The year 2019 gives us a never ending supply of distractions, whether it was watching the NBA Playoffs or browsing through Reddit and Twitter, I always found something inconsequential to occupy my time. I can now say I understand how a famous author can keep fans waiting year after year without ever finishing a series(well maybe I don’t understand the whole having fans part). George RR Martin, you have my sympathy.

On the financial side of things, 2019 never ceases to surprise. After a calamitous end to 2018, 2019 started the year sprinting out of the gate. By the end of the the first quarter, I was sure the market had to give some back. Instead the market has continued its steady onward march. Luckily for me, my portfolio has been fully invested and my companies have continued to grow.  I’m not however ready to be too confident. The bottom could fall out at any moment, so who knows what will happen, I’m just along for the ride.

2nd Quarter Performance 2019

Reminder my 10K Portfolio started with $10,000 on and was bench marked against the SPY at 285.06 which as of the open on 7/1/19 stood at 293.

         Return(1)          SPY Return(2)         Difference(1-2)

Portfolio value $10,620.89:             6.93                          2.78                         4.14

My portfolio has continued to do well and I now outpace the SPY by over 4%. Let’s not get too ahead of ourselves, I am still shy of the 1 year anniversary of the portfolio. I’ll chalk this up to luck, but if I can still be beating the market 5 years from now, I’d like some credit! I am unlucky and perhaps a bit stupid for when I started the portfolio. Had I waited just a few months, that nearly 7% return would easily be double that amount.

More important than the stock returns however, the performance of my portfolio companies have been quite good. Let’s take a look at what’s been going on.

Best Performers

MSFT- Under Satya Nadella’s leadership, Microsoft continues to dominate. They may have taken a break from growth in the early 2010’s, but they are back and hungrier than ever. You would think that a company with a market cap over 1 trillion would have trouble growing. Right now, that couldn’t be further from the truth. This past quarter, MSFT grew operating income by 25% and diluted EPS was up 20%(both YoY). Buoyed by their cloud division, Azure, Microsoft’s dominance looks inevitable. Azure had revenue growth of 73% compared to last year. The company also now sits on a treasure chest of 131 billion dollars of cash and short term investments. Their balance sheet is rock solid and they are well positioned for years to come.

ODFL- Old Dominion Freight Line is much smaller than Microsoft, but their recent success is no less impressive. This past quarter they were able to grow EPS 23.3%, while also reducing the overall share count by 1.5%. It is almost always a good sight when you see EPS growing rapidly and the overall share count falling. You can get in trouble if the company is paying a price well above intrinsic value for those shares, but I do not believe this to be such a case.  I now own a greater percentage of a company that is performing excellently. Debt levels remain almost nonexistent and I feel comfortable holding onto this company well into the future. I am down about 7% in the company even though the market has gone up and the company has performed extremely well. This is probably a pretty good indicator that ODFL is trading at an attractive price.

Worst Performers

LEA- Unfortunately, not all of my companies have been great performers. Lear Corporation has had a couple of bad quarters in a row and my holdings are now down almost 20% in the company.  Sales were down 5% and adjusted EPS fell from 5.1 to 4. These are never good signs, I like to see companies going in the opposite direction. GARP investing is about finding growth, not watching sales fall. Lear is being impacted by the cyclical nature of automotive sales. We seem to have hit a peak and auto sales have fallen in recent quarters. On the bright side, the company continues to drive down the share count. On a P/E basis the company looks pretty cheap, trading around 8.5 but that isn’t necessarily a good enough reason to hold onto the company.

HII – Unlike Lear, Huntington Ingalls was able to grow revenue, up 11% YoY. It wasn’t all good however, operating income fell from 191 million to 161 million. This was primarily due to lower margins and how penchant expenses are accounted for. Either way, earnings were down considerably. The company also took on a substantial amount of debt and the balance sheet doesn’t look nearly as strong as it used to. Not all is bad though, HII did win some crucial contracts and the backlog now stands at a record 41 billion.  The company remains a high moat competitor with long term contracts locked in. I just have to wonder if this is the best investment opportunity available.

For the time being I am going to hold onto these companies and monitor how they do in the next quarter or two. Should things not improve, don’t be surprised if I sell out of one or even both of these. I like the future prospects of HII more at the moment, but they still need to be paid close attention. I don’t care how much a stock moves in the short run, if the business doesn’t perform up to expectations it may be time to move on. I would rather put my money into a company with better industry tailwinds.

As always thanks for reading, I appreciate it! Be sure to subscribe to this blog and follow me on twitter @TheGarpInvestor. 

Happy New Year!

I hope everyone had a happy new year and took some time to celebrate! For us investors these past few months haven’t been too wonderful, so finding reasons to celebrate is always nice. As anyone following the market knows, we have seen a precipitous drop in prices. Everything from tech stocks to blue chips have seen a significant fall. From the market highs in October, prices now sit about 20% lower. This has given us a reminder that prices often fall much faster than they rise. Watching your portfolio drop by multiple percentage points day after day can truly leave you breathless. Volatility however is a price we must pay for satisfactory results.

This drop has certainly not left me unscathed. My personal accounts have taken a beating and my 10K portfolio now sits just around $9,000.00. I clearly chose the exact wrong time to start a portfolio. I made a rookie mistake and rushed into my investments, instead of letting ripe opportunities arise. Let it be known that I am far from a perfect investor. This is merely one mistake of the many I am sure to make. I only hope that in the aggregate, my winners will outshine my losers and overall my portfolio will beat the market in the long term.

Let me make it clear, no one likes losing money. I hate losing money as much as anyone, probably even more than most. It pains me to watch my hard earned money wash away. I could have had a lot more fun blowing $1,000.00 than losing it in stocks, but that is the risk us investors take.  In the short run anything could happen. There are infinite possibilities, but we play a game of probability. In the long run, measured over many years not days or even months the market has grown and grown enormously. I therefore choose to let the numbers dictate my investing philosophy. Pick great companies and allow time and compounding to increase my wealth.

The ability to control your emotions is probably the most important attribute an investor can have. What is most important is not intelligence, nor financial modeling, but the ability to remain calm and think rationally.  Never one to mince his words, Charlie Munger stated “A lot of people with high IQs are terrible investors because they’ve got terrible temperaments.” The stomach is often what makes or breaks an investor, not the brain.

Market volatility also happens to provide opportunities to buy at a discount. If you have a long investing horizon, you should actually root for the market to fall in the short term. It allows you to accumulate shares of great companies at lower prices, that in 20-30 years will be worth far more. If you are a net buyer of stocks, falling prices are your friend not your enemy. Another thing to consider is that not only can you buy stocks at cheaper prices, so too can the companies you invest in. If you invest into companies with high free cash flow, they can use that cash to buyback their own stock or even make investments into other companies at reduced prices.

I used this drop in the market to enter two more positions and effectively fully commit my entire 10K portfolio. I have $150 leftover that I’m saving to use on a rainy day. Over time I will also accumulate money in the form of dividends and I’m sure there will be some turnover in the portfolio as certain companies do not perform according to my investment thesis. Therefore, I doubt these are the final decisions I make.

APH- I purchased 9 shares of Amphenol at $82.97 for a total of $746.73. Amphenol is a neat company which sells fiber optic connectors and other such products to all kinds of industries ranging from hospitals to aerospace. They grow their earnings each and every year and they generate lots of free cash flow. They sit around a 20 P/E which is still on the rather high end, but at a level I am comfortable with given the quality of the business.

MKL- I purchased 1 share of Markel for $1,029.96. Often referred to as a baby Berkshire, I am happy to be an owner of such a high caliber business. Much like Berkshire, Markel operates primarily as a specialty insurer and then reinvests the float into all kinds of other vehicles. A company of this magnitude rarely goes on sale, but such an occasion recently occurred. One of the small subsidiaries they own got in trouble with regulators for misrepresentation of loss reserves. I believe this is a one time small issue, and not endemic of the entire company. This caused a great drop in price, that put Markel under 1.5X Price/Book value. The company almost never trades at such a level, so I pulled the trigger on a company I will be happy to own forever.

As always, thanks for reading! Questions are encouraged and feel free to comment how your portfolio has performed. Remember to follow along and join the email list on the side.

6 GARP Investors to Follow

Tis’ the season and I hope everyone is enjoying this time of year. I just finished celebrating Hanukkah and Christmas is only a couple short weeks away. With the new year just around the corner, I thought I’d put together a list of some great investors you all should have on your radar. I try and soak up as much wisdom as possible and these investors are dripping with juicy nuggets of information. This list ranges from bloggers to CEO’s of Fortune 500 companies, running the entire gamut. Knowledge can be gained from all kinds of different sources. This is far from a complete list, but just a few names you all should familiarize yourselves with.

  1. Francois Rochon-  First on our list is Canadian investor Francois Rochon. Rochon started his investment firm, Giverny Capital, over 20 years ago. Unfortunately, I had never heard of him until earlier this year. To make up for this delay, I devoured all of his annual reports in a single day. He is a classic GARP investor, focusing far more on the quality of a business than on the price of a stock on any given day. He is more concerned with how the earnings of a company are increasing each and every year. His returns are admirable, averaging 15.7% since 1993 as compared to the index result of 9.2%. Over the course of 25 years, this discrepancy has led to magnificent results. I particularly enjoy his writing style, mixing humor and humility. He includes a section every year highlighting his greatest mistakes, something that every investor can surely relate to. My own personal account seems to overlap with his constantly, with companies such as: Markel, Berkshire, Google, Visa and Union Pacific showing up in both. You can see his reports located on his company’s website
  2. 2. Pat Dorsey– I was introduced to this famed investor through Patrick O’Shaughnessy’s great podcast The Investor’s Field Guide. Dorsey gained notoriety through being the director of equity research at Morningstar, a well known investment research company. He went on to write a couple of highly regarded books The Five Rules for Successful Stock Investing and The Little Book that Builds Wealth, as well as start his own asset management firm. He focuses on companies with strong moats, otherwise known as durable competitive advantages. Due to those advantages, they are able to keep high returns on capital far longer than the average company. In his own words, his strategy can be summarized as “We purchase these businesses at what we believe to be reasonable discounts to a rational assessment of intrinsic value, and we seek to invest in companies with corporate managers who we believe can allocate capital in ways that benefit long-term minority shareholders.” Here is a great compilation of resources he has shared on his Website
  3. Warren Buffett– I would be remiss to make a list of extraordinary investors and exclude the granddaddy of them all. While often thought to be a value investor, I think he can more appropriately be given the categorization of a GARP investor. I probably don’t need to spend much time talking up his accomplishments, you’ve heard them all before. Just know that he is as wise as they come and his lessons are timeless. You can of course read his annual reports, watch his numerous interviews or even go to Berkshire Hathaway’s annual shareholders meeting as I have done myself in the past.
  4. Mark Leonard– Another famous businessperson I am embarrassed to have only found this year is Canadian superstar CEO Mark Leonard. Leonard is the CEO and founder of Constellation Software. While Warren Buffett has famously avoided technology, Leonard has embraced it. Realizing that software companies in niche industries spin off tremendous amounts of cash while only requiring minimal ongoing capital investments, Leonard has created a decentralized juggernaut. Leonard uses the vast amount of free cash to then acquire an ever growing list of niche software companies.  His real brilliance was in identifying how strong a moat these companies could have. Think of a dentist or an optometrist. Once they start using a particular software for their office, it becomes incredibly difficult to switch. All of their patient records are stored on that program. In order to switch, all of that data would need to be reentered and staff needed to be retrained on a brand new software. He has taken that premise and bought up companies in hundreds, if not thousands of different industries. You can read his annual letters, going back all the way to 1996 here.
  5. John Huber– I’ve been following this fellow blogger for a number of years at BaseHitInvesting. Not only does he run an incredibly informative blog, he also runs his own fund, Saber Capital Management. In his own words “Our general strategy is to make meaningful investments in high quality, predictable businesses that can be expected to grow intrinsic value at high rates and that are currently available at cheap prices.” I would peg that definition right up the GARP alley. I’ve learned a lot from Mr. Huber over the years, particularly his series on ROIC and compounding. He recently wrote up a new post entitled “Facebook Is Undervalued.” I’ve shared my thoughts on FB previously and the two of us seem to see eye to eye. I look forward to reading more of what he has to say over the years.
  6. Connor Leonard– I was introduced to our final GARP investor of the day through a guest post on Huber’s blog BaseHitInvesting a couple of years ago. Leonard(No relation to Mark as far as I know) runs the public securities portfolio for Investment Management Corporation. IMC is a particularly interesting business case study. On only $50,000 of startup capital, the founders started the restaurant Golden Corral. Due to managerial brilliance and the fixation on cash flow, they have never needed to invest a penny more. With such great cash flow, they have entered into many other business arenas, as well as their public securities division, which is where Leonard fits in. He runs his portfolio in a GARP oriented style. With a focus on moats and capital light compounders he has found great success. I foresee his notoriety in the investment community growing considerably over the years.

As always thank you for reading. I hope you found this post interesting. These are all great investors you can learn a ton from. Subscribe and let me know what you think. Thanks again!

Flooring Is Boring(That’s a Good Thing)

Warren Buffett has often said he knows within minutes whether or not he wants to buy a company. As I was looking through a stock screener yesterday, I knew in moments I wanted to own the company. Floor & Decor(FND) is amongst the fastest growing non technology stocks I have ever seen. Imagine my surprise when I saw it trading 5% lower on the day. I knew I had to pull the trigger and pounce on the opportunity.

I bought 35 shares for $32.49 a piece. I’m down to $4,166.81 in my 10k Portfolio, maybe I need to slow down. Sometimes I just can’t help it, when I see a company I like at a decent price, I act. Over time, compounding will work its magic. Let’s check out why I like Floor & Decor.

Why FND?

This company is what I would categorize as a classic Peter Lynch stock. For those unfamiliar, Peter Lynch is a famed investor who ran the Magellan Fund at Fidelity. His mutual fund performed incredibly well during the 1980s, buoyed by a bull market. He is known for picking stocks based on what he saw day to day. He would walk around the mall, tracking customer habits and then go research the financials to see if they matched up. He particularly liked small retailers that could replicate their success in one location over and over all around the country.

Floor & Decor is my kind of small retailer. According to their most recent quarterly report, the company just opened its 90th store. They intend to open 400 total stores over the next 10 years, more than quadrupling their current size. They do one thing, but do it incredibly well. They sell hard surface flooring at value prices. FND stocks a large big box store, filling about 70,000 Sq. feet with all of a customer’s possible flooring needs.

I have a bit of an edge here, during the day I work in commercial real estate. We often have to buy flooring and there is a local company I often marvel at. They sell overstock flooring at rock bottom prices. The local company is often busy and seems to turn over their inventory quickly. While I can’t invest in this local flooring success, I can invest in FND which has a similar business model. Not only is the model similar, but they are much larger and therefore able to achieve all kinds of economies of scale.

Let’s dig in to the numbers a bit. In 2013 FND sold 441 million worth of goods. That number increased to 1.385 billion in 2017 for a CAGR of 33.1% over that time period. EPS grew even faster, growing from .13 to .88. This gives us a CAGR of 61.3%. A company growing earnings at 61% a year will make shareholders incredibly rich. Obviously, this rate is unsustainable, nothing can grow this fast forever.

In fact, quarter over quarter earnings growth has slowed down to a “paltry” 35%. FND has been able to accomplish this while using little debt, only 160 million for a company with a market cap over 3 billion. I would actually prefer they finance their expansion with more debt, while financing options remain fairly cheap. The main problem with the company is that they are new and I’m not sure of managements capital allocation strategy. FND has been issuing shares, diluting existing shareholders. As the company grows, I hope they can generate more free cash and finance future growth with internal cash on hand.

The company now trades at a P/E of about 27, by far the lowest since their IPO in 2017. The stock price reached a high of 58 in April, but the stock has cratered since growth has slowed just a bit. I think this presents a tremendous buying opportunity. In the short term I’m not sure which direction the stock price will go, but over the course of many years this will be a much larger business.

Conclusion

Overall Floor & Decor is a fantastic company with a long road ahead of them. They provide value to their customers and fill a void in the market. They are growing rapidly, adding new stores and increasing same store sales. I think this is a great time to buy and shareholders will be rewarded handsomely.

As always thanks for reading and subscribe on the side! You can follow me on Instagram and Twitter @thegarpinvestor.

Value vs Growth? How About Both!

Humans love to use labels. From low carb to bridezilla, labels are used in almost every walk of life.  It comes out of a need to identify and place something within a group. I myself have fallen victim to this very affliction, I purposefully called myself the GARP investor. Investors don’t stray from this norm, in fact they typically embrace it. Investors generally fall into one of two overarching categories: value or growth. Of course there are hundreds of subcategories ranging from deep value to angel investing but ultimately these are just derivatives of the main two categories with a slight spin. These two frequently find themselves at odds with one another. Members of one group can never seem to grasp the thinking of their counterparts. I personally find these arguments to be all for naught. In my opinion growth is just a factor used in determining a company’s value. They are two sides of the same coin and inextricably linked

Let’s examine what Warren Buffett had to say on the matter. In his 1992 letter to his shareholders(which you should all go ahead and read in its entirety), he tackled this very issue.

Most analysts feel they must choose between two approaches customarily thought to be in opposition: “value” and “growth.” Indeed, many investment professionals see any mixing of the two terms as a form of intellectual cross-dressing.

We view that as fuzzy thinking (in which, it must be confessed, I myself engaged some years ago). In our opinion, the two approaches are joined at the hip: Growth is always a component in the calculation of value, constituting a variable whose importance can range from negligible to enormous and whose impact can be negative as well as positive.

In addition, we think the very term “value investing” is redundant. What is “investing” if it is not the act of seeking value at least sufficient to justify the amount paid?

I don’t understand why an investor can’t be both a growth and a value investor, or rather just a regular plain vanilla investor. When making an investment, the goal should always be to find value. Growth is merely a factor in determining whether there is value in the investment or not. In fact, there can be investments of incredible value with no growth and even no value with incredible growth. This is why the price paid is so important. Let’s look at some examples to demonstrate:

Value With No Growth

Imagine a company that earns 1 million dollars a year in profit manufacturing toasters, whose fixed assets equal all of their liabilities. This company then needs to spend 1 million on capital expenditures in order to fix their machinery to sell the exact same amount of toasters. In year 2 they will make that same 1 million and spend that 1 million on fixing their machinery. There is never any cash leftover in the business. In years prior however, they were more profitable and were able to save up 5 million in the bank. Because they are unable to grow their earnings the P/E ratio has fallen to a pittance of 3. This means the whole business is only selling for 3 million. A classic value investor would buy what Buffett would call a “cigar butt” for 3 million. He would close the business, sell off the fixed assets to pay off the liabilities and walk away with the 5 million in cash. He bought it for 3, walked away with 5 and made a quick 2 million dollars, a 66% return. Unfortunately, the market is more efficient these days and such easy money is no longer there for the taking. Had you paid above 5 million for the same business, it wouldn’t be nearly as enticing. Price paid is what ultimately determines the success of an investment, even if there is no growth in the business.

Growth With No Value

First let’s look at another Buffett quote from the same letter.

Growth benefits investors only when the business in point can 
invest at incremental returns that are enticing - in other words, 
only when each dollar used to finance the growth creates over a 
dollar of long-term market value.  In the case of a low-return 
business requiring incremental funds, growth hurts the investor.

Let’s now imagine a successful company with a decision on their hands. This company has no debt, earns 200 million dollars in profit and has a billion dollars of equity. They therefore have a Return on Equity(ROE) of 20% and have a market cap of 2 billion(a 10 P/E). The company generates lots of free cash with no maintenance CapEx and doesn’t know how to spend it. They can either pay out this money for a 10% dividend, buy back 1/10 of the shares outstanding for a 10% return(buying shares back at a 10 P/E) or invest internally to try and grow the business. If we ignore the effect of taxes, paying out a dividend and buying back stock should have the same result. The question is what kind of return can the company generate by growing internally. Should the company invest that 200 million back into the business but grow earnings by any less than 20 million, it will generate less than a 10% return. Even if sales and earnings grow, this would be a poor allocation decision. While ROE is currently high at 20%, each dollar reinvested will have a Return on Incremental Capital far lower. Why dilute a great business by investing in low returns?

In this example, growing the business could actually hurt the investor. While they could  maintain the status quo as a high ROE business paying a generous dividend or buying back stock, plowing money back into the business at lackluster rates of return actually loses value for an investor. Unless you can invest each dollar back into the business at high rates of return, it is best for a company to look elsewhere for allocation decisions. Just because a business is growing, doesn’t mean it is the best way to provide value to its shareholders.

In conclusion, the difference between value and growth is really just semantics. As investors we are all looking for the same thing, finding value and making a good return on our investments. There are any number of ways to do so, but ultimately it all comes down to the price paid being less than intrinsic value.

As always thanks for reading! Please subscribe on the side and you can find me on Instagram and Twitter @thegarpinvestor

 

I Got a Dollar

This morning I bought 7 shares of Dollar General stock for $110.57 a piece or 773.99 total. I am left with $5,949 to work with. I have invested just over 40% of my original 10K into 5 different companies. I hope to diversify a little more, making smaller positions going forward. I intend to buy somewhere between 12 and 15 companies total.

Why DG

As a dollar store, Dollar General sells cheap items providing great value to their customers. How can you make money selling things for a dollar? Well as it turns out DG is able to make a whole lot of money selling at discount prices. This past quarter they sold almost 6.5 billion dollars worth of goods and earned 407 million on those sales. By selling only a limited number of SKU’s and ordering in huge quantities the company can source products at bare bone prices. When they buy from a supplier, they are making an order for a company with over 14,000 stores. This leads to great economies of scale. Additionally, they only target small inexpensive items. Don’t expect to find a new car in a dollar general.

What separates Dollar General from their competition is their focus on location and on the customer experience. Instead of targeting large cities, they focus on small towns. Think of how Sam Walton built Wal Mart and his focus on rural america but at a micro level. These small towns aren’t large enough to support a Wal Mart or a Target and they are difficult to reach for Amazon. For Dollar General however they are moneymakers. DG builds out small stores, under 10,000 square feet and stocks them with brands consumers want. They also take great care in design. Every store is bright and welcoming, encouraging shoppers to come more often and spend more.

Financially, the company has performed superbly. While not the fastest grower, they have increased both sales and net income every year since going public in 2010. I particularly like the way Dollar General has been able to plow down their share count. At the start of 2014, DG had over 317 million shares outstanding. That number now stands at 266 million, a 16% reduction. This cutback is substantial. Each share now owns considerably more of the company, therefore a larger share of a growing stream of income.

The company is also becoming a free cash flow machine. This past year their cash flow from operations equaled 1.8 billion and had 640 million in capital expenditures, leaving them with almost 1.2 billion in free cash. They were able to use this free cash to pay a reasonable dividend, buyback a meaningful amount of shares and pay off a fair amount of debt. This free cash number should grow meaningfully over the years.

DG is now trading right around a 20 P/E. While not incredibly low, it is a fair price to pay for a strong and growing company. Remember as a GARP investor, I’m not looking for the cheapest possible company. I’m looking for a great company to hold for years into the future and if I can find such a company, I’m willing to pay a reasonable price. Dollar General has ticked my boxes and therefore I’ve decided to become an owner.

As always thanks for reading and subscribe on the side! Follow me on Twitter and Instagram @thegarpivnestor

 

Tesla And The Horse Race

Elon Musk never ceases to amaze me. He is obviously brilliant and one of the great visionaries of our time. I respect his relentlessness and envy all that he has accomplished in such a short amount of time. That being said, his love of the spotlight might spell trouble for investors. He is volatile and such volatility can be scary. Who knows what he might tweet next? “I’ve decided to retire from Tesla and teach a heard of sheep to communicate through a series of blinks.” “My intern looked at me funny yesterday, I have removed the entire executive staff.” I don’t know what to expect next, but I do love the ride. It is incredibly exciting to watch, but as an investor I find it best to just steer clear of Tesla. They very well could become the world’s greatest company, it just isn’t worth the risk in my book. GARP investing is about compounding safely. We are playing a game of probabilities and there is a far larger than 0% chance this could all blow up and go to 0.

The Parimutuel System 

Investing is a lot like betting on a horse race. I’ll leave it up to the always cheerful Charlie Munger to explain, he is far wiser than I could ever hope of becoming. Here is an excerpt from his article

A Lesson on Elementary, Worldly Wisdom As It Relates to Investment Management & Business.

The model I like—to sort of simplify the notion of what goes on in a market from common stocks—is the pari-mutual system at the racetrack. If you stop to think about it, a pari-mutual system is a market. Everybody goes there and bets and the odds change based on what has been bet. That is what happens in a stock market.

Any damn fool can see that a horse carrying a light weight with a wonderful win rate and a good post position etc., etc. is way more likely to win than a horse with a terrible record and extra weight and so on and so on. But if you look at the damn odds, the bad horse pays 100 to 1, whereas the good horse pays 3 to 2. Then it is not clear which is statistically the best bet using the mathematics of Fermet and Pascal.

The prices have changed in such a way that it is very heard to beat the system.
And then the track is taking 17% of the top. So not only do you have to outwit all the other betters, but you have got to outwit them by such a big margin that on average you can afford to take 17% of your gross bets off the top and give it to the house
before the rest of your money can be put to work.

To simplify, we are looking to find a misplaced bet. It isn’t hard to tell what horse is the biggest and strongest. What is hard is figuring out which horse is trading at the best chance of winning given their odds. Let’s examine Tesla’s horse racing situation:

Tesla itself is a fine horse. They create great products that consumers love. Elon Musk is a true visionary and therefore a very able jockey. That all sounds great, but this isn’t an easy horse race. They are up against some of the finest horses around. American companies GM and Ford are strong entrenched competitors, having been in business for over a century. They also must face off against technological juggernauts from Japan and the elite engineering of the Germans. Not to mention the dozens of other brands that have found their own footholds.

If that weren’t tough enough, Tesla is being priced for perfection. They are no longer a small start up worth a couple of billion dollars. They have a market cap of nearly 50 billion, larger than GM or Ford. They are priced to be the leader in car manufacturing without yet proving they can do so. Maybe they can, but that doesn’t mean I have to place a bet.

I prefer to bet on a race that doesn’t leave so much up to chance. What us GARP investors are looking for is a race with a dominant horse that is getting faster, led by a great jockey who has weak competition. This is the horse racing equivalent of a moat. The next step is to examine the betting odds. Everyone can identify when there is a leader with no competition and therefore the odds become unfavorable. Think about basketball for a second. If we bet on the Golden State Warriors to win another championship, our odds aren’t going to be great. Everyone knows they are elite and therefore the payout is minimal. Therefore we want misjudged odds where we can find value. If we can find those variables we should place our bet and bet big.

Conclusion

I find everything about Tesla to be fascinating. Musk is truly one of a kind and I can’t wait to see what happens next. That being said, I think it is wise to avoid investing in TSLA. I choose instead to look for stocks that are simpler and less risky.

As always thanks for reading and subscribe to see what’s next!

The Double Dip!

I’ve gone ahead and hitched my wagon to Mark Zuckerberg. I bought 5 shares of FB on Friday for $878.90 and another share on Tuesday for $168.94 after seeing the company fall another 3.5% for a grand total of $1,047.84. I broke one of my original rules, never go above 10% in one company. Rules however are meant to be broken, I saw an opportunity and jumped on it. Besides I only stuck a toe over that 10% line.

I also purchased 5 shares of IPGP, the premier laser company in the world. Shares were down over 4% today, so I used this as a buying opportunity. I got in at $161.74 a piece for a total of $808.70. I continue to love the company and consider this to just be a blip on the radar.

For those keeping track, I now own 4 stocks and still have $6,723 out of my original 10K with which to buy more!

Why Facebook?

Facebook is one of the most phenomenal companies of my investing lifetime. Started in 2004, they are already one of the largest companies in the world. They IPO’d in 2012 at a market cap of 104 Billion. They now sit at 412 Billion meaning they have come close to quadrupling in that time period. Will they quadruple again over the next 6 years? Most likely not, but I wouldn’t completely rule it out. I do however think they have a great chance of outperforming the S&P 500 over the next 5 to 10 years by a considerable margin.

Commonly lumped in to a group called FANG stocks, I actually think they share a lot more in common with Google and Microsoft than they do with Netflix and Amazon. I find Amazon and Netflix to be almost impossible to value. They are great companies that provide incredible products to their consumers. That being said, Netflix continues to be cash flow negative and Amazon is in a world of their own in terms of valuation. I’d rather just stay away. Facebook, Google and Microsoft can all be valued by traditional value investing principles. They create meaningful profits and turn those profits into incredible amounts of free cash flow.

Let’s look at what makes Facebook so compelling. Over the last 5 years, sales have skyrocketed from 7.8 billion to 40.6 billion. This gives us a CAGR of 38.87%. EPS grew from .6 to 6.16 over the same time period, giving us a CAGR of 58.87%. It doesn’t take a rocket scientist to tell this is phenomenal. FB now sits at a P/E of 23.65, a laughably low number considering how fast it has grown in the past. They are sitting on 41 Billion dollars of cash and short term investments without having a single dollar of debt. That is simply incredible.

The past however does not automatically promise future performance. We have to examine what Facebook’s future holds. After their latest quarterly release, the stock plummeted from fears of reduction in future growth. I find these fears unfounded. Of course FB has to slow down. If they continued to compound above 50%, they would be bigger than the entire S&P in a short amount of time.

In the short term, there will be pain. Just today, representatives of the company are testifying before congress about what they can do to stop meddling in the midterm elections. This once again represents short term thinking. Facebook is a platform that is singlehandedly strong enough to affect a US election. That power is only growing stronger. They have daily users that number almost 1.5 billion and monthly users above 2.2 billion. They have barely even started monetizing the platform. Just the talk that FB could get into dating caused dating juggernaut Match Group’s stock to fall 20% in a day. It is a platform of strength never before seen in US history.

Instagram

I have yet to even mention Instagram, one of the most popular social media platforms and one of Facebook’s chief “competitors.” You see, Facebook bought Instagram for 1 Billion in 2012, proving they have their eye on the ball in the acquisition space. Some estimate Instagram alone could be worth upwards of 100 billion, 1/4 FB‘s total market cap. Yesterday rumors abounded that Instagram is developing a new shopping app. This platform is still in its infancy, just figuring out ways to monetize for shareholders.

The truth is we don’t know what the future holds for this company. We can merely look at their past success and determine whether we think the future is bright. In my opinion Facebook will be a trillion dollar company in the not too distant future and who knows how large it could grow. Stop thinking in the short term, but determine whether you want to own a company for the next decade.

Lasers

IPGP holds a particularly soft spot in my heart. You see for a while, it was by far my best investment ever. Within a year of buying it in my personal account, I had gained over 200% more than tripling my initial investment. Of course, nothing is ever as good as it seems. While the business was going gangbusters, the Trump administration laid out tariffs that have caused Chinese companies(IPGP‘s largest customers) to reconsider how much they will spend on capital expenditures. You see, lasers powered technology are large up front capital requirements and given a trade war, companies don’t want to commit to large spending given the uncertainty. That 200% investment within one year has fallen to a 100% gain within two. Still not too shabby!

I’m willing to sustain some short term pressure to buy into a fantastic company with long term advantages. IPGP sells lasers that enable manufacturers to cut their costs. A business that allows their consumers to cut their own costs has a recipe for success. They are simply selling a better technology. Metal cutting and abrasion systems wear out, whereas lasers are more precise, cost less and last longer. This has translated into robust sales growth, which has in turn led to much greater profits.

Given how long I talked about FB, I didn’t want to get too far into the weeds with IPGP. Just know they are a great company with a long track record. They have a squeaky clean balance sheet and generate loads of cash. Who knows how long this trade war will last, but when its over, I expect IPGP to burst out of the gate at a sprint. I’m willing to hold on to this gem for the very long term.

As always, thanks for reading and subscribe!

 

Stock #2 (HII)

I logged on this morning and bought my second stock for the portfolio. Huntington Ingalls Industries (HII) is a military shipbuilder and the leading supplier of the United States military. I got in today at $249.00 and purchased 3 shares for a total of $747.00. I still have $8,579.88 of cash left in my 10K Portfolio.

Why HII?

From a broad perspective, I often like to have an impetus behind an investment. You need to be able to tell a story and then focus in on the minutia. Looking at the Trump administration, I don’t think it is a stretch to say he favors a growing military budget. This set me on a quest to look at all the public military contractors. One thing I noticed is that they are almost all great companies. It is no wonder the US military spending is so large and growing. From there I determined HII was my favorite and have been following it ever since.

Huntigton Ingalls is a classic high moat company. They are the leading supplier of the US Navy, supplying over 70% of all ships. They are the only company capable of building and refueling nuclear-powered aircraft carriers and one of only two that can build a nuclear powered submarine. They were spun off from Northrop Grumman in 2011. Spin offs are often a good candidate for research, as they are not always properly valued. Seven years later, HII continues to gain market share and grow their earnings.

HII generates ample free cash flow each and every year. You might start to sense a theme, I prefer companies with lots of leftover cash ever year. This gives a company flexibility, they aren’t constrained to any one strategy. Should they see a good acquisition opportunity then great, otherwise they can pay out dividends or buy back shares of the company. The board recently increased the buyback allowance from 1.2 billion to 2.2 billion. If my math suits me correctly 2.2 billion is just over 20% of the entire company. They won’t buy it all back overnight, but the share count should fall dramatically over time.

While 2017 wasn’t quite a banner year, they more than made up for it in the first half of 2018. Due to lower taxes, a reduced share count and higher sales and margins earnings increased YoY from 3.21 to 5.40. That’s an increase of 68% in a single calendar year. While we can’t expect such growth going forward, that would be impossible. The company will continue to perform with precision.

Conclusion

Huntington Ingalls is a simple but extremely well run company. They will never be the fastest growing company, but they are almost guaranteed to grow at a decent clip over time. They have a growing backlog that will keep them busy for years to come. As of the end of 2017 their backlog stood at $21.4 billion. The company will continue to buy back shares and grow their earnings. They are trading at a reasonable multiple and over the course of 5-10 years the company will be considerably larger.