Goodbye Summer (Q3 Update)

Unfortunately, all good things must come to an end. Summer came and went in the blink of an eye. Labor day weekend is now well behind us and so are any hopes I once had of not gaining a good 15 lbs over the Summer. A couple of trips and way too many burgers and beers are probably the primary culprits. I hope you all got to enjoy the summer heat as much as I did.

September however brings a new level of excitement. Kids are back in school and if they are forced to learn, we should be as well. We are all mere students of the game and therefore we need to work on our investing practice. A day doesn’t go by where you cannot learn something, so seize hold of the opportunity. A little bit of knowledge every day, will turn into a mountain of information over a lifetime. With that out of the way, let’s check in and see how I did this quarter.

Q3 Performance

As of 9/1/2019, my 10K portfolio stood at $11,088.12. When I started on 8/19/18, the SPY had a price of $285.06. As of 9/1/19 the SPY closed at $292.37(it’s actually had quite a run up since.)

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

Portfolio value $11,088.12: 10.88 2.56 8.32

With dividends reinvested into the SPY their returns would look a bit more like this.

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

Portfolio value $11,088.12: 10.88 4.42 6.46

I have to say that I am more than satisfied with my results thus far. I have cut a few of my losers and held tight onto my winners. I like to let my winners ride and let compounding do the work. Some might be overvalued and others are hopefully undervalued. In the long run, stocks will follow suit with growth in intrinsic value. I feel good about the companies I’m invested in and their prospects for the future. That being said, I hold onto almost $1,700 in cash. I am finding it hard to find deals I am comfortable with in the current environment. That doesn’t mean the search is over, just means I have to turn over more stones. One will appear and I will be ready to put my remaining capital to work.

Taxes

One topic I don’t see talked about nearly enough is the effect of taxes on investment returns. So often I hear analysts talk about a stock hitting their price target, meaning it is now a sell. Too often, these recommendations fail to mention taxes. Should you have a good gain, the second you initiate that sale, your gain is now realized. You will now be responsible for the taxes. Let’s just look at a simple example. Say you bought company A at $100. You made a great pick and after 6 months, the stock has now doubled to $200. Obviously you have made a fantastic investment, the question is what do next? If you sell out entirely, you will have a gain of $100 and it will be considered a short term capital gain, as you have not held it for longer than a year. It will be taxed at your normal income tax bracket. As of now, these taxes will fall somewhere between 10% and 37%. Let’s just assume a middle tax bracket of 24%.

On the $100 gain you will have to pay $24, leaving you with $176 to work with. Additionally, depending on where you live, you will owe state and local tax. Here in Baltimore County, Maryland you owe 5.75% to the state and 2.83% to the county. This lops off another $8.58, bringing that initial $200 down to $167.42.

The variables are of course ever changing. Should the characteristics of company A fail to live up to expectations or should your investment thesis no longer hold true, it very well might be a good time to sell out and switch companies. The important lesson is to take the effects of taxes into consideration and make an apples to apples comparison. In this example it is not $200 in Company A vs $200 in Company B, but instead $200 in Company A vs $167.42 in Company B. With that in mind, selling out of Company A might not be as enticing.

As always, thank you for reading. Be sure to subscribe and follow me on Twitter @Thegarpinvestor. Feel free to share the post, thanks!

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!

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.

Tucker or Trucker?

Earlier this week, I bought 4 shares of Old Dominion Freight Line(ODFL) for $162.60 a piece or a total of $650.40. Of course since I bought shares, the stock has continued to fall. It now stands 3.5% lower than where I bought it. This always seems to happen to me, unfortunately luck doesn’t seem to run in my blood. Therefore I’ll have to keep relying on brains and long term appreciation to make my money. For those keeping track I now own 6 stocks and have $5,303.91 left in cash in my 10k Portfolio.

Why ODFL?

Founded in 1934, Old Dominion Freight Line has been around for a long time. I generally like old companies (as long as they are still growing), they have survived all kinds of different economic environments. ODFL is a less than truckload(LTL) transportation company. Rather than trucking a full capacity for one company, they pick up small loads from various customers. They then put them all together and because of their logistic mastery are able to deliver the goods quickly. They service all kinds of customers ranging from auto parts to healthcare equipment. If you need something trucked, they are happy to help.

According to their 2017 annual report, they are now the 4th largest LTL company in the country, up from 6th in 2011. Gaining market share is certainly a good thing and I hope this trend continues. One sentence from their report I particularly liked was that “Significant capital is required to create and maintain a network of service centers and a fleet of tractors and trailers. The high fixed costs and capital spending requirements for LTL motor carriers make it difficult for new start-up or small operators to effectively compete with established carriers.” This forms a bit of an oligopoly with the other large LTL companies. New competitors simply can’t compete with the incumbent businesses, due to a lack of existing infrastructure.

Now let’s take a look at some of the numbers that make ODFL so compelling. They grew revenue every single year since 1996 with the exception of the 2009-10 recession. Consistency is key, allowing me to sleep easy at night. From 2013-2017 EPS grew from 2.39 to 4.35 for a CAGR of 12.7%. While not exactly stellar over this period, growth is beginning to rise quickly. This past quarter earnings grew 67.2% over the prior year and growth is not expected to slow down anytime soon. The company is winning new jobs and growing market share. They trade around a 27.5 P/E which in a vacuum is quite high, but I find to be reasonable for a company that is growing considerably and of high quality. Remember, I am the GARP investor after all. Growth at a reasonable price is my goal.

ODFL has a ROE above 20%, meaning for every dollar of equity put into the business over the years, they are able to generate a 20%+ return. This is frankly quite stellar. They are investing heavily into CapEx every year and if they can keep up these same level of returns, investors should do quite well. The business is actually remarkably simple. They earn a generous amount of cash flow, then take that money and invest it into new trucks and fulfillment centers for logistics. With whatever cash is leftover ODFL pays a small dividend, buys back some shares and pays off whatever debt they owe. The company has a very clean balance sheet with only 839 million in liabilities, a minuscule number for a 13 billion dollar company.

Conclusion

Overall, I don’t expect ODFL to be my portfolios best performer 5 years from now. I do however expect it to be a portfolio anchor, that is meaningfully larger every single year. They are a simple business that can be relied upon. Management knows what they are doing and the stock is trading at a fair price.

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

Building a Watch List

Before you can buy a stock, creating a watch list is vitally important. A proper watch list focuses your attention and lets you weed through most of the junk. I am attempting to put together a list of companies that could be interesting should they hit a reasonable price. That’s not to say you should automatically buy them, but they deserve a closer look. For that matter, they may already be at a perfectly reasonable price, but there is no rush to buy in. I am looking to buy stocks for the long run. If you intend to hold a stock for 10+ years, waiting weeks or even months before you pull the trigger isn’t all that important. It is far more important to make sure you pick the right companies rather than picking the right price.

5 Stocks to Look at:

Here are 5 stocks I’m currently looking at. Each of these companies displays classic GARP tendencies. They grow revenue and earnings each and every year, employ limited amounts of debt and can be found at reasonable P/E ratios. My own personal list is over 40 companies long, but I don’t have the time for a write up on each of them.

ODFL

Old Dominion Freight Line is a less than truckload freight company. An essential part of the economy, trucks are always in need. While rail is still the cheapest way to ship coast to coast, you need a way of getting items to and from the warehouse. ODFL is best in class for smaller orders, where a full truckload isn’t quite necessary. A classic capital compounder. Since they went public in 1991, this stock has gone up over 70x. Last quarter YoY revenue growth of 23% and EPS YoY growth of 65.8%. Can’t ask for much more than that.

LEA

Lear Corp. manufactures a product you all have probably sat on and never even thought about. They are a vertically integrated world leader in automated seats for automobiles. They really only do one thing, but they do it incredibly well. They generate a tremendous amount of free cash flow, which enables them to buy back shares of the company in droves. At the start of 2014 they had 81 million shares outstanding. That number now stands at 66 million. Every shareholder should be happy to now own significantly more of the company.

IPGP

The leader in laser technology, IPG Photonics creates laser powered technology that is sold to manufacturers around the globe. These lasers enable manufacturers to produce items at a lower cost, which encourages more spending on CapEx. These lasers are used in all kinds of fields ranging from car manufacturing all the way to medical devices. The total addressable market is massive. They have hit a bit of a hiccup lately due to the Trump administration trade war, given that their main customers are foreign manufacturers. For that reason I think it is best to wait and see how this trade war plays out.

APH

Amphenol develops small components and connectors used in complex electronic machinery. They are a company no one would ever think of, but sells more every single year. They sell to virtually every industry imaginable. Like others on this list, they generate ample free cash flow. They use this free cash every year to make acquisitions, buy back stock and pay a growing dividend. A classic compounder, since going public in 1992 they have been a 200 bagger.

Given that we’ve gone over a bunch of really well known names, let’s look at one nobody has heard of. Just kidding of course. Facebook is one of the biggest, strongest companies on earth. They have fallen a bit lately due to fears of slowing growth rates and falling margins. I feel these fears are short sighted. Looking years into the future, we simply don’t know how strong a network Facebook could be. They already have daily average users of nearly 1.5 billion, a number that is still growing rapidly. Given how many people are on the platform, monetization is only just beginning. They make their money primarily through advertising, but could start making money through any number of different avenues. How about the fact that they also own Instagram? 10-20 years from now I think we could legitimately be looking at Facebook as a multi trillion dollar company.

Thanks for reading. Comment any companies you have on your own watch list. As always follow along and subscribe!