successful long-term investing with high-quality …
TRANSCRIPT
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SUCCESSFUL LONG-TERM INVESTING WITH HIGH-QUALITY STOCKS
FEBRUARY 15, 2020
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Susan Christ, CFA
Senior Vice President - Investments
Hendershot Investments, Inc.
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We seek to buy:
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INVESTMENT PHILOSOPHY
• HI-quality businesses
• Reasonable valuations
• To hold for the long term
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What is long term?
• High-frequency trader = Nanosecond
• Day-trader = Between Lunch and dinner
• Uncle Sam = One year
• Hendershot Investments > Decade
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Our favorite holding period is forever.
Only buy something that you would be
perfectly happy to hold if the market shut
down for 10 years.
2/11/2020 4
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HI-QUALITY COMPANY CRITERIA
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• Durable competitive advantage
• Strong balance sheet
• Predictable growth
• Robust free cash flow
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COMPETITIVE ADVANTAGES = MOATS
Durable Competitive Advantage
• Evidenced by consistently high ROEs
• Opportunities for market expansion
• Pricing power
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• Intangibles
• Cost Advantages
• High Switching Costs
• Networking Effect
Moats or Durable Competitive Advantages:
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Patents - Johnson & Johnson
Proprietary Technology – Apple
Strong Brand – Disney & Pepsico
Intangibles
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GEICO
Cost Advantages
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UPS
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High Switching Costs
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Networking Effect
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“The key to investing is not assessing how much
an industry is going to affect society, or how
much it will grow, but rather determining the
competitive advantage of any given company
and, above all, the durability of that advantage.”
Warren Buffett
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HI-QUALITY COMPANY CRITERIA
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• Durable competitive advantage
• Strong balance sheet
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with little or no long-term debt.
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The more cash and the less debt on the balance sheet,
the better we like the business. Debt-free companies
don’t go bankrupt!
Strong balance sheets
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“Companies with large debts often
assume that these obligations can be
refinanced as they mature. That
assumption is usually valid.
Occasionally, though, either because of
company-specific problems or a worldwide shortage of
credit, maturities must actually be met by payment.
For that, only cash will do the job. Borrowers then
learn that credit is like oxygen.
When either is abundant, its
presence goes unnoticed.
When either is missing, that’s
all that is noticed."
Warren Buffett on debt…
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Strong Balance Sheets
Company
Cash &
Investments Long-term Debt
Shareholders'
Equity
Apple $207.1 billion $93.1 billion $89.5 billion
Booking Holdings $11.8 billion $7.5 billion $6.0 billion
Facebook $54.9 billion - $101.1 billion
Genuine Parts $451 million $2.8 billion $3.7 billion
UnitedHealthcare $51.5 billion $36.8 billion $60.4 billion
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HI-QUALITY COMPANY CRITERIA
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• Durable competitive advantage
• Strong balance sheet
• Predictable growth
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• Sales
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Predictable growth
• Earnings
• Dividends
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HI-QUALITY COMPANY CRITERIA
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• Durable competitive advantage
• Strong balance sheet
• Predictable growth
• Robust free cash flow
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Cash flow a business generates from its
operations
less
Capital expenditures to maintain and
grow the business 20
Free cash flow =
Robust free cash flow
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Seek intelligent capital allocation by managers who use
cash flow to build value for shareholders
• Grow the business through strategic acquisitions
• Pay dividends
• Buy back shares at reasonable valuations
We seek companies with the ability to do all three!
Focus on Free Cash Flow
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Free Cash Flow Yield =
Free Cash Flow per Share
Stock Price
Compare Free Cash Flow Yield to Alternative
Investments
Focus on Free Cash Flow Yield
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Company Projected Free Cash Flow Yield
Apple 5.7%
Booking Holdings 8.6%
Facebook 7.6%
Genuine Parts 6.9%
UnitedHealthcare 6.3%
Focus on Free Cash Flow
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Apple designs, manufactures and markets
smartphones, personal computers, tablets, wearables
and accessories. It also sells operating systems, services
like iCloud storage and Apple Pay, and a host of digital
content from the popular iTunes store and other portals.
Fiscal Year – Sept. 30
(000,000) 2019 2018 2017 2016 2015
Operating Cash Flow $69,391 $77,434 $64,225 $65,824 $81,266
Capital Expenditures (10,495) (13,313) (12,451) (12,734) (11,247)
Free Cash Flow 58,896 64,121 51,774 53,090 70,019
Acquisitions (624) (721) (329) (297) (343)
Dividends (14,119) (13,712) (12,769) (12,150) (11,561)
Share Buybacks (66,897) (72,738) (32,900) (29,722) (35,253)
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Booking Holdings is the world leader in online travel
and related services, provided to consumers and
partners in over 230 countries and territories through
six primary brands-Booking.com, KAYAK, priceline, agoda.com,
Rentalcars.com and OpenTable.
Fiscal Year – Dec.
(000,000) 2018 2017 2016 2015 2014
Operating Cash Flow $5,338 $4,662 $3,984 $3,102 $2,914
Capital Expenditures (442) (288) (220) (174) (132)
Free Cash Flow 4,896 4,374 3,764 2,928 2,782
Acquisitions (273) (553) (1) (140) (2,496)
Dividends - - - - -
Share Buybacks (5,971) (1,828) (1,012) (3,089) (750)
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Fiscal Year - Dec.
(000,000) 2019 2018 2017 2016 2015
Operating Cash Flow $36,314 $29,274 $24,216 $16,108 $10,320
Capital Expenditures (15,102) (13,915) (6,733) (4,491) (2,523)
Free Cash Flow 21,212 15,359 17,483 11,617 7,795
Acquisitions (508) (137) (122) (123) (313)
Dividends 0 0 0 0 0
Share Buybacks (4,202) (12,879) (1,976) 0 0
Facebook, Inc. operates the world’s leading social
networking service through its flagship Web site, Instagram,
WhatsApp and Messenger. The company’s Web-based tools
allow users to connect and communicate with each other.
The company had about 2.45 billion monthly active users at
9/30/19 and generates substantially all its revenue from
selling advertising placements to marketers.
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Fiscal Year – Dec.
(000,000) 2018 2017 2016 2015 2014
Operating Cash Flow $1,145 $815 $946 $1,159 $790
Capital Expenditures (232) (157) (161) (110) (108)
Free Cash Flow 867 658 785 1,049 682
Acquisitions (462) (1,495) (462) (163) (288)
Dividends (387) (395) (387) (368) (347)
Share Buybacks (181) (174) (181) (292) (96)
Genuine Parts Company is a distributor of automotive replacement
parts in the U.S., Canada, Mexico, Australasia, France, the
U.K., Germany, Poland, the Netherlands and Belgium. The
Company also distributes industrial replacement parts in the
U.S., Canada, Mexico and Australasia through its Industrial Parts
Group. S.P. Richards Company, the Business Products Group,
distributes a variety of business products in the U.S.
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Fiscal Year - Dec
(000,000) 2019 2018 2017 2016 2015
Operating Cash Flow $18,463 $15,713 $13,596 $9,795 $9,740
Capital Expenditures ($2,071) (2,063) (2,023) (1,705) (1,556)
Free Cash Flow 16,392 13,650 11,573 8,090 8,184
Acquisitions (8,343) (5,997) (2,131) (1,760) (16,164)
Dividends (3,932) (3,320) (2,773) (2,261) (1,786)
Share Buybacks (5,500) (4,500) (1,500) (1,280) (1,200)
UnitedHealth Group offers a broad spectrum of
products and services through two distinct platforms:
UnitedHealthcare, which provides health care coverage
and benefits services; and Optum, which provides
information and technology-enabled health services.
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We seek to buy:
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INVESTMENT PHILOSOPHY
• HI-quality businesses
• Reasonable valuations
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If you pay too high a price, even for a great
company, your returns won’t be so great.30
After identifying a HI-quality company,
the most important part of the investment
equation is to only buy it at a Reasonable
Price... as the price you pay will determine your
return.
Reasonable Valuation
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Intrinsic value = present value of the future
discounted cash flows that can be taken out of
the business over its lifetime.
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Reasonable Valuation
We’d rather buy a great business
at a fair value, rather than a fair
business at a great value
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The three most important investing lessons are:
1. Think of a stock as part of
business and seek to own a group
of high-quality businesses.
2. Use the stock market to serve
you, not to instruct you.
3. Always buy with a margin of
safety.
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Wisdom of Great Investors
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Benjamin Graham
The market is a pendulum that
forever swings between
unsustainable optimism (which
makes stocks too expensive) and
unjustified pessimism (which makes
them too cheap). The intelligent
investor is a realist who sells to
optimists and buys from pessimists.
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Wisdom of Great Investors
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Mr. Market’s emotional roller-coaster
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Be fearful when others are greedy.
Be greedy when others are fearful.
Wisdom of Great Investors
Warren Buffett
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The investor’s chief
problem—and his worst
enemy—is likely to be
himself. In the end, how
your investments behave is
much less important than
how you behave
Wisdom of Great Investors
Benjamin Graham
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A lot of people with high IQs are terrible
investors because they have terrible
temperaments. You need to keep raw,
irrational emotion under control.
Wisdom of Great Investors
Charlie Munger
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Neuroeconomic Insights
• Uneasy coexistence
between our primitive
brain and advanced
neural systems
• Adrenal glands v. Neocortex
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Know your emotional triggers…
then understand rather than follow your emotions.
Fear v. Greed
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Understand rather than
follow your emotions.
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Price fluctuations have only one significant meaning
for the true investor. They provide him with the
opportunity to buy wisely when prices fall sharply and
to sell wisely when they advance a great deal.
Ben Graham
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Wisdom of Great Investors
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2/11/2020 42
The best way to measure your
investing success is not by
whether you’re beating the
market but by whether you’ve
put into place a financial plan
and a behavioral discipline that are
likely to get you where you want to
go.
Wisdom of Great Investors
Benjamin Graham
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In the short run, the market
is a voting machine, but in the
long run it is a weighing machine.
Ben Graham
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Wisdom of Great Investors
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The three most important words in investing:
“Margin of Safety”
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Wisdom of Great Investors
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Rule #1: Never lose money.
Rule #2: Never forget Rule #1.
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Wisdom of Great Investors
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1. If the business fundamentals deteriorate and the
problem doesn’t appear temporary.
2. If the stock price moves significantly ahead of
underlying business value, trim the position.
3. If we see a substantially better investment
opportunity.
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Selling Criteria
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“If the job has been done
correctly when a common
stock is purchased, the time
to sell is almost never.”
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Wisdom of Great Investors
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With HI-quality stocks sporting free cash flow
yields significantly higher than low-yielding bonds,
investors should follow the cash to build an
investment stash!
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