Douglas Wight, telecommunications sector manager for Edinburgh-based Martin Currie Investment Management, likes corporate presentations to be brief and well researched, with a long Q&A to finish things off. An IRO or CFO reeling off numbers or fiddling with PowerPoint slides really isn’t that useful to him. ‘We can get all the data from a Bloomberg screen or the internet,’ he points out. ‘I’m interested in the key message they’re giving the financial community – I concentrate on any changes taking place or key issues that have arisen. Most fund managers will already know the basics of a company.’
He mentions one particular major UK blue-chip telecommunications player that, 18 months ago at a conference call, was busy predicting 5 percent year-on-year revenue increases, rather than discussing market fundamentals. ‘It’s now talking about 1 percent,’ Wight says. ‘It really shouldn’t have been so ambitious in the first place. The market simply loses respect.’
Although some of the Martin Currie funds – there’s $9.8 bn under management – carry the ‘growth’ moniker, the company’s approach in particular sectors is value-based, with a preference for the telecoms and financial services sector for its UK growth fund. Regular face-to-face contact close to home isn’t as important, though the group has a fair sum of Chinese money under management, so long-haul trips to Asia are frequent.
Among hard-to-pin-down intangibles, management quality is the biggest question mark. ‘Management quality goes back to consistency,’ explains Wight. ‘A good example is Scottish and Southern Energy. It has a very consistent cash management policy. It runs the business very hard for cash and will not overpay for assets. It has just pulled out of buying Midland Electricity on the basis of a price it just wasn’t prepared to budge on.’
Wight’s approach is also careful on other intangibles, like brand value. Vodafone is an example of a company extending brand image not just to its network, but also to handsets, he notes. ‘It’s increasingly shipping phones from Sharp in the Far East and branding the handsets, so consumers will come to think of buying a Vodafone mobile, rather than a Sharp,’ he says.
A solid cash return on invested capital is naturally attractive, as are indications that plenty of that cash is being funneled back into the business. Reliance on the internet for information is growing, and its 24/7 accessibility is a boon. ‘We get so much information by hard copy from brokers that knowing we can rely on the internet, when needed, is great,’ comments Wight. Annual reports are still useful, but are now slowly being edged back in terms of importance. ‘They’re still useful,’ he adds ‘for cash flow and balance sheet information, plus all the attached notes.’
Annual reports may not command the attention they once did, but interest in corporate governance is definitely on the rise – as it is with an increasingly large number of Martin Currie clients, says Wight. ‘It’s also a general feeling that we have a responsibility to ourselves that we’re investing in companies that have a clear policy on remuneration, for example,’ he comments. ‘It’s about feeling comfortable, too, on where we’re going as a company.’
Murdo Murchison, Templeton
At the start of World War II Sir John Templeton borrowed $10,000 and bought a spread of under-valued US shares. As the war expanded, his ‘dog’ funds rapidly turned into powerful workhorses. By 1945, Templeton’s portfolio was 400 percent up on his original investment.
Buy cheap – so simple in concept yet so difficult in execution – is the mantra of Franklin Templeton funds. Murdo Murchison, fund manager for two Templeton growth funds (one Luxembourg euro-dominated fund, the other US-based, up 18 and 26 percent in the last six months, respectively), remains faithful to Sir John’s value principles and independent flair. ‘As a value investor, it’s a real challenge to find technology stocks with growth rates which justify today’s inflated expectations,’ he says.
Despite Murchison’s own ‘growth’ fund tag, all the Franklin Templeton funds take a classic value approach, favoring long-term cash-flow stability and cyclically depressed companies. A short-term view is always eschewed. ‘If you think short term, it becomes very difficult to differentiate yourself from the market,’ he explains.
Based in Nassau, Murchison is skeptical of company ‘bun fight’ presentations. ‘Even on a one-on-one basis at a mega industry conference sponsored by a broker, the quality of discussion can be poor,’ he says. ‘The CEO is sitting there, expected to give 40 minutes of candor. He or she is probably very much ‘on-message’ and there probably won’t be any time to develop the conversation.’
A prolonged visit to a company, by contrast, is a chance to really weigh other peoples’ words, and to take a longer, more considered perspective. ‘In July and August I was in London and saw HSBC and Lloyds and had two very valuable meetings,’ Murchison comments. ‘I had much more time, the management was more relaxed, not so much on-message, and we had an opportunity to discuss long-term strategic questions. It was thought-provoking and useful.’
This sort of discussion is a huge contrast to debating whether the next quarterly earnings are going to be slightly above the quarter’s expectations. And company management often appreciates that it has investors there for the long term and is interested in the long view, Murchison says. Questions to IROs and management usually focus on strategy and a company’s approach to shareholder value, which supplies Murchison with the mindset of a firm. He gives CEO succession issues a hard prod, too.
Valuation intangibles like brand value also get assimilated into Murchison’s five-year earnings’ model. ‘If a brand name is not returning superior returns like hard cash, then that name is simply not worth it to me,’ he explains. ‘If I don’t see good management in the numbers, I’m not paying for it.’
Company acquisitions also undergo hard examination – if they deliver shareholder value, that’s fine. ‘But acquisitions can also destroy shareholder value. There’s often a disconnection,’ Murchison adds. Depending on the company, a broad range of financial models is used for number-crunching. Earnings growth and cash flow – plenty of both – is always appealing. But asset value arguments can be deceptive. ‘You have to be very clear why these assets are undervalued in the first place,’ he says.
Technology has made Murchison’s job, in some areas, vastly easier. Most companies now have a decent IR section on their website, together with CEO speeches and webcasts, he notes. ‘Royal Bank of Scotland does a great job on the webcast front – for me, sitting here in the Bahamas, that’s tremendous,’ he says.
Annual reports also continue to be hugely useful. Growth expectations, Murchison points out, can’t be fully realized until you’ve read several reports going back at least five years. Corporate governance is becoming more conspicuous as an issue, too, as is shareholder power and how it’s exercised. ‘Shareholders have a vote and should use it,’ he advises. ‘The Carlton-Granada situation is an excellent example of shareholders using influence for a specific end.’
However, Murchison has a last warning for IROs. ‘Too often IR strays into PR,’ he cautions. ‘IR is also an industry that talks in buzzwords – and people have got very good at speaking the language other people want to hear. It’s all too easy to talk about value, but much harder to create it.’
Francis Chou, Chou Associates Fund
Beat this for performance: at the end of December 2002, Francis Chou’s $22 mn mutual fund was 30 percent up on 2001. The S&P 500, by comparison, had plunged 22.1 percent. And in the previous three years – a savage time for most funds – the Chou Associates Fund averaged an annual 19.6 percent return. Even on a ten-year stretch the figures keep their bounce: a 17.1 percent annual compound return compared with an S&P average of 9.3 percent.
Based in Toronto, Chou says his 2002 result, in particular, reflected a terrific time for flushing out distressed securities. ‘Buy something that is worth $100, but pay $60,’ he says simply. ‘You get a 40 percent discount.’
According to Chou, judging when to put money on the table is down to the potential recovery value of a business, plus underlying assets – which hopefully shouldn’t drop in value. However, whether IROs and management can be trusted to give him an accurate picture of the business is another thing again. ‘There’s always a 50 percent possibility of being misled,’ he notes.
His deep value approach goes for companies with plenty of cash generation, although the market, he readily admits, doesn’t always offer him that. ‘I look at other bargains, buying whatever’s cheapest, junk bonds or mediocre companies selling cheap,’ he explains. Buying dirt-cheap also gives his fund a margin of safety.
Once an investment is made it may take time before good results materialize, he warns. But this cautious buy-and-hold attitude means transaction costs are kept under control. His extraordinary past record, according to Chou himself, was helped by a decision to avoid tech stocks in the 1990s: ‘We stayed in cash and drew a line in the sand – we weren’t going to invest there.’
As for measuring value, he’s skeptical of Gaap rules. Showcasing the financials in the best possible light is still very much the game, he says. Gaap metrics, he believes, can give management an opportunity to stretch the appearance of figures. Normal operating costs that should have been expensed have, in the past, sometimes been capitalized – a feature of some cable and telecoms companies, he points out.
Establishing net income growth also gets a hard look. ‘In 2002 some multinational companies lost billions of dollars in their pension funds,’ Chou says. ‘But they boosted pre-tax returns in the hundreds of millions by using an unrealistic 9 percent or more as their expected pension fund investment rate of return!’
Corporate governance is slowly improving, he believes, though he prefers to think of it as a forced march for too many. ‘They now have a gun to their heads,’ he says matter-of-factly.
Peter Spiller, Capital Gearing
London-based Peter Spiller has been running Capital Gearing (CG) investment trust since 1982. Despite 21 years in the business, this modest £39 mn ($66.5 mn) value-based trust has yet to suffer a down year. Even when the FTSE All-Share sank more than 23 percent during 2002-3, Capital Gearing circumvented the rocks and gained an extra 2 percent in net asset value.
Value-conscious Spiller always wants to know how company money gets spent. ‘Group and one-on-one presentations are both useful and can always be followed up with private Q&As afterwards,’ he says. ‘It’s sometimes necessary as people can be embarrassed by a question, or reluctant to say what they really mean [at presentations].’
What is hugely important is transparency – at all levels. ‘What are they doing with the money?’ he asks. ‘What’s happening with the unquoted stock? If they’re trading at a discount, what are they proposing to do about it?’
Research is increasingly carried out with the aid of the internet, Spiller says, and annual reports are vital – often more valuable than broker research. ‘They give you all the basic cost-to-run facts you could need about a company,’ he points out.
But the management politics of other companies can be something of a worry – particularly if larger institutional investors are throwing their weight about, Spiller says. ‘There can be an oppression of minorities,’ he comments. ‘A good example is during voting on whether the trust should continue. When votes get issued, there’s a comfort to investors from the implicit or explicit idea that there should be no significant discount, but in practice that doesn’t happen. Some companies, often large institutions which own the shares trading on large discounts, vote to continue – which is unfair on smaller shareholders.’
Spiller attributes much of Capital Gearing’s recent success to the split-cap debacle when the value of split-cap investment trusts – many groaning under a surfeit of debt and gearing – collapsed as the stock market retreated. Decent quality zero-coupon share funds fell and Spiller was quick to scoop up bargains. Zero-coupon shares now account for 32 percent of Capital Gearing’s net value, with fixed interest holdings representing a hefty 31 percent.
As for corporate governance, he thinks it has improved noticeably over the years. Directors of investment trust companies are now far more ready to speak to investors, Spiller points out. ‘There have been several hostile moves against investment trusts in the last few years, and that’s been to the good of the industry,’ he says. ‘It has shaken out a lot of complacency.’
