Transocean Inc. (RIG)
If the current high price of crude oil reflects a fundamental change in the world-wide demand for oil, as many suggest (see Sunday Washington Post article), then prospects may be bright for oil services stocks. We have one oil services stock in our portfolio, Helmerich & Payne (HP). The stock is at $52.90 per share, up from the $33.72 we paid for it last June. HP is 6.8% of our portfolio. HP provides contract drilling services to oil and gas producers primarily in the United States, Argentina, Colombia, Ecuador, and Venezuela.
It might be wise to diversify and include deep water drilling company. Transocean Inc. (RIG) pops up in numerous screens and articles. Value Line describes Transocean as the world’s largest offshore drilling contractor, working in all the major offshore regions, including the Gulf of Mexico, the North Sea, the Middle East, and off the coasts of West Africa, the United Kingdom, Norway, Brazil, and Canada. It specializes in technically demanding deep-water/harsh-environment drilling projects.
Here is a stock selection guide for Transocean. Manifest Investing estimates a projected average return of 19.3%. Morningstar rates Transocean 5-stars (undervalued) and calculates fair vale as $176 (current price is $133). We should consider selling part of our position in HP and buying RIG.
Maxim Integrated Products
Maxim Integrated Products (MXIM or MXIM.PK) has been one of our disappointing holdings. We bought an initial position in February 2005 at $39.44 per share and added to that position in June 2006 at $31.33 per share thinking the worst was over for the stock. The stock is currently priced at $18.35, down from its $55 high in 2004.
Maxim got caught up in an options backdating scandal. Nasdaq delisted it. And it has taken the company a long time to restate its financials, which has resulted in significant legal and accounting fees.
Barron’s reports today:
Now there are signs that the worst may be over. The company, with a market value of $6 billion, has submitted revised financial statements to its auditors. Earnings are expected to pick up next year, as the legal expenses of the probe recede into the past. And conditions in the chip industry could start to improve markedly within a couple of years.
Result: The stock could rocket by more than 40%. The hope is that growth investors, who abandoned the shares over the past couple of years, will start returning in force. What they’ll find is a stock that trades at a sharp discount to its peers and boasts $1.2 billion of cash and no debt.
Value Line stopped covering Maxim when it was delisted. However, Morningstar still follows the company and rates it 5-stars (undervalued) and gives it a fair value estimate of $34. Here are some excerpts from the Morningstar Report from May:
We consider Maxim Integrated Products one of the better long-term semiconductor investments. With attractive products, sought-after talent, and a plausible plan for growth, Maxim should continue generating healthy returns on invested capital for many years. … Maxim is well positioned in its core business of high-performance analog (HPA) chips, which are complex and proprietary by nature. Armed with one of the most talented design teams in the industry, Maxim has been able to produce superior designs that command a price premium. … We now expect Maxim to grow sales at a compound annual rate of 8.2% for the next seven years, down from the 13% assumption used in our previous model. Although we expect the consumer business to be highly competitive, we think Maxim’s gross margins will likely remain in the low 60s. … We forecast operating margins in the low 30s.
Until the SEC approves its revised financial statements, Maxim is limited on the information it may release publicly. This makes analysis of the company difficult.
Maxim will release financial results for the fourth quarter of its 2008 fiscal year on Thursday, August 7, 2008. A video replay of the earnigns conference can be found on the investors section of the Maxim website.
Some Portfolio Adjustments?
Here is the Public Dashboard from Manifest Investing for the Moose Pond portfolio. Overall, the portfolio shows a projected average return of 15.6% and a quality rating of 72.2. The dashboard is forward looking. Manifest Investing uses data from Value Line, Yahoo Finance, and other sources to estimate revenue growth, profit margins, and P/E five years out. From this projected data is is easy to project earnings per share and the future price (P/E x EPS). So the dashboard provides a method of comparing stocks within the portfolio. Note that the amount for a given stock is irrelevant in this analysis. What the company might do going forward counts.
Looking across the Moose Pond portfolio, we see a few stocks that warrant a close look.
- Helmerich & Payne has a PAR of 5.7%. This oil field services company has had a good run and is up 78% since we purchased it last June. It is 6.2% of the portfolio. We could take a small profit and sell some of this stock.
- Brown & Brown has been a relatively unexciting holding. We purchased in March 2004. It is down 10% and represents about 1.4% of the portfolio. We might want to consider replacing it.
- AIG has been the worst performer in the portfolio (and a good example of why diversification is so important). It is down 64% since we bought it last June. This is one of those financial stocks that will turn when the financial sector finally does. At some point we may want to add to our AIG holding, if we don’t purchase Berkshire Hathaway.
- We might want to increase our position on few sticks with high PARs, Lowes (21.6%) and Garmin 26.7%. Lowes is 2.5% of our portfolio and Garmin is 1.4%.
Take a close look at the portfolio dashboard and the portfolio valuation report at Bivio.com. We need to make some adjustments to our portfolio.
Berkshire Hathaway
Berkshire Hathaway is usually categorized by analysts as a property & casualty insurance company. It is actually an incredibly interesting, diverse, and successful holding company made up of 10 insurance companies and 66 non-insurance businesses. These diverse and well managed businesses include See’s Candies, NetJets, Flight Safety Safety International, Borsheim’s Jewery, Fruit of the Loom, GEICO Auto Insurance, Benjamin Moore & Co., Dairy Queen, Clayton Homes, and Johns Manville. (See complete list of Berkshire Hathaway businesses.) Berkshire Hathaway also has an investment portfolio valued in excess of $75B.
In 2007, Berkshire Hathaway’s annual revenues totaled $118B. To put their businesses in perspective, insurance premiums were $31.8B while sales and services revenue from the non-insurance businesses was $58.2B. So calling Berkshire an insurance company is not very accurate, but insurance is one of its core businesses.
At the end of 2007, assets for the various Berkshire insurance companies included $39.8B in cash and $86.8B in equities and fixed maturity instruments. These assets include reserves for anticipated covered losses. For the non-insurance businesses, cash and fixed maturity instruments totaled $8.8B. Together, these assets give Berkshire the ability to internally finance its operations. It provides the cash to acquire new businesses. This cash also gives Berkshire the ability to add substantial positions to its investment portfolio.
The breadth of Berkshire’s business and investment holdings make it difficult for analysts to perform cash flow analysis and to estimate earnings. As you can see from the attached file, the Value Line assessment differs from that of Morningstar. (Morningstar appears to be more on the mark although they don’t do a good job explaining their discounted cash flow analysis.)
Warren Buffet and Charlie Munger have managed Berkshire Hathaway form the beginning in 1964. Integrity, honesty, and business acumen have been the hallmarks of their stewardship over the past 43 years. They have set the gold standard for corporate openness and transparency. Their results are unmatched. Share prices have compounded at rate of 21.1% between 1964-2007. The sheer size of Berkshire Hathaway today will probably prevent it from achieving this high rate of return in the future. Nonetheless, Berkshire shareholders can expect to do well.
Warren Buffet’s annual letters to shareholders can be found here. They should be mandatory reading for every investor.
Morningstar rates Berkshire Hathaway five-stars with a fair market value of $5,100 (for the class B shares, BRK.B). Current price as of this posting is $3,914. Manifest Investing estimates projected average return of 17.5%. Here is a completed stock selection guide for Berkshire Hathaway.
Note: Berkshire Hathaway has two classes of shares. The “B” share ($3,914) is valued at 1/30 of the “A” share ($117,290). Berkshire Hathaway has never paid a dividend or authorized a stock split, so the 21.1% compound annual growth is reflected in the high price of the stock.
Berkshire Hathaway is an excellent core holding. We should consider purchasing purchasing one of the “B” shares with our available cash.
General Electric (GE)
We purchased an initial position in General Electric (GE). It took a huge drop on April 11 when it missed its earnings. Historically, GE never missed earnings. With the drop in price, the dividend alone yields 3.87% based on the April 11 closing price. See attached a stock selection guide. This looks like an excellent buying opportunity. Remember, nothing has changed in GE’s underlying business model between April 11 and 12, despite the 14.8% stock price drop on April 12.
Portfolio Transactions
We sold Stryker Corp (SYK) at $67.48 and replaced it with Medtronic Inc (MDT) at $52.61. We sold Getty Images Inc (GYI) at 31.00 per share. We purchased Superior Energy Services (SPN) at $39.20.
Portfolio Update
As of this past Friday, we survived the market turmoil. The internal rate of return for Moose Pond Investors was 2.4% for the year to date. This slightly lagged the S&P 500, which was up 4.3% for the same period. See performance report.
Several stocks accounted for the mediocre performance.
Getty Images GYI (-38%) had a disappointing quarterly earnings report. Morningstar star reduced its fair market value estimate. Investors Advisory service recommends selling GYI, noting that the company faces increased competition in the Internet photo images market. Morningstar reduced GYI’s moat rating from “wide” to “narrow.” The visual section of the stock selection guide show the downturn. See the current stock selection guide (SSG) which shows a projected average return (PAR) of only 7.6%. My bad for recommending this one. We should probably sell GYI at some point soon.
Amgen AMGN (-26.6%) has been down for the year. However, most of the analyst reports cite its pipeline and consider it a strong long term buy. Here is the current AMGN SSG. Note that the PAR of 22.7% and that assumes a relatively modest EPS growth of 11%. AMGN is definitely a hold and probably a buy. Now if the market will just recognize what we do!
Of course we had several winners YTD as well. These include INTC (+23.7%), ITW (+24.9%), JKHY (+25.2%), and OXY (+27.8%). This highlights the importance of diversification.
Here are three transactions that may improve our portfolio performance for this year.
- Replace Stryker (SYK) with Medtronics (MDT). Stryker has advanced 22% this year. The price increase has diminished its long term prospects. Morningstar rates it two stars (a little over priced). In contrast MDT is rated five stars (a bargain). Both companies are quality medical suppliers, however, the prospects are a little better for MDT.
- Sell Getty Images (GYI). We are better off selling and redeploying the cash.
- Buy Superior Energy Services (SPN). BNP Is a diversified provider of specialized oilfield services and equipment. While oilfield services are cyclical, the prices for oil and gas have not gone down and the demand for oilfield services continues. The SSG for SPN looks strong. Neither Morningstar nor Value Line cover SPN, but it received a five star rating from Standard & Poors. We should move quickly on SNP as it appears particularly undervalued now.
Sun Hydraulics (SNHY)
One of the excellent companies that caught in the market downdraft last week is Sun Hydraulics (SNHY). It is a small industrial company in Sarasota, Florida, that designs and manufacturers screw-in hydraulic cartridge valves and manifolds, which control force, speed and motion as integral components in fluid power systems.
SNHY has a global network with 53% of its sales overseas. It is not dependent on any one customer, with its largest customer accounting for 7% of revenues. Insiders hold hold 32% of the shares. If you listen to its last quarter earnings conference (found on the company website), you get a sense of a well managed company with a closely knit team.
Analysts predict 20% EPS growth. We assumed 18% growth in the stock selection guide and used conservative PEs. Manifest Investing rates the quality 79.9 and projected average return 19.9%. The PE to growth (PEG) ratio is approximately 1. With $149 million in revenue for the TTM, this company has room to grow. Propose we buy this company now.
- Link to the company website
- Link to stock section guide and data sheet
Semi-Annual Report
For the first half of the year, our internal rate of return is +6.2% which is slightly ahead of the S&P 500 (+6.0%). See portfolio performance report for the first half of the year. Our challenge is to do much better than the S&P 500.
Portfolio Activity
We made some adjustments to our portfolio this quarter to improve portfolio quality and increase diversification. In the energy sector, we replaced Occidental Petroleum and ChevronTexaco with ConocoPhillips and Helmerich & Payne. This split our energy holdings between a mega-cap energy company that both produces and refines, and a quality company that provides contract drilling services to oil and gas producers.
In the financial sectors, we replaced Commerce Bank and Capital One Financial with American International Group. (There is nothing inherently wrong with CBH and COF, although COF has a low return on assets; we just wanted realign our financial stocks.) We exchanged East West Bancorp for Wells Fargo & Co.
We added to our position in Getty Images, Bed, Bath & Beyond, and Amgen. Unfortunately, BBBY reported mediocre earnings after we increased our position. This clipped our overall portfolio earnings for the quarter a little. See chart. However, BBBY remains a high quality company.
Finally, we added information technology holdings with new positions in Microsoft and SAP. We sold UTStarcom. All these transaction together raised the quality rating of the portfolio to 72.2 (out of 100 with 65 being excellent) and the projected average return to 13%.
Most Recent Quarter
Our biggest winners for the quarter were Intel (+24.7%), Maxim Integrated Products (+14.2%), and our energy stocks, Occidental Petroleum (+16.2%) and Chevron Texaco (+10.0%). We had several stocks that did not earn their keep this quarter, Bed, Bath & Beyond (-12.4%), Brown & Co. (-6.8%), Stryker (-4.9%), Synovus (-4.5%), and Walgreen (-5.0%).
The Past 12 Months
It is always interesting to look back over the past year. We had some outstanding winners,Stryker (+50.4%), Factset Research (+45.3%), Chevron Texaco (+34.1%), and Jack Henry & Assoc. (+32.2%). Two stocks disappointed, Amgen (-15.5%) and Brown & Co. (-13.3%).
Looking Forward
Not being a market prognosticator, I’ll leave it for others to predict where the stock market is heading. Morningstar had a very readable outlook, that included a sector by sector analysis. Morningstar observes that some of the mega-cap stocks, like Walmart and Johnson& Johnson are very cheap.
SAP AG (SAP)
SSG and PERT | Google Finance | Company Website
We purchased an initial position in SAP AG on June 13, 2007. Here is the stock selection guide we used for the purchase decision.