Digging Deeper for Value

 

The New Year brought a dramatic market rebound. Performance was driven by a combination of a cautious Federal Reserve rethinking its plan to increase interest rates, and a “relief rally” during earnings season.  First quarter earnings reports weren’t impressive, but stocks rallied as investors realized that earnings, while mediocre, were not nearly as bad as they could have been. This is in contrast to just a few short months ago when markets seemed to be assured of an imminent collapse.

Waste Connections (WCN) – “Every Tuesday and Thursday”

Company:         Waste Connections (WCN)
Sector:                Industrials – Waste and Environmental Services
Price/Market Cap:                        $83/$22B
Target Price/Implied Upside:     $107/30%

Thesis
Waste Connections (WCN) is the third largest waste disposal company in North America, and the only company focused on secondary and exclusive markets.  The company has flourished behind the leadership of a seasoned management team focused on consolidating fragmented niche markets where they can streamline operations, exert pricing power, and improve profitability.

Knowing When to Sell

 “Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves.” – Peter Lynch

We are almost 10 years into a bull market birthed out of The Financial Crisis, throughout which, economists have described the stock market as climbing a “wall of worry”. The market continues to rise, but no one believes that it can continue. I am confident that at some point we will experience a correction. I am also confident that, many years from now, the companies we own will be much more valuable than they are today.

Tariffs and Taxes and Data, Oh My!

“Volatility scares enough people out of the market to generate superior returns for those who stay in.”

– Jeremy Siegel, Professor of Finance at The Wharton School

The year has started with volatility that we haven’t seen in the last two years, and it continues as I write this letter. There are two primary narratives driving current markets:

  1. A possible China/global trade war and,
  2. A broader technology stock selloff due to backlash over privacy/data lapses, and concerns over government regulation of the largest tech companies.

I will spend some time discussing both topics.

Outstanding Leaders at the Helm

“You’ve got to study all the greats. You’ve got to learn what made them successful and what made them unsuccessful.”

– Michael Jackson encouraging Kobe Bryant to learn from other masters of their craft.

 

The year ended with all eyes focused on Tax Reform. In our September letter, we discussed the possible outcomes if the White House Administration was successful (or not) in their tax reform pursuits. Less than three months later, the administration signed into law a plan expected to reduce taxes for many Americans and provide a tax holiday for corporations to repatriate overseas cash. Market strategists estimate that the tax plan will fuel corporate earnings by 7% to 9% and that these expected increases are not fully reflected in current stock prices. Roughly translated, barring unforeseen events, many believe that more stock gains are expected for 2018.

How can we make sure that our portfolios not only participate in these gains, but also exceed market returns for 2018 and years to come?

Investing in Aglets

“Love supersedes all armies.” – Dick Gregory

The market continues to benefit from positive investor enthusiasm fueled by a combination of factors:

  • Strong corporate earnings performance for the first half of the year.
  • A weaker dollar has made it easier for U.S. companies to sell their products overseas.
  • U.S. wages have improved enough to encourage consumer spending.
  • Interest rates remain low, providing continued sources of borrowing capital, and
  • Earnings reports for the September quarter are expected to be positive.

On the policy front, the White House has placed the Healthcare initiative on the backburner to fully focus on tax reform which will be less likely to accentuate party divisions and, if approved, will benefit both large and small companies. RBC Capital Markets estimates that a drop in corporate tax rates from their current effective average rate of 27% down to 20% would add a proportional 7% to per share earnings. Smaller companies, which tend to pay a higher effective tax rate, would benefit even more from the tax cut.

With all of this good news, where can things go wrong?

From Hofstadter to Organic Free Range

“Stocks aren’t lottery tickets. There’s a company attached to every share.”  – Peter Lynch

The big news of the quarter was the announcement that Amazon intends to purchase Whole Foods for $13.4B in a deal that will extend the online shopping mall into a bricks and mortar merchant with more than 460 physical locations in the US, Canada and Great Britain. What does this do for the company? Won’t this turn Amazon into one of its outdated, old-line competitors?

Surrendering Before the Battle Begins

“In any sort of contest – financial, mental or physical – it’s an enormous advantage to have opponents who have been taught that it’s useless to even try”  – Warren Buffet

Spring has arrived, and 2017 has continued with the positive sentiment that closed 2016.  U.S. stocks have done very well with the S&P 500 index up over 6% year-to-date.  This positive movement is largely the result of continued expectations that the new President will implement business-friendly tax and trade policies that will further boost corporate earnings.

In the December quarter, 65% of companies in the S&P 500 beat their earnings targets and had an average earnings growth rate of 4.9%[1].  This is the first time the index has seen a year-over-year growth in earnings for two consecutive quarters since March 2015.  More good news is expected in the coming quarters, but investors are now increasingly beginning to wonder if the stock market is “overvalued” and “are we due” for a correction or crash?

Investment Opportunities in Every Market

“In the struggle for survival, the fittest win out at the expense of their rivals because they succeed in adapting themselves best to their environment” – Charles Darwin

 

2016 ended exactly how we predicted…..or perhaps the opposite of that. Election results contradicted most polls, and the market’s reaction to the Republican win was not the Armageddon that I expected. In fact, the Dow, Nasdaq and S&P indexes all improved more than 2.5% from the election to year-end.  Benjamin Graham, the man considered to be the father of value investing, taught that “stocks aren’t pieces of paper or lottery tickets; they are units of ownership in real businesses whose underlying value does not change

Nexstar Broadcasting (NXST) – “Local Content is King”

Nexstar Broadcasting (NXST)

Date:         December 2, 2016

Sector:       Consumer Discretionary – Broadcast Media

Price/Market Cap:  $59.2/$1.81B

Target/Implied Upside:  $115/ 94%


[note: This is a write-up and update of research completed earlier in the year]

Thesis

Nexstar Broadcasting Group (NXST), a television broadcasting and digital media company, is in the early innings of both a company and industry-wide transformation. The company generates healthy free cash flow and trades at an attractive standalone valuation while also benefitting from strong growth in retransmission fee revenue. NXST expects to close a merger with Media General (MEG) by the end of the year, which will be immediately accretive and make NXST the second largest local television broadcasting company in the United States.