Favorites from Our Stocks Forum
Our Stocks Forum affirmed our faith in these firms' competitive advantages.
Morningstar recently wrapped its second annual Stocks Forum held on April 26 and 27 in Chicago. New this year was Morningstar's pre-forum event, "The Management Behind the Moat," featuring presentations from managers and representatives from some of our favorite companies. Attendees had a chance to hear from those most familiar with the companies about what makes each of these firms unique and "moat" worthy. These leaders and representatives also outlined how their long-term strategies will continue to generate economic profits for their investors for years to come.
Over 200 attendees were on hand to participate in the presentations, ask questions of the management and mix and mingle with Morningstar analysts. Below are some highlights from the presentations. We can't wait to see everyone again next year!
Illinois Tool Works (ITW)
Illinois Tool Works' chairman and CEO, David Speer, kicked things off with an overview of the business, a discussion of some recent acquisitions, and several tidbits of information regarding the company's unique 80/20 operating culture. Specifically, he outlined how the company planned to increase its "base" business growth (not including acquisitions) from a historical rate of about 4% annually to somewhere between 5%-6% in the years ahead by steering more of the company's businesses toward faster-growing developing countries. The company is also increasing its overall growth rate by targeting acquisitions in faster-growing end markets such as materials testing and business software, and by training more managers to scout deals. After an acquisition, he mentioned that revenues at acquired companies usually decline for the first year or so due to the 80/20 streamlining process, but that after 3-5 years the companies are again growing nicely and are much more profitable. Importantly, he also mentioned that ITW never includes "synergy" benefits when calculating deal values and always uses a return on capital measure to determine whether or not to go forward.
Rick Hans' up-front presentation made it clear that, in the face of current and future threats, Walgreen can remain a growth machine and continue to outperform its peers. Hans addressed concerns about the CVS/Caremark merger, lower reimbursement rates on prescription drugs, and Wal-Mart's $4 generics program, and he explained how the company has faced and overcome a myriad of other threats spanning decades. He detailed how the company's focus on putting the right stores on the most convenient corners since the early 1990s has given it a store base that generates the highest pretax earnings per selling square foot and the means to benefit greatly from aging baby boomers, Medicare Part D, and the wave of generics replacing branded drugs. In our view, Walgreen remains one of the few retailers that offer consistent and sustainable long-term growth.
Republic Services (RSG)
Republic Services' Edward Lang, vice president of finance and treasurer, highlighted the waste-hauler's attractive business model, which generates strong and predictable cash flow even during tough economic times. Ed emphasized that the solid waste industry has evolved beyond its roll-up origins and dark accounting past, with garbage collectors now focused on rationalizing regional markets, increasing return-on-invested capital and driving across-the-board real pricing growth. He underscored Republic's geographic niche in the faster-growing Sunbelt states, which enables the firm to outpace the volume growth of larger competitors. Finally, Ed touched on Republic's monopolistic franchise contracts and its hefty share buyback program, which has returned more than $1.8 billion to investors since July 2000 (about 36% of outstanding shares).
Fuel Tech (FTEK)
Fuel Tech's engaging presentation left little doubt among the Stocks Forum audience that the company is headed in the right direction under the tutelage of CEO John Norris. In addition to outlining how he's leveraging his industry ties to open more doors for Fuel Tech's products, Norris explained how his efforts to integrate the company's sales divisions has created a more efficient and effective salesforce. He also expounded on the company's recent move to realign every employee's incentive compensation to rest squarely on management's aggressive revenue, profitability, and backlog growth targets in an effort to maximize shareholder value. We believe these recent initiatives will help Fuel Tech to further capitalize on the significant market expansion opportunities that lie ahead--leaving us as optimistic as ever about stock's upside potential.
A wide-moat spices and seasonings manufacturer, McCormick dominates its category and isn't just the lead presence in the spice aisle at the grocery store. McCormick also has fortified partnerships with top food and beverage manufacturers, and its patented flavors can be found in everything from alcoholic beverages to fast food to desserts. McCormick presented its three-pronged strategy of improving margins, reinvesting in the business, and increasing sales and profits while answering questions about its fortified private-label business and defenses against the competitive landscape. The conference gave investors a unique glimpse inside the strategy and business model of this wide-moat company.
Mark Van Genderen, Harley's director of investor relations, began his presentation with a video highlighting the sights and sounds of the newest model line-up while showing how enthusiasts view Harley as not just a motorcycle brand, but as the embodiment of free-wheeling, open-road experiences. Having grown a significant base of loyalists, many of whom value the unique ability to customize a Harley to make it their own, the firm is reaching out to entice a more diverse group of riders by bringing women and minorities into the fold, and it is also fashioning bikes for international customers, which make up a growing percentage of sales. Answering an investor's question about Harley's quality improvements, Van Genderen discussed how previous owner AMF had let manufacturing standards slip, but that major strides have been made over the past 25 years, with higher standards for parts, more-innovative engineering, and more-precise machining. In addition, the firm has built a design center to test prototypes to make sure that new model introductions produce the same Harley sound and feel while delivering on product enhancements, like electronic fuel injection. Reinforcing our enthusiasm for the business model, Harley left investors with a final note about the firm's superior cash generation--more than 15 cents of free cash flow is generated for every dollar of revenue, enabling Harley to return cash to shareholders in the form of stock repurchases and higher dividends.
Amid presentations from several big names, Actuant Corporation, a little-known diversified industrial firm, stood out for its strong growth, both in earnings and share price. CFO Andrew Lampereur discussed how Actuant evolved from humble beginnings in August 2000 when its parent, Applied Power, didn't want to be associated with mundane industrial businesses such as hydraulic tools and vehicle actuation systems. Six years later, Applied Power is no longer around, but Actuant is thriving--it has consistently increased its sales by more than 25% and earnings by more than 30% annually. Performance like that has been reflected in the company's stock price, which has grown fourfold over the last six years. Lampereur also explained how management is focused on generating future growth while maintaining more than 20% returns on invested capital by taking on leading positions in various niche markets and by acquiring complementary, and sometimes platform-forming, companies.
Investors attending the Stocks Forum enjoyed some insight from CDW's head of sales, executive vice president Jim Shanks, on what makes this gem shine. Besides expounding on CDW's ability to consistently generate juicy returns on invested capital, Shanks explained how the firm continues to invest in its salesforce and distribution capabilities, and how CDW expands its product offerings to augment these returns. He also stressed the benefit of aligning CDW's salesforce incentives with the company's overall profitability. We believe that these efforts will allow CDW capture greater market share while expanding its narrow moat and providing handsome returns to shareholders.
Kinder Morgan (KMI)
Representing Kinder Morgan Energy Partners, investor relations manager Peter Staples outlined the $6.5 billion in expansion projects that the company currently has on the drawing board. In addition to the Rockies Express natural-gas pipeline, which accounts for one third of the planned capital projects, Kinder Morgan is currently building several other pipelines, acquiring an oil pipeline from its parent company, and upgrading its enhanced oil-recovery efforts. The company aims to maintain an 8% long-term annual growth rate in cash distributions.
Wipro's presentation at the Stocks Forum made it clear that the firm and its peers in the offshore information technology services industry have been true engines of growth recently; over the last five years, Wipro's IT-services business has grown by nearly 40% annually, and there are no real signs of slowing demand on the horizon. An AT Kearney study shows that less than 5% of total IT spending is directed at offshore services, and further penetration should provide double-digit growth for years to come.
We also came away from the presentation convinced that Wipro is more than an arbitrage on cheap labor. The company's software processes, honed over many years, are a large part of the Wipro story. In order to win business initially, Wipro had to be demonstrably better than its U.S. counterparts, which benefit from long track records and established customer relationships. The company was forced to focus on high-quality, replicable processes and training systems for its employees--Wipro employs more than 100 instructors, more teachers than some midsized universities--to ensure that it can deliver consistent value to each of its clients. Wipro's resources and established processes, combined with market opportunity, create a prescription for long-term sustainable growth.
Scott Burns does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.