67 WALL STREET, New York - October 10, 2012 - The Wall Street Transcript has just published its Large-Cap Value Investing Report offering a timely review of the market to serious investors and industry executives. The full issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.
Topics covered: Large Cap Investing - Value Investing - Long-Term Investing
Companies include: Gannett Co., Inc. (GCI), Berkshire Hathaway Inc. (BRK-A), Media General, Inc. (MEG), Comcast Corporation (CMCSA), General Electric Co. (GE), The E. W. Scripps Company (SSP), The McGraw-Hill Companies, Inc (MHP), H&R Block, Inc. (HRB), Wells Fargo & Company (WFC), Bank of America Corporation (BAC), JPMorgan Chase & Co. (JPM), AFLAC Inc. (AFL), Darden Restaurants Inc. (DRI), Sears Holdings Corporation (SHLD), Starbucks Corp. (SBUX), eBay Inc. (EBAY), Cabela's Inc. (CAB) and many others.
In the following excerpt from the Large-Cap Value Investing Report, an experienced portfolio manager discusses his investment philosophy for investors:
TWST: What are some of your favorite stock picks and investment ideas right now, and what about them do you like?
Mr. Smead: We're having a lot of fun with Gannett (GCI). And the fun comes from the thought that we had, that was original to us, which is that every 20 year old is amazingly tech savvy, but very few 20 year olds can write well. So under the theory that scarcity creates value, good writing is probably more valuable right now than it's ever been, because there's probably a smaller percentage of the population that can do it well than has ever done it well. That is our core thing.
And then, at the Berkshire Hathaway (BRK-A) Annual Meeting, I listened to Warren Buffett spend more time talking about community newspapers than any other single subject. He has purchased the Omaha Herald and the community newspapers of Media General (MEG), and basically has announced to the world that he wants to buy up every community newspaper that he thinks is useful that he can get his hands on. His reasoning is, first of all, it took about 10 years of humans doing the Internet for it to be clearly defined what content the newspaper company provides that isn't provided well by someone other than the local newspaper. That would be local politics, community affairs, obituaries, youth sports, those kinds of things.
The second thing that happened in the last two or three years is the content-providing newspaper companies have stopped giving away their content, which was causing the transition to online newspaper readership to be slowed, and online newspaper readership is much more profitable than printing up a physical newspaper and delivering it to someone's doorstep. So Gannett, as an example, is now putting up pay walls at all of their U.S. newspapers, and we think it's going well. That's the newspaper side of the business.
The second piece of the company is they own 23 local television broadcasters, and of those 23, 12 of those are NBC affiliates. We own Comcast (CMCSA). Comcast controls NBC through 51% ownership, so we believe that Comcast knows more about what people watch on television than any organization in the United States, and we believe that General Electric (GE) barely knew anything about what people watch on television. And so therefore, we think that Comcast is going to run NBC very well, and the benefit to an improved NBC is going to benefit both Comcast and those affiliate owners, of which Gannett is one.
Lastly, Gannett has these wonderful digital properties - Careerbuilder.com, Apartments.com - and they have a very successful digital presence. What we did was a comparison based on what Warren Buffett paid to buy his community newspapers through the Media General acquisition, what E.W. Scripps (SSP) paid recently for eight television stations they purchased from McGraw-Hill (MHP), and then we compared the digital business to publicly traded comparable digital companies, and we came up with a $25 sum-of-the-parts analysis.
Gannett currently trades around $18. So we think it's worth $25 right now, but that $25 is based on the bargain price that Buffett paid to buy Media General's newspapers and the bargain price that E.W. Scripps paid to buy McGraw-Hill's TV stations, because you had two motivated sellers and you had two very shrewd buyers. Buffett thinks he's going to make a lot of money on what he paid, and Scripps thinks they're going to get a lot of money on what they paid, so we think there's upside to that $25 number. So stock trades $18, less than eight times forward earnings, five times cash flow, gorgeous dividend, and we, like Jack Nicholson in "As Good as It Gets," feel really good about ourselves because we feel like we're one of the few people that understands what's going on there.
TWST: Are there any other examples you'd share?
Mr. Smead: We are believers that housing is going to make a big comeback in the next five to 10 years. There are 85 million Baby Boomers' kids. They have been a little slow to marry, a little slow to have kids, and because of the housing debacle in the last five years, a little slow to buy houses. But they'll get older and they will get married, they will have kids and they will buy houses.
From a mathematical standpoint, in 1960, we had 160 million people in the United States; today, we have 315 million. From 1960 to 1980, the deepest recession took us to 550,000 housing starts. In 2011, there were 320,000 housing starts in the United States, with a 315 million population. We believe that over the next five to seven years, we will gravitate to 1.5 million housing starts, which would be nearly five times what last year was.
If that happens, that will be a huge positive factor in blue-collar employment in the United States. Not only the carpenters, electricians, plumbers and other subcontractors, but people that make carpet, make paints, make siding, make you-name-it - anything that has to do with building and outfitting a house - all of the blue-collar trades that have been negatively impacted by the housing depression will make a comeback, we believe.
So we very much like H&R Block (HRB), because that is whose taxes they prepare. Those folks have been unemployed and not paying H&R Block to do their taxes while they're unemployed, and when they go back to making $70,000 or $80,000 a year in the next five years to seven years, they are going to be walking into Block by the bucket loads.
On top of that, of course, the United States federal government and our political people always seem to like to make the tax code more complicated all the time, so even among others, all the time there are people that need tax help that haven't needed it before. So we think that's a wonderful backdoor play.
And by the way, Gannett is also a backdoor play on that, because among community newspapers' largest advertisers are auto dealerships and residential real estate brokerages. So as housing comes back, it will be positive for Block, and it will be positive for Gannett.
We own in our portfolio Wells Fargo (WFC), Bank of America (BAC) and JPMorgan (JPM), and between the three of them, they own way over a million homes that are in foreclosure or default in one way or another. We think there is incredible leverage to their balance sheet from a housing recovery, so we have added to them in the last year.
The next one I enjoy talking about is Aflac (AFL). There was a news report yesterday or the day before that said that Darden Restaurants (DRI) and Sears (SHLD) are opting to give each employee a certain amount of money that they would have spent on them anyway for health care, and then sending them to an online marketplace to buy their benefits. We think this is symptomatic of where corporate America will go. Corporate America is going to raise deductibles. When deductibles are raised, the larger companies more than likely offer Aflac supplemental health insurance benefits as a voluntary thing on the menu, and when people that have their deductible go up from, say, $500 to $1,000, it will be very interesting to them to consider a $15 or $20 a month payment to Aflac to cover that difference between $500 and $1,000, which, by the way, is what Aflac has been doing in Japan for the last 30 or 40 years. So you've got this most unusual circumstance where one of the most successfully branded companies in the United States is just beginning to have the economics of what they do open up.
This is a company that does 75% of its revenue in Japan, and we think they have enormous growth potential in the United States, trades at close to seven times earning, pays a solid dividend, and has loads of operating opportunity right here in the U.S.A. over the next 10 years.
TWST: Has there been any significant change in the portfolio in the last year or so? And what's your typical turnover rate?
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