- By Robert Abbott
Every guru finds a route to success, some unique edge in identifying reasonably priced companies that have more potential than average.
The intrinsic value of VAL
But could the firm's success be due, at least in part, to its mix of large-cap, mid-cap and small-cap stocks?
To read about other investing gurus, click on any of the following names: David Tepper, Prem Watsa, Bill Ackman, Seth Klarman (by Rupert Hargeaves), Chuck Akre, Vanguard Health Care Fund, Yacktman Focused Fund, Jerome Dodson, Frank Sands, the Eaton Vance Worldwide Health Sciences Fund, PRIMECAP Management, Daniel Loeb, Bill Nygren, Mariko Gordon and David Rolfe.
About Mairs and Power
This guru is an investment advisory firm with more than $9 billion of assets under management. According to its website, it serves individuals, employee benefit plans, endowments, foundations and manages three no-load mutual funds.
The firm was founded by George A. Mairs Jr. in 1931, just 15 months after the stock market crash of 1929. George C. Power Jr. joined the firm in 1944. Originally, it served families and individuals, but in the 1950s the company also began serving retirement funds and institutions.
Wanting to keep the business of families and individuals, the company launched a mutual fund, the Mairs & Power Growth Fund, in 1958; the Mairs & Power Balanced Fund was added in 1961. Both were no-load funds, a relatively unique idea in that period.
It now manages three funds:
Mairs & Power Growth Fund (MPGFX); total net assets $4.5 billion.
Mairs & Power Balanced Fund (MAPOX); total net assets $939 million.
Mairs & Power Small Cap Fund (MSCFX); total net assets $427 million (closed to new investors).
The company employs 14 investment professionals, and reports all investment managers have received Chartered Financial Analyst designations.
With more than 85 years in business, the company has a history and a tradition in asset management. It runs three mutual funds, but the Growth Fund is the noteworthy player in the industry due to its longevity and continuing run of good results.
Like many other advisors and managers, Mairs and Power believes in a disciplined, long-term investment approach.
But it sets itself apart with what it calls its cornerstone belief, which its website describes as: "The foundation of our equity approach is a regional strategy. The mutual funds and individually managed portfolios have heavy representation in stocks of companies headquartered in the Upper Midwest." The company says the region hosts "an unusually large number of attractive companies" and that it has followed them for many years.
It adds that its funds have national charters but derives its success, in large, from a focused, regional approach. During an interview with Kiplinger Fund Watch in 2012, then-manager Bill Frels said, "We like to stay close to home," and "It's worked out well for us, and it seems like we don't run into as many surprises as one does when you get further afield." Three local names-- Valspar (VAL), 3M (MMM) and Target (TGT)--were the largest holdings in the Growth Fund at that time.
As this chart from the Growth Fund fact sheet shows, the company leans heavily to large caps, with a minority of mid- and small-cap stocks:
As noted above, the firm takes a long-term approach to its picks. The Kiplinger article puts it this way, "Once a stock ends up in M&P Growth, it hardly ever comes out. The fund's 3% turnover ratio implies that stocks are held for 33 years, on average." GuruFocus reports the latest quarter-over-quarter turnover at 6%.
Competitive sustainability is also a required characteristic of candidate stocks. Like David Rolfe (Trades, Portfolio)'s Wedgewood Partners Inc., Mairs & Power uses "Porter's Five Forces" (barriers to entry, threat of substitutes, buying power, supplier power and degree of internal rivalry) to determine the strength of a company's moat.
The firm also looks for what it calls "reasonable prices" when deciding when to buy candidate companies. This puts at least one foot into the value camp, but not both.
More insights into the firm and its investing philosophy can be found in its annual reports, including the most recent market commentaries in the Annual Report for 2016.
Discussing the Growth Fund, the managers note they lost three portfolio stalwarts, with Valspar, St. Jude (STJ) and G&K Services (GK), due to being bought by other companies. Of course, the firm continually hunts for new prospects, and especially prospects within its region and thus maintains a short list that can be tapped at any time.
Being a stock picker in this region, and trying to find stocks regionally, makes it tough for the company to find technology stocks. As noted in the 2016 annual report, this lack of local tech opportunities forced it to look beyond; one of the names the management team found and liked was Alphabet (GOOG). "While the company is headquartered outside of the Upper Midwest where many of our investments are located, it is an example of a stock that fits our investment approach in most other ways. The company enjoys above-average growth, maintains a durable competitive advantage globally and is attractively valued."
The managers also provided a rationale for one of their divestments in 2016, specifically MTS Systems (MTSC), which had announced the acquisition of sensor maker PCB Group. "In addition to our concerns about execution of the current business, we did not believe the strategy behind the acquisition was sound. It added to the company's existing sensor business, where the company does not enjoy a strong competitive advantage, it diluted MTS' durable competitive advantage in its core test business, and added substantial leverage to the balance sheet."
One stock they did keep was U.S. Bank (USB), even though it was at the high end of its trading range. "The bank is well run and consistently posts lower (better) efficiency ratios and its return on assets and return on equity are leading among its peers. While a large multi-state bank and one of the largest in the U.S., it escapes the most intensive regulatory microscope the very largest banks of over $750 billion in assets operate under. In addition, we believe U.S. Bank is very well positioned under several different economic scenarios."
Most investing gurus have found a way to distinguish themselves from the herd--and the benchmark. Mairs and Power has done it by investing for the long term in companies that predominately come from its home region, the Upper Midwest. Sustainability is also a key characteristic, with defined moats that must be established.
As this chart from GuruFocus illustrates, Mairs & Power is one of the few gurus that has Industrials at the top of its sectoral list:
These are the top 10 holdings in the full portfolio at the end of the first quarter (percentages of the portfolio follow):
3M Co. (MMM) 4.24%
Ecolab Inc. (ECL) 4.19%
U.S. Bank (USB) 4.14%
Graco Inc. (GGG) 3.79%
Honeywell International Inc. (HON) 3.47%
Medtronic PLC (MDT) 3.43%
Johnson & Johnson (JNJ) 3.40%
Donaldson Co. Inc. (DCI) 2.93%
Bemis Co. Inc. (BMS) 2.87%
Walt Disney Co. (DIS) 2.61%
With a mandate to focus on regional companies, industrials are a logical fit for a Minnesota-based investment firm. As we can see, the company formerly known as Minnesota Mining and Manufacturing Co. headed the top 10 holdings as of March 31.
Mairs and Power has beaten the S&P 500 over the five- and 10-year cumulative terms, as this GuruFocus table shows:
Looking back even further, the cumulative results look equally good when compared to the S&P 500 (amount of outperformance in brackets):
15 years: 8.6% (1.9%)
20 years: 10.2% (2.5%)
25 years: 12.0% (2.9%)
30 years: 12.5% (2.3%)
35 years: 13.4% (1.9%)
In the 2016 annual report, the managers said stock selection was behind the stronger performance for that year, with holdings in the industrials and its multi-cap approach being most important.
Andre Waldron, writing for Seeking Alpha, analyzed the Growth Fund's year-to-date returns in early June 2016 (up 10.45% year to date at that time) and showed the fund's mid- and small-cap stocks had strongly outperformed the benchmark and category average over the first five months of 2016. In addition, he pointed to the strong gains in health care holdings.
It seems likely the multi-cap strategy paid off for the company in 2016, but over the longer term there is no reason not to believe the regional strategy has not been the key to its overall success.
Buying regional has turned out to be a good idea, and a signature idea, for Mairs and Power.
By focusing on corporations close to home, the firm no doubt has better access to the management of candidate companies and a better intuitive sense of how well they have performed and will perform.
Its success is also due in part to the mix of capitalizations; a strong position in large- cap stocks along with enough mid- and small-cap stocks to add more than average upside potential to the portfolios.
Finally, the firm has a long-term perspective, holding stocks for years, which allows it to know these companies and their managers even better than it would otherwise.
Disclosure: I do not own shares in any of the companies listed in this article, nor do I expect to buy any in the next 72 hours.
This article first appeared on GuruFocus.
The intrinsic value of VAL