Newsletter
July 20, 2011
Dear client and prospective client,
For the first time in a while, Sandhill had a mediocre first half.
Our one, three and, five year numbers are outstanding, and I continue to be pleased with the short and long term returns that we are providing our clients. Our corporate bond "book" also continues to deliver solid and meaningful returns to our clients in a very low yield environment.
The equity returns are as follows:
| YTD 2011 |
1-Year |
3-Year |
5-Year |
Since Inception |
|---|---|---|---|---|---|
Sandhill * |
+5.7% |
+36.8% |
+9.7% |
+7.3% |
+64.5% |
S&P 500 |
+6.0% |
+30.7% |
+3.3% |
+2.9% |
+33.8% |
Russell 3000 |
+6.4% |
+32.4% |
+4.0% |
+3.4% |
+39.8% |
* Concentrated Equity Alpha Composite presented gross of management fees. Past performance is not a guarantee of future performance. Individual investor results will vary. Performance results may be materially affected by market conditions and economic conditions. Full performance disclosures are provided at the end of this letter. The disclosures provided are considered an integral part of this presentation. |
|
Managing growth
I had the privilege of speaking at the Opal Emerging Managers Conference in Chicago in May. There were approximately four hundred attendees, and the scene was a cauldron of young investment management firms that were hustling to be seen and heard.
The conference lasted two days and had numerous breakout sessions. Through all of the breakout sessions, one theme was constant… good, small investment managers outperform their larger counterparts. The reasons are talent leaves big firms to start small ones, the necessity to perform to survive, the hunger to succeed, and the drive to build a big firm.
The second part of the theme is that talented young investment management firms start with a small asset base, perform well, and then start collecting significant assets. The young firm slowly morphs from an investment firm to a marketing firm committed to collecting assets based on its prior track record. The firm is still good… but not great and its performance reverts to the mean.
After the conference, I took a step back and thought about Sandhill and how I spend my time. I have to admit that I have been spending more time gathering assets and committing less and less time to investment research. Sandhill was following the same path that was described at the conference.
With a little bit of time to think about it, I reorganized Sandhill. Larry Stolzenburg, my very able and talented partner, is now in charge of institutional sales. He remains a member of the investment committee. Sandhill is now split into three very distinct areas… asset gathering, investment research, and operations/client service.
My pledge to everyone who has walked through the doors at Sandhill and become a client is this:
Sandhill will do its best to deliver highly well thought out investment portfolios that generate strong risk adjusted return over long periods of time. Sandhill will continue to be thorough and meticulous on the investment research side. Sandhill will only buy quality assets in the public markets for its clients that are sound businesses with durable competitive advantage that will deliver increasing free cash flows to its owners over time.
PriceSmart
Every once in a while, you run across a company and are intrigued with its possibilities.
When I read about PriceSmart (PSMT), we looked into it quickly. In a nutshell, it is a mini Wal-Mart or Costco with stores in Central America and the Caribbean.
We bought PSMT on 6/3/11 at $45.49. It closed on 7/19 at $60.09. This could still be the early innings for this PSMT’s growth.
After its recent run, we do not recommend purchase at this time.
PriceSmart is a membership warehouse club operator with 28 locations in 11 countries and one U.S. territory throughout Central America and the Caribbean. Its first warehouse opened in Panama in 1996, and the company came public in 1997. The physical location itself usually offers over 2,200 SKU’s from hardlines and groceries to fresh foods. Many locations offer a bakery, One Hour Photo, and a Tire Center. The average annual fee is $25-$30 and the company has over 775,000 member accounts. In the last quarter, memberships grew 15.3%. The company plans to expand into South America later this year with the opening of a store in Barranquilla, Columbia.
Same store sales reached a low of -1.1% in September 2009 and have since trended upward. Same store sales have settled in the mid to high teens. In June, same store sales increased 19.7%.
PSMT works in fringe consumer markets, and major U.S. operators (Wal-mart and Costco) do not operate in their geographies. Membership renewal rates are equivalent to U.S. operators at 88%. PSMT’s stores are half the size of a Costco store. While PSMT can cater to smaller fringe communities with smaller stores, Costco needs to stay with their scale/volume model to make their stores work. This allows PSMT to be competitive and meet the needs of smaller populations while not going head-to-head with the larger stores.
In the last quarter, net sales rose 24% year over year to $431 million. The company earned $0.55 per share and beat earnings estimates of $0.46 per share. Earnings per share increased 31% year over year. Revenue in fiscal year 2011 is expected to grow 17% to $1.63 billion. Earnings per year in fiscal year 2011 are expected to grow 22% to $2.03 per share. The company also increased its dividend by 20% to $.60 per annum. Operating margins have increased from 1% in 2005 to 5.2% in the most recent quarter.
A few things stand out. First, PSMT serves neglected markets with strong profit. Second, the competition’s (Wal-Mart, Costco) operating models do not work in the markets PSMT serves. Third, more than half of the merchandise provided by PSMT is local - thereby making the store a cultural fit in the communities it serves. Fourth, there are only 29.5 million shares on a revenue base of $1.6 billion. There is tremendous leverage to earnings per share if PSMT continues to add stores and can maintain or expand its operating margin. Finally, PSMT is able to fund its new stores through internally generated cash flow.
This report has been prepared for informational purposes only and is neither a solicitation to buy or sell securities. This information in this report has been obtained from sources believed to be accurate; however, Sandhill Investment Management makes no guarantee as to the accuracy or completeness of the information.
Going forward
I have heard a lot of chatter over the last quarter about an impending meltdown in the global equity markets. There is a lot of merit to that line of thought.
Consider that we remain at a budget impasse, our country is $14 trillion in the hole and bleeding red ink every day, 23% of mortgages in the U.S. are delinquent (this is staggering), and the unemployment rate is 9.2% (we all know its higher). The European banking system is shaky at best. Spain, Portugal, Italy, Ireland, and Greece are in serious financial trouble.
Yet the stock market goes up!
Why? I think maybe two reasons. First, corporate America is running like a Ferrari - lean and mean on the cost side with good revenue growth and expanding margins. Second (and this is a stretch), maybe just maybe we are starting to address the long simmering fiscal problems both here and abroad.
Staying current is important so that you have context and a backdrop in which to frame your investment ideas. However, trying to figure out the next market move is generally not productive. We believe that the game is won or lost at the individual security level.
As the mid summer heat moves across the mid west, I hope everyone is staying cool and enjoying their summer.
Warm regards,
Edwin M. "Tim" Johnston III
Managing Partner
Performance Disclosures:
Sandhill Investment Management ("Sandhill") is a registered investment advisor that is not affiliated with any parent company. The performance statistics disclosed above are calculated on the rates of return from accounts managed by Sandhill, as defined below. These accounts are managed by Sandhill on a discretionary basis and have no restriction in the manner in which the account can be invested. There are no non-fee paying accounts included in the Concentrated Equity Alpha Composite. The U.S. dollar is the currency used to express performance. The Concentrated Equity Alpha Composite includes accounts under management from the first full month at which the account’s capital is fully invested by Sandhill. Closed accounts are included in the Concentrated Equity Alpha Composite through the completion of the last full month under management and are not removed from the historical rates of return. There is no minimum asset size requirement for inclusion in the Concentrated Equity Alpha Composite. The returns are shown gross of investment management fees. The Concentrated Equity Alpha Composite was created on March 1, 2004.
Sandhill claims compliance with the Global Investment Performance Standards (GIPS®).
To request a complete list and description of firm composites and/or a full performance presentation that adheres to GIPS® Standards, please contact Kelly Marshall at (716) 852-0279 x. 307 or kmarshall@sandhill-im.com.