An Analysis of Robert Olstein's Capital Management and his top holdings : INTC, XRX, MSFT, M, LM
Olstein Capital Management believes in 4 primary investment philosophies:
A. Above-average investment performance is strongly linked to error avoidance, so downside risk management is stressed.
B. Equity prices often fall below intrinsic value due to short term fluctuations such as missing earnings estimates to negative investor sentiments. This in itself creates opportunities for the long-term investor.
C. Excess cash flow is the primary determinate of a company’s intrinsic value due to its ability to increase shareholder value in numerous ways immediately.
D. Forensic analysis of financial statements reveals quality of earnings, overall strategic success, and leadership competency. Adjustments will be made to earnings to eliminate “management biases or unrealistic assumptions”. Hence, its worth is more important then management guidance.
In terms of the differentiating philosophies between each fund, the strategic opportunity seeks to invest in small to mid cap sized firms that face unique opportunities and challenges. Olstein Capital would typically invest in these firms, and become a shareholder activist, if need be, to increase shareholder value.
The fund of interest, however, is the all cap value fund due to its investment profile. The stated objective of the fund is “long term capital appreciation and income”. Like most value-oriented funds, OFSAX “emphasizes investments in the undervalued equity securities of companies with discernible financial strength, unique business fundamentals, a competitive edge, and an ability to generate free cash flow.” To manage downside risk, Olstein Capital Management seeks the causation of the discount from true value lest they are to fall into what is dubbed as a “value-trap”. To do so, Olstein Capital utilizes a variety of both quantitative and qualitative screenings. For example, the firm will analyze business models to see if a sustainable competitive advantage exist, analyze the quality of financials and assess leadership to make the final decision whether the deviation from true value is a temporary state, or a sign of larger problems. Free cash flow analysis is stressed, both in terms of current flow, and future flow, because as Olstein Capital stated, “companies who generate above-average free cash flow yields have a higher probability of managing temporary problems and eventually can create value for shareholders...” The primary method used to analyze free cash flow is through forensic accounting, which normalizes earning to standard and realistic assumptions. Each segment of a firm is analyzed to see whether it utilizes or generates free cash flow and why. Olstein Capital typically invests in equities with a 3-5 year horizon with no restrictions on its investment horizon due to market capitalization or categorical investments such as growth vs. value.
Since Olstein Capital’s inception in 1995, the firm had an annualized return of 10.05%, vs. the S&P 500’s return of 7.23%. The cumulative return of the fund for the same period is 353.10%, while the benchmark returned a total sum of 200.94%. From 2004-2008, the fund underperformed the benchmark for 5 years straight. Recent performance of the fund, however, has been largely positive, with a return of 37.01% in 2009, and 16.17% in 2010. This yielded an excess return over the benchmark of 10.05% and 1.1% respectively for the same period.
Looking forward, the firm acknowledges that many investors are still sitting on the sidelines due to their pessimisms regarding market outlook and future unemployment rates. Olstein notes that while the consumer confident index is still below pre-recession levels, this index is currently at its highest levels since November 2008. Olstein expects corporate profits to increase, which in turn will increases investments that would ultimately result in job growth. Furthermore, Olstein believes the flight to bonds will reverse soon, as investor sentiments will improve in light of recent market success. As such, their overall assessment of future conditions is a “favorable stock market environment going forward with the usual corrections along the way”.
The following charts and tables demonstrate the sector breakdown and top holdings of Olstein Capital. Most of the firm’s investments are currently situated in consumer services, industrials, technology. Most rebalancing changes were minor, with the biggest reduction in a sector lying in consumer services at 3.50%. In terms of holdings, the firm currently holds 91 equities, with 11.97% concentrated into the top five holdings. 3 of the top holdings are technologically oriented. All of the holdings except for Intel saw gains exceeding 8% each.
The Intel Corporation is a computer chip manufacturer that develops products for both individual consumers and large scale clients. INTC closed at $22.33 with a market capitalization of $118.39 billion. Intel’s cost of acquisition in the portfolio is approximately $20.52, yielding a potential capital gain of 8.82%. Intel is the largest holding of the firm, comprising 3.11% of all equities held. From quarter to quarter, Olstein Capital made no changes to their holdings of INTC.
INTC has a P/E ratio of 10.23, a P/B ratio of 2.51, and a P/S ratio of 2.74. Earnings for the year were reported at $2.19, with a dividend yield at 3.76%. Revenues totaled $43 billion with a net income of $11 billion, yielding a net profit margin of 26.28%. On an average basis, over the last 10 years, INTC has grown its earnings and revenues by 16.4% and 7.4% respectively.
Intel announced plans to acquire Fulcrum Microsystems, a semiconductor company, in a deal with terms not yet disclosed to the general public. Currently, Intel, as with fellow defendants Google and Apple, are embroiled into a legal dispute regarding an alleged conspiracy to monopolize wages for employees by not hiring from each other.
GuruFocus rated INTC with the business predictability rank of 2 stars.
Xerox is a provider of document management, and IT support, with three operating segments: technology, services and others. XRX trades at $9.33 with a market capitalization of $13.09 billion. Olstein Capital paid an average of $11.22 per share of XRX, yielding a capital loss of 16.8%. Olstein increased his holdings of XRX by 15.07% quarter to quarter, therefore solidifying XRX’s position as the 2nd largest held, at 2.32% of all equities held.
XRX has a P/E ratio of 13.28, a P/B ratio of 1.10, and a P/S ratio of 0.61. Xerox earned a net income of $559 million on revenues of $21 billion, a 2.58% margin. Earnings for the year totaled in at $.70 with a dividend yield of 1.82%. Over the last 10 years, Xerox has grown its free cash flow and book value by an average rate of 1.8% and 10.6% annually.
A subsidiary of Xerox, ACS, recently entered a 5 year contract with Air Liquide USA to provide IT support and solutions. In terms of acquisition news, Xerox acquired Xerographic Solutions, Miller Technology Solutions, and Newfield IT in the last few months.
GuruFocus rated XRX with the business predictability rank of 1 star.
Microsoft develops and markets a variety of software products ranging from video games to operating systems. MSFT closed at $27.40, with a market capitalization of $229.50 billion. Olstein paid an average price of $28.08 per share of MSFT, yielding a capital loss of 2.4%. Microsoft is the third largest holding of the firm, at 2.21% of all equities held. From quarter to quarter, Olstein increased his holdings of MSFT by 8.33%.
MSFT has a P/E ratio of 10.15, a P/B ratio of 4.07, and a P/S ratio of 3.34. MSFT earned $2.70 per share, with a dividend yield of 2.34%. Revenues topped $69 billion, with a profit margin of 33.10%. Over the last 10 years, MSFT has grown both its earnings and revenues by an average rate of 14.1% each.
Nortel Networks recently sold all of their patents and patents applications to a group of investors including Microsoft and Apple in a deal valued at approximately $4.5 billion. In other developments, BAIDU, a Chinese search engine, has partnered with Microsoft to provide English search capabilities to the site via Bing.
GuruFocus rated MSFT with the business predictability rank of 3 stars.
Macys’ is a retailer operating under two brands: Bloomindales and its flagship Macy’s brand. Its shares currently trade at $28.87 with a market capitalization of $12.32 billion. Each share of M was acquired at an estimated price of $27.5, yielding a potential capital gain of approximately 5%. Macy’s position increased by 20.63% from quarter to quarter.
Macy’s has a P/E ratio of 13.11, a P/B ratio of 2.22, and a P/S ratio of .49. Their earnings were $2.20 for the year, with a dividend yield of 1.39%. Macy’s reported revenues of $25 billion, with a net income of $847 million, yielding a 3.39% profit margin. M has, on average, grown its revenues and free cash flow by 5.1% and 8.6% respectively over the last 10 years.
Fitch Ratings recently affirmed its BBB- outlook on Macy’s with a “stable” rating. In addition, Macy’s paid a sum of $750,000 to the US Consumer Product Safety Commission due to their failure to report drawstrings some of their clothing lines, which can pose a strangulation risk to children.
GuruFocus rated M with the business predictability rank of 1 star.
Legg Mason (LM)
Legg Mason is an investment management company and home to legendary investor Bill Miller. Legg Mason currently trades at $29.42, with a market capitalization of $4.38 billion. LM was acquired at an estimated price of $48.65, yielding a capital loss of approximately 39%. From quarter to quarter, Olstein increased his holdings of LM by 15.69%.
LM has a P/E ratio of 16.72, a P/B ratio of .76, and a P/S ratio of 1.56. Earnings were $1.76 for the year, with a dividend yield at 1.09%. Revenues topped $2.7 billion, with a net profit margin of approximately 8.83%. In terms of historical growth, LM has grown its free cash flow and book value by an average annual rate of 22.7% and 15.8% over the last 10 years.
Analysts at Jefferies recently lowered their price target of LM to $38, which yields a capital gain of 29.16% from its current trading price.
GuruFocus rated LM with the business predictability rank of 1 star.
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