Diamond Hill Capital's Top 5 Third Quarter New Buys
Most of Diamond Hill’s companies are up for 2011:
Diamond Hill employs a bottom-up stock picking approach that begins with an analysis of a company’s fundamentals, and is followed by a top-down analysis of industry dynamics, but not macro-economic factors. Then, they use their proprietary Diamond Hill Investment Model to estimate an intrinsic value for each company. They seek not only stocks with a discount to intrinsic value, but a capacity to grow as well.
They finally initiate a position when they have identified a margin of safety, with the size of the purchase being dependent on their confidence level in their intrinsic value estimates. They monitor their investments constantly and conduct ongoing reach as the relationship of the price to estimated value as the market conditions change.
Top Buys of the Third Quarter
Diamond Hill’s top purchases and the percentages they make up of the portfolio are Nike Inc. Cl B (NKE) (1.2%), Juniper Networks Inc. (JNPR) (.38%), NACCO Industries Inc. Cl A (NC) (.11%), Live Nation Entertainment (LYV) (.1%) and Alere (ALR) (.06%).
Nike Inc. Cl B (NKE)
At the center of Nike’s business is a long-term strategy to deliver quality, long-term growth – a key criterion for Diamond Hill. Last May, it outlined specific goals in three financial dimensions – growth, profitability and capital efficiency – it aims to meet by fiscal year 2015.
The company’s strategy for growth involves building personal connections with consumers, delivering innovation and must-have products, and creating an integrated marketplace of compelling consumer experiences, in store and online. For profitability, it aims to achieve revenue growth at a high single digit rate and for capital efficiency, it aims to achieve mid-teens EPS growth by expanding gross margins, leveraging SG&A and generating financial leverage.
Another of Nike’s initial 2015 profitability goals was to reach $27 billion of revenue, but they updated guidance to $28 billion to $30 billion after strong results in the early stages of the plan.
Nike also has a potentially enormous growth opportunity in China and Brazil. Already, it has operated in the country for almost 30 years and grew its business to $2 billion last year, double the amount of revenue since 2007, as the self-described “number one brand in China today.” In the next few years, however, Nike plans to double its business yet again.
Though China won the most gold medals in the 1998 Beijing Olympics with 51, the sports industry in China accounted for only 0.52% of China’s 2008 GDP.
In fiscal 2011, the U.S. accounted for 43% of Nike’s total revenues, compared to 42% in 2010 and 2009. Non-U.S. sales accounted for 57% of total revenues, compared to 58% in fiscal 2010 and 2009. Sales revenue to Greater China increased 18% from 2010 and sales revenue to emerging markets grew 24%. The greatest decline was in Japan, which fell 13%.
Nike Inc. Cl B has a market cap of $42.61 billion, with a P/E ratio of 19.9 and P/S ratio of 2. The dividend yield of Nike Inc. Cl B stocks is 1.4%. Nike Inc. Cl B had an annual average earnings growth of 11.8% over the past 10 years. GuruFocus rated Nike Inc. Cl B the business predictability rank of 4-star.
Juniper Networks Inc. (JNPR)
Juniper Networks Inc. is the second-largest maker of networking equipment and competes with companies like Cisco (CISCO) and Alcatel-Lucent (ALU).
The company released its third quarter results on Oct. 18. Revenue increased 9% year over year, to $1,105.8 million. Net income, however, declined 13% year over year and 10% sequentially. Annual revenue has increased from 2009 to 2011. Return on equity and margins all stand near 10-year lows.
Juniper is aligning itself to take advantage of the rise in cloud computing, which is web-based software and data.
“In 2010, we experienced increased demand for our products and services due to growing network demand. As more traffic is carried over the Internet, computing is centralized in massive data centers and more people in businesses rely on digital devices connected to the network. Strategically, we are making progress toward our vision of the New Network by expanding our portfolio of products and solutions through organic growth and acquisitions, and aligning those products with mobile internet and cloud computing market trends,” the company said.
It has launched a number of new products toward that end. Recently, on October 14, Dell (DELL) selected Juniper to help secure one of its cloud data centers.
Diamond Hill held Juniper since the fourth quarter of 2008, but sold out in the second quarter of 2009. It reentered in the third quarter 2011, buying 1,564,553 shares at an average price of $23.93.
Juniper’s stock price dropped off sharply at the end of July. It has fallen 42.5% year to date and now trades for $21.22.
Juniper Networks Inc. has a market cap of $10.96 billion, with a P/E ratio of 18.6 and P/S ratio of 2.7. Juniper Networks Inc. had an annual average earnings growth of 6.2% over the past five years.
Nacco Industries Inc. Cl A (NC)
Nacco Industries originated as a mining company and has grown into an operating holding company with subsidiaries in a diverse blend of industries: life trucks, small appliances, specialty retain and mining. Like Nike, Nacco puts growth at the front and center of its business strategy.
The underlying core public shareholder base has been in place for a long time and is very secure. It has put the company in a position of being able to take a long, but very disciplined view in serving the interest of our shareholders as effectively as we can. We are prepared to invest where we think the opportunities are, incur expenses when we think the opportunities require it and to be patient in terms of the appropriate timing of the results of those corporate actions,” Nacco CEO Alfred M. Rankin Jr. said in a June 2007 interview with The Wall Street Transcript.
For the six months ended June 30, 2011, the company reported net income of $82 million on revenues of $1.6 billion, compared to net income of $15.3 million on revenues of $788.9 million for the first six months of 2010. In the second quarter of 2011, two of the company’s segments had lower year over year revenue – Hamilton Beach and Kitchen Collection. Both were and continue to be challenged by high unemployment rates and financials concerns of consumers. Its other two segments, North American Coal and NMHG reported increased year over year revenue, with NMHG posting the strongest growth with a 57% increase.
Shares of Nacco hit a new 52-week low of $56.53 on October 3. Since then, the price has increased and trade for $72.43 Friday, but is still far off of its high earlier in the year of $132.69.
Diamond Hill bought 122,267 shares of Nacco Industries in the third quarter at an average price of $80.75.
Nacco Industries Inc. Cl A has a market cap of $593.4 million, with a P/E ratio of 6.2 and P/S ratio of 0.2. The dividend yield of Nacco Industries Inc. Cl A stocks is 3.1%.
Live Nation Entertainment (LYV)
Livenation is the world’s leading entertainment and eCommerce company. It operates four market leaders: Ticketmaster.com, Live Nation Concerts, Front Line Management Group and Live Nation Network. In September it entered into a strategic partnership with Universal Music Group (UMG), the world’s leading music company.
The company’s revenue increased 21% to $2.4 billion in the first six months of 2011 compared to the first six months of 2010. Its most profitable segment, eCommerce, increased 80.5% in the same period. The company said that growth was driven by increased ticket sales, improved show profitability in concerts and growth in its advertising business.
The concert industry fumbled in 2010. Gross revenue for the top 100 tours dropped 13% to $2.2 billion from $2.5 billion in 2009, according to trade magazine Pollstar. Ticket sales dropped 12% to $37.5 million. New statistics indicate it may be on the rebound, however. Concert revenue increased 11% in the first six months of 2011, though overall ticket sales decreased 2.1%.
Year to date Live Nation’s stock price is down 22.6% to 8.84%. Diamond Hill bought 887,510 shares at an average price of $9.73 in the third quarter of 2011.
Live Nation Entertainment has a market cap of $1.62 billion, with and P/S ratio of 0.3. It had an annual average earnings growth of 3.7% over the past five years.
Alere Inc. provides diagnosis, monitor and health management solutions through its professional diagnostics, health management and consumer diagnostics segments in more than 25 countries. The company aims to help people have better health, less urgent medical interventions, fewer hospital visits and reduced healthcare costs.
In the second quarter of 2011, the company had net revenue of $567.2 million, compared to $523 million in the second quarter of 2010. Alere’s results were hampered by broad economic pressures. These include FDA labeling changes which led to a loss of a drug therapy, less willingness for states to commit funds to existing programs, reimbursement rate changes and a new direct thrombin inhibitors entering the market which will reduce the large number of individuals taking warfarin. Capital expenditures were unusually high in the quarter ($85.7 million) as the company added more capacity to its South Korean manufacturing site, which was a significant obstacle to growing more in emerging markets. Alere believes the financial results of the action should be noticeable by the second half of 2011.
Alere has increased its revenue every year for the last ten years, and made $2.2 billion in 2010. Net income was negative $1 billion, down from a gain of $33.7 million in 2009. The company also has a long-term perspective and always thinks at least three to five years in the future. It has introduced new products that have yet to take root which it believes will positively impact results going forward.
PricewaterhouseCoopers released a report in 2009 saying that personalized medicine would transform healthcare institutions by 2020 as people are taking more charge of their health. PWC said it was “extremely bullish on prospects for dramatic improvements in healthcare.”
When it reported that it was lowering guidance in its second-quarter results at the end of July, the price of the stock dropped sharply. Year to date the price is down 41.4% to $21.47 on Friday. Diamond Capital bought 209,210 shares of Alere at an average price of $27.52 in the third quarter of 2011.
Alere has a market cap of $1.77 billion, a P/E ratio of 8.3 and P/S ratio of 0.9.
To view all of Diamond Hill’s current portfolio, go here.