Ruane & Cunniff & Goldfarb Comments on Berkshire Hathaway, Mohawk Industries, Expeditors International, and Whole Foods
On Mohawk Industries (MHK)
Mohawk Industries Inc. is one of the leading producers of woven and tufted broadloom carpet and rugs for principally residential applications.The company designs manufactures and markets carpet and rugs in a broad range of colors textures and patterns. Mohawk Industries Inc. has a market cap of $3.29 billion; its shares were traded at around $48.1 with a P/E ratio of 81.5 and P/S ratio of 0.5. Mohawk Industries Inc. had an annual average earning growth of 13.5% over the past 10 years. GuruFocus rated Mohawk Industries Inc. the business predictability rank of 4.5-star.
Ruane Cunniff owns 8,535,129 shares of MHK as of 06/30/2009, which accounts for 4.41% of the $6.9 billion portfolio of Ruane & Cunniff & Goldfarb Inc. MHK has been a long term holding for at least 9 years. In 2007 it was traded at above $100.
Comment from Sequoia Fund managers:
Mohawk sells floor covering. Its sales are driven primarily by existing home sales, commercial construction and remodeling and, to a lesser extent, new home sales. It's no news that we haven't been buying or selling a lot of houses, and we haven't been building many houses. In fact, we built way too many houses. And it's going to take a long time for that excess inventory to get sopped up.
One way to think about Mohawk today, and to put it into the context of Bob's comments, is to look at the pluses and minuses for the company as it exists now, given the way we feel about the economy. On the downside, of course, is this continuing contraction of consumers' spending and their being more thrifty — obviously, it's better if people are going to throw around a lot of money, buy vacation houses, and put flooring in — Mohawk will suffer from that.
But the structure of the company is such that it's in a pretty good position, even if people are going to be thrifty because its product line goes from goods that are very expensive to those that are very inexpensive. If the consumer moves down market, Mohawk still stands in a good position to capture a lot of that business. Carpet can be a relatively inexpensive or an expensive type of floor covering. Mohawk also makes high quality laminate, which is an economical alternative to wood flooring. So there's that. The price range for Dal-Tile's offerings like that of the carpet business goes from very affordable to very expensive. The company is well positioned for thrifty consumers, and if you want to spend a lot of money, they have expensive things to sell you as well.
On the other side, somewhat offsetting a longer-term contraction of consumer spending, is the fundamental driver of housing, which is household formation. And that is simply going to continue no matter how thrifty we are. If you just look at the demographics, the people who are alive today — college students — my son and daughter are eventually going to move out of the house — we would like them to be there forever, but they're going to move out. And they will have to form households. They will have to buy houses; and they will have to buy flooring.
If you just look at the numbers, there's a very big demographic wave coming to create demand for housing in the future. So it's very, very difficult to tell how long the recovery in demand is going to take, but the fundamental driver of housing is still there. It's alive and walking around. So I think over the long run Mohawk will be fine.
It will be difficult for it to produce the same volume of sales as in the past because there's not going to be a housing boom. But again, partially offsetting that, the business itself — the whole industry has contracted. Marginal players are strapped. They're going to be dropping out. Mohawk itself has radically downsized; management has laid off 20 percent of its workforce over the past year. And they've idled a lot of assets, the least productive assets first — which is what your common sense would tell you to do. When demand returns, Mohawk will be manufacturing with its most productive assets. So over the long run, it will be okay. When exactly that is going to happen I'm not prepared to say because I don't know.
What I would add to that is Mohawk has a terrific family ownership. It's the kind of owner-manager whom we really like. It has a very good duopoly position in the industry. Shaw is the other major flooring company. With only two large companies in that industry, you should have very rational pricing over time. They are much stronger than any of the smaller companies.
Expeditors International Inc. is engaged in the business of providing global logistics services. The company offers its customers a seamless international network supporting the movement and strategic positioning of goods. It has a market cap of $6.79 billion; its shares were traded at around $31.96 with a P/E ratio of 25.2 and P/S ratio of 1.2. The dividend yield of Expeditors International Of Washington I stocks is 1.2%. Expeditors International Of Washington I had an annual average earning growth of 18.2% over the past 10 years. GuruFocus rated Expeditors International Of Washington I the business predictability rank of 5-star.
Sequoia Fund started to own EXPD since 2002, when it iwas traded at around $15 a share. The fund has been reducing its position in EXPD since 2007. Ruane Cunniff owns 9,127,076 shares as of 06/30/2009, which accounts for 4.41% of the $6.9 billion portfolio.
Expeditors experienced a 30 percent decline in volume last quarter, which is enormous. The global market contracted about 20 percent, but Expeditors consciously gave up some business because it wasn't priced properly. As a result, their profits didn't fall nearly as much and what they call their net revenue, which is where they make their money, fell only 10 percent. Their operating profit fell only about 13 percent. What they're able to do is really optimize their network so that they can squeeze as much profit out of their operations as humanly possible. They're a terrific company.
... I'd add that it wouldn't surprise me if the unit volumes that we saw in the first quarter marked the nadir of the decline. Our retailers as a whole are big customers of Expeditors. In response to very weak sales in the fourth quarter, they ordered very, very little merchandise to be shipped in the first. We're beginning to see some of those retailers say that they're losing sales because they didn't buy sufficient inventory. I don't think it will be a quick turnaround, but again, it wouldn't surprise me if there were some improvement going forward.
On Berkshire Hathaway (BRK--A) (BRK-B)
Berkshire Hathaway is the largest holding of Ruane Cunniff & Goldfarb. It owns 19,571 shares as of 06/30/2009, which accounts for 25.52% of the $6.9 billion portfolio. Berkshire has been a permanent holding of Sequoia, which is not surprising considering the trust between Warren Buffett and Bill Ruane. But the number of shares they own has been in steady decline, from more than 46 thousand shares to less than 20 thousand shares as of 06/30/2009.
The interesting thing about Berkshire Hathaway is that for most of the time we've owned it, it's had a lot of cash. There's always been a lot of dry powder since Berkshire acquired Gen Re in 1998. I don't know if rooting is the verb I want to use, but Berkshire was always very well positioned for a certain amount of distress, blood in the streets, credit being tight, stocks being down, and businesses getting cheaper.
Now, Buffett has basically put all his money to work, which is good. We have new sources of earnings from the preferred stock in GE, the preferred stock in Goldman Sachs and the loan to Wrigley, which also has a double digit yield. There is also a recent convertible debenture or, I should say, contingently convertible debenture in Swiss Re. He lent a lot of money to a lot of pretty good corporate credits from Vulcan, which we own, to Tiffany, Sealed Air, and Harley-Davidson. He's getting 10-12 percent yields on all these instruments.
Going into this crisis, there were some exposures to high yield bonds and the credit default swaps that Buffett wrote about last year. I'm not as worried about the S&P puts. I think there's enough time for corporate America over the next 15 years to increase its earnings to levels and valuations such that Berkshire would not have to pay anything.
But like many businesses in America, Berkshire's earnings have been suffering from the crisis and the recession. A number of its businesses have been affected. These include the lending businesses in which Berkshire is an investor such as American Express, Wells Fargo, and some other banks. Furthermore, many of the wholly-owned businesses such as the building products companies, the retailers and apparel businesses, Clayton Homes, Iscar, and NetJets have been severely affected by the economic contraction. As Bob was talking about earlier, it's very hard these days to know what the new normal is. Shaw earned ... I want to say $594 million pre-tax at the peak. The building products companies — Manville, Acme, Benjamin Moore and MiTek — I think earned almost $900 million at the peak. Whether that $900 million is going to be $500 or $600 million or $400 million in what we now think could be a normal environment going forward is a subject to debate. But the earnings will rebound. How much higher, it's a little hard to say. But the earnings of these businesses will recover when the economy comes back.
Berkshire is a very resilient corporation. The various insurance companies don't earn the same amount every year because their underwriting margins go up and down, but they are not really economically sensitive. And the utility business is mostly recession resistant, as is McClane. I think about half of Berkshire's peak earning power came from relatively recession resistant businesses whether they were these wholly-owned businesses or some of the stocks it owns like Wal-Mart, Coke, and Johnson & Johnson. There's a strong base of earnings that will see Berkshire through almost any kind of economic scenario. At the current valuation, I think you're paid quite well to hold on to the stock.
On Whole Foods:
Whole Foods Market is the largest purveyor of natural foods in the world. They own and operate the country's largest chain of natural food supermarkets. Whole Foods Market Inc. has a market cap of $3.82 billion; its shares were traded at around $27.19 with a P/E ratio of 33.6 and P/S ratio of 0.5. Whole Foods Market Inc. had an annual average earning growth of 14.7% over the past 10 years. GuruFocus rated Whole Foods Market Inc. the business predictability rank of 5-star. Ruane Cunniff sold out his holdings in the quarter that ended on 06/30/2009.
In responses to the questions of "If consumers are going to be more careful with their spending, why do you continue to hold Whole Foods?"
It's a fine company. Again, we're kind of suckers for these entrepreneurial visionaries. We feel Whole Foods still has good growth prospects. There's no question in this kind of economy, the prospects are dimmer than we thought a year ago. ... but the capital allocation over the last couple of years is just not up to the standard that we normally demand of the companies in the portfolio. So that's another issue that we have to think about with Whole Foods. They run a very, very good store. I think we made a mistake in that stock purchase.