Investing with Jensen Quality Growth

11/25/2015 10:00 am EST

Focus: STOCKS

Kevin Walkush focuses on a concentrated portfolio of just 25 to 30 high quality, all-weather stocks meant for conservative investors seeking long-term growth. Here, the manager of Jensen Quality Growth Fund discusses his investment strategy and several favorite all-weather stocks.

Steven Halpern:  Our special guest today is Kevin Walkush co-portfolio manager of the top rated Jensen Quality Growth Fund (JENSX).  How are you doing today, Kevin?

Kevin Walkush:  I’m doing great.  Thanks for having me here today.  

Steven Halpern:  You focus on companies that could be considered all-weather investments.  Could you explain this?

Kevin Walkush:  Sure, we’re focused on building a portfolio of companies that deliver superior long-term returns over a market cycle with less volatility.  We believe all-weather—or quality—companies enable us to do that.

Typically these companies share common attributes such as high returns on capital while in excess of their cost in capital and they do this with relatively consistent returns.  

To identify these businesses we look for ones with formidable and sustainable competitive advantages, strong management teams, robust free cash flow generations that allows the company to invest in its future and pay out to existing shareholders, and then ultimately, again, companies that are resilient and can produce these high returns throughout a full business cycle.  

Steven Halpern:  Now your portfolio is highly concentrated on just 25 to 30 of your favorite holdings. Could you walk us through some of what goes in to coming up with this small universe of stocks?

Kevin Walkush:  Oh, absolutely.  I think what’s really important again, is just how do we focus on...like you said, so what we do is, what we are looking for are those companies that, again, have really high returns on capital loan in excess of their cost of capital and for them to be able to consistently and sustainably do this.  

What we do is we employ an initial stringent screen that really allows us to hone in on those companies that we believe can realize that opportunity for us, so what we do is we employ an initial screen that a domestic based company has to have a minimum market cap of a billion and return a minimum of 15% return in equity for ten consecutive years.  

Now out of all publicly-traded domestic stocks that whittles the universe for our portfolio to 220 companies, and then from there, what we do is we employ additional metrics such as growth and earning attributes—to name a couple—to help us identify those companies to further research for the potential inclusion into the Jensen Quality Growth Portfolio.  

Once we’ve identified the next level of candidates, then our research team performs deep fundamental analysis on these candidates to identify the attributes that I mentioned earlier.

Then, what we’re ultimately looking then for is...does the company generate robust and consistent free cash flow generation that the company can use to reinvest and distribute to shareholders over an entire cycle?  

Once the team sort of identified those that are fundamentally worthy, we apply our evaluation methodology to understand these companies’ intrinsic value and once we determine that—based on fundamentals and valuation—the team constructs the portfolio and a hallmark of our fund is low turnover, so when we make an investment our intent is to find companies that generate shareholder value for a long time.  

Steven Halpern:  Now, could you touch on the valuation metrics that you consider when deciding to sell a stock?

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Kevin Walkush:  Sure.  We use discounted cash flow analysis to evaluate our companies and determine what we believe the intrinsic value is for a company. We believe discounted cash flow analysis enables us to better understand how a business’ fundamentals translate into shareholder value generation and we’ll invest in a company that we believe has strong fundamentals and is at a discount to our estimation of that intrinsic value.

We’ll sell a company when it exceeds that estimation of intrinsic value. We’ll also sell a company if it breaches that 15% return on equity screen and then we’ll also sell a company if we believe there’s a better idea for the portfolio.  

Steven Halpern:  Let’s look at a few examples of stocks that meet your strict criteria as all-weather ideas.  One is Becton Dickinson & Company (BDX). What’s the story here?

Kevin Walkush:  Becton is a diversified global healthcare company that’s the world’s leading producer of needles and syringes.  Becton commands 70% of the global market and produces more than 29 billion syringes per year.  

We believe that Becton benefits from the distinct scale advantage and that company continues to innovate despite its focus on a mature need and syringe market.  Currently Becton is in the process of introducing safety-engineered needles throughout the world.  

The company has posted an average return on equity at 24% for the last ten years.  Based on our view—the company’s strong fundamentals and favorable valuation—Becton is currently our largest holding.  

Steven Halpern:  Now, within the tech sector you particularly like Microsoft (MSFT). What’s the attraction here?

Kevin Walkush:  Microsoft is the world’s largest software company, which caters to both enterprises and consumers, yet its core expertise is operating systems and office productivity software where it dominates both markets, but it also competes in enterprise and consumer cloud markets as well as in an online search and console gaming.  

The company really is doing a very good job in our opinion of navigating the transformation of software to the cloud.  We believe they’re very well positioned as a long-term leader in this phase.  We also believe the company is led by a strong CEO, Satya Nadella.  He’s done a great job of positioning the company for future growth.  

Steven Halpern:  Now, finally, a third company that makes your list is 3M (MMM) the industrial and consumer products company.  What do you like in this situation?

Kevin Walkush: To us, 3M makes a wide range of products that levers the company’s core expertise, the material science and process technologies.

3M enhances its competitive edge by combining it with really strong branding. This enables the company to position its products at the premium end of its markets and command pricing power.  

We believe it’s this coupled with its global diversification is why the company has been largely able to avoid the market downdraft experienced by many industrial companies this year despite currency in emerging market exposure.  

Over the years, 3M has been very consistent.  It’s a company that’s generated an average of 30% return in equity for the ten years and has done a very good job, in our opinion, of reinvesting its business, but also returning cash to shareholders.  

Steve Halpern:  Again, our guest is Kevin Walkush of the Jensen Quality Growth Fund.  Thank you so much for your insights today.  

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