Value Gurus

04/06/2016 10:00 am EST

Focus: STRATEGIES

Matthew Castel

Head of Strategy, Logos LP

Money managers Peter Mantas and Matthew Castel of Logos LP explain their long-term strategy and the fundamental factors that assess in determining a stock’s value. They also discuss favorable trends – and two favorite stocks -- in the auto parts sector.

Steve Halpern:  Our special guests today are value managers Peter Mantas and Matthew Castel of Logos LP.   How are you guys doing today?

Matthew Castel:  Hey, Steven, doing well, this is Matt here.  

Peter Mantas: Hey Steve, its Peter.  How are you?

Steve Halpern:  Very good.  Thanks for taking the time.  Before we look at some specific stock ideas, Peter, could you tell our listeners about Logos LP and explain the underlying goals and strategy of the firm?

Peter Mantas:  Sure thing, Steve.  Logos LP is hired as a private investment partnership and we take an interdisciplinary approach to value investing.  

We generate exceptional risk adjusted returns as a lever long level equity strategy and this allows us to help investors achieve their glove goals.  

We also have a weekly update newsletter that we provide that you just can subscribe to on our website to really gain insight into more market knowledge and some pick that we may have.

Steve Halpern:  Now, Matthew, as head of strategy at Logos LP, could you explain some of the fundamental criteria that you consider most important and how you use these measures to determine a stock’s value.

Matthew Castel: Absolutely, so Steve, we sort of, I guess on a basic level we try and do two things.  

We own good businesses for the long term so here we’re looking at the quality of the business so I don’t know, things like the nature of the industry in which the business operates, the impressiveness of the management team, the board of directors, the corporate culture.  

Here we’re looking for businesses that possess something that we like term superior economics and not expanding value.  

Then secondly, we, of course, like to own more of the good business that are priced below their intended value and less of that are priced at a premium.

So here, in our analysis, we’re not really trying to determine what price a business’s shares should trade but rather the fundamental value of the business which comes from all its future profits and dividends.

Steve Halpern:  To better explain your strategy to our listeners let’s walk through a couple of specific recommendations that will help highlight your approach.  

Interestingly you both recently issued recommendations in the auto parts sector.  Could one of you highlight some of the general trends that you see in the industry and what makes it attractive from your value outlook?  

Matthew Castel:  Sure, no problem.  You mention the value outlook and, of course, we like to look on micro level.  I mean we always have trouble with people saying oh, the stock markets’ overvalued or something -- making these generalizations.  

We sort of like to look deeply at particular industries, particular businesses that we think offer opportunities so when it comes to the auto parts sector what we’ve sort of noticed are kind of three trends.  

The first is that the average age of vehicles is really continuing to climb at least for now and that’s making the auto parts sector a little bit more conducive to growth.  

Secondly, we see OEM globalization is quickly becoming the new norm so parts are coming from all over the world and we think that, and are being sourced from all over the world, and therefore, that offers these businesses supply chain advantages to go global.

Then third, we’re looking at OEM technology advances are continuing to provide the automotive aftermarket industry with challenges.

So if you were looking at the lack of a level playing field along the aftermarket value chain but also opportunity and so we see that with the advent of hybrid vehicles and also the growth of, in time, autonomous vehicles.

Steve Halpern:  Peter, you’re recently issued a bullish report on Monro Muffler (MNRO).  Can you tell us about the company and its prospects?  

Peter Mantas: Monro Muffler is based in, I believe, Rochester, New York.  It’s a leading provider of automotive repair tires and other part services, has been growing steadily during this turbulent time.  The real story is two-fold.  

They have a very strong operating metrics that I have not been able to see in many auto part sectors so they have 32% return on capital to increase their earnings for the last five quarters by 50 million.  

They also made a recent acquisition which also created a bump in their revenue for 2015.

But the key growth factor for this company -- with their spike, their growth, in their tire segment and their repair segment in the mid to single digits -- will be consolidation in the independent dealer space and that’s really where the growth is going to come from for Monro Muffler.  

Steve Halpern:  Now, Matthew, you’ve been researching a small cap firm in the auto parts space, Dorman Products (DORM).  What’s the attraction here?

Matthew Castel:  Lately, we’ve been having a little bit more difficulty than usual finding value in the larger cap space, even the mid cap space.

So what we’ve been sort of doing is casting our net on more small cap quality names looking for growth in this sort of more difficult market, so we are looking at businesses under the $2 billion market cap.

What sort of caught my eye right off the bat is the fact that the founding family of Dorman Products actually owns 24% of the company which I think is a really good indicator that this is a business that sort of demands a closer look.  

This is a supplier of replacement parts and fasteners for light trucks, heavy duty trucks, passenger cars, in the automotive aftermarket.

We see it as an excellent business whose product portfolio focuses on niche offerings as the dominant aftermarket supplier of formerly dealer only parts so typically we like finding businesses that focus on a particular niche so that definitely caught our eye there.  

Also, it has incredibly strong operating metrics so we’re looking at a five-year net income CAGR of around 14%.  

Net sales have been growing at a five-year CAGR of about 13% and that’s all organic growth.  Gross margins, operating margins have remained steady at around 38% and 20% respectively and in terms of valuation we thought that it was attractive.  

I think its trading at around 20 p/e versus an industry 12 which seems high on its face, but based on a proprietary earnings base discounted cash flow model we’re looking at a fair value here of around close to $7.

So in the future, we also expect the company to continue to expand market share. So it’s an opportunity that we believe will definitely offer value over the long term.  

Steve Halpern:  Again, our guests are Peter Mantas and Matthew Castel of Logos LP.  Thank you so much for your time today.  

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