Steven Romick is one of the directors of the Arden Group Inc since 2003. He also has been an investment advisor and a member of First Pacific Advisors, LLC, which is an investment advisory firm, for over five years. Furthermore, Mr. Romick has served as the Chairman of the Audit Committee of the Company since the year 2005 and, due to his financial and accountability knowledge, he has been appointed as an audit committee financial expert. Mr. Romick boasts 25 years of financial experience, including analyzing and investing in a number of public companies. His knowledge as well as understanding of public companies, financial statements and financial information has proven highly useful to the Company. In addition, Mr. Romick serves on the Investment Committee of the Company. FPA Crescent's value has risen by more than 150% since the moment it got off ground, while the S&P 500 has increased just 30% during the very same period. Such disparity may be attributed to Romick's predilection for risk-aversion: the mutual fund managed to capture 80% of the gains of the S&P 500 in months at the time it rose and did suffer just 55% of the losses at the time it fell, and it even remained a third less volatile than the index, during the first 17 years.
Steve Romick embraces security-level and top-down analysis. As a self-proclaimed "free-range chicken," he invests throughout asset classes, sectors, geographic boundaries and market caps in pursuit of equity-like returns. He is unlikely to bite unless valuations are well below an investment's inherent worth. Romick is always mindful of risk and often views it with a big-picture perspective.
Currently, Romick stated that banks have fallen to levels last seen during the bank crisis of the early 1990s. He has reported on scooping up three great banks, which were trading on average at 7 times normalized earnings as well as 85% of their book values. These new holdings, which Romick has decided not to disclose but that (according to FPA regulatory filings) are Bank of America, Bank of New York and Citigroup, amount to merely 1.5% of the assets. Better fundamentals and lower price tags would usually point towards a much larger stake, but he has kept position sizes small by reason of larger concerns, including China's real estate bubble and heavy government debt, which could possibly send the markets reeling.
From an investor's perspective, I think it is interesting to focus on stocks that are came from Romick's portfolio. By analyzing them, I found a number of reasons why Romick could have been attracted to invest. I usually search for companies that I can understand, primarily companies with favorable long-term prospects, operated by competent individuals and, above all, available at attractive prices.
Abbott Laboratories (ABT)
Abbott Laboratories, based in Abbott Park, Illinois, is engaged in discovering, developing, manufacturing and selling quite a diversified line of healthcare products. Since January 1, 2011, Abbott has reorganized its segments after the creation of a new segment, Established Pharmaceuticals, consisting of its internationally branded generic pharmaceutical products. Furthermore, this company has also combined its international and domestic proprietary pharmaceuticals businesses into one single worldwide division. After such reorganization, Abbott now posts revenues in five segments: Proprietary Pharmaceutical Products, Diagnostic Products, Established Pharmaceutical Products, Nutritional Products and Vascular Products. Abbott sells both domestically (41%) and internationally (59%).
I think that Romick invested in ABT because the company's pharmaceutical products continue to perform well, since sales are being driven by its key drug Humira, which is an anti-inflammatory product. Humira is fast becoming the anti-tumor necrosis factor [TNF] drug-of-choice, and thus, it is conquering a considerable market share from Amgen/Pfizer's Enbrel and Johnson & Johnson's Remicade. As it is approved for numerous indications, I think Humira has a blockbuster potential as regards the psoriasis indication alone on account of its first-in-class efficacy and its convenient self-administration. Humira sales rose 21.1% to $7.9 billion in 2011. A growing awareness, beneficial clinical data, more indications and expansion into new markets (China, Japan, etc.) are likely to help the product to continue contributing considerably to the company's top-line. Furthermore, Humira also has the potential to treat different diseases like ulcerative colitis and pediatric Crohn's disease, which Abbott is currently looking to seek approval for. In addition, Humira is being reviewed in the U.S. and the E.U. for moderate-to-severe ulcerative colitis. Finally, Humira is also being developed for indications like uveitis (phase III; possible market entry in 2013) as well as chronic skin disease (possible market entry in 2014). In case of approval for more indications, another $1 billion could be added to peak sales forecasts for Humira.
Another important reason Romick must have found to invest in ABT is that Abbott has proved extremely acquisitive during the past few quarters. In addition to the 2006 acquisition of Guidant's vascular operations, which assisted Abbott in strengthening its presence in the ever growing vascular market, Abbott has also recently closed a series of transactions that are likely to contribute substantially to growth. Such acquisitions will most likely accelerate Abbott's core growth rate during the next few years while at the same time enhancing profitability as well as better positioning the company for the long-term. In 2009, the addition of AMO allowed Abbott to diversify its product line. In the meantime, Abbott's acquisition of Solvay's pharmaceutical business not only enlarged Abbott's portfolio, it has also enabled Abbott to strengthen its presence in the European market and in emerging markets, where also Solvay has a strong presence. More importantly, such transaction has afforded Abbott the opportunity to access the attractive global vaccines market. Also, Abbott's licensing agreement with Zydus Cadila and the company's acquisition of Piramal Healthcare Solutions will most likely help the company to reinforce its position in India and grant it access to low-cost manufacturing.
The Current Net Profit Margin of ABT is 12.17, currently lower than its 2010 margin of 13.16. I do not like it when companies have lower profit margins than the past. That could be a reason to analyze why that happened. Its Current Return on Equity is 20.20. It is higher than the 20% standard I look for in companies I invest in, and lower than its 2010 average return on equity of 20.45.
In terms of income and revenue growth, ABT has a 3-year average revenue growth of 9.58 and a 3-year net income average growth of -1.05. Its Current Revenue Year over Year growth is 10.48, lower than its 2010 revenue growth of 14.31. I do not like it when current revenue growth is less than the past year. It generally shows that business is decelerating for some reason. The current net income year over year growth is 2.21, higher than its 2010 average of -19.49. I like it when net income growth is higher than the past.
In terms of valuation ratios, ABT is trading at a Price/Book of 3.7x, a Price/Sales of 2.3x and a Price/Cash Flow of 10.1x in comparison to its industry averages of 2.9x Book, 2.5x Sales and 10.2x Cash Flow.
By reason of its acquisitions, Abbott has less cash than its peers, but its robust and comparatively stable cash flows will most likely easily fulfill interest expenses with vast reserves left for share repurchases, small acquisitions and increases to dividends.
Amgen Inc. (AMGN)
Amgen is among the world's largest biotechnology companies, with its manufacturing, its distribution and its sales facilities based throughout the world. Amgen is focused primarily on developing products in the areas of nephrology, supportive cancer care and inflammation. Amgen utilized advances in molecular and cellular biology to produce two of the biotech industry's earliest as well as most successful drugs: Neupogen (white-blood cell stimulant) and Epogen (for treating anemia). In the meantime, with its acquisition of Immunex Corporation, Amgen gained access to Enbrel, the blockbuster arthritis and psoriasis drug.
Romick bought this stock because, despite the fact that Amgen missed its estimates in the fourth quarter of 2011, Amgen's guidance for 2012 was actually better than expected. Amgen does expect earnings in the range of $5.90 - $6.15 per share on revenues ranging from $16.1 to $16.5 billion which stands well above average analyst estimate of $5.46 per share. Cost control and share repurchases will most likely help the company to attain at least the lower end of its own guidance range.
I am definitely positive on Amgen's cooperation with GlaxoSmithKline, an agreement whereby both companies are bound to share the commercialization of denosumab for the osteoporosis indications in Australia, New Zealand, Europe and Mexico. Glaxo will commercialize denosumab for indications in countries such as India, Brazil, China and Taiwan, where Amgen lacks a commercial presence. Glaxo's solid marketing presence in such areas and its expertise in the primary-care market will assist Prolia in capturing a significant share. In the meantime, Daiichi Sankyo will remain Amgen's licensing partner for denosumab in Japan, where the product won approval as Ranmark for reducing SREs in patients with metastatic bone disease in January 2012. I am very much pleased to know that the company is working on strengthening its presence in the international markets, which hold a considerable commercial potential. Amgen expects to cash in more than $1 billion in sales from the new and the emerging markets by 2015. Latin America and Asia are bound to start contributing to Amgen's international growth during the following five years.
The Current Net Profit Margin of AMGN is 23.64, currently lower than its 2010 margin of 30.74. I do not like it when companies have lower profit margins than the past. That could be a reason to analyze why that happened. Its Current Return on Equity is 17.14. It is lower than the 20% standard I look for in companies I invest in, and lower than its 2010 average return on equity of 19.85.
In terms of income and revenue growth, AMGN has a 3-year average revenue growth of 1.27 and a 3-year net income average growth of -3.13. Its Current Revenue Year over Year growth is 3.51, higher than its 2010 revenue growth of 2.81. The fact that revenue increased from last year shows me that the business is performing well. The current net income year over year growth is -20.40, lower than its 2010 average of 0.48. I do not like it when current net income growth is less than the past year. I look for Companies that increases both profits and revenues.
In terms of valuation ratios, AMGN is trading at a Price/Book of 2.8x, a Price/Sales of 4.0x and a Price/Cash Flow of 12.1x in comparison to its industry averages of 4.8x Book, 5.4x Sales and 26.8x Cash Flow. It is essential to analyze the company's current valuation and check how it is trading in relation to its peer group.
Despite the fact that Amgen's fourth quarter results were not up to the expectations, Amgen's guidance for 2012 was in fact better than expected. Amgen is guiding towards earnings ranging from $5.90 to $6.15 per share on revenues ranging from $16.1 to $16.5 billion. Such guidance stood well above the average analyst estimate of $5.46 per share. Based share repurchases, not to mention cost control, are likely to assist the company in attaining at least the lower end of its own guidance range. I am bullish regarding Prolia/Xgeva, so I reckon that the company will apply its cash towards acquisitions and share buybacks or transactions that will help to improve its pipeline and drive its own long-term growth.
Amgen managed to end the third quarter of 2011 with $17.7 billion in cash and $14.5 billion in debt. Furthermore, the company has been raising an additional $6 billion in U.S. debt (and $1 billion-1.5 billion in euro- as well as sterling-denominated debt) in the late 2011 in order to fund a $5 billion tender offer for its stock as well as additional share repurchases. In spite of its additional leverage, I believe that the company's strong cash flows are putting it in a great position to keep growing its dividend program, which was announced recently.
e Bay Inc (EBAY)
eBay Inc. is one of the largest online retailers worldwide. The company began humbly with the objective of bringing together small sellers and buyers through an online auctioning platform and decided to float its IPO in 1998. eBay has undergone a considerable change since that beginning, with the number of buyers and sellers rising time and time again. After the disposal of its communications business, the company's revenues are posted under two segments: Payments (38%) and Marketplaces (57%).
Why did Romick invest in eBay? eBay's push into the mobile field is quite promising. As it did have an early start, eBay has managed to grow into one of its leading players. eBay's strategy is actually to attain growth by introducing useful mobile applications that can be easily installed on tablets or cell phones. With 14 mobile applications available and numerous on the way, eBay hopes to more than double its own mobile revenues during this year. Last year, eBay decided to acquire RedLaser, a bar-code scanning app for the iPhone, and offered it free of charge at the iTunes store (an app which was previously sold for $1.99). The application enables its user to read bar codes with the iPhone camera and thus to compare prices and SKUs with certain other points of availability, which allows the user to easily identify the cheapest seller. eBay will now be adding its lists, so that the products from eBay can be added to the selection. Nonetheless, as this can also be done by licensing the software, I am inclined to think that eBay seeks to build around this technology and to offer a similar functionality to other mobile devices that are based on Android, Blackberry, etc. A further important application is eBay Motors, which paves the way for purchasing a vehicle or even parts of a vehicle. Electronics purchases by mobile are soon also going to get easier.
In addition, Romick must have researched the fact that eBay enjoys a strong balance sheet: it has around $4.0 billion of cash and short-term investments, generating around $700 million of cash a quarter. The company is constantly converting more cash on hand into investments, so that short-term investments have risen from less than $200 million a couple of years ago to $1.01 billion during the last quarter. This is actually prudent, in consideration that interest rates remain considerably soft, so that the cash balance earns substantially less than it previously used to. Most notably, cash and short-term investments cover 16% of total assets; therefore, further expansion by means of acquisitions is possible. The company's debt position is comparatively small, with a debt cap ratio (inclusive of long-term liabilities and short-term debt) at merely over 18%.
The Current Net Profit Margin of EBAY is 27.72, currently higher than its 2010 margin of 19.67. I like Companies that increased profit margins in comparison to other years. It is essential to know the reason why that happened. Its Current Return on Equity is 19.44. It is lower than the 20% standard I look for in companies I invest in, and higher than its 2010 average return on equity of 12.38.
In terms of income and revenue growth, EBAY has a 3-year average revenue growth of 10.91 and a 3-year net income average growth of 21.98. Its Current Revenue Year over Year growth is 27.25, higher than its 2010 revenue growth of 4.91. The fact that revenue increased from last year shows me that the business is performing well. The current net income year over year growth is 79.31, higher than its 2010 average of -24.62. I like it when net income growth is higher than the past.
In terms of valuation ratios, EBAY is trading at a Price/Book of 2.6x, a Price/Sales of 4.0x and a Price/Cash Flow of 14.3x in comparison to its industry averages of 3.9x Book, 1.0x Sales and 11.8x Cash Flow. It is essential to analyze the company's current valuation and check how it is trading in relation to its peer group.
It is mandatory to analyze the current valuation of eBay in relation to its peers. EBay's trailing 12 months P/E is 17.7X, with one discount to the average of the peer group of 61.4X as well as a premium to the S&P 500 average of 13.9X. During the past five years, the shares have been traded in the range of 7.3X to 35.4X trailing 12 months earnings. As such, it is now trading underneath the middle of the historical range and it is indicating upside. Nevertheless, whereas the stock has usually traded at a considerable discount to the peer group, today's 53% discount (based on forward earnings for 2011) is actually less than it has been historically, which indicates that shares will most likely be range-bound.
eBay is in an admirable financial shape. As of December 2011, eBay held $5.9 billion in cash and short-term investments as well as $2.1 billion in debt. Total debt/EBITDA remained at 0.63 at the end of 2011, while the company's Cash Flow Cushion (i.e. cash on the balance sheet plus future cash flow split by debt and debt-like commitments in the following five years) is nearly 7 times, which implies that eBay will easily satisfy its debt obligations and has sufficient liquidity to accelerate its share repurchase activity. I am in fact comfortable with the incremental debt incurred for the acquisition of GSI Commerce on account of the company's strong cash position and free cash flow, which has averaged at 25% of revenue during the last three years.
Medco Health Solutions Inc (MHS)
Medco Health Solutions Inc. is one of the leading health-care companies that provide pharmacy benefit management [PBM] as well as Specialty Pharmacy services. This company offers services to clients as well as members of pharmacy benefit plans by means of a national network of mail order and retail pharmacies. Medco is positioned to cover the unique needs of patients with complex and chronic conditions with its Medco Therapeutic Resource Centers; its pharmacy care practice for diabetes, Liberty Medical; and the company's specialty pharmacy operation, Accredo Health Group (which is the largest American specialty pharmacy that is based on revenues). Medco posts in two segments: the Specialty Pharmacy segment (18.7% of revenues) and the PBM segment (81.3% of revenues).
In Romick's view, one of the attractive factors for investing is that, in the reported quarter, Medco received 2.2% of its revenues from services, which rose 46.9% to $378.7 million. This movement was mainly driven by the company's United BioSource (UBC) acquisition in September 2010 in addition to the expansion of its client base at Medicare Part D services. Medco's UBC acquisition has brought about promising results thus far, since more than 100 clients (in representation of nearly 40 million lives) have now become part of the Medco research consortium in order to participate in a UBC research study. UBC also caters to pharmaceutical and biotechnology firms and provides them with guidance as regards effectiveness, safety as well as the affordable use of medicines. Furthermore, Medco also conducts several studies for its clients, including cost-benefit and cost-effectiveness evaluations, risk evaluation and mitigation studies, etc.
Medco also focuses on consumer-directed health plans. With this, the company seeks to offer better care at low cost. By the same token, in January, the company also joined Castlight Health to establish a pilot program utilizing Castlight's directory of medical quality and cost-information as well as Medco's My Rx Choices feature. This shall assist the members when comparing the cost and quality of prescription drugs and healthcare services, in addition to clinically-validated recommendations and education for conditions like asthma, diabetes and cardiovascular disease.
A further element convincing Romick to invest is that positive factors for earnings growth have been the development of generic versions of branded pharmaceuticals as well as the increase in generic substitution. Generic substitution for drugs is an important factor for reducing most prescription healthcare costs. The generic drug usage, as a part of all prescriptions, is rising. As such, this is bound to rise further, inasmuch as patents of numerous key branded pharmaceutical products will be expiring in the next five years, and pressure will be mounting from sponsors for doctors to move patients to less expensive generic products. Between 2009 and 2020, drugs with nearly $116.5 billion sales in the United States are bound to go off-patent, which will prove beneficial for Medco throughout this decade. Specifically, generic introductions will be more important in 2012 and in 2013 than in 2011. Despite the fact that it is its highest selling drug, Lipitor (which has annual sales of nearly $12 billion) lost its patent in November 2011, so its impact will be felt mainly in 2012. Therefore, Medco expects to be able to record about $0.03 in incremental EPS in the fourth quarter of 2011.
The Current Net Profit Margin of MHS is 2.08, currently lower than its 2010 margin of 2.16. I do not like it when companies have lower profit margins than the past. That could be a reason to analyze why that happened. Its Current Return on Equity is 36.41. It is higher than the 20% standard I look for in companies I invest in, and lower than its 2010 average return on equity of 27.52.
In terms of income and revenue growth, MHS has a 3-year average revenue growth of 10.98 and a 3-year net income average growth of 9.69. Its Current Revenue Year over Year growth is 6.21, lower than its 2010 revenue growth of 10.31. I do not like it when current revenue growth is less than the past year. It generally shows that business is decelerating for some reason. The current net income year over year growth is 1.99, lower than its 2010 average of 11.48. I do not like it when current net income growth is less than the past year. I look for Companies that increases both profits and revenues.
In terms of valuation ratios, MHS is trading at a Price/Book of 6.5x, a Price/Sales of 0.4x and a Price/Cash Flow of 21.2x in comparison to its industry averages of 2.0x Book, 0.5x Sales and 9.2x Cash Flow. It is essential to analyze the company's current valuation and check how it is trading in relation to its peer group.
One point Romick found in the company's valuation is that Medco has been seeing great challenges over the past few months, since it lost several contracts, mainly to CVS Caremark. In August 2011, Medco could not avoid losing its PBM contract with Blue Cross and Blue Shield. Although it tried its best, Medco could not master such headwinds. In July of this year, Medco stated that it will be acquired by Express Scripts for $29.1 billion in cash and stock, which is the biggest in the industry of health-care. While I am concerned about the uncertainty as regards the successful completion of this transaction based on potential FTC antitrust challenges, the resulting combined entity will most definitely pose a major challenge to its peers once it becomes the largest PBM. Nonetheless, in this quarter, Medco also saw a higher service revenue growth propelled by the United BioSource acquisition. Moreover, according to the specialty segment, Accredo's performance has remained solid mainly on account of the important addition of new clients and organic growth throughout the business. Medco's current trailing 12-month earnings multiple is 16.2, in comparison to the industry average of 14.0 and 13.9 for the S&P 500. In the last five years, Medco's shares have traded in a range of 14.3X to 27.9X trailing 12-month earnings.
Medco remains in a good financial health, having manageable leverage and sufficient operating income to cover interest expenses many times over.
Trinity Industries Inc (TRN)
Trinity Industries, Inc. manufactures, markets and leases an ample variety of products in the following business segments and groups: Parts and Services Group, Inland Barge Group, Industrial Group, Railcar Group, Highway Construction Product Group, Concrete & Aggregate Group, among others. "Others" in this case would include the company's captive insurance company, transportation services as well as other peripheral businesses.
In terms of quarterly results, Trinity Industries, Inc. posted net income corresponding to Trinity's stockholders of $56.1 million or $0.70 per common diluted share for the fourth quarter ending in December 31, 2011. Trinity's results reflect its higher deliveries of tank barges and railcars as well as a higher level of railcar sales from the leasing portfolio. In the results for the fourth quarter of 2011, a pre-tax gain of $17.0 million, or $0.14 per common diluted share, was included. It related to the settlement for the disposition of insured property, plant and equipment that, in May 2011, were damaged by flood at Trinity's Missouri barge producing facility. Its net income for this quarter of 2010 was $17.3 million, or $0.22 per common diluted share. The results for the fourth quarter of 2010 also included a pre-tax charge of $5.9 million, or $0.04 per common diluted share, in relation to the redemption of its senior notes. Timothy R. Wallace, Trinity's Chairman, CEO and President, stated:
Our companies are responding well as economic conditions change. We continue to see consistent demand for railcars that resulted in a $2.1 billion increase in order backlog during 2011 for our railcar manufacturing companies. Our Rail Group achieved operating leverage associated with higher shipment volumes during the fourth quarter, while our Railcar Leasing and Management Services Group was successful in selling railcars from its lease fleet due to strong secondary market demand. I am pleased with the ability of our Inland Barge Group to quickly recover from the effects of the Missouri flood and finalize the flood's financial impact before the end of the year.
The Current Net Profit Margin of TRN is 4.62, currently higher than its 2010 margin of 3.08. I like Companies that increased profit margins in comparison to other years. It is essential to know the reason why that happened. Its Current Return on Equity is 7.84. It is lower than the 20% standard I look for in companies I invest in, and higher than its 2010 average return on equity of 3.77.
In terms of income and revenue growth, TRN has a 3-year average revenue growth of -7.48 and a 3-year net income average growth of -20.30. Its Current Revenue Year over Year growth is 42.66, higher than its 2010 revenue growth of -16.30. The fact that revenue increased from last year shows me that the business is performing well. The current net income year over year growth is 110.98.
In terms of valuation ratios, TRN is trading at a Price/Book of 1.4x, a Price/Sales of 0.8x and a Price/Cash Flow of 25.1x in comparison to its industry averages of 2.6x Book, 2.4x Sales and 9.2x Cash Flow.
Disclosure: I am long (ABT).