Peter Mycroft Psaras'  Instablog

“It is not that pearls fetch a high price because men have dived for them; but on the contrary, men dive for them because they fetch a high price.” – Richard Whately (1787-1863)

The most important thing that rules the economies of the world is the law of supply and demand.  It’s a very simple concept, but few investors understand how important it is to their future financial well being.

The U.S. Dollar is the subject of great debate these days as investors are debating whether it’s good to have a strong dollar or a weak dollar policy.  Instead of worrying about this issue, investors should try to deal with the reality of the situation and attempt to figure out the long term direction the dollar, in order to come out ahead no matter what happens. 

The reality is that the U.S. Government currently has the printing presses running at full throttle 24/7 and is increasing the money supply to levels that have never been seen before.

 

 The government in all its wisdom has decided that the free market should not  be the determinant of whether a poorly run firm should go out of business or not and has decided to artificially control the markets by flooding them with cash.  The mis-management that occurred at General Motors(GM), Citibank(C), American International Group(AIG), Countrywide etc... should have caused these companies to fail and their remaining assets be taken over by other well managed firms. This is how the free market system works on Main Street and is the reason why 9 out of 10 new start ups fail within the first couple of years.  The world of business on Main Street takes no prisoners as it is based on the laws of nature.  In nature the only rule is “the survival of the fittest”.   

The governments of the world, because they own the printing presses, have decided that if you are “too big to fail” that you will not be allowed too.  Thus they are setting a bad example by rewarding failure by creating uncontrollable levels of debt in order to fix these failures.     

 The world of Main Street runs on the theory of supply and demand.  Thus with the U.S. Government printing at such rates, there will be a tremendous supply of dollars on the market and demand for the currency will never be able to keep up with the supply.  Therefore when there is too much supply and not enough demand the dollar will continue to fall until the printing presses stop.  This of course will not happen anytime soon as stimulus and government mandated (health care) are the key terms one reads about these days in the press.  Printing trillions of dollars and issuing trillions in $IOU’s is not my idea of fiscal responsibility.  But that is out of my and my clients control, so I have to deal with it and plan properly to protect as well as increase their assets over time (as that is my job).

Over the last seven years there has been a reverse correlation between the rise and fall of the dollar and the performance of the S&P 500 Index. Here is a chart that shows what I mean;

Why does this happen?  The S&P 500 and the DJIA 30 Indices are heavily weighted with U.S. firms that operate as multi-nationals and do a lot of business overseas.  When the dollar falls the money that they make selling their products in foreign currencies, when repatriated back into U.S. dollars, comes in at a much higher number than if the dollar stayed static.  Thus when the dollar is weak these companies report much higher earnings and they look more attractive from a growth rate point of view.  As this happens across the board, markets go up in unison. 

With interest rates at historically low levels, anyone buying long term bonds is setting themselves up for a destruction of their principal investment as interest rates can only go up from here.  Thus when interest rates go up, new bonds will be issued at higher rates and the demand will go to those  new bonds and out of the older lower interest rate bonds.  Thus as people sell the old ones to buy the new ones, the principal on the old ones will drop.  With every point rise in the interest rates, more and more of one’s principal will be destroyed.  It will eventually get to the point where bond investors will be forced to hold their bonds to maturity, as that is the only way they will ever be able to get their full principal back.  On top of that you also have the weaker dollar eating away at your bonds as their value in dollar terms will also deteriorate as well.

I highly recommend that everyone reading this consult their financial advisors or brokers and see how this scenario will affect any bonds that you may own.  If your advisor does not have a clue or has to ask someone else or even worse tells you that they are in mutual funds and are managed by pros, then I would seriously think about talking to other advisors until one finds one that has an answer to the question = "If interest rates go up, how is that going to affect my principal?" .
Very simple question to ask and how your advisor/broker responds should either help you sleep better at night or send up a serious red flag!

Real Estate will not be a place to invest, once interest rates start to rise again, as people will find it harder to get loans.  Also municipalities, which do not have the power to print money (thank God) are in big trouble these days and will look to increase the property taxes to make up for the shortfall in revenues. This will make the cost of ownership much higher and will not help find buyers for the oversupply that the Real Estate market is currently experiencing. Again too much supply and shrinking demand, the worst of all possible scenarios.

You can’t be in cash because interest rates are at historic lows and once the Fed starts raising rates, means that they are worried about inflation.  Being in cash in an inflation/interest rate rising environment is bad as you are not making any money in real return as inflation will eat away any interest rate gains you might have made. Then the buying power of that cash will constantly go down as the U.S. dollar does, so your dollars will be worth much less than they will be in a few years, so you will experience negative growth in your real net worth.  Foreign Currencies might do the trick, but which ones? Also the fees associated with transfering your assets back and forth can be large, if you don't know what you are doing.

The only place to be is in the stock market, because if the markets go up 10% and the dollar goes down 5% you are still ahead of the game. You are combating the weakness in the dollar by increasing the number of dollars you have at a much higher rate than the dollar is devaluing.  Commodities should also do well, but the tax treatment of them is not very good as the capital gains taxes on commodities are 28% for long term gains and are taxed at ordinary income levels if held for the short term.  This is especially true in commodity ETF’s.

I as an advisor have my clients in stocks that have a (FROIC) Free Cash Flow Return on Invested Capital of 20% or more and a Price to Free Cash Flow of 15 or less.  This strategy should outperform the markets over the long term as the supply of such companies is very limited and the demand very strong.  I have only been able to find 25 such companies out of the 7200 stocks in the Value Line Investment Survey Database ( I also choose companies that have had such results over an extended period of time and not just on one year’s performance) that meet my criteria.  

I have done a 58 year backtest on the power of free cash flow in the investment process for anyone who is interested;

mycroftresearch.com/uploads/Backtest_195...

In the end, it’s all about supply and demand and the way the government presses are printing, the supply will only increase and make my 25 multi-national all stars even more valuable.  Supply and Demand are the keys to successful investing and buying what is in high demand and selling what is not should allow one to do very well in most cases.

Disclosure;  No position in AIG, C, GM or Countrywide(BAC)

The Fine Print: As Registered Investment Advisors, we see it as our responsibility to advise the following: We do not know your personal financial situation, so the information contained in this communiqué represents the opinions of Peter “Mycroft” Psaras, and should not be construed as personalized investment advice.

 It should not be assumed that investing in any securities we are investing in will always be profitable. We take our research seriously, we do our best to get it right, and we “eat our own cooking,” but we could be wrong, hence our full disclosure as to whether we own or are buying the investments we write about.

 

 

 

The Wall Street Journal just published an article today (after the market close), where Microsoft (MSFT) and SAP (SAP) would expand the their existing partnership and team up to compete against Oracle (ORCL).

Here is the link to the article;

blogs.wsj.com/digits/2009/11/17/microsof...

In the article it states that Microsoft will name the German software maker the “preferred provider” to its customers of software for budgeting, planning and forecasting.

Oracle is SAP’s biggest rival for business application software and Microsoft’s biggest rival for database software so by working together they are teaming up to hit Oracle hard on both fronts.

The article also states that Under the arrangement SAP and Microsoft will make joint sales calls and appear at events together and they’ll also take steps to ensure that products from the two companies work well together.


This is a very big deal for both companies and should really create some problems for Oracle. The deal is an example of a new strategy by Microsoft to partner up with smaller competitors, to go after the industry leaders.  This deal to use SAP to go after Oracle is very similar to Microsoft's partnership with Yahoo(YHOO), to go after Google(GOOG), but in this case it is a major coup for SAP, while the Yahoo deal was a major coup for Microsoft.

As a shareholder in both Microsoft and SAP I couldn't be happier with this new arrangement and would not be surprised if Microsoft where to someday buy out SAP, if they could ever figure out how to get the deal through regulators.

This is a win-win as far as I am concerned.

Disclosure : Long MSFT, SAP , No Position in ORCL, YHOO

The Fine Print: As Registered Investment Advisors, we see it as our responsibility to advise the following: We do not know your personal financial situation, so the information contained in this communiqué represents the opinions of Peter “Mycroft” Psaras, and should not be construed as personalized investment advice.

It should not be assumed that investing in any securities we are investing in will always be profitable. We take our research seriously, we do our best to get it right, and we “eat our own cooking,” but we could be wrong, hence our full disclosure as to whether we own or are buying the investments we write about.

The Buckle, Inc.  (BKE) is a leading retailer of medium to better–priced casual apparel, footwear and accessories for fashion–conscious young men and women. The Company currently operates over 400 stores in 41 states, under the names Buckle and The Buckle.

Buckle markets a wide selection of brand names and private label casual apparel, including denims, other casual bottoms, tops, sportswear, outerwear, accessories and footwear. The Company emphasizes personalized attention to its customers and provides individual customer services such as free alterations, layaways, and a frequent shopper program.

To view their product line please click here;

http://www.buckle.com/product/product.jsp;jsessionid=LQhR7Bb6pgGjlt6yXnSY85HCxhRpzYjL8Rgj7nG9JdFXMGzNyf1w!-1803930525?bmUID=1258314385225&N=0&reset=brands&brands=true

The Buckle is a very conservatively run company with excellent management at the helm and has caught my attention because of their tremendous performance on Main Street. The following charts are proof as to that performance;

As the chart above shows, The Buckle has grown their sales 138.35% over the last ten years or at an average annualized rate of 9.07%.  That might not sound like much but another company that you may have heard of Wal-Mart (WMT), has grown their sales at about the same rate at 146% while increasing their number of stores by 115% during that time.

The Buckle on the other hand has achieved similar sales growth numbers, while only increasing their number of stores by 63.4% over the last ten years.

So logically if the number of stores has grown at a slower pace than Wal-Mart, then how it is possible to grow revenue at about the same rate? The answer is management effectiveness (a key metric of qualitative analysis and growth investing). If that is the case then how do you measure management effectiveness quantitatively? The following charts will show you.

Sales per store have gone from $1.32 million per store in 2002 to $2.19 million per store in 2009.  Thus we have a growth rate of sales per store of 65.9% over a seven year period.

From that we can then see how the Net Profits of the company have been.

And then Net Profits per store;

For those keeping score that is a growth rate of 184.5% over the seven years under analysis or an average annualized growth rate of 16.13%.  When analyzing retail, one should not judge a company by its size, but should treat every company equally and see how they perform on a per store growth rate basis.  The reason The Buckle has done so well is because they have grown at a conservative pace and unlike companies like Starbucks (SBUX) for example, management did not try to put a store on every block in every corner of the world in a short period of time.  That is why Starbucks stock price crashed, as they grew faster than they should have and over extended themselves.  The Buckle has management that is very conservative and waits for the right time to open new stores.  By doing this they have been able to achieve strong margins and have consistently kept them at those levels. Here is a chart of Gross and Net Margins so you can see what I mean;

When looking for strong long term growth investments, one needs to look for consistency in order to protect oneself from surprises.  For example in 2008 Abercrombie and Fitch (ANF) had gross margins of 71%, which were much higher than The Buckle's, but net margins were only half as good.  It only got worse in 2009 as net margins fell to 0.10% vs. 13.7% for The Buckle. Why was this? ANF had the same problem as Starbucks and opened too many stores too quickly and got hit hard when the recession came about. The Buckle’s management practices proper planning and prepares for the “worst case” scenario and not “best case” as many of their competitors do.

 In this recession (that is now ending), you hear that no one is hiring and that things are doom and gloom.  That is not the case though with The Buckle.  If you go on their jobsite you will see that they have 2,776 job postings.  The Gap (GPS) for example, which has 9 times the stores as BKE has only 408 job postings.  Why would The Buckle be looking to hire so much, if they felt they were in trouble?  If you look at the opinions of Wall Street concerning the company you would think that the Buckle is close to bankruptcy.  Schwab for example ranks the company an “F” and Goldman Sachs the other day downgraded them to a “Sell”.  The company is also one of the most heavily shorted stocks on Wall Street, coming in with a current total of 30.7% of outstanding float being short. Here are some charts;

And total number of shares short;

I have analyzed this company from every angle you can imagine and for the life of me, I have not been able to find a good reason to short this stock. The only reason I can come up with is that the float outstanding is only 25.8 million shares, as management and directors own 46.1% of the shares outstanding. 

With The Buckle you have a company that has $3 a share in cash, a current ratio of 3.70 and has zero total debt.  Management is expanding into the northeast for the first time and is hiring 2,776 new employees to do so.  If the business model has been very successful in the 41 states that it operates in, then why would it not be in the remaining northeast states?  Are the teens any different in those states? I don’t think so and in fact their parents per capita income is probably higher, so a mid-priced teen retailer should thrive in the northeast, especially when teens can get their purchases altered for free as The Buckle has in store Seamstresses and Tailors.  Where can you find that level of customer service among their competition?

Now having so many shares short could create a nice opportunity to purchase The Buckle in the near future, especially if they were to miss their earnings estimates for the quarter, when they report on November 19,  2009. For those who own it, if they miss, it might be a good chance to double down as the company obviously, from what I have shown above, has tremendous growth prospects ahead of it.  But let us say that they don’t miss?  What do you think will happen if they beat estimates, to all those short sellers?  They will have the short squeeze of the century happen as 30.7% of the float will need to be covered.  And as one short seller covers, it will put tremendous pressure on everyone else to do so or get slaughtered. 

 
Aeropostale (ARO),which reports on December 2, 2009 can be thought of as a similar situation though they do not have Officers and Directors owning as many shares or short sellers shorting the stock so heavily.  

But before investing in the company it is critical to do some backtesting on BKE before making an investment in it. How would you have done owning the stock in the past?  Especially, one that has management owning such a large chunk of the shares outstanding.  Is such large ownership a benefit or a detriment to the underlying stocks performance on Wall Street?
 
The stock price of BKE in May of 1992 was $1.64 and was $29.14 on November 13, 2009 for a return of 1,676 percent over 17 years or an 18.44% average annualized gain.  What the numbers above don’t show you though, is that over the last three years The Buckle has paid out a special dividend of $1.33 in 2007, $2.00 in 2008 and $1.80 in 2009.  Those were on top of a 3% dividend that the company pays out on average every year.  I don’t know if the special dividends will continue in the future, but if they do, it sure adds tremendous value to the long term shareholder.  

But since they have no debt, how is it that they are able to pay out such amazing dividends? The answer quite simply is that they can do so because they generate tremendous free cash flow as the following charts will show;

Free Cash Flow per share has been wonderful at the company and has gone from $1.01 in 2005 to an expected 2010 estimated $2.43, which amounts to a growth rate of 140.59% in 5 years or an annualized average return of 19.19%.

If we go one step further we can analyze the company by its (FROIC) Free Cash Flow Return on Invested Capital.  FROIC basically tells you how much return in free cash flow a company generates for every dollar of Total Capital they employ.

I consider FROIC the primary determining factor in identifying growth companies as you can compare every company (except financials) on an equal basis. The question I ask every company I analyze is = how much return (in percent) in FCF are you going to give me for every dollar of total capital you invest?

Let’s see how The Buckle has done of the FROIC scale;

So for every dollar of capital employed BKE has returned 25-30 cents of free cash flow to the company.  FROIC gives me a real return on Main Street and if I can get a 20%+ return on Main Street and at the same time buy a stock that is selling for less than 15 times its FCF then there is a very high probability that it should be a very successful investment.

How is The Buckle doing on its Price to Free Cash Flow?

2010 estimated Price to Free Cash Flow (PFCF) = 10.23

 As for PFCF I came up with the 15 or less number as being Ideal after performing a 58 year backtest. To view the backtest just click the link below.

https://mycroftresearch.com/uploads/Backtest_1950-2007_Mycroft_Research_LLC.pdf

In conclusion, I have no idea how the company will report on November 19^th, but with all the negativity that surrounds the stock, a contrarian bull case could certainly be made. 


Disclosure:  Long BKE , ARO, No position in ANF,WMT,SBUX,GPS 

The Fine Print: As Registered Investment Advisors, we see it as our responsibility to advise the following: We do not know your personal financial situation, so the information contained in this communiqué represents the opinions of Peter "Mycroft" Psaras, and should not be construed as personalized investment advice.

It should not be assumed that investing in any securities we are investing in will always be profitable. We take our research seriously, we do our best to get it right, and we “eat our own cooking,” but we could be wrong, hence our full disclosure as to whether we own or are buying the investments we write about.

 On Thursday November 12, 2009 Suburban Propane (SPH) will announce its quarterly and year end results. Suburban Propane Partners, L.P. originally known as The Suburban Gas Company, was formed in the suburbs of Newark, New Jersey, in 1928. The company’s first major expansion took place in 1945, when it acquired the eastern properties of Phillips Petroleum and formed the Suburban Propane and Gas Corporation. The company has been publicly traded on the New York Stock Exchange since 1996, and operates as a Master Limited Partnership.  

More »

 
The following is an analysis of the four largest banks in the United States.  The four banks analyzed represent 5.17% of the S&P 500 Index and play a major role in both the USA and Global economies.

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 Aeropostale (ARO) is an extremely well managed company that is the premier discount retailer for the teen market.  The company has put up some amazing results in their most recent quarterly and yearly earnings and has beat estimates handily.  This monthly same store sales report  came in at +3% for the month, which when compared to the sales of the same period last year (+1%) comes out to a big beat in my book.

Here is the press release;

http://phx.corporate-ir.net/phoenix.zhtml?c=131103&p=irol-newsArticle&ID=1351663&highlight=

Here are the key points from the release;

“The Company's same store sales increased 3% for the month, compared to a same store sales increase of 1% in the year ago period.”

 

“For the third quarter of fiscal 2009, total net sales increased 18% to $567.8 million, from $482.0 million in the year ago period.” 

 

“Based on the better than expected results for the month, the Company now believes it will achieve net earnings in the range $0.90 to $0.91 per diluted share, compared to its previously issued earnings guidance in the range of $0.84 to $0.85 per share.”

 

“The revised guidance compares to earnings of $0.63 per share in the third quarter last year, representing an increase of 43% to 44%.”

 

 I read the press release this morning and was very impressed as it all sounded great to me. Record October sales, increasing guidance per diluted share and then they are doing so well, that they had to revise guidance +44% from their previous estimates.  To me this sounds like they hit a homerun and I was expecting the stock to be way up today.  I then logged into my computer and saw that they were trading down $5 a share?  What’s this about?

 

Well I went and checked the news and Wall Street analysts had projected them to come in with a sales increase of 13.8%? Now if your sales for the same month last year were up 1%, I think it is irrational to think that the company should beat by such a wild figure. 

 

The markets then took no prisoners and  dropped the stock price 11.99% as a result of this so called miss.  I would assume those who sold their stock today, didn't do their homework on the company and were probably just short term traders.  If they had done their homework they would have seen that the company is trading right now at a 2010 Price to Free Cash Flow number of 10.86 and has a Free Cash Flow Return on Invested Capital (FROIC) of 24.58%.  So for every $1 of invested capital the company is expected to make 23.58 cents of free cash flow in 2010.  For 2011 the company is trading at 10 times its expected Price to Free Cash Flow and its FROIC for that year is estimated to come in at 27%.  So with such numbers how can anyone possibly think of selling this stock?  The answer is that there was an analyst out there today who downgraded the stock.

 

Here is the downgrade;

 

http://finance.yahoo.com/news/Aeropostale-falls-on-apf-3762135647.html?x=0&.v=1

 

“BMO Capital Markets analyst John Morris downgraded the company and said it is likely starting to lose market share to competitors.

"The company reported significantly disappointing October (sales of stores open at least one year) of 3 percent, which leads us to conclude that Aeropostale is at the beginning of a market share-losing cycle," he wrote. "This factor combined with our view that Aeropostale is coming off historically high sales productivity and margin levels leaves us with the outlook that earnings per share growth is likely to decelerate significantly next year."

He downgraded the stock to "Market Perform" from "Outperform" and slashed his yearly earnings estimate to $3.20 from $3.65. Analysts, on average, predict a full-year profit of $3.16 per share.

 

So in trying to understand the logic here;

Where on Earth is their evidence that the company is losing market share to competitors, if the company has raised their guidance estimates for this coming quarter by 44% and net sales for the third quarter increased 18%?

 Along with that where is their evidence of deceleration?  Aeropostale increased sales 3% vs. 1% last year for the month and bumped up their guidance for the quarter an extra 7% from their previous guidance.  Where is the slowdown? 

Mr. Morris dropped his earnings per share to $3.20 for 2009, so that means the stock is now trading at an 11 PE with a FROIC of 25%, a PFCF of 11 and a 2009 Return on Equity of 37%.  Add that the company has zero debt on its balance sheet, has a 10 year annualized sales growth of 27.52% and a 10 year annualized EPS growth of 41.11%. Of course your numbers are going to decelerate, but their sales are still going to go up an estimated 14.83% this year and EPS is expected to go up 44.79% from $2.21 in 2008 to $3.20 in 2009. 

If the company can put up those kinds of numbers in a deep recession, imagine what they will do in a recovery.  The growth rates will decelerate in the future but the stock is only selling at an 11 PE. I would have been worried if it was trading at a 30 PE but 11? Why worry!  

Losing market share to competitors? That's like saying that Wal-Mart (WMT) is losing market share.  I think today’s action was just a complete panic sell off for no reason, because why on earth would you sell a company that is putting up those kinds of numbers?  It is also irrational to raise the bar so high that no company can pass the test. It is unfair to do so, but this is why Wall Street Analysts make the big bucks as they are able to move markets anyway they want as no one does their own research anymore.

Disclosure Long ARO , No position in WMT

The Fine Print: As Registered Investment Advisors, we see it as our responsibility to advise the following: We do not know your personal financial situation, so the information contained in this communiqué represents the opinions of Peter “Mycroft” Psaras, and should not be construed as personalized investment advice.

 It should not be assumed that investing in any securities we are investing in will always be profitable. We take our research seriously, we do our best to get it right, and we “eat our own cooking,” but we could be wrong, hence our full disclosure as to whether we own or are buying the investments we write about.