Low Competition and Free Cash Flow: Brave Warrior's Formula

Federico is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

I like to track prominent hedge fund holdings. As explained in my blog Warren Trades, investors should study what top fundamental investors have been doing with their portfolios. These kind of hedge funds invest considerable time and resources analyzing stocks. I focus on institutional investors that hold concentrated positions and have a long-term, fundamental bias. In this article I analyze Glenn Greenberg’s Brave Warrior Capital holdings. Greenberg invests in companies with little competition, and places a great deal of emphasis on Return On Invested Capital (ROIC). The fund has a portfolio value of $1.6 billion and its 10 top holdings equal 90% of the whole portfolio, an evidence of Brave Warrior’s focus on position concentration. Let’s see what the Brave Warrior likes:

Technology: go for cash flow generators!

Brave Warrior likes 3 specific companies in the technology sector: Google, Oracle and Motorola Solutions.

I like Google (NASDAQ: GOOG). The fund sold 22% of its shares during the last quarter, but it keeps holding Google as its number 2 position. I think that the stock is inexpensive trading at just 14x forward P/E. The lowest analyst estimate is an EPS of $42 for 2013 (implying EPS growth of 10% y/y) and taking that estimation, the stock would have a very reasonable forward P/E of 16x, which is fair for a stock like Google considering it has a 5 year average EPS growth of 22%. Google is the leader in online advertising and I believe that the core global search market can sustain 12–13% compound annual volume growth over the next five years.

In addition, Google is building a comprehensive mobile presence, placing it at the centre of the mobile internet ecosystem.  Google also has very low competition and has shown superb execution to date, more or less maintaining share in a fast-growing market. I am also positive about its progress in display, which is set to generate more ad revenue than search by 2015.

Oracle (NYSE: ORCL) is another strong cash flow generator. Both Appaloosa Management and Baupost also selected Oracle as one of its core picks in the technology sector. Oracle is the leader in the enterprise software and relational database management system market. According to Gartner, enterprise resource planning (ERP) is projected to be the largest enterprise application market with revenue of $24.9 billion in 2012 and this will benefit Oracle. In addition, Oracle’ s innovative product pipeline is expected to drive market share growth in the emerging cloud computing, business intelligence and big data analytics segments. Oracle recently introduced new products such as Oracle Cloud, Fusion Applications and Cloud CRM which are expected to boost organic growth over the long term. The stock trades at just 10.9x forward P/E and a reasonable EV/Ebitda of 8x. I like this stock.

Disruptive print supplier

Brave Warrior is bullish on Vistaprint (NASDAQ: VPRT). In fact, the fund added to the position last quarter. Vistaprint N.V. is an online supplier of high-quality graphic design services and customized printed products to small businesses and consumers. With the use of proprietary web-based design software and advanced computer integrated printing facilities; the company has a competitive advantage over traditional graphic design and printing methodologies.

The company has key competitive advantages. The vast scale of Vistaprint’s product lines and operations provide small business customers access to quality products and printing services that would otherwise have been out of their limit. In addition, Vistaprint has expanded its product lines in order to include a wide variety of offerings and services (for example, website development, online marketing, etc) for its customers marketing needs. Due to the high volume of orders placed through its systems each day, which would be impossible for a local print shop, Vistaprint is able to execute multiple orders into one print run. In this manner, the company is able to use high-end printing presses that normally would be economically unfeasible for small batch printing jobs, benefiting  the small business market, which are businesses or organizations with less than 10 employees. VistaPrint trades at a very attractive 13x forward P/E and just 1x sales.

Bullish on Charles Schwab

The fund initiated a position in Charles Schwab and also keeps holding Fiserv (NASDAQ: FISV) and Comcast.

I think that Schwab is a very good company. In fact, it has a ROE of 11% which is higher than the negative industry average, which implies that the company reinvests its earnings more efficiently than its competitors. The company recently reported that total client assets were a record $1.9 trillion as of month-end Oct, up 13% from Oct. 2011 and flat compared to Sep. 2012. While I like this pick I think that shares will continue trading within the range of $12/14 for a long time considering that Fed rates will keep at zero until 2015. I expect ongoing macro uncertainty to continue to weigh on interest rates, which in turn, should keep earnings (and shares) relatively muted over the next 12 months given the company's heavy reliance on net interest income. I project limited near-term catalysts that is why I think shares will remain range-bound.  

Conclusion

It is essential to focus on each stock’s competition and cash flow generation ability. These are two core items that Brave Warrior Capital pays attention. Long term investors should pay attention to Google, Oracle, Vistaprint and Glenn Greenberg’s other picks as they have been selected for an ideal concentrated, long term focused portfolio. 


martinzaldua has no positions in the stocks mentioned above. The Motley Fool owns shares of Google and Oracle. Motley Fool newsletter services recommend Google and Vistaprint. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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