Manager Views

Bluewater’s methodical search for US growth

Fund managers following growth stocks look for companies with earnings that are expected to increase at an above-average rate. The question is, how much should they pay for the shares? That’s a question portfolio managers at Bluewater Investment Management spend most of their time trying to answer. They begin their search by plugging a host of variables into their models – some are tangible (assets and sales), some you won’t find on the balance sheet (the ability to innovate) and then there is management – can they deliver? If they get the right answer on those and many other questions, Phil Taller, co- manager, Mackenzie Universal American Growth Class, just might go ahead and buy something. “I’m really out there beating the bush for companies that can grow faster than the economy over a long period,” says Taller. “That usually means finding businesses that have created a product or a whole new market – they’re innovators, they’re disruptors, they’ve created a lot of value.”

Bluewater’s methodical investment style has produced a fund with low volatility and solid returns. According to Morningstar, an independent firm that rates mutual funds, Mackenzie Universal American Growth (Unhedged) has generated higher returns at a lower risk than a broad peer group of US small-/mid-cap equity mutual funds over a five-year period ending on July 30. In fact, Universal American Growth was the number-one fund in its category over that period and the only one to post a positive return. “Our companies tend to have high margins, high returns on capital, and deliver a lot of free cash flow,” explains Taller. “So if we can find all that, then it comes down to what the valuation of the business is. And that’s where our models come in.”

Altera Corp., a major holding in the fund, contains many of the attributes Bluewater managers are looking for in a growth company. It’s innovative, producing chips that are programmed by the end user to serve any number of tasks. And its business model is poised for growth, explains Taller, because as development costs increase, those expenditures can be recouped by sales across a broad number of products. This makes the chips more cost-effective, and the market is starting to take note “We’re reaching the tipping point where programmable chips are starting to take away significant market share,” says Taller. “And there is plenty of room to grow.”

Taller also likes MSC Industrial Direct, which toils in the old world order of drill bits, wrenches and bolts. But MSC fits squarely into Taller’s description of a “disruptor and innovator.” MSC supplies hundreds of tools and other basic supplies in a sector once dominated by mom-and-pop outfits and small chains. Enter MSC and its computerized inventory system and rapid distribution network. When a sales clerk removes an item from the shelf, the sale is recorded and when supplies run low MSC automatically ships replacements. Says Taller: “They have the highest margins that you’ll find in a distribution company, and they’re offering a whole new level of efficiency.”

One critical part of Bluewater’s growth equation is to find companies that consistently increase their revenues. Energy companies often see volatile swings in their earnings which tend to move with the price of oil and gas. Even so, Taller believes that Comstock Resources, which operates in Texas and Louisiana, is well positioned to grow its earnings.

Comstock controls vast reserves of so-called tight-gas, which are located in shale formations but are still cheap to produce. As a result, it can offer companies an assured supply of low-priced natural gas, a commodity that will be an increasingly important part of America’s future energy supplies. “Comstock, with a fairly low cost, doesn’t need a huge gas price to make a decent return,” says Taller. “It also has a lot of undeveloped land where they can grow their reserves.” And for Taller that helps answer the question: Growth, at what price?