What is Steven Romick buying?

4 stocks the manager of the FPA Crescent Fund keeps acquiring.

By GuruFocus.com Jul 26, 2012 12:59PM
Steven Romick is a strict bottom-up investor who does not neglect the macro picture. In the second quarter, he finds stocks neither particularly cheap nor particularly expensive, according to his second-quarter commentary on his FPA Crescent Fund

Romick believes that central bankers are leading the world to inflation, where his stocks should at least perform "nominally well." But, he says, "if a business or asset is good and cheap -- absolutely, not relatively -- we'll buy it."

These are the stocks the fund manager keeps buying:  

Aon (AON): Romick has been adding to his holding of Aon Plc almost every consecutive quarter since the fourth quarter of 2009, when the stock was at his lowest average purchase price of $39.50. His highest average price paid was $52 in the second quarter of 2011, and on Thursday the stock trades for $46. In total, he owns 6,590,000 shares of the company.

Aon focuses on several business areas: risk management, insurance and reinsurance brokerage, and human resources solutions and outsourcing services. In the last four years the company has increased its earnings by about 53%, as its stock has increased only about 13.4%.

Aon has also improved its operating and net margins to above pre-financial crisis levels. Its net margin reached 8.7% in 2011, besting its pre-2006 levels, and its operating margin reached 14.4% in 2010 and 14.2% in 2011, beating pre-2006 levels for the decade.

In the first quarter, the company had its best rate of revenue growth since the second quarter of 2007 at 4%. In the same three months, it authorized a $5 billion share repurchase program and increased its dividend 5%.

Bill Nygren of the Oakmark Fund also likes Aon and made the following comments about it in his second-quarter letter:

"As one of only three insurance brokers with a global platform, AON (AON)'s market position should allow the company to directly benefit from global economic growth. AON stock surpassed $50 in 2007 when it earned just over $2 per share. In 2012, after a restructuring that improved margins, AON is expected to earn over $4 per share after adding back goodwill amortization from recent acquisitions. Despite the growth in earnings and the potential for further margin improvement, the stock has been stagnant. As a result, the price-to-earnings (P/E) ratio for AON has fallen from 25 times in 2007 to 11 times now, slightly less than the P/E ratio for the S&P 500. Unlike the insurance business, insurance brokerage is not capital intensive. Therefore, we believe AON has the ability to return most of its earnings to shareholders through share repurchases and dividends. An additional feature we value is AON's potential to generate meaningful interest income. AON, as a fiduciary, holds its clients' capital for a short period of time before it is turned over to the insurance companies. With today's low short-term interest rates, there is little opportunity to generate returns on that capital. We don't believe short-term rates will stay low forever and like getting the option for more rapid earnings growth when rates increase."

Cisco (CSCO): Romick has been purchasing Cisco shares since the second quarter of 2011, when the stock traded for $16.50 on average. He built his position up over the next consecutive four quarters, including his most recent and largest purchase of 10,815,000 shares in the second quarter of 2012 when the stock traded for $18 on average. The stock on Wednesday is 9% cheaper than his average purchase price.

Cisco has been posting five years of average annual revenue growth of 9.4% and EBITDA growth of 3.5%, while its stock dropped almost 48%. Its P/E ratio has consequently dropped from over 36 in 2007 to 10.4 on Wednesday. The company's operating and net margins, however, have declined over the last three years, the operating margin from 20.3% to 17.8% and the net margin from 17% to 15%. Those results rebounded in the second quarter of this year, up to 23.7% and 18.7%, respectively.

In the quarter, Cisco either acquired or announced its intent to acquire or invest in three businesses, along with strategic investments in Brazil to create growth. The company is attempting to grow profit faster than revenue and has strengthened its balance sheet with $48.4 billion in cash, up from $46.7 billion at the end of the previous quarter.

Cisco repurchased 27 million of its own shares in the third quarter of 2012 and paid a 40 cent dividend.

WellPoint Inc. (WLP): Romick first bought shares of WellPoint when its shares were beginning to recover from the fiscal crisis, purchasing 668,000 shares in the fourth quarter of 2009 at an average price of $52.50. He then bought more in the second quarter of 2010 at an average of $55, in the third quarter of 2011 after a price drop, and in the first and second quarter of 2012, at his highest purchase price of an average of $69 and his smallest purchase size. Wednesday’s $53.94 purchase price is about 12% cheaper than his average cost per share.

Like the previous two stocks Romick keeps buying, WellPoint's revenue and EBITDA grew over the last five years, as its stock declined. Revenue and EBITDA per share grew at an average annual rate of 13.3% and 10%, respectively, while the stock declined 33.5%. Overall revenue, however, is down from its level five years ago, as is net income. Its P/E multiple has likewise dropped from over 16 five years ago, to 8.15 on Wednesday.

On Wednesday, the company announced that it would regain access to Walgreen Co. (WAG) by mid-September, through pharmacy-benefits manager Express Scripts Holding Co. (ESRX), who recently reached a deal with the pharmacy after breaking ties with it in January.

In the second quarter, WellPoint announced it would reduce its full-year 2012 outlook due to lower enrollment and slightly higher medical cost trends. Its medical enrollment declined by 126,000 in the second quarter, to 33.5 million members as of June 30, 2012.

In June, WellPoint also announced it would acquire 1-800 CONTACTS Inc., the largest direct-to-consumer contact lense retailer in the U.S., in a deal that will close in the third quarter of 2012. It will pay with available cash but financial terms were not disclosed.

Wal-Mart (WMT): Romick bought Wal-Mart shares for seven consecutive quarters beginning in the fourth quarter of 2009 at an average price of $52.50, but made a small reduction in the fourth quarter of 2011 when the price reached an average of $57. In the second quarter, he sold 1.88 million shares when the price climbed to an average of $63, for a solid gain. The stock has since gone even higher, to $73.68 on Thursday.

Wallace Weitz commented on the cheapness of Wal-Mart in his shareholder meeting in his first-quarter letter:

"During the intervening twelve years [March 2000 to March 2012], many of the growth favorites of the day, both tech-oriented and others, have experienced strong business growth while their stock prices have languished. Microsoft, Dell and Wal-Mart have each roughly tripled earnings per share, but their stock prices have nothing to show for it. Value rose, but valuation (the price people were willing to pay for those earnings) shrank."

In the last ten years, the company has grown its revenue per share 10.2% and EBITDA 11.3% annual rate, while its stock remained relatively flat. Year to date, though, the stock has increased 20.62% and hitting all-time highs. GuruFocus has written about how the stock's recent jump has placed it near fair value.

See the complete list of stocks Steven Romick keeps buying here. Also see his buys and sells at his see his portfolio here.


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