Your Lifetime Dance Punchcard

Cover Story, by Mark Robertson, Managing Partner November 1st, 2011

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We seek promising study candidates from each weekly update of Value Line and search for lessons and stories to share. We also use that collective second opinon based VL’s low total return forecast as a backup barometer to MIPAR.

We want to make sure that all MANIFEST subscribers are aware of our weekly updates. The article that follows appeared on our beginning of the week summary from a week ago. We seek promising study candidates from each weekly update of Value Line and search for lessons and stories to share. We also use that collective second opinion based VL’s low total return forecast as a backup barometer to MIPAR. But most of all, we issue reminders about events (live and online) and because it’s public and free — we hope you’ll share with friends and family.

There’s a whole lot of schooling potential in this week’s update. We noted that Value Line reduced their long-term price forecast on Strayer Education (STRA) to $155 from $295 just thirteen weeks ago. Has Value Line been stubborn on Strayer? Time will tell, but the consequences on return expectations should be obvious.

There’s no shortage of stories and studies in the current update and I’d expect a number of discussions and explorations to erupt in the Forum over the next several days. That said, we’re going to take a brief departure from our routine here to spend some time on an important, time-honored, theme wrapped around the analysis of valid potential. Specifically, we’re going to examine the best treatment of hot stock tips.

The investing philosophy of Graham/Buffett was that your lifetime investment activity be limited to twenty investment decisions. Ownership should take precedence over trading, and intelligent investing (thinking) should supersede emotional investing (acting.) In other words, Ben and Warren (since we’re on a first names basis now) believed that long-term investors should be issued a “dance card” with 20-or-so instances of really good ideas during a lifetime of investing.

I’ve had a few of these over the last twenty years and there were times when I listened and times when I should have listened. And since the delightful audiences in Tucson, Dallas and Seattle have asked, I’ll name names. One such opportunity came right out of the New England fog a little more than ten years ago on a rainy night, trench coats and all, like a scene out of a Bogart movie. A good friend shuffled up and whispered, “Psst. FDS. Fact Set. Check it out.” Rich is smart, reliable and I did. We smiled with legions of FDS shareholders for years.

Another was our selection of NAVTEQ for the Feb-2007 monthly newsletter. (NAVTEQ is a capable bunch and provides the maps for people like Garmin and MapQuest.) Something about this one just felt so right. The company was ultimately acquired but we were rewarded.

The third is the flip side of the story. Another good friend suggested back in the 1990s that virus protection for personal computers (and everything cloudy) was going to be ubiquitous and that a select few companies were going to “live long and prosper.” (By the way, he also “called” the strategic gaps in the combination of Hewlett-Packard and Digital at the time. He was right on that one, too.) Symantec (SYMC) proceeded to gain 21.4% (per year) over a decade while the market advanced at annualized rate of 9% — for a relative return of 12.4%. My wife is right. There are times when I should listen better. She saw Jon first and worked with him for several years. We spent a recent weekend in Alexandria with some old friends and a few new ones. And that is where we’ll find the rest of that story and our stock study for this week …

Value Line Low Total Return Forecast

The average Value Line low total return forecast is 11.5%, up from 11.4% last week. For the record, the median low total return forecast since we started keeping score is 8.5% … so we’re above that level with the current correction. As shown in the historical data, this correction has delivered opportunities that rank among the best in the last few years — with only the deepest darkest days of the Great Recession bear market manifesting higher return potential.

Companies of Interest

Here are some companies from the 10/28 update that merit a closer look. As always, we generally limit the field to companies with low total return forecasts at least 5% (percentage points) greater than the average Value Line forecast. We further filter by limiting the qualifiers to excellent and good companies by virtue of their Manifest quality rating and we exclude companies with sell signals from either Morningstar or S&P.

We left Central European Distributors (CEDC) on the list as an example of a special situation. First, it’s “special” because the Value Line low total return forecast is nothing short of nosebleed altitude at 36%. The MANIFEST forecast is duly skeptical about a long-term profitability forecast that is nearly twice the historical average. We think you will be also. Study carefully. The company is a leading vodka producer and distributor and no matter how challenging it becomes in Europe, I think this is one commodity with fairly reliable demand?

We’d urge the study of Rovi (ROVI) because it’s consistent with our theme about computer-related universal presence, a leader in intellectual capital protection and because as Macrovision — the stock was “extremely supportive” of our portfolios coming out of the bear market at the early end of the last decade. We may have been tempted to name our next child Macrovision at the time, but we know better than to get overly emotional about this stuff.

The Rest of the Story

… and now, we continue with the idea that erupted during the visit to Alexandria. Full disclosure: I still don’t know what I really think about this opportunity, but I am digesting and diligenting in an attempt to comprehend the landscape.

We hadn’t seen Chuck for several years despite that fact that our spouses are pretty much inseparable lifelong friends. I’ll call him Chuck because (1) it’s his real name and (2) because it’s too late to qualify for innocence. Disclosure #2: The old town section of Alexandria has a couple of genuine, wonderful and highly-recommended Irish pubs.

Seriously, upon arrival at their new residence, Chuck and I share some files and research and we needed a means to convey some of them to me. A quick trip to the retail store served as a powerful reminder. Turns out I obtained a Terabyte external hard drive for something like $70-80. Amazing. I was reminded of things that I wrote about bytes, from mega to giga to googlish things several years ago. Bytes matter.

That afternoon, we visited Chuck’s friend who is editor-in-chief of a major magazine. During a discussion of global trends, etc. and a brief discussion of my interests in investing from Better Investing to all things Manifest, he suggested a closer look at EZchip (EZCH). Nutshell: EZCH is a leading provider of Ethernet network processors. The company has progressively developed effective products and solutions for companies like Cisco Systems and Juniper. In other words, a situation potentially like NAVTEQ mapping for anybody who delivers electronic maps to services … The company is based in Israel. The company outsources manufacturing and has little or no production on the ground in Israel and global offices in places like San Jose, Boston and China. Any concerns about asset vulnerability due to geography are probably not well-founded.

I asked a few of our community contributors who work with technology for their opinion of the company. “Relatively small. Nothing dramatically differentiated. Pretty good reputation for innovation and development. Not exciting.”

Not exciting? Be specific and focus on return history. Even more importantly, what about potential? Those words are curiosity triggers for me. “Is Disney just an amusement park that manages to keep the walkways pristine? Anybody could do that. But nobody does.” (Tom Peters) “Is McDonald’s merely a company that just makes burgers?” So we’re left with a quest to better understand if the company delivers boring consistency with rewarding return potential for stakeholders.

We currently see EZchip (EZCH) with a potential 20-22% top-line sales growth potential. Combining that with a long-term net margin forecast of 38-39% and a projected average P/E ratio in the mid- to high-20s delivers a projected annual return (PAR) of 16-17%.

EZCH has advanced with a stock price gain over the last several days to approximately $37. For a story like this, I’d feel better about a PAR in the realm of 10% greater than the median stock (currently 10.2%). We’d find EZCH compelling at a price closer to $30-32 and this would be consistent with basic technical analysis support levels, moving averages and would be an attractive relative strength index closer to 30.

I think I’d like somebody to nudge me if EZCH approaches those levels — and “personal alerts” are on the drawing board queue at Manifest. On second thought, I know I’m going to like that.

If I only get 20 (give-or-take) shots at the basket during my investing journey, I want to be alert about it. And I don’t think we get any mulligans for hanging chads on our punch cards.