Identifying high-quality management and good value in the companies we consider for investment are among the four key tenets of the strategy we use to manage Oppenheimer Main Street Fund.®
Along with managing our portfolios to have an “all-weather” orientation that seeks outperformance in various market scenarios, and finding companies with “economic moats” that may offer competitive advantage, the last two but equally important considerations in our process are management’s ability to successfully execute their corporate business plan and whether the stock is reasonably priced.
When looking at many situations in life or business, the people involved often have a great deal of influence over the ultimate outcome. As it applies to our process, no matter how strong the underlying business may be, we believe the management team steering the business has a great deal of influence on the ultimate success or failure of the business and, logically, must be an important part of the investment consideration. In deciding which companies are the right investments for the Oppenheimer Main Street Fund, we have a strong preference for management teams that are executing well.
Judging execution and predicting the actions of people may include considering several “soft” qualitative factors, but there are three types of evidence we generally look for:
- Increasing market share. We believe if a company is able to grow faster (or shrink slower) than its peers over a sustained period, it is a surefire sign that management is doing something right and providing products that resonate with its customers.
- Improving efficiency. This can take several forms, including expanding profit margins, increasing asset turns or even utilizing working capital better―all easily confirmed through corporate financial statements.
- Solid capital allocation. This is arguably a management team’s most important function. If done poorly, capital allocation can swamp the other factors. We like teams that are investing in the right lines of business (i.e., not watering the weeds), treating shares of their company as something precious, and prudently returning capital to shareholders.
And of course, beyond seeing how management is playing the cards it is dealt, we also look closely at management compensation to make sure incentives are aligned with shareholder interests. High compensation in absolute terms does not bother us, as long as it is properly earned.
The Final Tenet: Valuation
Valuation, the last of our four tenets, is perhaps the most important, in our view. It is often the primary gating factor in our decision-making process. No matter how wide the moat or excellent the management, we want to make sure we are getting at least reasonable valuations on any stock we purchase.
As Warren Buffett famously summarized, “Price is what you pay, value is what you get.” We spend a great deal of time making projections to estimate a company’s value, then determine if the market price is at or below our estimated intrinsic value. Said another way, if we are giving up a bird in the hand―cash from the fund―we want to make sure there are at least two birds in the bush―cash our companies are positioned to generate in the future.
We have several tools in our toolbox for estimating intrinsic value, but one of the main ones we as portfolio managers use is discounted cash flow (DCF) that employs multiple scenarios. Beyond using DCF and probability-weighting scenarios to generate a fair value estimate, we will flip a DCF model around to try to get it to point to the current stock price of a company. This gives us useful insight into what expectations are priced into the stock. It is sometimes much easier to make an investment decision when viewing an opportunity through the lens of evaluating whether a company is going to go “over or under” a set of projections.
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Mid-sized company stock is typically more volatile than that of larger company stock. It may take a substantial period of time to realize a gain on an investment in a mid-sized company, if any gain is realized at all. Diversification does not guarantee profit or protect against loss.
Mutual funds are subject to market risk and volatility. Shares may gain or lose value.
Value investing involves the risk that undervalued securities may not appreciate as anticipated
These views represent the opinions of portfolio managers at OppenheimerFunds, Inc. and are not intended as investment advice or to predict or depict the performance of any investment. These views are as of the publication date, and are subject to change based on subsequent developments.