Steve Forbes Interview: Apple, Microsoft And Wal-Mart Are Better Buys Than Investors Think ~ MAKE MONEY BLOG$

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Kieffer: Pretty stunning. Pretty stunning. It’s a free cash flow machine. My partner, George Sertl, even has an interesting analogy for it. He’s dealt with a lot of consumer brand names in the past. He says, “You think about it – Apple is a brand name out there.

It’s a Nike, it’s a Ralph Lauren. We’re not suggesting it’s going to get the brand name multiple, but if it were to get that it’d be even crazy cheap relative to just thinking about the pure cash generation of the business.”

Forbes: What other areas in stocks are you attracted by right now?
Kieffer: You know, the technology sector remains a big and important part of our portfolio. It’s the largest part of our portfolio by far in all three classifications.
Forbes: Companies like Cisco and Microsoft going to cease to be bargains?
Kieffer: Having owned that digital equipment back in earlier parts of our careers we do know to be mindful of what you think is a bargain turning out to be a company on the verge of collapse. When you think about a Cisco, an Oracle, Microsoft and what may be, I’ll suggest to you that it is certainly possible – probably likely – that they have peaked as far as their ultimate business success.
But they’re not also falling apart either. It’s partly they’ve done so well that you can only do so well going forward. But it’s not like these are collapsing businesses. They’re facing increased headwinds, increased competition versus where they have been historically, but they’re still terrific businesses.
I don’t think most people appreciate that Microsoft is still growing. You would think by all what you hear about that it’s a business in disarray that is struggling from an earnings perspective. It’s not. I think part of it is people looking at the stock. People paid too much for it historically and now they’re not paying enough for it. It’s a terrific company. It’s a huge cash machine. People should love to own it at the multiple it’s trading in.
Forbes: What other areas?

Kieffer: The insurance side we still have a good amount of exposure in the property causality insurance. This is an industry in contrast to the banking sector – it’s suffering from too much capital. That capital has brought price competition to the industry and as a result caused current returns to suffer, and price to suffer as a result of that.

Many of these companies have sold for book value or less. It’s a cyclical industry that will take care of itself. The price competition will ultimately cause destruction of value and destruction of spatial and prices will recover at a point in time.

So we own some of the best of breed operators out there. Chub. Chub has done better of late. Chub had a decent year last year but still sells at a relatively insignificant valuation for the type of franchise that it is. 20% above book value for the go to franchise in high-lines of high-net worth insurance. A different contrast – not a price to book story – is Progressive Insurance.

Progressive is a name that has really been a star company, star stock for couple decades now. The past decade, from a stock perspective, hasn’t been as strong. But it’s been a terrific for the company as a business. Again, it’s one of those where they did so well they over earned. We talked about normalized earnings power earlier. They had over-earned a decade ago from having such success in insurance underwriting perspective. But what has been going on behind the scenes now for over a decade has been substantial growth in really a new line of business versus a decade ago.

Forbes: Normal drivers.

Kieffer: Normal drivers. Progressive used to be about drivers who had too many accidents, had other issues in their driving record. And Progressive was great at pricing that appropriately and offering them insurance. Then in the past decade we’ve seen the emergency of Flo and all the advertising campaigns. That’s been directed towards bringing on board normal drivers.

They have a low cost basis there and ability to price these folks correctly. So you’ve seen great unit growth year after year. This is a company that was once a cult stock because that growth hasn’t shown from an earnings perspective. But I think that will reemerge again at some point and folks will again assign it a greater interest.

They even have an interesting side product. They have a product called Snapshot which is directed at to get really good drivers. This is a device you put in your vehicle. You say, “Hey, I’m a good driver.” You put this device in your vehicle and it tracks, essentially to prove that you’re a good driver.

Forbes: What are the metrics for that?

Kieffer: Well, it’s interesting. I thought, “All right, I’m kind of a lead foot, I better not get a vehicle like that.” More than anything it’s how hard you press the brake pedal and how quick of a stop you’re coming to that’s the test metric there.

But should you be proven that you’re a good driver, you’re going to get a substantial price cut in your driving. Because the way Progressive thinks about is most good drivers are overpaying for their insurance – they’re subsidizing others. Now they have this is proprietary device. So should this take off. They’re really going to gain ground on the insurers because they can’t respond to it. They can pick off some of their best drivers and price them appropriately.

Who knows whether it works out or not. But it’s another great example of the type of innovation that Progressive has that’s allowed them to grow the way they have. Progressive’s a unique company by the way. They release their earnings monthly. Not that they think that earnings are so important that you should release them monthly. It’s almost a flag their nose at Wall Street type of thing to deemphasize earnings by putting them out monthly. But again, it shows the innovation of this company and their capabilities from a technological perspective that they can do that.

Forbes: What about banks? Cheap or have got problems?

Kieffer: The answer with banks is still a maybe, from our perspective. Again, if you think of things only from a reward perspective, you’re going to be attracted to banks big time. You’re going to make all kinds of claims about how cheap they are – price-to-book, price-to-earnings and so forth.

If you’re bringing risk into the framework as well, then it becomes a more challenging issue. One of the ways to think about risk – the way we think about – is how much control would you have over the destiny of your own business? You’re never going to have complete control obviously. But how strong are the outside influences that impact your business? When you think about banking right now there are so many factors that are big and potentially very damaging to this industry – whether you’re talking about capital needs or you’re talking about what’s going on in the regulatory environment. Whether you’re talking about the strength of the economy or weakness of the economy, what that means for the status of their loan book and/or loan growth. What’s going on with interest rate manipulation? All these different factors are impacting.

When we look at the banks we go high risk, maybe high return. We’ll take a pass on them. We’ve continued to slide away from them. No area we’ve looked at more frequently than the banks, looking at out of favor situations. But we have passed on them and continue to pass.

Forbes: Pharmaceuticals, health care companies. What other areas get you drooling?

Kieffer: We own Cigna, one of the managed care organizations. We don’t own a whole lot on the pharmaceutical side at the moment. We do own some of the medical supplies companies – Becton, Dickinson, for instance. It’s another area that is under pressure and legitimately so. When I say legitimately so I mean from the perspective that because of their role it’s no surprise that they’re a target of a lot of folks.

And so, yes, there would be unit growth that goes on in the business. But they’ve been extremely profitable and they’re facing a lot of pressure. So when we mesh those two together we haven’t found as much of interest there of late from the valuation perspective.

We still own, I mentioned Tesco earlier. We kind of own a lot of the retailers that way. We own a Tesco, we own a Target, we own a Wal-Mart. We own all three of those. Those are, again, when you come back to these kind of world beater companies –

Forbes: Even at $60 Wal-Mart looks good?

Kieffer: Wal-Mart is less attractive. We don’t own as much as we used to. But still, it’s a heck of a company. Again, it’s one those businesses where if you step back and pay attention to what’s going on, their international division by itself is one of the largest, fastest growing retailers out there. Stand alone. If you trade it on a standalone basis, it would be bigger than Home Depot from a sales’ perspective. I don’t think most people know that.

They think of Wal-Mart kind of having saturated the U.S. and having played out that way. This is a terrific business. Sure, it’s not as great as it used to be. It faces some macro issues that make the current environment more challenging. But it’s a heck of a business, generating a lot of free cash flow at a very attractive valuation.

Forbes: Jim, thank you.

Kieffer: Thank you, always a pleasure to be here.

source: forbes.com

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