Good morning.
We were met February 17 with some fantastic news from Best Ideas Newsletter portfolio holding Priceline (PCLN), which is trading up over 10% at the time of this writing, to $1,230 per share, following a fourth-quarter earnings beat, where it exceeded the bottom line consensus estimate by more than $0.80 per share. Though recent unfortunate news regarding terrorist activity across the globe has given pause to sentiment with respect to travel-oriented stocks, the collapse in crude oil prices and distillates (jet fuel) may be stimulating incremental demand in light of the reduced cost of vacationing. We’ll be roughly doubling our position in the Best Ideas Newsletter portfolio at the prevailing price, to a 3.5% weighting.
Priceline’s bookings growth during the fourth quarter accelerated to 13% (or an impressive 24% on a constant currency-basis), better than the third-quarter’s mark and nearly double that of guidance, which we said was conservative, “Investors Punish Priceline for Conservative Guidance.” Things must be going quite well for Priceline so far in 2016 on a fundamental basis; it is targeting total gross travel bookings growth of approximately 12%-19%, or an increase of 18%-25% on a constant-currency basis. Remember, management is traditionally conservative and guided the most recently-reported quarter’s growth to 1%-8% (it achieved 13%). Our read is that strength must be incredible on its platform at the moment, perhaps putting it on track for 20%+ growth in bookings during the current first quarter.
For those familiar to the story, we like Priceline in part due to its highly-profitable, asset-light operations that throw off a tremendous amount of free cash flow to pad its already-robust balance sheet. The company ended 2015 with $10.58 billion in cash, short and long-term investments and $6.16 billion in long-term debt, good for a $4.4 billion net cash position (or ~7% of its market capitalization). Cash flow from operations during 2015 was tremendous, coming in at $3.1 billion, up from $2.9 billion in 2014 and $2.3 billion in 2013. Free cash flow during 2015 totaled $2.93 billion, or a whopping ~32% of revenue generated during the period. Priceline is a cash-generating powerhouse, and we maintain our view that shares are undervalued, with upside to ~$1,500 on our fair value estimate and $1,750 at the high end of the range, “.”
We’ve talked quite a bit recently about how much we like Cisco (CSCO), “Cisco Hikes Payout 24%! (Feb 10)”, “Cisco Reports Solid Quarter; Shares Still Cheap with Nice Dividend” (Nov 2015), and we’ll be adding to its respective position in both newsletter portfolios. The company continues to be highly-rated on the Valuentum Buying Index, “Why Valuentum Buying Index Ratings Matter,” and we think a doubling of the position, to a 3% weighting in each portfolio makes a lot of sense, particularly in light of the company’s undervaluation, dividend strength, relative share price action, free-cash flow generating prowess, and pristine cash-rich balance sheet. Shares of Cisco are currently exchanging hands at $26.47, and we peg upside on the basis of our point fair value estimate, derived by our discounted cash-flow process, “Valuation,” to as high $37 per share. We like the market support in the equity, and we think its recent 24% increase to the dividend has a lot to do with that.
The following is going to be very unpopular, but we want to tell you what we really think: Long-term investing is not leaving your assets in one place for a long time, but instead, it is considering the long-term earnings and cash flow of a company in your investment analysis, among other long-term dynamics. There is a considerable conflict of interest, in my opinion, in the conventional “wisdom” of the day to “train” clients to ignore short-term movements in equity prices, as if price-to-fair value comparisons, competitive-advantage analysis and the like don’t matter. I can say to you with absolute certainty that these dynamics do matter, and the move that we’re making with Kinder Morgan (KMI) today hopefully offers the first of many high-profile steps to rid the investment community from the notion that you cannot “time” equity investments.
In fact, timing investment purchases is exactly what one of the most prominent investors, known for long-term thinking, Warren Buffett, does every time he puts his cash to work. More recently, we used Mr. Buffett’s recent example of Berkshire Hathaway’s (BRK.A, BRK.B) scooping up one of Valuentum’s favorites, Precision Castparts, “The ‘Fully Invested’ Argument May Only Make Sense…,” to explain why timing matters. We said that Precision Castparts is not a new company, having been around since the late 1940s, and Buffett had admittedly known about the metal bender for some time. So, we had asked, why Buffett didn’t launch a bid for Precision Castparts when it was approaching $275 per share in early 2014, near its all-time peak. After all, one would argue, timing doesn’t matter, right?
Obviously, timing does matter, and so does valuation, and therefore, price. It can probably be reasonably assumed that Berkshire Hathaway was much more open to purchasing shares of Precision Castparts at $235 each when they were sub-$200, as was the case when the deal was announced, than offering a nice premium when shares were approaching $275. Warren Buffett timed his purchase for when shares met his pricing criteria. Let’s be reasonable. Do you really believe Warren Buffett is going to rush out to buy stock that he believes is overpriced, or instead, do you think it is more feasible that he is going to wait for the right time and price before establishing a stake? Mr. Buffett is a market timer, using competitive-advantage (moat) assessments coupled with in-depth valuation analysis to pick his entry and exit points, where applicable.
Let’s move to the last alert for today. We’re adding the 157 shares of Kinder Morgan to the Best Ideas Newsletter portfolio at $17.29 that we had removed from the Dividend Growth Newsletter portfolio at $40 June 2014, “5 Reasons Why We Think Kinder Morgan’s Shares Will Collapse,” “5 More Reasons Why We Think Kinder Morgan’s Shares Will Collapse,” illustrating that investors can time exit and entry points with near precision. Remember, a stock is not a piece of paper, but instead, it reflects the ownership of the future enterprise free cash flow stream and net balance sheet of the company, two dynamics reflected in the fair value calculation. At $40 per share, Kinder Morgan was substantially overvalued relative to the fair value estimate of ~$20 (or $29 at the time), which we have reiterated on several occasions over the past few months, “Is Kinder Morgan on Road to Recovery, (Jan 2016, Barron’s),” despite shares falling into the low teens.
In modeling enterprise free cash flows decades into the future, never did we ever take our eye off the long-term picture with Kinder Morgan. It should go without saying that, with perhaps a few rare exceptions, the price (or return profile) should always be the primary determinant behind any investment opportunity. At one price, for example, an investment may be terrible, while at another, it could be the best opportunity in the world. Of course it’s worth repeating: Price is what you pay for something, while value as defined by an entity’s future enterprise free cash flow stream and net balance sheet is what you get. If you are being trained on “buy and hold” forever no matter what, you may just be getting training on how to be a great “payer of fees” – over the long haul. Certainly everyone is different with different risk tolerances and goals and conventional wisdom may work for most on average some of the time, but I wanted to at least share my thoughts.
Hope you found them interesting and not too controversial.