We have written before about the fact that the investment management philosophy we have followed for over fifteen years is directly descended from that practiced by the late Mr. Thomas Rowe Price, Jr. (pictured) and the late Mr. Richard C. Taylor.
A hallmark of this approach is the emphasis, in the words of Mr. Price, on directing the attention of the investor towards "the simplicity and soundness of the growth stock theory and away from the belief of most people that you have to play the stock market in order to be successful."
This week, as Wall Street attention and speculation focuses on the upcoming Fed meeting and various ways to "play" the dollar's continuing decline, or the eventual tightening that the Fed's current easing will necessitate, we would point to the simplicity and soundness of reacting to the current "crisis of the day" the same way that Mr. Price and Mr. Taylor weathered the crises of previous decades: by trusting in the ownership of growing businesses.
In his 1973 essay entitled "A Successful Investment Philosophy based on the Growth Stock Theory of Investing," to which we have also referred in the past, Mr. Price outlined the fundamental characteristics of a growth company which he had settled upon after over fifty years' experience in the fields of money management, investment counsel, investment banking, and brokerage.
"While no mathematical formula alone can be relied upon to aid in identifying growth companies," he cautioned, "certain fundamental statistical guidelines" that an investor must consider include:
1. A return on invested capital of 10% or better, and continued increase in capital from retained earnings.
2. Above average profit margin for the industry in question, and a favorable trend of improving the profit margins.
and
3. Compound annual earnings growth of better than 7%.
Although the names and the businesses have changed, there are still growth companies that meet these and the other criteria that Mr. Taylor and Mr. Price looked for in a previous era.
For instance, medical waste treatment company Stericycle* (SRCL), which last week reported its ninth consecutive quarter of double-digit organic earnings growth, measures nicely against the three statistical guidelines Rowe Price set forth above. ROIC is over 11% in the most recent quarter and for all the previous quarters in 2007. Margins are well above industry average, and management indicated that their ability to increase margins by 20 to 40 basis points sequentially "on the steady state" remains intact.
By these measurements, as well as other considerations about the business it runs that are less statistical but by no means less important, this company is a beautiful growth company!
There are plenty of uncertainties on the horizon today, as during any period of investing, not the least of which is the return of ugly inflationary signals (which we've also discussed before). But we firmly believe that the best way to weather these situations is to tie a portion of your investments to the kind of good businesses represented by the company described above, and others that resemble the businesses that classic growth pioneers Rowe Price and Dick Taylor sought for their own portfolios.
*The Principals of Taylor Frigon Capital Management own shares of Stericycle (SRCL).
for later blog posts dealing with this same subject, see also:
- "Beautiful growth companies, part II" 07/25/2008.
- "Drawbacks of sector rotation" 08/13/2008.
- "Ownership of businesses through multiple economic cycles" 09/04/2008.
- "The business of America is business" 10/16/2008.
- "Lessons from volatility, October 2008" 10/29/2008.
- "Stock market guessing" 12/01/2008.
- "Beautiful Growth Companies, part III" 05/14/2009.
- "The importance of a proper sell discipline" 05/27/2009.
- "Have you heard of this company? IIVI" 08/05/2010.
- "Have you heard of this company? CHRW" 09/21/2010.
- "Have you heard of this company? EZCH" 12/09/2010.
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