Liam sharp
Knife fights, both literal and figurative, usually end badly. Take the bloodbath during the final months of 2008, when markets tumbled and even blue-chip funds were gutted. Enter Michael Simpson and Aubrey Hearn, who found themselves steering the just-launched Sentry Growth and Income Fund. The duo managed to dodge the markets' whirling blades: As of Sept. 30, the adviser-sold version of the fund sported a two-year annual return of 10.1% versus 5.9% for the S&P/TSX Total Return. Simpson and Hearn shared some knife tricks with Andrew Bell.
Simpson: The biggest lesson we learned was that it wasn't enough for a company to have a good balance sheet. We needed to look at working capital and debt. For example, did they have debt coming due in six to nine months and how were they going to refinance?
Hearn: What I learned was how tightly asset classes are correlated during a panic. It didn't matter what you owned.
Hearn: We bought companies such as Alimentation Couche-Tard, [garbage collector]Republic Services, Cargojet Income Fund and CN Rail, which worked out quite well.
Simpson: You've got to be merciless. If a stock isn't a core position and it gets to fair value, it will get sold. Yes, it hurts. You shouldn't become a money manager if you're emotional, though.
Hearn: A mistake we made in 2008 was not paying enough attention to the lower-quality names; these went on to outperform when the market came back.
Simpson: All stocks are cyclical, but some are more cyclical than others.
Hearn: I haven't met anyone who can successfully time the market. It's best to be invested almost all of the time.
Simpson: Two investments did well for us in the past few years. CCS, or, as it was first called, Canadian Crude Separators, was taken out by private equity. The second one is K-Bro Linen Systems Inc., the largest provider of laundry and linen services in Canada. We bought K-Bro on the IPO at $10, and we still own it.
Hearn: Buy companies that generate high levels of return on equity and return on invested capital. Plus lots of cash flow and high barriers to entry. It doesn't matter what the market thinks they're worth in the short term.
Simpson: What bugs me? Managers believing their own unrealistic growth projections. Excessive growth rates are not sustainable.
Hearn: People don't do enough homework. They'll do a cursory analysis of P/E ratios and read some news article. But you need to put a lot of thought into what makes a good company.
Simpson: The thing about IPOs is that sometimes the prospectus goes back only three years, so we can't see how it did in the last downturn. And some of these companies are thrown together by various acquisitions. With an IPO, it's buyer beware.