Article 27 of 44
Mutual Funds
Mutual Choice
Sifting for Gold
In the Rubble
---
Sound Shore hunts
For overlooked treasures
By Sandra Ward
01/27/97
Barron's
Page 44
(Copyright (c) 1997, Dow Jones & Company, Inc.)
Amphenol sounds like the kind of drug you might use to stay awake if you
worked in a company making cable gear and fiber-optic connectors. In
fact, Amphenol, based in Wallingford, Conn., is a company in what would
seem the rather dull business of making such materials. But judging by
merchant banker Kohlberg Kravis Roberts' decision last week to buy a
majority stake in the company for $1.5 billion, it's a business more
promising than prosaic. Investors immediately sensed its appeal and drove
the shares up 11%, to 25 3/4, a level not attained since last June.
Long before KKR's move, however, two guys toiling along Sound Shore
Drive in Greenwich, Conn., tripped over Amphenol as they trolled a
universe of about 1,250 mid- to large-cap issues in search of unloved and
overlooked stocks trading below historical P/E ratios and at discounts to
other valuation measures. Amphenol was trading at 11 times earnings,
rather than its more typical 15 P/E. Its international cable business was
humming and the domestic side, which has been soft, was poised to lift off
as soon as spending by the big cable television companies perks up again.
Its connector business, which represents the bulk of its operations, is
benefiting from work in the aerospace and automobile industries.
As is their custom when they find compelling values in established,
well-managed companies with solid prospects, Harry Burn III, 53 years
old, and T. Gibbs Kane Jr., 48, began accumulating Amphenol shares for
their institutional accounts and for the Sound Shore Fund, a small no-load
they run for individual investors. As of early last week, they were still
buying shares. With a target price of 31 1/2 on the shares, they'll stick with
their investment for a while.
Both Burn and Kane, who've been at this game for 18 years, take a
long-term view, and that's helped the nearly 12-year-old Sound Shore to
deliver some nice returns. Sound Shore soundly beat the S&P 500 in
1996 with a gain of 33.3%, not to mention trouncing the 19.2% gain
posted by the average growth fund. Its 11.7% advance in the fourth
quarter bested the S&P's 8.4%, as well the 5.14% delivered by its peer
group. For the three years ended Dec. 31, Sound Shore gained 20.18%
compared with 15.2% for the average growth fund, and 15.3% for
general equity funds.
Such numbers have a way of catching investors' attention, and Sound
Shore has grown to about $150 million in assets from $75 million last
summer. In that time, too, it became available through fund supermarkets
run by Charles Schwab, Fidelity and Jack White.
For Burn and Kane, the job is not merely a matter of sifting through
computer screens for values. "We take each stock and pull it apart," says
Burn, who, in addition to sharing stockpicking duties with Kane, is
chairman of Sound Shore Management. "We look at the concerns of the
marketplace."
And while they eschew a top-down approach, they care about
macroeconomic trends and pay close attention to things like interest rates
and commodity prices. "We use it as background noise," explains Kane.
"It's music in the elevator."
Indeed, Burn notes that occasionally, macro factors can trigger a
purchase: "The best time to buy Fannie Mae (Federal National Mortgage
Association) is when people are concerned about interest rates," he
explains. "We look at what expectations are built into the stock."
Last year, Sound Shore 's methodology paid off when close to a third of
the 35-40 names in the portfolio, including Vons, MCI, AMR and TJX,
substantially outperformed.
Says Burn: "It's confirmation that you're viewing the world appropriately."
While the fund managers insist their approach isn't sector-driven, they
acknowledge that sometimes the names in the portfolio will be
concentrated in a sector simply because the industry group as a whole is
out of favor.
Right now, that's the case with stocks related to health care. One such
name that Sound Shore has been snapping up at prices ranging from the
low to high 20s is Health Systems International, a big California health
maintenance organization that's in the process of merging with Foundation
Health to become the nation's fourth-largest HMO with $8 billion in
premiums. The merger will create opportunities to cut costs, and Health
Systems should earn $2.40 a share in 1997, the Sound Shore managers
figure. Health Systems currently trades at about 56% of the S&P multiple,
or about 10 times earnings, down from a more normal 95%.
"We believe the HMO business is valid," says Burn, and the merger
strengthens Health Systems' position in the hotly competitive California
market. Burn and Kane point out that Health Systems has a handle on
costs, shows good cash-flow characteristics, is seeing improvement in its
medical loss ratio, typically a sign of strong claims management. The pair's
target price for Health Systems: 42 1/2.
Also on Sound Shore 's buy list is Beverly Enterprises, a sprawling
nursing-home chain and pharmacy operator, trading currently at about $13
a share, or less than 15 times projected earnings. Historically, the shares
have tended to trade at a premium to the S&P, but are now changing
hands at 81% of the S&P. Burn and Kane have a target price of $19 on
the shares after paying an average of $11 a share for their position.
The managers like Beverly's dominant industry position and they're very
intrigued with the hidden value of its Pharmacy Corp. of America unit,
which they expect will have revenues in the $550 million range this year.
Based on 1.5-2 times revenues, the pharmacy division represents about
$8 a share of Beverly's total value, they figure. And that makes the entire
outfit woefully undervalued by the marketplace, say Burn and Kane. An
added kicker: C. Arnold Renschler, whom they mightily respect, was
named chief executive of the pharmacy operation last May.
---
Safe and Sound
-- Along with his co-manager and friend, T. Gibbs Kane Jr., Burn finds his
best selections in the rubble of out-of-favor mid- to large-cap companies
with established products and estimable managements. In 1996, the fund
beat the S&P 500 handily, with a return of 33.3%. One name Sound
Shore is betting on now is Beverly Enterprises, whose price doesn't
reflect its pharmacy unit's value.
---
FUND SCOPE
Here's . . . Fidelity
-- Fidelity's New York roadshow stop more closely resembled a rock
concert than an investment seminar. An overflow crowd of individual
investors, 2,500 or so, some personally invited and some responding to
newspaper ads, jammed the stairwells and elevators at the
Waldorf-Astoria trying to get to the ballroom to hear top executives of the
nation's biggest asset-management firm point out that, despite
appearances, they know how to manage money managers as well as
money. The firm played up its bench strength and a culture that
encourages idea-sharing (read team approach). It made much of the fact
that new managers put in charge of the more problematic funds last year
have indeed helped performance. Many investors streamed out of the hall
20 minutes before the session ended. They weren't disappointed, just in a
rush to get to the free food.
-- Sandra Ward
% %
ASSETS 3-YEAR 4TH QTR Y-T-D
($ billions)** LOAD RETURN* RETURN* RETURN*
(Fund/Phone) Fidelity Magellan / 800-544-8888
Manager: Robert Stansky
$53.988.7 3.00 51.42 6.85 3.88
(Fund/Phone) Fidelity Growth & Income / 800-544-8888
Manager: Steven Kaye
23.896.5 None 68.27 6.93 3.45
(Fund/Phone) Fidelity Contrafund / 800-544-8888
Manager: Will Danoff
23.797.9 3.00 67.42 8.49 3.94
(Fund/Phone) Fidelity Equity Income II / 800-544-8888
Manager: Bettina Doulton
15.238.4 None 55.09 6.75 3.09
(Fund/Phone) Fidelity Adv Growth Opp / 800-522-7297
Manager: George Vanderheiden
15.105.1 None 61.65 8.82 3.85
(Fund/Phone) Fidelity Equity Income / 800-544-8888
Manager: Stephen Peterson
14.258.9 None 62.17 8.37 3.36
(Fund/Phone) Fidelity Blue Chip / 800-544-8888
Manager: John McDowell
9.569.7 3.00 65.35 6.15 4.53
(Fund/Phone) Fidelity Growth / 800-544-8888
Manager: Steven Wymer
9.272.6 None 65.00 3.13 5.37
(Fund/Phone) Fidelity Value / 800-544-8888
Manager: Richard Fentin
7.080.1 None 57.20 6.31 1.77
(Fund/Phone) Fidelity U.S. Equity Index / 800-544-8888
Manager: Jennifer Farrelly
5.778.8 None 75.54 8.25 5.05
*Through last Thursday
**Includes all shares classes
Sources: Lipper Analytical Services
Copyright c 1997 Dow Jones and Company, Inc. All Rights Reserved.
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