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Selectively Balanced in Smaller Caps and Corporate Bonds
Villere Balanced Fund
Interview with: Sandy Villere, III

Author: Ticker Magazine
Last Update: Feb 27, 11:44 AM EST
Traditionally balanced funds are diversified among well-known large-cap stocks and U.S. Treasuries, with a more of a risk-averse investment style. Portfolio manager Sandy Villere explains how the Villere Balanced Fund prefers to concentrate on faster-growing stocks trading at reasonable valuations, and diversify in select corporate bonds.

ďOur balanced fund generally has between 60% and 70% in stocks and 25% to 40% in bonds. We offer active management, concentrating on just 20 to 25 securities based on our best ideas, rather than diversifying into every sector, globally.Ē
Q: How did the Villere Balanced Fund evolve?

A: We were founded in 1911 by my great-grandfather, making me the fourth generation to work at Villere & Company. We originally only managed individual accounts for high-net-worth individuals and institutions until we expanded in September 1999, launching our first mutual fund, followed by a second in May 2013.

Q: What differentiates your fund from its peers?

A: A typical balanced fund has large-cap value and blend, with about 150 to 200 holdings, where the top five holdings are well known companies like Apple, Microsoft and Chevron. Our fund has small and mid-cap growth comprising reasonably priced securities. These companies are earlier in their growth cycle with the potential to make money currently and into the future, versus larger, slower growth dividend paying companies.

Our balanced fund generally has between 60% and 70% in stocks and 25% to 40% in bonds. We offer active management, concentrating on just 20 to 25 securities based on our best ideas, rather than diversifying into every sector, globally. Thereís so much concentration on index funds these days. Instead, we target a five- to seven-year period, a full market cycle, where we can potentially deliver better returns than that of an index.

Right now, the fundís assets total about $230 million, but we buy the same stocks for the fund as for the separately managed accounts, so, in total, our assets are north of $2.0 billion. By only buying 20 to 25 companies, we take a substantive position in each, giving us a competitive advantage. As we are often a top-10 shareholder, these companies take our calls, permit scheduled visits, and answer our questions.

Q: What core beliefs drive your investment philosophy?

A: Other than being small- and mid cap-concentrated, we have a bottom-up-oriented process. As stock pickers, we love companies featuring reasonable/low/no debt on the balance sheet, and companies with strong free cash flow characteristics so that if revenue falls, they have sufficient cash to make acquisitions, pay dividends and buy back stock.

We also want to see a low price-to-earnings (P/E) ratio relative to its growth profile, particularly P/E to growth thatís less than or close to 1, as opposed to stocks with high price-to-earnings. We seek a low P/E to growth before buying something.

We look for companies growing 15% or 20%, available at a multiple of 10, 12 or 13 times, that we can hold for five or six years. We also love companies that dominate a particular industry, ideally with high barriers to entry that make it difficult for other companies to compete. While we love small and mid caps as opposed to larger cap, sometimes we might stray larger if itís temporarily out of favor, making it inexpensive, in which case we will try to take advantage of market volatility or other short-term market dislocations.

Q: Why do you prefer small cap versus large cap?

A: Historically, when comparing returns on a basket of small caps versus large caps, small caps tend to outperform by about 2.5% over long periods because the slight increase in risk offers slightly more reward. Visa Inc. is the largest company we own. When the Durbin Amendment came about, it was under pressure for about a year, falling to about 14 times earnings from its norm of trading at about 19 or 20 times earnings, and growing at 20%, so we took a position. Weíre still holding it, but itís getting a bit expensive now.

In general, smaller companies can grow much faster. We like to buy companies with a long runway ahead of them as opposed to larger, more mature companies where growth is slowing.

Q: How does your philosophy translate into your investment process?

A: Letís say there are 3,500 U.S. companies in the investable universe. We narrow that down to those that are growing quickly, have little debt, and reasonable valuations. That gets us down to about 500 companies. We begin researching, ideally meeting management teams, and gauging the competitive factors, which pares our list to about 100 companies.

Then we look at all the characteristics I mentioned, ignoring macro factors such as interest rates, oil prices, or the direction of the dollar, focusing on individual companies and their earnings profile over the next three to five years. We donít care what the next quarter or the next year looks like. We seek long-term potential.

We visit these businesses to better understand whoís managing the company and assess their track record in order to invest for the long term. We think of ourselves as owners of these businesses.

Q: Can you cite an example of your due diligence process?

A: We like Axon Enterprise Inc. right now, which develops non-lethal weapons for the police and military. The weapons business is typically a good cash generator, but we were particularly taken by their business model, which is essentially a SaaS (software as a service) model, providing body-worn cameras to police departments all over the country.

Axon doesnít make money on the camera. Instead, users pay a monthly fee per camera to download the digital content after every shift onto Axonís website, Evidence.com, providing a solid, steady cash flow. Part of our bottom-up research included talking to their clients about the value of the service, even meeting with some local police chiefs here in New Orleans. Behavior is much better on both sides of the badge, we were told, by both officer and perpetrator. That gave us the confidence to invest in the business. Many police departments have begun to use their cameras and the need continues to grow.

Q: How do you decide what position size to take?

A: We lean toward about a 3.5% position, between $75 million and $90 million, depending on the bond allocation in each separately managed account. But we donít want to move the market, so we tend to buy over about a 20-day period, staying below 20% of the daily volume of that particular business. We find this allocation to be more meaningful. If a stock works, it can have an actual impact on the whole portfolio. Most of our competitors take such small position in each company that one individual stock doesnít really move the needle.

Q: Would you share another example of your research process?

A: We bought POOLCORP, a local company, originally when they went public in 1996. What we loved about the business was that, competitively, they are as big as their largest 50 competitors combined. The majority of swimming pool owners in the U.S. get their chlorine and maintenance and repair supplies from POOLCORP, making it the largest distributor of swimming pool products in the country.

The preponderance of their revenue derives from repair and maintenance, because people generally wonít let their pools turn green or black from algae, so itís a great investment for us. They continue to grow nicely, adding related, often green businesses that steer customers toward having their whole yard attended to by POOLCORP, including gardening and lighting. Itís consistent and has been growing probably 18% to 20% for the better part of 20 years.

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