In this fireside video interview, Marcus Burns discusses the small cap market, Spheria’s investment philosophy and a recent addition the Spheria Australian Smaller Companies Fund portfolio.
Small caps, both domestically and internationally, have sold off a lot over the last two years. So the smaller company, particularly micro caps and small caps, have both lagged the larger indexes by a long way. We found that at some point they’ll become very attractive and the market will reallocate capital back into small caps. We’ve seen a bifurcation in the market, so stocks that have met or exceeded earnings have had a massive re-rating and those that have missed or it seems more cyclical, have been severely de-rated. And in these sectors, we’re seeing tremendous valuation opportunities at the moment.
Spheria focuses on free cash flow generation. We believe cash flow is a bedrock of our investment process. So the three things we look for in a good company: consistent free cashflow generation, modestly geared or no gearing in the balance sheet, and an attractive valuation. We find this gives us a better risk-adjusted return through a cycle. Stocks with good free cashflow can pay dividends, buy stock back, make acquisitions during tough periods.
A stock we’ve added to the portfolios recently is Harvey Norman. It’s a very well-known electronics retailer with stores domestically, internationally as well. And one of the things people miss about the stock is a tremendous amount of property portfolio that it owns. So it has around about $4 billion of property, which makes the core retail business incredibly cheap on mid-cycle numbers.