It was a rough week on the markets and if you are heavy in Canadian stocks you likely felt the selloff a little more than usual. For the first time in a while, the TSX was the worst-performing index on the week, losing 6.65%. But, it wasn’t pretty for any major index here in North America as the Nasdaq dropped 4.78% and the S&P 500 5.79%.
The markets are now dropping to the point where companies are starting to become attractive from a valuation standpoint. We’re fairly excited about the forward prospects of our Bull Lists at this time, and Stocktrades Premium should prove to be an invaluable tool during this drawdown.
We do realize the drawdown has been hard on a lot of investors. But, if you stick to a long-term mindset, you’ll realize that drawdowns are nothing more than opportunities to accumulate great companies at cheaper prices.
Yet, many people view investing during falling markets as high-risk, while investing during rising markets as low-risk. Over the short term, this may be true. But over the long term, it is the exact opposite. True wealth is created in bear markets.
This week’s e-mail will be relatively short but will highlight an overview of a struggling Bull List stock’s earnings, including a shift in the overall investment thesis, as well as an opportunity in the US markets that we feel is strong enough to bring to the attention of members. Let’s get started.
Enghouse (TSE:ENGH) earnings
Enghouse reported earnings that failed to hit the mark yet again. Earnings of $0.32 missed by $0.06 and revenue of $106.31M came in short of the $114.1M predicted.
The company is facing some headwinds including a lack of acquisition targets and higher levels of competition. Since its addition to the Bull List, our main thesis on Enghouse was that it was a strong growth by acquisition company, one that has historically provided outstanding returns on invested capital.
However, the company has struggled to fuel any sort of growth on the acquisition front post-pandemic and we are left with a company that is currently not growing at all.
Typically, we remove a company from the Bull List as soon as the thesis changes. However, with Enghouse we are in a unique situation where the thesis most certainly changed, but the selloff over the last while, especially after its most recent earnings filing, has turned the company into a value play and with that, an entirely different investment thesis.
From a discounted cash flow valuation standpoint, even if the company were to return to low single-digit cash flow growth we come to a fair value calculation of $38. If it manages to return to its pre-pandemic growth rates of high single-digit cash flow growth, our fair value calculations come in at $40+.
For this reason, it doesn’t make much sense for us to remove Enghouse from the Bull List. It presents a strong argument for a turnaround play with a strong margin of safety. And with the company being profitable, having a large cash balance, and virtually no debt, it is in a strong position to weather a recession if one were to happen.
We will have our updated report on Enghouse ready sometime this week.
Berkshire Hathaway is trading below Buffett’s threshold
Berkshire Hathaway, a conglomerate in the United States operated by arguably one of the best investors of all time, Warren Buffett, has hit a significant valuation threshold that we think members should take note of.
Historically, Buffett has had a particular valuation mark that has to be achieved for the company to start buying back its shares. Before 2012, that threshold was 1.1x book value. But in recent times they have loosened the policy on share buybacks to 1.2x book value.
The good news for prospective buyers is that the company’s price-to-book value has indeed dipped underneath 1.2x book. If you look at the chart below, you will see that despite a brief stint during the COVID-19 market crash, Berkshire Hathaway hasn’t been this cheap at any point over the last 6 years.
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If you’re unsure of what Berkshire Hathaway is, it’s core business is insurance. It sells insurance products through Geico, Berkshire Hathaway Reinsurance Group, and Berkshire Hathaway Primary Group.
However, along with its insurance segment, the company also holds a multitude of other blue-chip businesses in the United States.
The company’s portfolio contains the likes of Apple, Bank of America, American Express, Visa, Chevron, Coca-Cola, Kraft Heinz, Activision Blizzard, Moodys, Kroger, Citigroup, and many more.
It cannot be understated that Apple’s success has fueled Berkshire’s success. This is because Apple makes up over 42% of Berkshire’s portfolio at this time.
Over the last ten years, Berkshire Hathaway has outperformed the S&P 500 by almost 2% annually. In dollar figures, $10,000 invested in Berkshire 10 years ago is now $33,000, while $10,000 invested in the S&P 500 is now $27,300.
Why Berkshire right now?
As mentioned above, obviously valuations are playing a large part in Berkshire becoming more attractive. However, the resiliency of this company during harsh market environments needs to be taken into consideration as well.
Year to date, Berkshire has lost around 10.2%. With the recent fall of the TSX, Berkshire is now outperforming every major North American Index in 2022. And if we look at the S&P 500 and the NASDAQ, it is outperforming by significant margins, 12.5%, and 20.5% respectively.
If we look at the market correction in 2018 below, Berkshire Hathaway continued to outperform in times of volatility.
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If we look at the 2008 financial crisis, although Berkshire did face some heavy losses, it outperformed all major indexes here in North America by wide margins.
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And finally, if we look at the dot-com bubble of 2000, Berkshire’s outperformance during times of volatility is most obvious. From March 2000 to March 2003, Berkshire returned nearly 41% while major indexes like the S&P 500 lost 30%, and the NASDAQ lost a whopping 72%.
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Overall, combine Berkshire trading at a 16.5% discount to its typical price to book value with the company’s strong track record of performance during market volatility and in our opinion, Berkshire Hathaway provides a fairly strong opportunity right now.
For Canadian investors, Berkshire is available via CDR
Berkshire is popular enough that the Neo Exchange includes a CDR, or Canadian Depository Receipt for the company. This means that you can buy Berkshire Hathaway without the hassle of exchanging CAD for USD.
It trades under the ticker “BRK.NE”. However, you may see the CDR trading under the ticker BRK.TO or BRK.NO depending on your brokerage. Just make sure to double-check what you’re buying if you do choose to buy it.
Owning the CDR is no different than owning the underlying shares, except for the fact you can buy it in your home country’s currency. For many members who will ask the question “if I do decide to buy this, should I buy the USD stock or the CDR” our answer to that is as follows:
If you want exposure to Berkshire, without the impact of currency fluctuations (good or bad), buy the CDR. However, if you’d like exposure to both Berkshire and the US Dollar, buy BRK.B.
The company does not pay a dividend. This makes things less complex in regards to what account you should hold it in.
Of note, I (Dan) plan to buy the Berkshire Hathaway CDR.
