30.09.2004

It’s been difficult to ignore the success of Brandes Investment Partnersin 2004. The US investment firm has made serious money last year on the UKstock market after taking big stakes in Marks & Spencer (LSE: MKS) and AbbeyNational (LSE: ANL) prior to some high-profile takeover developments.

Though its selections are not Qualiport candidates, what’s really strikingabout Brandes is its dedication to the stock-picking approach pioneered by the‘Father of Value Investing’, Benjamin Graham, during the 1930s. A moneymanager must be worth following when it continually refers to The IntelligentInvestor and ‘margin of safety’ within its promotional literature, and has aManaging Director of Investment that remarks: “We don’t ask our analysts torecommend stocks – we ask them to value businesses”! Not surprisingly,Graham's value philosophy has served Brandes well over time. Indeed, it hasbecome one of the fastest-growing fund managers in the world. After itsformation in 1974, total assets had reached $11m by 1984. However, by 1994,those assets had swelled to $3.9b and by 2004, they topped $87b. Strategy Sowhat’s the Brandes strategy in practical terms? The following has beenextracted from The Search for Value, a document from the group’s website thatoutlines its stock-picking philosophy: How do you determine whether a stock isgood value? We analyse long-term rates of return, cash flows, balance sheetstrength, management, asset values, and liquidation values. We also often lookat private market transactions to determine intrinsic, or fair, value. We lookfor a business with a potential margin of safety – one selling at a pricebelow our estimate of its intrinsic value. A margin of safety provides someprotection from error and uncertainties. This is a conservative approach thataids in preserving capital and gives us the opportunity for profit. Howimportant are book values in your methodology? Book values can be verymisleading as a measure of value… For example, an obsolete steel plant may beworth far less than the stated value on the balance sheet. Conversely, a wellknown, dominant brand name may have accumulated tremendous value that is notreflected on the balance sheet. Do you own stocks with low price to earnings(P/E) ratios? Most of our stocks carry low P/Es. This is fundamental to ourapproach. But as in the case of asset values, earnings may need adjustment –and we focus on “normalised” earnings, not the most recently reportedresults. In general, we tend to pay as little as possible for the earningsstream of a business. How important are dividends? Typically, dividends are notconsidered in our process of screening for value stocks. However, businessespriced at bargain levels in many cases pay higher-than-average dividends. Is itreally possible to acquire companies at bargain prices? Yes. Many companies areoverlooked, misunderstood victims of investors’ overreactions, misplaced fear,and exaggerated focus on short-term performance. We are often able to acquirecompanies inexpensively when they experience temporary difficulties or whenmarket conditions are generally weak. We think independently and make investmentdecisions based on quantifiable evidence. We seek to shield ourselves from theinfluence of short-term public sentiment, and our actions tend to countercurrent opinion. We are patient, conservative investors who are willing to waitfor values to surface. We also seek to capitalise on changes in corporatedirection and strategy that increase a company’s intrinsic value. Often, themarket is slow to respond to positive changes, creating an opportunity for thepatient value investor. What is the role of economic and industry analysis onyour investment process? Analysing or attempting to predict future macroeconomictrends plays virtually no part in our investment process. For example, we do notbase investment decisions on our opinion of future changes in interest rates oreconomic growth. How important is company management in arriving at aninvestment decision? We prefer companies with management teams dedicated to theinterest of shareholders, not to building empires and their own net worth,independent of the shareholders. We look at a variety of factors such ascompensation arrangements, stock holdings, management goals and statements, andactions that indicate attitude toward owners. How diversified are yourportfolios? We concentrate our portfolios in 45 to 75 stocks…We believe ourvalue discipline enables us to confidently take positions that can besignificantly different from the composition of popular indices. How long do youhold positions and what is your sell discipline? We have no fixed holdingperiod. We may hold an investment as long as the intrinsic value exceeds thestock’s market price. When a company’s stock price reaches our estimationof its intrinsic value, or if we are able to identify a superior alternative, itis sold. Our holding periods typically average three to five years. Sources;3. Motley Fool’s Value Investor newsletter, produced in the UK to helpinform and guide UK investors. (26/10/04) 4. Brandes InvestmentPartners LLC.