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Small cap companies can be cyclical, risky, and the hardest hit in a market downturn. Yet veteran small cap manager JB Taylor, who manages the silver-rated CIBC Renaissance Global Small Cap mandate, captures performance through careful stock selection and a long-term growth perspective.
Taylor is chief executive officer, portfolio manager, and head of U.S. Small Cap Investing at Wasatch Global Investors in Salt Lake City, Utah. Wasatch is a subadvisor to CIBC Asset Management in Toronto.
“These are unprecedented times,” says Taylor, “but the strategy is not unprecedented. Small caps may broadly underperform but we believe that there are always segments that outperform because of the high quality of those businesses. So when you’re building a portfolio of 75 names, you just have to find those special companies that have more durable businesses and don’t have the same debt levels as the average company.”
In today’s precarious environment, indebted companies have declined the most. “But we have also seen a ton of opportunities,” says Taylor, “valuations we haven’t seen in 10 years. We’re as excited as ever.”
Specific growth focus
Using a bottom-up investment approach, the focus is on finding businesses that can grow by at least a 15% annual compounded rate from both revenues and earnings, or “Companies that essentially can double over the next five years, and then have the potential to double again over the subsequent five years.”
Other stock criteria to sift through the thousands of global companies include net cash on the balance sheet, strong cash flows, and being able to weather this economic weakness and come out the other side. Strong management and sustainable business models are critical.
The investment strategy differs from the MSCI World Small Cap Index that holds about 25% of the benchmark in the sectors of real estate, energy, material and utilities. These are not places where the managers find special, long-term growth companies. “We’re not afraid to have no weight in those sectors, because it is such a bottom-up process. We don’t want businesses that are predicated largely on either commodity prices or some macro tailwind or driver,” Taylor outlines. Instead, he likes technology, industrials, healthcare and consumers. Geographically, the portfolio is characteristically weighted approximately 50% in the U.S. and 45% internationally for fertile small cap opportunities.
Taylor believes the long-tenured team of more than 30 investment professionals is a key strength. The portfolio managers view their number one job as being great business analysts and stock analysts. The “off the beaten-path” firm is 100% employee owned and large shareholders. “We think that owning our own funds,” says Taylor, “these are our results that we’re generating, it’s not just the clients, and we want to continually improve.”
Who's hungry?
In positioning the fund, “I think the mandate is suited to someone who has a long-term growth appreciation appetite,” says Taylor, “because it’s really the power of compounding over many years to benefit from these great growth companies. Because of the high-quality focus, we do tend to have a consistent performance profile. So when markets do sell off and get choppy, we tend to outperform.”
U.S.-based Planet Fitness (OKJD) is a great example of ‘the baby being thrown out with the bathwater,’ Taylor says. During the panic, the stock went from US$90 to below US$30 but just in the last four weeks, it’s back up to US$65. Despite needing to shut down facilities in the short term, the company has a recurring revenue base of loyal customers that pay very cheap rates, just US$10.00 a month, whether they go to the gym or not. According to Taylor, there are so many members per Planet Fitness units that those units are highly economic and will continue to be so on the other side.
Paylocity Holding (PCTY), another favoured U.S. holding, is a cloud-based software company that provides payroll and human resource software to small and medium-sized businesses. “One of the reasons we love it is because it’s participating in the digital transformation of business. The product solution is cheaper to use, can be updated and has attracted a ‘very sticky customer’ base enabling more productivity and growth in the economy. It’s growing at above a 20% rate that will obviously take a hit here as business slows but those trends in digital transformation will only accelerate on the other side.”
Another U.S.-based holding is Olli’s Bargain Outlet Holdings (OLLI). As retailers have historically gone out of business, Olli is a consolidating purchaser of excess brand-name merchandise that has been mismarked or mislabeled and subsequently sold at very cheap bargain prices. “We think the company is very well run,” says Taylor, “and is relatively insulated from Amazon.com (AMZN) because of its purchasing power and ability to offer incredibly cheap discounts in a unique, fun environment.” He also believes that it’s a space that should do fairly well in economic weakness because it’s one of the first places that consumers will turn to for their shopping needs.
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