Two of our Japanese stocks (JAE, the electrical equipment business, and Tosoh, a chemical specialist), posted impressive quarterly returns of 22.3% and 22.1% respectively. These are equally responsible for almost half the quarterly performance. JAE is a new addition for the Fund, and based on our purchasing near recent lows, it does seem on first glance that on this occasion we got the timing about right. Tosoh’s share price, on the other hand, has simply recovered to levels mildly above what we have paid for this business on average for the tranches we have bought since August last year. During the quarter we were active in trading the shares of both of these companies – buying in January and then, due to rebounding share prices (and consequent breaches of our diversification rules), selling in February and March – a nice problem to have!
Still in Japan, we exited our positions in Sumitomo Construction and Haseko, the construction businesses. Both were the result of failing our balance sheet strength and risk of financial distress criteria. In fact, we can expect more trading in Japanese shares, as we look to tighten the criteria by which we assess business quality. As we refine this process, we are tending to find fewer Japanese companies are making the grade.
Lear Corporation (the US supplier of seats and electrical systems to automobile manufacturers) and Dick’s Sporting (the US sporting goods retailer) both contributed meaningfully. With regard to Lear Corporation, to a large degree this reflects a reversal of its prior poor performance. Consistent with our view of this being a high quality business, it is the Fund’s largest holding and one we have held for a long time. The evidence suggests our refusal to succumb to the malaise in December (with its share price down 40% over six months) was vindicated. And we think there is more to come. Conversely, Dick’s Sporting is a recent acquisition. We accumulated most of our position in mid December, whereupon over the next couple of weeks (to the end of the year), it fell 14.2%. After rebounding strongly (around 25%) it released results in March which disappointed Mr Market (but did not phase us). The share price fell 11.0%, which provided the opportunity for us to increase our position. All in all, it ended the quarter up 18.0%.
Other solid contributors included Samsung (the Korean electronic IT manufacturer), Franklin Resources (the US investment manager) and AGL (the Australian energy producer) – all long term holdings. It was also pleasing to see some smaller positions we first bought in December posting solid share price gains.
During the quarter we initiated three North American positions. We added to our existing stock of airplanes (as represented by our investments in Delta Air Lines and Hawaiian Holdings) by establishing a position in United Continental. We also bought United Therapeutics (the US pharmaceutical company that develops and commercializes products for patients with chronic and life-threatening diseases). And in Canada, we bought West Fraser Timber (the integrated wood products supplier) and sold its local counterpart, Western Forest Holdings – based on the former being cheaper.
Sticking with Canadian forests, the worst performer for the Fund over the quarter was Canfor Corporation (the Canadian integrated forest products company), with its share price falling 17.1%. As we discussed in our September report the rationale for our purchase was largely to access its pulp business (Canfor Pulp) in a cheaper way. We are not proud to report that the losses we have experienced to date from Canfor Corporation have more than wiped out the prior gains we had made from Canfor Pulp. We discussed Canfor Corporation and the possible reasons for its apparent “cheapness” in our December report. We have always been cognisant that its earnings are largely dictated by prices of its underlying commodities – but with long term double digit cash flow yields, there is no denying it is cheap. However, our track record with “cheap”, cyclical businesses has not been impressive, so we remain on alert.
Tenneco, the US producer of automotive parts, by falling 18.5% continues to be a drag on Fund returns. It released disappointing results, and upon our updated analysis we understand the market’s reactions. We see merit in the restructuring of this company (which will culminate in a spin-off of its Aftermarket and Ride Performance business), but we are questioning whether the likely longer term upside is worthy of maintaining our position.