Michael Kops: Hello, I’m Michael Kops, Vice President at Heartland Advisors. Today I’m here with Will Nasgovitz, Portfolio Manager for the Heartland Value Fund.
Will, uncertainties seems to have reached a fevered pitched, what impact is that having on markets and the broader economy?
Will Nasgovitz: Hi Mike, thanks for having me and thanks to all who are tuning in.
Mike, that’s a great question. Many businesses and consumers, not knowing what other shoes might drop, held off making big decisions, reducing the pace of new hiring, investments, and spending in the quarter, leading to a selloff. The flight to safety hit small stocks, with the Russell 2000® down around 9.5% in the first quarter.
When the macroeconomic picture begins to blur, it often makes sense to focus on the micro. That’s how some of the smartest investors in history, such as Warren Buffett and Peter Lynch, found their success. We’re fans of Peter Lynch’s famous quote: "Behind every stock is a company. Find out what it’s doing.” The message is that what really matters is researching companies from a bottoms-up perspective.
The mistake that many investors make is letting top-down macro worries drive them out of equities rather than concentrating on the opportunities presenting themselves.
Mike: What are the benefits of taking this micro approach?
Will: We believe focusing on the micro and understanding the underlying strengths and vulnerabilities of companies in our Strategy helped us navigate the choppy market during the quarter. In our view, the logical response to uncertainty is to think about as wide of a range of outcomes as possible, which is what our approach requires us to do. For every company we hold or consider, four price targets are established to weigh both upside potential and downside risks. Those reflect best-case, base-case, downside-risk and max-downside-risk scenarios. By doing so, we try to go into every situation already knowing what to expect should circumstances change for the worse.
Mike: For the quarter, the Heartland Value Fund fell 5.6%, compared with the 7.7% decline for the Russell 2000® Value Index. What do you attribute that to?
Will: We were willing to take what the market was giving us. The conditions may not be ideal, but uncertainty gives rise to fear, bringing about lower stock prices, which provides patient, disciplined investors like us with opportunities.
Mike: What is a good example?
Will: Recently, we’ve added to positions where the fundamentals make sense and insider buying to confirm our views. A good example is Columbus McKinnon Corporation (CMCO), which we initially added to our Strategy in the fourth quarter. The company designs, manufactures, and distributes materials, handling products, and systems used in a variety of industrial applications, including lifting, precision conveyance, and linear motion.
The company reported a softer recent quarter due to slowing industrial demand driven by U.S. policy uncertainty. They also announced a $2.7 billion acquisition of competitor Kito Crosby, which sent the stock plummeting 41% due to uncertainty around execution and an increased leverage profile of 4.8x upon closing.
We believe Columbus McKinnon offers investors a compelling risk/reward case and a strong catalyst as it seeks to reduce leverage and improve the growth and margin profile of the consolidated business. Management, which has been aggressively purchasing the stock in the open market during the recent sell-off, is targeting mid-20% EBITDA margins upon integration. That’s up from an estimated 15.5% in FY25 pre-acquisition.
At the end of the quarter, the stock was trading at $17 a share. Our current target price of $54 would imply a valuation of 10.5 times Enterprise Value to EBITDA. Upon execution of the acquisition, however, we believe the stock should be treated similarly to its industrial peers trading an at average of 12x EV/EBITDA.
Mike: Columbus is an example of a stock that was negatively impacted by policy uncertainty. Are there any examples of companies that could benefit from recent policy changes?
Will: PotlatchDeltich (PCH) is a good example. PotlatchDeltich is the only American wood products company that manufactures entirely in the U.S, it is likely to be a primary beneficiary of the rising cost of imported timber.
Mike: Any final thoughts?
Will: This is what active management is all about. The two great emotions in investing are greed and fear. Within less than two quarters, this market has swung from one to the other. If there’s anything we’ve learned in the 40+plus years of managing the Value Fund, it’s the folly of trying to guess what’s going to transpire at the macro level in the short-term.
What really matters is being able to control your emotions and focus on the micro over the long run in conjunction with a risk management mindset. We believe today’s emotionally charged extreme is setting up opportunities for the active, value-based investor.
Mike: Thanks for sharing your thoughts, Will.