Exceptionally well-run company that is a serial acquire of small VMS companies: Del Vicario on CSU

Key Concepts

• Quality Focused Value Investing: An investment strategy that prioritizes stable, high-quality companies with sustainable returns on equity, often founder-run and founder-owned, for long-term holding.
• Bifurcation in Markets: A divergence in market performance where certain types of stocks (e.g., predictable, quality companies) are out of favor while others (e.g., AI-related stocks) are highly sought after.
• Pick and Shovel Strategy: Investing in companies that provide the tools or infrastructure for a burgeoning industry, rather than directly in the end products.
• Contrarian Investing: An investment approach that goes against prevailing market sentiment, buying assets that are out of favor and selling those that are popular.
• Unit Economics: The revenue and costs associated with a single unit of a product or service, crucial for understanding a business's profitability.
• Duopoly: A market structure dominated by two firms.

Market Performance and Investment Philosophy

The market has shown strength this week following a sell-off last week. The guest, Jason Delbicario, portfolio manager at Hillside Wealth Management, argues that quality focused value investing has been out of favor in recent months. He believes that patient investors will ultimately be rewarded.

Delbicario notes a bifurcation in the markets that began around July/late summer. This divergence sees predictable, sustainable, quality companies with strong return on equity, often founder-run and founder-owned (the types of businesses Hillside favors for long-term clients), being overlooked. This is contrasted with investors flocking to companies like Nvidia, and speculative assets like Bitcoin and gold, driven by the excitement around Artificial Intelligence (AI).

Despite the current market sentiment, Delbicario emphasizes that "cash is king, cash flow matters" and that patient investors will be well rewarded over the long term.

AI Companies and Market Speculation

Delbicario's investment thesis involves avoiding companies that avoid competition, particularly on price. When asked about AI companies, he admits limited familiarity but suggests a "pick and shovel" strategy might be prudent during such booms.

He identifies Nvidia as a leader in this space, noting its estimated 90% market share, which aligns with the principle of avoiding competition. However, he raises concerns about Nvidia's revenue concentration, with reports suggesting up to 60% of revenue comes from just four customers. Furthermore, the lack of recurring revenue and limited service revenue from their products gives him pause. Hillside prefers companies with frequent purchases or activity. Delbicario prefers to "bet on the winners once the race has started," and he believes it's not yet clear who the ultimate winners will be in the AI trade.

Regarding the current market environment, Delbicario feels it leans towards speculation and hype. He points to companies with no profits or trading at 50-100 times earnings as evidence. However, he also employs a contrarian perspective: when everyone is talking about a bubble, it often signifies that a bubble isn't present. The widespread discussion of an AI or tech bubble triggers his "contrarian radar." He believes peak speculation occurs when complacency sets in, and people universally assume prices will only go higher, making certain investments the "only way forward." Therefore, he is not yet convinced whether the market is in a bubble or not.

Specific Stock Analysis

Constellation Software

Delbicario believes investors may have been too hard on Constellation Software. While acknowledging it was previously richly valued (over 50 times earnings), it has since come down to around 30 times earnings. He notes that adjustments to earnings are necessary to ascertain actual cash earnings, which might not be immediately apparent on standard financial platforms.

This is the first time in a decade that Constellation Software, a company he first featured as a top pick in 2014 at around $250, has become relatively affordable. He considers current levels to offer "reasonable value, not exceptional value," for those who don't own it or wish to add to their positions. He also mentions its two spin-offs, Topicus and Lumine, which have also experienced significant sell-offs.

Reasons for the sell-off include the departure of Mark Leonard due to health reasons and concerns that large language models will enable independent software development. Delbicario views these concerns as "overdone" and believes the shares have sold off more than warranted given the company's strong business fundamentals and unit economics, describing it as "exceptionally well-run."

Novo Nordisk

Novo Nordisk, the Danish weight loss drug giant, has also suffered lately, with investors seemingly favoring Eli Lilly. Delbicario acknowledges that in the short term, Eli Lilly has gained market share, particularly in the US. However, outside the US, Novo Nordisk remains the clear market leader in both diabetes insulin care and obesity care.

The stock is down significantly from its all-time highs, trading in the low teens with a reasonable dividend yield. Delbicario highlights that Novo Nordisk is a duopoly with Eli Lilly and is a 120-year-old company that is "not going away." He believes the shares at current levels represent "tremendous value," despite potential near-term volatility. Hillside has been accumulating shares over the past few months and feels comfortable with their position.

Conclusion

Jason Delbicario's core message is that while speculative fervor around AI and other growth areas has led to a market bifurcation, patient investors focused on quality and value will be rewarded. He advocates for a disciplined approach, favoring well-established companies with strong fundamentals and cash flow, even if they are temporarily out of favor. He uses Constellation Software and Novo Nordisk as examples of companies that, despite recent headwinds or market sentiment, offer compelling value at current price points due to their underlying business strength and market positions. He remains cautious about the current market's speculative nature but uses contrarian indicators to suggest a full-blown bubble may not yet be in place.