Author: Bristlecone Value Partners
Covestor model: Large Cap Value
Disclosures: Long DELL
In May, the model portfolio’s value was essentially unchanged, exceeding the S&P 500 index’s 1.35% drop as recent news seem to mostly point towards slower economic growth in the US. Year-to-date as of end of day 5/31/11, the portfolio is outperforming the S&P 500 by just over 2%, according to Covestor’s calculations.
During the month, we reduced our investment in Covidien as the stock price approached our estimate of the company’s value. Using a portion of the proceeds from this sale, we increased our investment in Dell. As we mentioned before, recycling capital from one investment with low price-to-value discount to another with high price-to-value discount is a cornerstone of our portfolio management process.
Cash was about 6% of the portfolio in May.
Turning to Dell Inc. (NASDAQ: DELL), we were encouraged by the company’s latest quarterly results. Although we never focus our attention solely on quarter-to-quarter results, we look for confirmation that our investment thesis remains valid.
Dell’s management is in the process of transforming the company through acquisitions by increasing the portion of revenues that is derived from selling servers, storage, and related software and services. Such business lines offer greater margins, but also come with higher switching costs to customers, thereby improving the company’s overall profitability and competitive advantages.
We feel that recent results indicate that this strategy is gaining traction. In addition, Dell sports a pristine balance sheet, supported by high free cash flow generation.
The risks are that Dell’s consumer business (desktops, laptops, etc.) will decline faster than we anticipate or that the current attractive characteristics in enterprise hardware and services will be competed away. Weighing the potential risks and rewards though, we felt that Dell’s current price-to-value discount warranted a bigger capital commitment in the portfolio.