Bernie Horn is president and portfolio manager of Polaris Capital Management, and manager of the Polaris Global Value Fund (PGVFX). The Fool's David Meier recently had the opportunity to interview Mr. Horn via email. You can find the first part of the interview here.
David Meier: What is your best investment ever, and why? Worst investment?
Bernie Horn: If we survey our holdings dating back to 1998, when our L.P. converted to the Polaris Global Value Fund, I would say our best performer (and current holding) would be Finland-based KCI Konecranes. In that amount of time, our investment has jumped 284%. Investments in port modernization and shipping-related activities continue to support the company, which is the world's largest maker and servicer of digitized cranes for the world's ports. Their speed makes them important to ports in reducing ships' berth times. Also attractive is the company's diversified revenue base, which extends outside of its native country.
Our worst investment would be Parmalat, a company hit with allegations of fraud among top management. When we initially identified the company, Parmalat's valuation was low, due to concerns about financial transparency and governance. A company's cash flow and the quality of its liquidity are important factors addressed during Polaris' research and analytical processes, and they were main topics of discussion at meetings and in other communications with Parmalat's management. Management traveled to meet with investors and claimed not only that these issues were being addressed, but also that free cash flow was being used to pay down debt and reduce financial risk going forward. In addition, audited financial statements and notes were presented in such a way as to confirm the cash flow and debt reduction claims of management.
However, Parmalat's management deceived the investment community. This was highlighted in a December 2003 Financial Times article in which credit reporting agency Standard & Poor's stated, "We rely on the honesty and truthfulness of public audited information and private information. ... We got 30 pages of responses to the very detailed questions we asked. These were not general reassurances. This was cast-iron information from the company and its advisors. We appear to have been utterly misled."
Meier: Cemex (NYSE: CX ) , which is a recommendation of our Global Gains and Stock Advisor newsletters, is one of your largest holdings. But it has seen some rough times recently in terms of its stock price. What impresses you most about the company and why?
Horn: The Cemex management team tends to be value-conscious, making acquisitions at very good prices. Their financial management models and cost-of-capital considerations, employed to measure all of their investment projects, are as sophisticated as any of the emerging market country stocks. For instance, as a highly efficient, fiscally conservative company, Cemex introduced innovative ways, such as burning tires, to drive down the energy costs associated with cement production.
As an industry player, Cemex is well-positioned in the worldwide cement market, which faces a reasonably tight supply and demand balance. Industry consolidation has also led to good pricing discipline. Moreover, high energy and shipping costs have limited cheap imports to many markets, so pricing has remained firm.
Meier:
Global Gains pick Autoliv (NYSE: ALV ) is running neck and neck with Cemex for the top of your portfolio. With its recent stock price swoon, what do you think the market is worried about, or missing, and why might that perception be incorrect?
Horn: The market has expressed two concerns related to Autoliv: 1) declining car production in North America and Europe and 2) cost pressures. To some degree, the market is correct about the latter, but it's missing the overall picture. In the past, Autoliv has been able to manage cost increases, and the company may even come out ahead as there are growth opportunities in additional unit volume.
Cuts at General Motors (NYSE: GM ) and Chrysler are not expected to hurt Autoliv's bottom line dramatically. In fact, Autoliv has the potential easily to make up lost revenues with their new line of sensory-based seatbelts and airbags, which are expected to be implemented in more vehicles. Even as car production declines, electronic stabilization and safety systems will be rolled out to a greater number of vehicle makes and models. Emerging markets are seeing strong car buying volumes, yet the penetration of safety devices in these vehicles is still small; we expect that to change in the near future. Autoliv is well positioned to capitalize on these trends. Lastly, the company is buying back stock that will maintain per share cash flow, while emerging market production builds volumes.
Meier: What's your opinion of China as an investment locale -- do you have any concerns about current valuations or the short-term volatility we've been seeing? What's your long-term outlook on the country, and any companies you're currently interested in?
Horn: Although there is good long-term economic growth in China, we are concerned about the country's stock valuations, corporate governance, and companies' ability to generate and deliver free cash flow for shareholders. China will continue to drive growth in other countries; however, there are definite negatives, such as the country's environmental record and the well-known product quality concerns. China's ability to export deflation is becoming limited; at some point their costs will have to go up, and that will reduce their ability to grow faster.
Instead of investing directly in this market, we buy shares of Western companies that sell to China, capitalizing on the growth without getting overly invested in companies that might not be ready to treat passive shareholders as their top priority. We are also seeking out companies that will benefit from China's effort to control air and water pollution. Our exposure to China is through our materials holdings, including BHP Billiton (NYSE: BHP ) and Impala Platinum, and some of the Japanese companies that are selling products into China.
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