Finding Value in Today's Market:
The Mairs & Power Approach
Leveraging Our Valuation Discipline to Identify Promising Opportunities
At Mairs & Power, a cornerstone of our investment process involves taking a disciplined approach to finding value in the market. Our focus on companies with durable competitive advantages and our commitment to investing for the long-term allows us to identify opportunities that others might overlook.
We believe that finding attractive investments requires a methodical assessment of a company's durable competitive advantages, which involves thorough and ongoing analysis of its financial health, competitive position, long-term growth prospects, and returns on invested capital. This rigorous evaluation process is essential to identifying investments that offer potential for long-term success.
The other essential element to long-term success is exercising patience. We identify businesses we would like to own that are run by thoughtful, intelligent management teams and we wait to buy until the shares trade at a significant discount to our estimation of intrinsic value. Our valuation discipline is not merely about identifying stocks that are reasonably inexpensive relative to their current earnings. Instead, it involves a comprehensive understanding of the underlying business and its long-term prospects.
In conversation with Mairs & Power Investment Manager, Chad Kilmer, we delve into how this approach allows us to identify companies that are not only trading at a discount to their intrinsic value, but also possess resilience and potential to thrive and grow through market cycles.
Where is Value in Today’s Market?
The recent decision by the Federal Reserve to lower the Federal Funds rate by 0.50% on September 18 has broad ramifications for the stock and bond markets. A recent Wall Street Journal article noted that since the 1980s, stocks and bonds tend to do well in the 12–24 month period after the initial rate cut, as long as the economy avoids a recession. As if on cue, the market broadened in the third quarter, with mega-cap technology stocks experiencing a slight pullback, while (interest rate and economically sensitive) areas such as utilities, industrials, and small-cap stocks outperformed.
“Lower interest rates reduce the cost of capital for companies, making it easier for them to invest in growth opportunities and improve their financial position,” Kilmer said.
Only time will tell if we are in the early days of a new economic cycle, but given how well the Technology sector has done relative to the rest of the stock market over the past decade, it makes logical sense that there might be more current value in other sectors. Consumer staples, Utilities, and Healthcare are all sectors that look relatively attractive right now and we have been finding good value in a handful of companies, which we will discuss below. These stocks all tend to have characteristics that allow them to do well in choppy market environments or recessions, namely consistent earnings growth, steady and growing dividends, and less volatile business fundamentals.
Where We’re Looking for Value Stock Opportunities
In today's market, we see significant value in newer holdings like Kraft Heinz and Alliant Energy, and long-time existing holdings like United Healthcare. All three of these companies possess durable competitive advantages, have stable and improving business fundamentals, and are run by exceptional management teams. In addition, all three are trading at discounts to our estimation of their intrinsic value.
Kraft Heinz (ticker: KHC) is a leading global food company which possesses a portfolio of iconic brands (e.g., Philadelphia Cream Cheese, Kraft Mac & Cheese, Heinz sauces, and emerging growth brands like Primal Kitchen). Under new management, the company has been undergoing a technology-led operational transformation focused on driving efficiency gains in supply chain, manufacturing, and distribution. In fact, Kraft Heinz aims to capture $2.5 billion in gross efficiencies between 2023-2027, driven by automation, supply chain improvements, and the use of artificial intelligence (AI) and data analytics.
“These improvements should enhance the company’s gross margins and fuel increased investment in R&D, marketing, and technology,” said Kilmer. “We believe the stock offers the potential for attractive long-term total returns, buoyed by steady free cash flow generation, opportunistic share repurchases, and an attractive 4.6% dividend yield. By leveraging its durable competitive advantages, Kraft Heinz should be able to deliver consistent top and bottom-line growth and create long-term value for its shareholders.”
Alliant Energy (ticker: LNT), a Wisconsin-based public utility company, has positioned itself to take advantage of the trend toward electricity generation that utilizes wind and solar power, as well as the massive amounts of energy that will be needed to power the future of AI. The company benefits from near monopoly status in its service territory, with supportive regulators encouraging steady capital investment. Alliant’s service area, which includes Wisconsin and Iowa, has shown healthy economic growth, further supporting its long-term prospects. We believe the company’s plans bode well for further rate base growth, and regulators have been supportive as Alliant has been good about keeping customers’ energy bills rising slower than inflation.
Finally, UnitedHealth Group (ticker: UNH) is another stock we find attractively valued today relative to its long-term prospects. Specifically, we view the company’s strategic use of technology and favorable market position to be keys to sustainable value creation. The company has integrated AI to enhance operations, particularly through AI-enabled tools in its Optum unit, which helps healthcare providers diagnose patients more efficiently. UnitedHealth Group's diverse portfolio of healthcare products and services, including health maintenance organizations (HMOs), preferred provider organizations (PPOs), and managed fee-for-service programs, positions it well within the industry. The company has consistently delivered above-average earnings growth, benefiting from the increasing number of older Americans and impressive operational acumen. Despite recent challenges in their industry environment, UnitedHealth Group remains a top performer, and the current valuation levels are compelling. We believe the combination of relatively inexpensive valuation and consistently above average growth and returns makes it an attractive opportunity in the Healthcare sector.
The Mairs & Power Philosophy and Value Stocks
As we navigate the current market environment, we remain focused on identifying opportunities that align with our investment philosophy. We aren’t restrained by capitalization and are always looking for the best opportunities in the market. We believe that our disciplined approach to valuation and our focus on companies with durable competitive advantages will continue to deliver above-average returns for our clients. By staying true to what has historically brought us success for more than 90 years, we are confident in our ability to continue to find value in the market and provide our shareholders with long-term returns and financial peace of mind.
The mention of specific securities is not intended as a recommendation or an offer of a particular security, nor is it intended to be a solicitation for the purchase or sale of any security.
Fund Holdings (subject to change)