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Large Cap Growth

Large Cap Commentary – February 2013

07 March 2013

As we close out the shortest month of the year investors return their focus to Washington.  Coming off the drama that surrounded the Fiscal Cliff we now have The Sequester, Act II in the three part play.  As usual, politicians on both sides are pointing fingers at each other instead of looking in the mirror for blame.

Frustrating as it is, the problems in Washington correspond to an aspect of investing that we talk about often at Argent Capital.  That aspect is a simple question – what can a company control?  Just as we feel powerless during The Sequester, many forces (including Washington policy) cannot be controlled by business.  As we perform our analysis we categorize risks into those that can be controlled and those that cannot.  Ideally, we would prefer to have all risks a company faces controllable, but as The Sequester reminds us, we do not live in an ideal world.

One risk companies routinely try to control is cost.  Lowering costs gives companies more flexibility in either pricing or profit capture.  A recent addition to the Argent Large Cap portfolio, Procter and Gamble (PG), has implemented a cost cutting initiative that we believe improves the odds of success for PG.  In February of 2012, PG announced a five year, $10B cost-cutting program.  To put that into context, PG’s total costs were $70.4B in 2012. Thus, the company is targeting nearly 15% of its costs for removal, a daunting task.

Can PG achieve its goal?  Honestly, we do not know.  However, when we look at the company’s current profit margins compared to its average level over the past five years, PG’s profit has dropped by nearly two percent to 17.8%.  In other words, today PG makes $17.80 on every $100 of sales, whereas in 2008 PG earned $20.30 for every $100 of sales.  From this analysis, we can infer that PG has an issue with profits and is attacking the issue through cost-cutting.

Over that same time period, PG’s stock underperformed its Consumer Staples peers.  Executives who run large corporations are not paid to lose, especially executives at a hard charging company like PG.  Therefore, it is reasonable to assume that PG’s management is motivated to realize its cost cutting goals.  Finally, William Ackman, a noted activist shareholder, took a position in PG stock.  While Ackman’s record is not perfect, it is reasonable to conclude that there is increased pressure on PG to perform.

Additionally, with all of these potential positives in place, PG’s stock is currently trading at only a slight premium to the market compared to its five year average.  This premium includes PG’s most recent quarter, where the company posted better than expected sales and profits.

In closing, while we do not know how all of the dynamics will play out over the next five years, we do know that PG is focused on the aspects of its operation within its control and is motivated to improve its performance for shareholders.  Due to these catalysts and in light of better execution, PG is trading at only a slight premium to the market.  We consider these conditions favorable odds for our clients.

As always, we appreciate your interest in Argent Capital Management.

Ken Crawford
Senior Portfolio Manager

Views expressed herein represent the opinion of the portfolio manager as of the date above and are subject to change.  Argent portfolio managers may recommend the purchase or sale of these and other securities for their client’s accounts. A list of all stocks recommended by Argent during the past year is available upon request. Past performance is no guarantee of future results.