What does it take to survive in a top job in a competitive, bottom-line industry? Win, baby! Long term.
Larry Puglia has been at the helm of $30.7 billion T. Rowe Price Blue Chip Growth Fund (TRBCX) since mid-1993 and has been sole manager since May 1997.
In that span, the fund has racked up a 9.97% average annual gain through April 29 vs. 9.02% for the S&P 500, says Morningstar Inc.
Over the past three and five years through April 29, his fund's performance tops 94% and 97% of its direct rivals, respectively.
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The fund captures an A+ 36-month Performance Rating from IBD, which means that its performance is among the top 5% of all mutual funds in that time.
And the fund is an IBD Best Mutual Funds 2016 Awards winner, shining in three categories — U.S. equity funds, growth funds and large-caps.
Puglia is himself among the tops in sheer longevity. He ranks 20th out of 558 managers of U.S. stock mutual funds that have had a single skipper.
But he is not immune to market volatility: Year-to-date through April 29, the fund was down 5.64%, topping just 21% of its peers.
Puglia, 55, spoke with IBD from his office in Baltimore about how he invests.
IBD: What types of markets does your fund struggle in, Larry?
Puglia: We like to think we can perform well in most environments. When I first started to work with Tom Broadus (co-manager of Blue Chip from mid-1993 until leaving the fund on May 1, 1997), he warned me that your investment style will sometimes be out of sync (with the market). Your job, he said, is to recognize that and lose as little as possible.
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We paid a price for having less technology during the height of the tech bubble. But we were able to offset that ... when the market clobbered tech companies with very high valuations as the tech bubble burst.
But our rolling three-year performance numbers have been solid against both the growth benchmark and the S&P 500. Our rolling five-year numbers have outperformed the benchmark 93% of the time. Sometimes things that seem unpopular -- like Amazon (AMZN) in 2013 and part of 2014 -- can reward you if you're right in your long-term analysis.
IBD: What does "Blue Chip" in your fund's name say about your overall approach?
Puglia: As we've talked about before, Paul, blue chips are those with leading market positions and seasoned management, and we pay close attention to management's ability to allocate capital. We've learned over time that if you have a great business that throws off superior returns, but management doesn't know how to reinvest wisely, the business is soon "worsified," as I think Warren Buffett said.
Having strong returns -- returns on invested capital, returns on equity -- is another characteristic we look for. And because there are vagaries to book accounting measures, we've always looked at free cash flow as an important measure for profitability. As a result, we tend to own the leaders or No. 2 companies in industries.
Home Depot (HD) is important to us, but so is Lowe's (LOW). We're willing to own the No. 1 or No. 2 names in market share, especially if both are high-quality companies and well-managed.
IBD: You're fairly reluctant to own smaller stocks. What are the exceptions?
Puglia: We have been willing to own midcaps or some rapidly growing companies. We've owned Amazon and O'Reilly (ORLY) over a decade and Facebook (FB) as a private placement, the only one in our fund. Some view it as an early-stage growth company, but we view it as a company with a unique leadership position in an area growing rapidly.
We owned Genentech before it was acquired by Roche (RHHBY), so we're willing to own rapid growers. But we try to discern as early as we can that they will have durable growth.
IBD: Is Ross Stores (ROST) a play on a slow-growth economy in which consumers are careful about their spending? Or would this be an attractive stock even if the economy were growing gangbusters?
Puglia: Historically, Ross and TJX Cos. (TJX) have been dominant in off-price retail. They've done well in most economic environments. Some of that is due to the fact that they are well below their saturation points in number of stores in the U.S. and especially internationally.
In a slow-growth economy, other retailers have to unload overstock. They make fashion misses. So Ross and TJX get more pack-away inventory -- they take unwanted merchandise off other retailers' hands, pack it away and sell it at good margins over time.
IBD: PayPal (PYPL) is still trying to get back to where it went public. Where does this fit into your strategy?
Puglia: This is an example of where we started our conversation. This is a high-quality but emerging blue chip.
They are leading in their area of expertise. But because it was born (went public) early in its gestation, it has certain frailties. If certain other payment companies wanted to gang up and hurt PayPal, they could succeed somewhat.
But instead, PayPal has a collaborative relationship with Visa (V), where we also have a position.
And PayPal has broadened itself. They bought Venmo, a consumer-to-consumer network (that lets users transfer money to each other). It's growing rapidly. And it cornered Braintree, which can process debit and credit transactions (for many devices, and is used by online and mobile firms such as Uber and Airbnb).
IBD: Which do you like more about Amazon -- what it is now, or what it has the potential to become?
Puglia: In the last three to four years, they've invested heavily in building out their network of warehouses, distribution centers and related inventory management capabilities. They've also built out their free-delivery ability and more rapid delivery to attract more Prime members, who spend over twice as much as other customers and have higher retention rates.
We've felt that the company should be valued on free cash flow, and that's going to move up dramatically because the third-party business (selling and distributing products for third-party sellers) and Amazon Web Services (AWS) should grow very rapidly. And both have much higher margins than their core retailing business, which is doing fine. And we feel the third-party business and AWS’ margins would improve over time.
The real story is that the third-party and AWS businesses should pull their composite gross margin up very dramatically. That's happened, and we think it will continue.
But predicting free cash flow for them is tricky because if they build, say, two more distribution centers, that can absorb a lot of free cash flow.
Another way to think about the company is that AWS is, in our minds, worth well over half of the company based on our analysis of growth in that business. People don't appreciate that.
IBD: Are you bothered by Broadcom's (AVGO) slowdown in earnings-per-share growth?
Puglia: The growth rate is slowing temporarily because we're coming out of a big downturn.
Now, Broadcom's acquisition of Avago is going to be accretive to earnings over time. Avago management has shown the ability to improve the profile of their product set. There's talk that they might sell parts of the business and what we'll end up with is a higher-quality business.
When they're finished with restructuring, they will look like Texas Instruments (TXN) but trade at a lower multiple.
Just in the last year, we came back into both of these names (Broadcom and its now-subsidiary Avago).
IBD: O'Reilly Automotive is a cyclical play because people want to fix cars in a slow-growth economy rather than buy new ones. It's also a secular play because they're taking share in the repair-shop market. Is there a third element you like?
Puglia: They are really extraordinarily well-managed. They key success factor is being able to distribute product to a mechanic or repair shop in a short time frame. They need parts within minutes, within the hour. And O'Reilly has distribution nodes and warehouses that can get product to repair shops in a very short time.
That took a lot of investment and expertise.
AutoZone (AZO) is also moving aggressively into the do-it-for-me market. They've been in the do-it-yourselfer market. Both companies have performed well and are taking market share. They're well-managed and have room to penetrate the total addressable market. And these are businesses that are less likely to be disintermediated by Amazon. Home Depot and Lowe's are the same.
IBD: Does Constellation Brands' (STZ) growth come from acquisitions?
Puglia: The reason it's grown in the last 12 to 24 months is their fortuitous and smart acquisition of Corona and Modelo and Pacifico and other Mexican specialty beers that were spun out as a result of mergers elsewhere in the industry.
They have a wine business that has been a slower grower. But they've acquired Prisoner Wines and other specialty wines. They're smart in wines, and that business is poised to grow.
IBD: Some people love to doubt Facebook (FB). You like the stock, right?
Puglia: Yes, we're constructive. While it is inevitable that growth will slow, it is being sustained at a very high level.
The stock has been robust because they've managed the transition to mobile devices much better than people thought they could. That will constitute their next leg of (share-price) growth: having that transition understood.
Also, they've made several acquisitions in recent years that are not well understood (by many investors). Instagram now has 400 million users. What's App now has 800 million users, up from 500 million. And Messenger has a ton of users. As those businesses are monetized, they'll provide a new level of growth layered onto their core business, which is already seeing rapid growth due to video, for example.
They'll earn in the $4s -- call it $4.50 per share in calendar 2017. They could be pushing a $6 number in calendar '18.
IBD: Can Alaska Air (ALK) keep flying high despite the cost of the Virgin America (VA) takeover?
Puglia: This is an interesting situation. Some of the most difficult decisions are when we have a high-quality company like Alaska, with the best balance sheet of any major airline, and then they make an acquisition and pay more than we would like. But they didn't have much flexibility because JetBlue (JBLU) was trying to buy Virgin too.
Less appreciated is that Alaska gets important gates in Newark, LaGuardia, Kennedy and Dulles. Those are important airports, especially in relation to the West Coast.
We hate strategic deals when you pay too much. But the more we look at it, the more we think it will be accretive.
IBD: If you had a mentor, who was it?
Puglia: I've had several. My father as a businessman who invested on his own over about 50 years. He had a growth-at-a-reasonable price style. He lived through the Depression, so he liked firms with earnings and cash flow. That influenced me.
He also had an eye for new growth areas. He had seen new industries created, like TV and copying machines. And he never invested in gold. He always said, "It can't innovate, it can't grow." That focus on looking for companies that compound and grow has been a great influence.
Jack Laporte (who ran New Horizons Fund (PRNHX) from 1987 until 2010) taught me that a few winners can make a big difference in growth investing. They can offset many losing stocks.
And I mentioned Tom Broadus (who ran and co-ran Blue Chip from June 30, 1993, through May 1, 1997, with a 21.64% average annual return topping 95% of its peers, and whose Oct. 31, 1985-March 1, 1994, tenure atop Equity Income generated a 14.98% average annual gain, topping 86% of its peers) taught me to make sure that the managers of companies we're interested in really follow through on things they say they're going to do.
And I learned from Brian Rogers (T. Rowe Price chairman and chief investment officer, who ran Equity Income (PRFDX) from 1985 to 2015), even though he is a value investor.
Rogers once said to me that consistent thought and action were important. The most grievous mistakes he had made were trades he knew he should have made (but hadn't). He taught me to make sure my portfolio reflected my best thinking. Now, several times a week, I review why I own every single name. If I don't believe in a holding, I reduce or end it. That's especially valuable for growth investors. If a growth name is not compounding, that is dangerous.
