Jensen Quality Growth Fund commentary for the fourth quarter 2014.
H/T Dataroma
Jensen: U.S. Performance Summary
U.S. equity market ended the fourth quarter with a robust return. This quarter benefitted from strong third quarter earnings, Gross Domestic Product (GDP) growth of 3.9% in Q3 2014, and a significant drop in oil prices. We believe incremental improvements in consumer sentiment, employment and housing contributed to domestic economic strength during this quarter.
The Jensen Quality Growth Fund also produced a positive return and strongly outperformed the S&P 500 Index. On a sector basis, the Funds’s stock selection in Health Care and Information Technology and absence in Energy each contributed to performance. The Fund’s overweight in Materials and absence in Utilities detracted from performance. On a company level, the top performer this quarter was Becton Dickinson (BD). BD’s stock price reacted favorably to the company’s announced acquisition of CareFusion early in the quarter. We believe the positive reaction was due to the strong strategic alignment between BD and CareFusion and favorable financial terms on the deal. BD remains one of the top holdings in strategy due to our confidence in the company’s competitive advantages in its core needles/syringes business and our positive view on the company’s long-term growth prospects. The bottom performer this quarter was Ecolab (ECL). We believe ECL stock suffered from the decline in oil prices during the quarter as we estimate about 30% of the company’s overall sales are exposed to the energy sector. However, our analysis suggests the vast majority of the company’s energy sales are focused on less-volatile production and refining activities. We added to our position in the stock during the quarter as we remain confident in the stability and growth prospects in the company’s core cleaning/sanitation business and that the energy business remains a good long-term growth opportunity.
Jensen: Portfolio Changes
During During the fourth quarter, the Investment Committee sold one company, Automatic Data Processing (ADP), and purchased a new company, UnitedHealth Group. At the end of November, the Investment Committee decided to reduce the portfolio’s existing position in ADP and other names and use the proceeds to add a new holding, UnitedHealth Group. While we believe ADP, a human capital management solutions company, has some of the strongest fundamentals of any business in the Composite, we reduced the position for valuation reasons. As those valuation concerns continued after the November trim, the Committee decided to sell the entire position at the very end of December.
UnitedHealth Group (UNH) is the largest managed care company in the U.S. It comprises United Healthcare, a traditional health insurance business, as well as a variety of health services businesses under the Optum brand. We believe the company’s size and scale create a powerful competitive advantage, both in terms of operating leverage and negotiating power with its provider network. In our view, one of the company’s key business drivers will be its ability to leverage its data collection efforts on behalf of its pricing strategy for the health insurance business while simultaneously creating value-added offerings in the Optum businesses. After careful analysis and debate, the Investment Committee concluded that the investment thesis for UnitedHealth Group is supported by strong competitive advantages, attractive growth prospects, a healthy balance sheet, and manageable risks. At its purchase price, we believe the stock valuation is reasonable and provides the opportunity for solid long-term gains.
Throughout the quarter the Investment Committee trimmed additional positions seen as more fully valued, and continues to manage the portfolio with an unwavering focus on quality and growth with extra scrutiny on valuation given the recent run-up in stock market prices.
The Jensen Outlook
We maintain a cautious near-term outlook on the market due to prospects of a more hawkish U.S. Federal Reserve, signs of a slowdown in global economic activity, and higher-than-average stock market valuations. Jensen aims to hold high quality businesses at reasonable prices. We believe attention to valuation may provide downside protection and that investors in high quality, reasonably priced businesses will be rewarded over the long term.
Jensen Investment Management remains confident in the philosophy and process underpinning our management of the Quality Growth Fund. Our goal remains the construction of a portfolio of companies with sustainable competitive advantages, resilient financial results, and attractive long-term growth opportunities. Importantly, we believe these companies will generate business returns consistently above their cost of capital, resulting in shareholder value creation. The return of volatility to the market is an opportunity for Jensen to take advantage of short term dislocations as an active manager. Despite our cautious outlook on the overall market, we are confident that the portfolio companies will continue to produce strong business results we believe will ultimately be reflected in stock prices.
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