Investment Process

To aid our efforts in identifying, qualifying and positioning companies of interest in our investment portfolios, we utilize a multifaceted process which we have institutionalized over the years.  This process consists of a number of phases that center around a robust and rigorous research platform.

Step 1:  Investable Universe

Our alpha generation process begins with the development of our “investable universe” whereby each one of our analysts is limited to covering no more than approximately 25 companies each (or “names”).  This allows each analyst- who is a sector specialist- to develop expertise in the companies he or she covers.  We do not use screens to generate investment ideas, but instead utilize a variety of other methods in doing so.  For example, our analysts gather intelligence by:

1. Looking at the competitors, vendors and customers of those companies we already know.
2. Attending industry conferences, analysts meetings and company visits.
3. Conducting brainstorming team sessions in which, as a team, seek to identify broad themes or currents in the economy, and then search for those companies that are likely to benefit or be harmed the most by the theme or current.
4. Engaging with proprietary consulting services.

Step 2:  Generate Investment Ideas

Our analysts conduct thorough due diligence on a company’s business model, product offerings, history, management, vendors, clients and financial results before proposing an idea to the research team for  possible inclusion to the Bull Path investable universe.  Our fundamental due diligence involves physical channel checks, exhaustive reading and identification of personal relationships within a company or its competitors.  We only use Wall Street research to get an idea of what broad expectations are.  We seek ideas in which our expectations differ significantly from consensus or Wall Street expectations, both on the long and short side (the latter if relevant).   As a team, we determine whether a company is appropriate for our universe and conduct any additional needed due diligence.  We conduct our due diligence on all stocks in our universe daily (whether we are invested in the name or not).

Step 3:  Conduct Due Diligence

Our analysts conduct thorough due diligence on a company’s business model, product offerings, history, management, vendors, clients and financial results before proposing an idea to the research team for possible inclusion to the Bull Path investable universe.  Our fundamental due diligence involves physical channel checks, exhaustive reading and identification of personal relationships within a company or its competitors.  We only use Wall Street research to get an idea of what broad expectations are.  We seek ideas in which our expectations differ significantly from consensus or Wall Street expectations, both on the long and short side (the latter if relevant).  As a team, we determine whether a company is appropriate for our universe and conduct any additional needed due diligence.  We conduct our due diligence on all stocks in our universe daily (whether we are invested in the name or not).

Step 4:  Calculate Risk-Reward Score

We have created a set of rules that overlay our fundamental research by converting a stock price into a measurement of risk.  Once we have decided to add a name to our “watch list,” we use our proprietary process to measure the risk-reward of the security and then monitor these scores for an extended period of time before potentially initiating a position.    For each company, we set an upside price target which reflects our view of the price by which the company could be sold for.  At the same time, we set a downside price target which reflects our view of what we feel the price could fall to in a worst-case environment.  We measure the upside reward to the downside risk and, should that score exceed a certain threshold that we have previously set, this is a green light for our team to consider putting on a position.  For the short side of our portfolio (if relevant), we invert the model and use a slightly different threshold. 

Step 5:    Determine Position Type

When adding a company to our “Watch List,” we also develop a thesis on where we place the security in our portfolio.  Our portfolio is comprised of two parts:  the “Core” portion of our portfolio which provides greater stability as it consists of our long-term holdings and the “Opportunity” portion which consists of more event- and opportunistic-driven holdings.  For our Core holdings, these are generally long-only positions where we believe these securities are to be held over the long-term and will provide significant capital appreciation.   These companies exhibit the following general characteristics:

1. Recurring revenue streams
2. High barriers to entry and/or high customer switch costs
3. An entrepreneurial management team.

Core holdings also provide lower downside beta as the business models and revenue streams are very predictable and results are more consistent.  Furthermore, the type of management teams we invest in tend to focus disproportionately on protecting and creating long-term shareholder value.   The time horizon for evaluating a Core position is typically 18 months.

The Opportunity portfolio consists of both long and short holdings, of short and mid-term time horizon.  In general, we seek the following:

1. To exploit our differentiated view versus Wall Street consensus
2. For our longs, we look for improving fundamentals.  We consider industry growth and macroeconomic trends in our bottom-up analysis.  
3. Typically, we look for positive catalysts such as earnings reports, improved comps or new contracts. For our shorts, we seek either a near-term negative change in fundamentals or investor psychology.

The time horizon for evaluating an Opportunity position is generally 12 months.

Step 6:  Continue Monitoring

Once a decision has been made to add a company to our Watch List and a thesis has been made as to portfolio positioning, we continue to monitor the company and the risk-reward score.

Step 7:  Initiate Position

Once a decision has been made to add a position to the portfolio, the team discusses the execution of the trade in terms of position size relative to the sector and overall portfolio.  Our policy is for the total gross exposure of the portfolio to not exceed 150% and net exposure (i.e., long exposure less short exposure) to not exceed 50%.   For sector exposures, we limit each sector to 20% on a gross basis and 12% on a net basis.  In general, we do not use leverage nor do we use options, derivatives or index-traded funds such as ETFs.  We limit our long positions in both our Core or Opportunity holdings to a maximum of 7% of the total portfolio.  For short positions in our Opportunity holdings, we limit the position size to 3% of the total portfolio.  

Step 8:  Monitor Position

Once a position is initiated, we will monitor the position on an ongoing basis by further monitoring of the risk-reward score and conduct further due diligence on the company as described above.  As necessary, we will adjust our upside and/or downside price targets if we feel a change in either is warranted.        

Step 9:  Trim/Eliminate Position

Inherent in our investment process is the management of risk.  In addition to sector and portfolio limits, we also have designed some measures at the security level that will effect certain risk actions if there is a high degree of volatility.  We map this volatility against various risk tolerances and will take action to trim or eliminate the position entirely.  By design, we have established two tiers- the first tier for deciding when to trim a position and the second tier for eliminating the position.  If the risk-reward score reaches the first tier, the team more often than not will reduce the position by 50%.  If the score reaches the second tier, the position is automatically eliminated without any intervention.  Once a position is eliminated, the company returns to the Watch List and the process is repeated.  By constantly reusing these names for either the long-side or the short-side of our portfolio (the latter if applicable), we are able to maximize alpha generation and produce consistent and desirable returns.