(06/27/14) Hare Picks for Quality and Value

Companies in our Hare Portfolio tend to be faster-growing, with both higher risk and higher return potential than those in our more conservative Tortoise portfolio, explains Matthew Coffina, editor of Morningstar StockInvestor.

I’m always on the hunt for new investment ideas, but it’s important to regularly re-evaluate our existing holdings to determine whether they still meet our high standards for quality and valuation. Below are my latest thoughts on four of the 17 holdings currently in the Hare portfolio.

Baidu (BIDU)

After a rocky start, we’re now sitting on a nice unrealized capital gain in Baidu, which has become the Hare’s largest position. China’s leading search engine is successfully navigating the transition to mobile devices, and revenue growth has reaccelerated to a year-over-year pace north of 50%.

I expect Baidu to deliver the fastest top-line growth in the Hare for the foreseeable future.

Earnings are lagging because of heavy investments, but should eventually catch up to revenue thanks to natural operating leverage in the business model. For investors who can stomach Baidu’s volatility, this remains a favorite for new money.

Novo Nordisk (NVO)

Novo is hitting a bit of a soft spot in its product cycle because of US Food and Drug Administration delays of ultra-long-acting insulins. At the same time, competitive and reimbursement pressure is intensifying.

Even so, I view Novo as one of the best-positioned pharmaceutical firms over the long run, thanks to secular growth in the prevalence of diabetes, limited patent exposure, a strong pipeline, a best-in-class salesforce, and exceptional stewardship. This is still a core long-term holding.

Express Scripts (ESRX)

The most important element of our investment thesis for Express Scripts has been playing out: The pharmacy benefit manager has greatly improved bargaining power and operating leverage after the Medco acquisition.

However, I was taken aback by recent declines in prescription volumes, which indicate that some sizable clients were lost during the Medco integration.

The good news is that the integration is now largely complete, and Express Scripts can devote all of its attention to improving client retention and winning new business. At the current price, I believe ESRX offers one of the best values in the Hare.

MasterCard (MA)

MasterCard enjoys one of the widest moats around, mid-teens earnings per share growth as far as the eye can see, plentiful free cash flow generation, and forward-thinking management. The secular shift to electronic forms of payment still has a long way to go.

My only hang-up is the stock’s relatively rich price/earnings ratio, which is deserved but hardly cheap. If the stock ever trades at a meaningful discount to our fair value estimate, I would gladly make this the Hare’s largest position.