What’s the Secret Sauce behind Royce’s Premier Quality Strategy?
article , video 03-28-2018

What’s the Secret Sauce behind Royce’s Premier Quality Strategy?

Portfolio Manager Steven McBoyle discusses the attributes that make our Premier Quality Strategy distinctive.

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What is Premier’s ‘secret sauce’?

The secret sauce of Premier is the process itself. It’s the process of combining insight and fortitude—insight related to moat analysis, effectively business model analysis. Start with the premise that moats have mortality tables. Invariably returns lessen over time unless companies have very unique attributes. So we within Premier spend an inordinate amount of time digging into the entire industry, the value chain. We refer to it as ecosystem analysis. And again, all for the purpose of trying to attempt to identify the attributes that make a particular moat unique. So that’s the insight part of the secret sauce of the process.

The secret sauce of Premier is the process itself.  It’s the process of combining insight and fortitude—insight related to moat analysis, effectively business model analysis.

Then there’s fortitude. Fortitude comes by way of building conviction. Now conviction also comes by way of dismantling the business and appreciating the underlying attributes. But conviction also comes by way of really just the luxury of time that we have, in that we have again the ability to analyze management’s critical decisions as it relates to how ecosystem forces are changing capital allocation. And that builds conviction. So I would say the secret sauce to Premier is the exact process of building insight and fortitude in terms of identifying these elite business models.

Can you give us an example?

So a most recent example would be the RV industry. And so in this case, which we can often do from a pattern recognition perspective, is categorize it. What I mean by that is, oftentimes when you see consolidating industries you have the ability to eliminate irrational behavior. Meaning price discipline can be introduced to the value chain where it did not exist before.

Some time back we were early to identify one of two combinations. One, there is significant consolidation across the value chain, both at the manufacturing level as well as the dealer level. And then secondarily, there was a transition that I think we picked up on early, where there was a level of sophistication introduced to the dealer base that did not exist before. Now why was that important? Because it was really a powerful effect of the dealer dictating the product strategies at the manufacturing level. It, in turn, drove product production discipline. And also created an entirely new asset class that was introduced to potential RV consumers.

Why is compounding so important in this strategy?

Compounding has three distinct requirements, three ingredients. One, you have to have higher rates of return on capital. Two, you have to have the ability to reinvest back into that business, referred to as the plowback ratio, at those structurally high rates of return. And then the third ingredient is for the market to recognize it, effectively what’s often referred to as Buffett’s market value to book value test. As long as the underlying dollar of book value that is earned, built, the market value appreciates it at a dollar or greater.

This is a market analysis, a moat analysis that insures that we’ve identified a situation where companies are going to be able to reinvest back at above market rates of return on capital.

Important Disclosure Information

Royce Premier Fund - Average Annual Total Returns as of 12/31/17 (%) 

QTR1 YTD1 1YR 3YR 5YR 10YR 15YR 20YR SINCE INCEPT. DATE
Premier 6.24 23.77 23.77 11.11 11.68 8.78 12.27 10.96 11.94 12/31/1991
Russell 2000 3.34 14.65 14.65 9.96 14.12 8.71 11.17 7.89 9.87 N/A

Annual Operating Expenses: 1.16% 

1 Not annualized.

 

Important Performance and Expense Information

The thoughts and opinions expressed in the video are solely those of the persons speaking as of January 9, 2018 and may differ from those of other Royce investment professionals, or the firm as a whole. There can be no assurance with regard to future market movements.

The performance data and trends outlined in this presentation are presented for illustrative purposes only. Past performance is no guarantee of future results. Historical market trends are not necessarily indicative of future market movements.

Frank Russell Company (“Russell”) is the source and owner of the trademarks, service marks and copyrights related to the Russell Indexes. Russell® is a trademark of Frank Russell Company. Neither Russell nor its licensors accept any liability for any errors or omissions in the Russell Indexes and / or Russell ratings or underlying data and no party may rely on any Russell Indexes and / or Russell ratings and / or underlying data contained in this communication. No further distribution of Russell Data is permitted without Russell’s express written consent. Russell does not promote, sponsor or endorse the content of this communication. The Russell 2000 Index is an unmanaged, capitalization-weighted index of domestic small-cap stocks. It measures the performance of the 2,000 smallest publicly traded U.S. companies in the Russell 3000 Index. The performance of an index does not represent exactly any particular investment, as you cannot invest directly in an index.

This material is not authorized for distribution unless preceded or accompanied by a current prospectus. Please read the prospectus carefully before investing or sending money. The Fund invests primarily in small-cap stocks, which may involve considerably more risk than investing in larger-cap stocks. The Fund also generally invests a significant portion of its assets in a limited number of stocks, which may involve considerably more risk than a more broadly diversified portfolio because a decline in the value of any one of these stocks would cause the Fund's overall value to decline to a greater degree. (Please see "Primary Risks for Fund Investors" in the prospectus.) The Fund may invest up to 25% of its net assets (measured at the time of investment) in securities of companies headquartered in foreign countries, which may involve political, economic, currency, and other risks not encountered in U.S. investments. (Please see "Investing in Foreign Securities" in the prospectus.)

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