Although the fund is classified as “mid-cap growth,” it also owns some dominant players in the large-cap space, such as Apple and Amazon. Still, with one-quarter of its stocks bearing market capitalizations of less than $7.5 billion, and a roughly equal percentage devoted to stocks with market caps of $7.5 billion to $15 billion, the Buffalo Discovery Fund is squarely in mid-cap territory.
All of its portfolio holdings must benefit from at least one of the 26 long-term trends KCM has identified as drivers of growth opportunities. The goal of the strategy is to focus on businesses exposed to growth markets with the wind at their backs, while avoiding declining, flat or cyclical industries. Besides showing off their ability to ride trends, the target companies must also have high and sustainable margins, little or no debt, strong leadership positions, and solid balance sheets. The Buffalo managers set upside/downside targets when they buy a stock, and to qualify for purchase, a stock’s upside potential must be significantly greater than its downside risk.
One of the more seemingly mundane innovators in the portfolio, and a beneficiary of the trend toward automation, is Republic Services Group. This waste management company has significantly boosted its market share and return profile by implementing automated collection vehicles, which now account for over 70% of its residential fleet. These vehicles reduce the need for expensive human labor and enhance safety by allowing the operators to remain inside the trucks. Another large fund holding, MSCI, is a U.S. provider of equity, fixed-income and alternative indexes that are used as the basis for many exchange-traded funds and other passive investments. While the holding may seem somewhat out of place in an actively managed fund, Jones says the trend toward passive investing and the need to have benchmarks makes it a good fit for the portfolio.
The stock price of Facebook, another fund holding, has fluctuated widely this year over reports about the Cambridge Analytica data breach and the Federal Trade Commission’s investigation into how the company mines user information. Jones says that while these issues have had a short-term impact on the stock, the company’s entrenched position in the market and anticipated growth in digital ad spending by users will overcome recent controversy. “In the U.S., about one-third of all advertising spend is for digital, so there is room for growth,” Jones says. “Over the long term, Facebook will work through all this.”
In the health-care sector, she cites fund holding Nevro, which makes high-frequency spinal cord stimulation devices that treat back and leg pain more effectively than competing low-frequency devices. Jones says that this innovator has significant potential for growth. Tests show its unique technology produces significantly better outcomes than other spinal cord stimulators, and the company has rapidly gained a nearly 15% market share. With opioid addiction in the headlines, demand for drug-free solutions like those Nevro offers should remain strong.
Another health-care holding, Athena Health, should continue to benefit from long-term trends in health care. Health-care costs in the U.S. are rising faster than GDP, which means opportunities for companies like Athena that can reduce health-care expenditures. The company, which has been in the portfolio since 2007, specializes in health-care information technology services for physicians’ offices and other medical groups.
On May 7, Athena received an offer to be acquired for $160 a share from Elliott Management, which already held 9.1% of the company. The offer represented a 27% premium to where its share price traded on the previous Friday afternoon.
Jones believed that its cloud software offering allows health-care providers to build more efficient practices and electronic medical records. This way, she says, the company can help providers improve outcomes and reduce waste. No doubt the transaction should help lift her performance in May.