The basic premise behind the management of the
Managers AMG Essex Small/Microcap Growth Fund (MBRSX) is finding good companies that few other analysts have yet to identify as prospects.
"We want to identify growth early, wherever it is coming from," said Nancy Prial, who has managed the fund since it was launched in 2002.
She oversees the fund from the Evanston, Ill., office of
Essex Investment Management Co., a Boston-based firm with $2.9 billion under management.
The mutual fund has $130 million under management. Essex has a subadvisory agreement with the fund.
In order to capture a stock's growth potential as early as possible, Ms. Prial doesn't hesitate to go small in terms of market capitalization.
While the portfolio's weighted average market cap is $700 million, Ms. Prial said, she will invest in companies with market caps as low as $50 million and as high as $1.5 billion.
Once inside the portfolio, which typically holds about 90 stocks, a company can grow close to the $5 billion range before the position is trimmed.
"When it comes to our sell discipline, some of it depends on the uniqueness of the story," Ms. Prial said.
The annual turnover rate of about 50% is respectable and likely kept below average by the kinds of liquidity constraints that typically accompany smaller-cap stocks.
However, Ms. Prial said, she and her team aren't shy about cutting their losses when necessary.
"Smaller-caps tend to have a higher propensity to disappoint, and our turnover rate is a byproduct of our process," she said. "We're very focused on identifying our mistakes as early as possible."
Both the buy and sell discipline appeared to pay off last year, when the fund gained 17.5%, which compares with a 7.7% average gain for the small-cap-growth category, as measured by Morningstar Inc. in Chicago.
The Standard & Poor's 500 stock index gained 5.5% in 2007.
The fund, which has earned a five-star rating from Morningstar, isn't limited to traditional growth stocks or growth sectors, according to Ms. Prial.
The initial research process covers all public companies with market caps between $50 million and $1.5 billion — a process that can include more than 500 companies annually.
"We don't differentiate between growth and value at that point," Ms. Prial said.
The Essex team looks for specific growth catalysts that can be identified and justified.
That includes a heavy emphasis on earnings reports, which are compared with previous quarters. "We're looking for companies that have something changing for the better," Ms. Prial said.
The process also means that the portfolio might be allocated to many of the traditional growth sectors, such as technology and health care, as well as sectors not always associated with growth stocks, such as energy.
One example of a company that made the cut into the portfolio is Dublin, Calif.-based
Taleo Corp. (TLEO).
Ms. Prial described the management solutions company, which specializes in human-resources management software, as a "very early-stage company" in the area of on-demand technology and upgrades.
Taleo's stock finished 2007 at $29.78 a share, up 126% for the year.
Finding companies such as Taleo requires an open-minded attitude, according to Ms. Prial, who gives a lot of credit to her all-female team of four research analysts.
"It is an unusual concentration of women, and I think that has been very instrumental to our success," she said.
The investment team has been together since the fund's 2002 launch.
Once the initial company screenings are completed, the research shifts toward a fundamental process that looks at each company with regard to such factors as market share, cyclical effects and management changes.
"We need to understand which varieties of growth we're dealing with in order to understand the opportunities," Ms. Prial said. "And we also need to understand how much we want to pay for a stock."
Sector allocation isn't part of the basic research process, but it does factor into the overall portfolio allocation.
The portfolio's current top three sectors, represented by technology, health care and industrials, make up about 60% of the fund.
The goal, according to Ms. Prial, is to maintain a balance of diversification and concentration with regard to sector weights.
Questions, observations, stock tips? E-mail Jeff Benjamin at [email protected].
