Joel Greenblatt Magic Formula Dividend Screen November 2017

I like to run a screen based on Joel Greenblatt’s Magic Formula with a dividend twist.

Like the book, I remove all financials.

I set the minimum market capitalization to $500 million

Only companies listed on a major U.S. stock exchange.

I set the minimum dividend yield at 1%.

Finding New Dividend Payers

I don’t run this screen to find the highest yielding stocks. It has been a decent screen to find new dividend payers.

Our definition of a New Dividend Payer is a company that started paying a dividend within the last 5 years.

The magic formula selects for companies that generate high returns on invested capital. A New Dividend Payer with a high ROIC generates excess capital to continue to grow their dividend.

Like the book. I ranked each company based on their cheapness and their ROIC. Below is the top decile of companies based on the rankings.

Magic Formula Investing Screen
Top Decile of Ranked Stocks

Download the whole spreadsheet.

Coffee & Pizza

A couple interesting names pop out, Starbucks (SBUX) and Papa John’s International (PZZA). I recently did some valuation work for the two companies.

I valued Starbuck’s using a discounted economic profit model. With Papa John’s I did a brief back of the napkin valuation to see what I price I would pay per share to generate 20+% returns.

Further Reading

The Little Book That Still Beats the Market by Joel Greenblatt

Stitch Fix Sales Boosted by the Reciprocation Bias

Stitch Fix (SFIX) will soon do an IPO. Stitch Fix is a new way to sell clothes.

A highly personalized selection of clothes for you to try on in the comfort of your home. Keep what you like and return the items you don’t in the same box you received with a prepaid return shipping label.

Very easy and very successful.

But Stitch Fix’s success in its new way to sell gets a boost from an extremely old human social quirk.

Stylists’ Effort

The company, through your personal stylist, sends you a box of clothes, a “Stitch”. The clothes are based on your pre-determined preferences and refined over time through your feedback. But the refining process does not rest solely on your personal stylist.

Stitch Fix employs its own algorithm to help your stylist determine which clothes you would like best and which ones you are most likely to buy. The data points feeding this algorithm get as granular as to the shape of the shirt’s chest pocket. And probably even more granular than that.

Stitch Fix IPO
From Stitch Fix (SFIX) S-1

But the customer doesn’t see or interact with the algorithm nor the fulfillment center that puts the clothes in the box.

The customer interacts with their personal stylist.

When a customer receives their “Stitch” it comes with a personal note and styling options. The implication is your stylist put a lot of time and effort into personalizing your box. (They probably did. I don’t know their full work process)

From your perspective, your stylist did a big favor for you.

You feel the need to repay their favor.

Reciprocation Bias

From Farnam Street.

whenever receiving a favor, you too feel an immense need, almost an obligation, to pay it back in kind.

The most obvious way to repay your stylist is to purchase the majority of the clothes they sent you.

And probably buying more than you initially said you would.

New Clients Spend the Most

The amount of “spend” from a new Stitch Fix customer occurs in the initial six months of joining.

The cohort data also shows that client spend has, on average, been higher the first six months of a client relationship than the second six months, and that the spend during a cohort’s first year is higher, on average, than the second year.

Stitch Fix goes on to say that they think the slow down in spend after the first 6 months and the first year is due in part to stocking. The customer has a lot of clothing needs when they first sign up. Then demand drops as their immediate wardrobe needs are filled.

I would add that the reciprocation bias, the feeling the customer has to repay their stylist, has worn off.

The customer realizes it is a business transaction, not a favor. The client becomes pickier about what they’ll keep. They’re more willing to send the majority of the clothes back.

Currently, Stitch Fix has high repeat purchase rates with an 83% rate in 2016 and a 86% rate in 2017. The bulk of Stitch Fix’s clients, 1,327,000 out of the current 2,194,000 active, have been added within the last year.

I am interested to see how Stitch Fix’s repeat rate trends over time as client acquisition rates slow down, as each yearly cohort ages, and the reciprocation bias wears off


What I Wish I Wrote ~ October 5, 2017

Performance of dividend payers in the S&P 500 versus non-dividend players in the S&P 500 (Dividend Growth Investor)

Is DaVita juicing its earnings through an opaque non-profit? Warren and Charlie’s Excellent Insurance Gambit (Sirf-Online)

Did Warren Buffett kill value investing? (The Irrelevant Investor)

The psychological biases that leave us unprepared for disaster (Tim Harford)

What do the best investors do that the rest don’t? (Behavioral Value Investor)

Google Travel is worth $100 Billion (Skift)

Reciprocation Bias. It can build trust and love. Or it can lead to great harm. (Farnam Street)

You are Facebook’s product (London Review of Books)

We need to stop pretending that the autonomous car is imminent. (Recode)

Should you top-off a position (aka average down) or double down? (MarketFox)

Sequoia Fund trying to repair some reputational damage from its Valeant fiasco. (The Washington Post)

And now you know why you can’t stop stuffing your face with those cheese puffs. (Now I Know)


Humira Biosimilar Threat: Who Gets the Customer First?

The concern with AbbVie’s blockbuster biologic Humira is the lost of patent exclusivity in the U.S. and Europe over the next two years.

The worry is revenue from Humira will drop off a cliff as generic drugs enter the market.

This would be a logical worry if Humira was a small molecule drug. A generic small molecule drug simply has to prove it is the same chemical formula as the branded drug. No new safety and efficacy trials needed.

Humira is a biologic, a large molecule, that is synthesized from living cells. The process to synthesize and isolate the biologic is the drug. A small change in the process can yield vastly different results.

A biosimilar is a company’s effort to reverse engineer the original process to create their own biologic. The new biologic should be similar to the original.

Because it is a new and different process, the biosimilar has to undergo safety and efficacy trials. This drives the cost up to produce the biosimilar.

Recent biosimilars are coming to market at 15-25% discounts to the original because of the extra costs. Unlike generic small molecule drugs that are 50, 60, 70% cheaper than the branded drug.

Switching Costs

Biologics have some switching costs built into them.

If you are taking a biologic and your illness is under control with little or manageable side effects would you switch to a biosimilar? Knowing that it may work less effectively or not at all? And your side effects could increase to save 15-20%?

If you’re a doctor and your patient is responding well to the branded biologic will you suggest switching to the biosimilar? Knowing that it isn’t the exact same drug and it may not treat your patient as effectively or may increase the adverse side effects?

The Real Threat

The real threat is a new patient trying the cheaper biosimilar first and responding favorably to it. Then there is no reason to switch over to the more expensive original biologic.

Who gets to acquire the customer first?

Why Amgen’s News is Good for AbbVie

This is also why the news this morning that Amgen’s Humira biosimilar will be delayed in the U.S. until 2023 is beneficial to AbbVie.

It doesn’t simply mean less competition over the next 5-6 years.

It means AbbVie gets to acquire new patients over the next 5-6 years. And these new patients are unlikely to switch when Amgen’s biosimilar launches.

The lifetime value of an AbbVie’s U.S. Humira customers just increased.

Further Reading:

AMM Dividend Letter Issue 5: Growing Wealth like Grace Groner with AbbVie (ABBV)



Snap-On Tools, A Dividend Stock to Avoid?

Snap-On Tools (NSA) is the premier toolmaker. The company pays a decent dividend and has grown its dividend.

SNA Dividend Chart

SNA Dividend data by YCharts

However, Snap-On Tools is not the most consistent dividend grower.

Snap-On experiences periods where it doesn’t raise its dividend. These periods can last several years.

SNA Dividend Chart

SNA Dividend data by YCharts

Short Snap-On Tools

J Capital Research through their Podcast discussed their short call on Snap-On and why it is a dividend stock to avoid.

I recommend listening to the whole podcast because it does a really good job of breaking down all of Snap-On’s business. I listed a few of the highlights below.

  • Excessive use of credit to make sales.
  • Expect bad debts to rise from 3% to 6% of their loan book.
  • Excessive credit use has pulled forward sales.
  • Revenues and earnings in the Tools division will decline as finance division pulls back and credit use declines.
  • Snap-On took full control of their finance division in 2011.
    • Back then finance receivables were 54% of sales.
    • Now receivables make up 86% of sales.
  • Last year’s credit growth remained at 15% but sales growth fell to 5% from the 7% rate of the last few years.

Risk to Dividend Growth Investors

Snap-On Tools’ dividend is not at risk.

The risk to a dividend growth investor is Snap-On Tools going through another long period without raising its dividend as it works through its bad loans.