The Manual of Ideas - The Value In Technology Issue (Preview)

Value-oriented Equity Investment Ideas for Sophisticated Investors
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Investing In The Tradition of
Graham, Buffett, Klarman
Year IX, Volume II
February 2016
When asked how he became so
successful, Buffett answered:
“We read hundreds and hundreds
of annual reports every year.”
Top Ideas In This Report
Keysight Technologies
(NYSE: KEYS) …………………… 60
Micron Technology
(Nasdaq: MU) ……………………. 68
NetApp
(Nasdaq: NTAP) …………………. 76
Also Inside
Editorial Commentary ………………. 3
Value Investing in Technology …….. 7
Screening the Technology Sector …..18
Profiling Technology Ideas ……….. 28
10 Essential Value Screens ……… 108
Highlighted Events — Join Us!
Asian Investing Summit 2016
April 5-6, 2016, fully online
valueconferences.com
The Zurich Project Workshop 2016
June 8-9, 2016, Zurich
zurichworkshop.com
Wide-Moat Investing Summit 2016
June 28-29, 2016, fully online
VALUEx Munich 2016
September 20, 2016, Munich
valuex.org
European Investing Summit 2016
October 4-5, 2016, fully online
VALUE IN
TECHNOLOGY
► Screening Companies in the Technology Sector
► 20 Companies Profiled by The Manual of Ideas Research Team
► Proprietary Selection of Top Three Candidates for Investment
► Excerpts: Jeff Auxier, Josh Tarasoff, Niraj Gupta, Jeffrey Meyers,
Humphrey Nokes, and Joe Rizzo on Investing in Technology
► 10 Essential Screens for Value Investors
Technology companies analyzed in this issue include
Alphabet (GOOG), Amazon.com (AMZN), Apple (AAPL),
Barracuda Networks (CUDA), Brocade (BRCD), Cisco Systems (CSCO),
EMC (EMC), Facebook (FB), Keysight Technologies (KEYS), LinkedIn (LNKD),
Micron Technology (MU), Microsoft (MSFT), NetApp (NTAP), Oracle (ORCL),
Rosetta Stone (RST), Softbank (SFTBF), Veeco Instruments (VECO),
Vishay Precision Group (VPG), Western Digital (WDC), and Zynga (ZNGA).
New Exclusive Content
in the MOI Members Area
(log in at www.manualofideas.com
or email support@manualofideas.com)
 Joe Rizzo on Value Investing in Technology Companies
 Robert Hagstrom on Utilizing a Latticework of Mental Models
 PREMIUM: Meyers, Gray, Didwania, Auxier, Gupta, Nokes, et al.
REPLAY Best Ideas 2016, the
fully online investment event
hosted by ValueConferences and
The Manual of Ideas.
Visit ValueConferences.com
REPLAY at ValueConferences.com

Table of Contents
EDITORIAL COMMENTARY ......................................................................... 3
EXCLUSIVE INSIGHTS INTO VALUE INVESTING IN TECHNOLOGY....... 7
JEFF AUXIER, AUXIER ASSET MANAGEMENT ................................................................................7
JOSH TARASOFF, GREENLEA LANE CAPITAL.................................................................................7
NIRAJ GUPTA, GCI PARTNERS ..................................................................................................10
JEFFREY MEYERS, COBIA CAPITAL ............................................................................................13
HUMPHREY NOKES, CYGNA NEGRA ...........................................................................................15
JOE RIZZO, CLEAR HARBOR ASSET MANAGEMENT .....................................................................16
SCREENING COMPANIES IN THE TECHNOLOGY SECTOR .................. 18
BIGGEST MULTI-YEAR LOSERS (MV > $50MN) ...........................................................................18
CHEAPEST ON EV TO TRAILING REVENUE (MV > $50MN) ...........................................................20
CHEAPEST ON EV TO GROSS PROFIT (MV > $50MN) .................................................................22
CHEAPEST ON NEXT FY EPS YIELD (MV > $50MN)....................................................................24
CHEAPEST ON PRICE TO TANGIBLE BOOK VALUE (MV > $50MN).................................................26
PROFILING INVESTMENT IDEAS IN THE TECHNOLOGY SECTOR....... 28
ALPHABET (NASDAQ: GOOG) – CAP RE, T. ROWE, DODGE & COX, PRIMECAP, EAGLE ..............28
AMAZON.COM (NASDAQ: AMZN) – T. ROWE, CAP RE, BAILLIE, DAVIS, VIKING............................32
APPLE (NASDAQ: AAPL) – ICAHN, GEODE, T. ROWE, J.P. MORGAN, WELLINGTON .....................36
BARRACUDA (NYSE: CUDA) – CLEARBRIDGE, LEGG MASON, PORTOLAN, PRIMECAP................40
BROCADE (NASDAQ: BRCD) – GSAM, LSV, AQR, JENNISON, ROBECO, CITADEL, DFA.............44
CISCO SYSTEMS (NASDAQ: CSCO) – CAP WORLD, DODGE & COX, GEODE, YACKTMAN .............48
EMC (NYSE: EMC) – DODGE & COX, ELLIOTT, PRIMECAP, LAZARD, MFS, FRANKLIN ................52
FACEBOOK (NASDAQ: FB) – T. ROWE, J.P. MORGAN, JENNISON, SANDS, BAILLIE ......................56
KEYSIGHT TECHNOLOGIES (NYSE: KEYS) – BOSTON CO, PRIMECAP, ARTISAN, CURREEN ........60
LINKEDIN (NYSE: LNKD) – T. ROWE, SANDS, JENNISON, MSIM, COLUMBIA, CAP WORLD.........64
MICRON TECHNOLOGY (NASDAQ: MU) – PRIMECAP, T. ROWE, WELLINGTON, ALKEN ..................68
MICROSOFT (NASDAQ: MSFT) – CAP WORLD, T. ROWE, WELLINGTON, FMR, VALUEACT ...........72
NETAPP (NASDAQ: NTAP) – PRIMECAP, DODGE & COX, CAP RE, GEODE ..................................76
ORACLE (NYSE: ORCL) – CAP RE, MFS, FMR, HARRIS, EAGLE, WELLINGTON.........................80
ROSETTA STONE (NYSE: RST) – ARIEL, OSMIUM, NIERENBERG, ROUMELL, DIKER ....................84
SOFTBANK (JAPAN: 9984, OTC: SFTBY) – JP MORGAN, JAPANESE TRUST BANKS....................88
VEECO INSTRUMENTS (NASDAQ: VECO) – EAGLE, T. ROWE, BOSTON CO, ROYCE, FPA, DFA ...92
VISHAY PRECISION (NYSE: VPG) – NOKOMIS, DFA, ROYCE, HARVEY, RUTABAGA.....................96
WESTERN DIGITAL (NASDAQ: WDC) – ROBECO, FIDELITY, ALKEN, CITADEL, LSV ....................100
ZYNGA (NASDAQ: ZNGA) – CAP WORLD, EMINENCE, LUXOR, CONTOUR, DFA, CITADEL ..........104
TEN ESSENTIAL SCREENS FOR VALUE INVESTORS ......................... 108
“MAGIC FORMULA,” BASED ON TRAILING OPERATING INCOME...................................................108
“MAGIC FORMULA,” BASED ON THIS YEAR’S EPS ESTIMATES ...................................................109
“MAGIC FORMULA,” BASED ON NEXT YEAR’S EPS ESTIMATES..................................................110
CONTRARIAN: BIGGEST YTD LOSERS (DELEVERAGED & PROFITABLE).......................................111
CONTRARIAN: CHEAP FREE CASH FLOW GUSHERS ..................................................................112
VALUE WITH CATALYST: CHEAP REPURCHASERS OF STOCK .....................................................113
PROFITABLE DIVIDEND PAYORS WITH DECENT BALANCE SHEETS .............................................114
DEEP VALUE: LOTS OF REVENUE, LOW ENTERPRISE VALUE .....................................................115
DEEP VALUE: NEGLECTED GROSS PROFITEERS.......................................................................116
ACTIVIST TARGETS: POTENTIAL SALES, LIQUIDATIONS OR RECAPS ...........................................117

© 2008-2016 by BeyondProxy LLC. All rights reserved. JOIN TODAY! www.manualofideas.com February 2016 – Page 3 of 118
About The Manual of Ideas:
Our goal is to bring you investment ideas that are compelling on the basis of value versus price. In our quest for value, we analyze the top holdings of top
fund managers. We also use a proprietary methodology to identify stocks that are not widely followed by institutional investors.
Our research team has extensive experience in industry and security analysis, equity valuation, and investment management. We bring a “buy side” mindset
to the idea generation process, cutting across industries and market capitalization ranges in our search for compelling equity investment opportunities.
Editorial Commentary
Value investors have had a mixed relationship with technology companies, with
many preferring to pass on technology while others try to find value in a sector that
is often equated with change. Rapid change has historically been the enemy of the
equity investor, as change impairs predictability and lessens the sustainability of a
competitive moat. Value investors typically prefer an absence of change.
Today’s technology giants, especially Amazon, Facebook, and Alphabet/Google,
operate some of the most attractive businesses in the world, with perhaps some of the
widest moats in the world. Can anyone unseat Amazon in online commerce? Can
anyone rival Facebook in social media? Can anyone challenge Google’s dominance
in search? Some value investors have profited from recognizing that companies such
as Amazon, Facebook, and Google have not only created enviable moats, but their
innovation-driven value proposition is threatening to obsolete many old-economy
business models as well. What will the car insurance business look like in a world of
self-driving cars? What value proposition will traditional automakers retain? How
will Wal-Mart and Costco retain their cost leadership when scale moves from offline
to online? In the words of Marc Andreessen, “software is eating the world”, and
there seems to be little the world can do to stop it.
We do not have the answers for how technology will impact business models across
various sectors. We have enjoyed a few resources as we strive to learn about
technology trends, business models, and the valuation of technology businesses:
 We recently discovered Ben Thompson’s Stratechery blog and have found
it a terrific resource for understanding competition and business models.
Ben’s recent articles include How Facebook Squashed Twitter, Cars and the
Future, and Why Disney and ESPN Will Be OK.
 Aswath Damodaran is famous for his valuation work, and he has done quite
a bit of thinking around valuing technology businesses. Aswath writes the
Musings on Markets blog, which recently featured articles such as The
Compressed Tech Lifecycle: The Investor Challenge, The Compressed Tech
Lifecycle: The Managerial Challenge, and Aging in Dog Years? The Short,
Glorious Life of a Successful Tech Company!
 Venture capitalist Fred Wilson publishes the widely followed AVC blog on
technology trends, business models, and startup funding, while the team at
highly regarded venture firm Andreessen Horowitz sends a content-packed
Weekly Newsletter and publishes the thought-provoking a16z Podcast.
We also turn to Andreessen Horowitz for resources on technology topics,
and we periodically review the firm’s portfolio in search of startups that
could threaten established technology companies or obsolete other firms.
 Peter Thiel’s book Zero to One is a must-read for understanding how the
most successful technology companies create value. Other great reads
include Walter Isaacson’s Steve Jobs and Steven Levy’s In the Plex.


A look back: Top three ideas highlighted in The Manual of Ideas, February 2015:
Coach (NYSE: COH, $38 per share; MV $10.5 billion)
Leading luxury handbag brand Coach has taken competitive hits from Michael Kors and other
emerging competitors, negatively impacting sales, earnings, and cash flow. Nonetheless, Coach
remains profitable and cash generative. Given the long history of friendly capital allocation, the
retirement of Lew Frankfort notwithstanding, we view Coach as likely to keep doing what is in
the best interests of shareholders.
The brand has accumulated blemishes, but the market quotation reflects this and may well
imply the kind of long-term deterioration we view as unlikely. Coach still enjoys excellent store
economics as well as exceptional profits and continued growth in key Asian markets. As
pointed out by Ariel’s Rupal Bhansali, the company is taking the steps necessary to transform
the business, including bringing on designer Stuart Vevers, updating the product assortment,
and revamping the store design.
In each of 2012 and 2013, Coach generated FCF of $1+ billion, a reasonable estimate of
“normalized” FCF, in our view. In light of the strong, liquid balance sheet, we view the high
single-digit FCF yield as quite attractive. A quick look at the “magic formula” screen list
reveals few other companies with the kind of brand and long-term track record of value creation
to which Coach can lay claim. The company is not in a dying business, making the stock a
compelling risk-reward.
Korn Ferry (NYSE: KFY, $29 per share; MV $1.5 billion)
Korn Ferry operates a capital-light business and enjoys strong reputation in high-level executive
recruitment. The company appears well-positioned to keep winning prestigious, lucrative client
assignments. Loyalty is high, with 80% of assignments from clients that have used Korn Ferry
in the past three years. The company generates respectable FCF, though the latter fluctuates
quite widely. We would like to see capital allocation become friendlier to shareholders—the
company has returned little capital over the past five years. Cash has built on the balance sheet,
with nearly one-third of the recent equity quotation in net cash, investments, and life insurance
cash value. At an EPS yield of ~10% (adjusted for net cash), we find the quotation too low
given the company’s leadership and decent growth trajectory.
Weight Watchers (NYSE: WTW, $17 per share; MV $980 million)
Weight Watchers has been a terrible call on our, as we have vastly underestimated the impact of
free calorie-counting apps on attendance at the company’s meetings. The alternative to pay
nothing, even if the product is different and arguably inferior, appeals to a sizeable portion of
the audience in the weight management market.
Recent declines in revenue and operating income have made the company’s debt load a major
burden, perhaps necessitating a recapitalization at some point. We note that Weight Watchers’
debt, while covenant-light and without major near-term maturities, is entirely variable-rate.
Swaps can delay but not prevent the effective interest rate from increasing over time, if
prevailing rates rise and/or investors increasingly perceive the company as a default risk. The
company reported operating income excluding D&A and stock compensation (EBITDAS) of
$401 million for the twelve months ended September, resulting in net debt-to-EBITDAS of
5.1x. We view this number as reflective of an equity in at least some distress. The latter would
grow materially if the average interest rate rose or EBITDAS decreased.
While giving all negative considerations their due, we note that Weight Watchers remains
profitable, cash-generative, and able to service debt. Management retains some flexibility and
time to improve the business and manage it for cash flow. The sub-$1 billion recent equity
quotation implies an FCF yield in the teens, although predicting FCF has become extremely
difficult. Given the long history and consumer recognition of the brand, we believe that Weight
Watchers has a real possibility of turning around the business. The outcome may be binary, but
we find the risk-reward tradeoff worthy of consideration.

Sincerely,
John Mihaljevic, CFA
and The Manual of Ideas research team
Roughly a year later,
Coach traded at $35
per share
Roughly a year later,
Korn Ferry traded at
$28 per share
Roughly a year
later, WTW traded
at $11 per share

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