Palo Alto Networks (NYSE:PANW) Convertible Bond is a Favorite in the Value Oriented Portfolio at Prospector Partners

October 9, 2020

Jason Kish became a Portfolio Manager at Prospector Partners, LLC in 2013 and has been with the investment manager since December 1997. He is also a portfolio manager of Prospector Partners Asset Management, LLC. Mr. Kish has been a portfolio manager or securities analyst for more than 20 years.

In this 3,846 word interview, exclusively in the Wall Street Transcript, Mr. Kish details the investment philosophy that guides his firm’s portfolio management.

“Initially, the product offered was a financial-services-focused long/short fund. And then, down the road, in 2007, we added the two mutual funds, the Prospector Opportunity Fund (MUTF:POPFX) and the Prospector Capital Appreciation Fund (MUTF:PCAFX).

Not ideal timing for a value shop ahead of a long period of growth dominating and just ahead of the great financial crisis, but we’ve done OK with the funds.

And then, we became subadviser for a 1940 Act long/short fund, LSOFX, about five years ago.

Today, we have 14 employees. We manage about $700 million in assets. There are four PMs, myself included, who also function as analysts.

We get our hands very dirty in the research process. And we have three industry-specialist analysts… I would say how we feel we differ from many managers is we focus on the downside first for every idea.

We first ask, “How much could we lose?” where we feel a lot of people look at an idea and say, “How much can I make?” We’ll pass on an idea if we think there’s 25% or more downside.”

This is more specific in valuation:

“…Basically, private market value recognizes the difference between GAAP and intrinsic value, so we like using that. And the second would be free cash flow yield.

We like companies that produce solid, consistent cash flows, which typically makes them less reliant on capital markets for financing, and we think those types of companies exhibit more owner-oriented behavior.”

An example is illustrative:

“I’m happy to talk about one of the convert ideas to give you a little flavor for how we invest in converts. A good example of a convert we own is Palo Alto Networks (NYSE:PANW), which is a global cybersecurity company.

They’re the leader in network firewalls. The company a couple of years ago brought in a new CEO, Nikesh Arora from Google, and he’s been transitioning the company to more provide the full suite of security products.

As companies move to the cloud, it’s become necessary to transition their strategy a bit. They seem to be executing well, and they actually should be aided by the whole work-from-home trend as cybersecurity becomes even more of a priority.

The convert matures July 2023, and right now, it’s trading around $111 or $112. But we like the fact that the company has a rock-solid balance sheet, about $300 million of net cash on the balance sheet, and they produce over $1 billion of free cash flow per year.

It’s trading over 5% forward free cash flow yield. So by buying the convert here, we believe it offers pretty limited downside to par and decent participation in the upside. The convert feature is in the money at $266 per share versus the current price of the stock in the high $230s. Given that you have three years to maturity, the delta is right around .55.”

To get more details on this and many other examples, read the entire 3,846 word interview, exclusively in the Wall Street Transcript.