Is this the best stock on the ASX?

by zacharyharte

CSLs share price and percentage return since 1999. Picture: Google Finance

What if I told you that you could have growth and defensive characteristics in one stock? It is possible, and every now and then you come across a rare business that can offer both.

CSL is perhaps arguably one of the best stocks money can buy: since listing in 1994, CSL has delivered compound annual net growth in profit of 24.4% .

Back in 2011, I was considering buying shares in CSL Limited (Commonwealth Serum Laboratories) when the shares were trading between $25 to $30 each (they are now sitting quite comfortably above $70 a share). I decided not to invest, and placed my money in Wesfarmers Limited shares instead for a few key reasons:

1. CSLs price to book ratio was way too high I believed that the premium wasnt justified
2. CSLs price to earnings ratio was too high
3. And CSLs dividend looked measly in comparison to the dividend of Wesfarmers

I could have done a lot worse than buying Wesfarmers 3 years ago, but I really missed an opportunity to buy one of Australias finest businesses when the shares were really cheap. It is easy to say this now with the benefit of hindsight; I did eventually end up buying CSL, albeit at a much higher entry price. There were some things I initially overlooked when evaluating whether to buy CSL:

1. The power of share buybacks — CSLs tiny dividend yield can partly be attributable to its history of share buybacks. Share  buybacks arent as common as they should be because investors seem to enjoy receiving regular dividends (this is mostly psychological more than anything), and this has sent the share prices of high-yield, low growth stocks such as banks through the roof. Buying back shares has the same effect as currency deflation does in the broader economy: by reducing the supply of shares in circulation, the value of each of the shares increases. Not to mention that share buybacks are treated more favourably tax-wise than dividends it is for this reason CSL (and other great companies across the world such as Warren Buffetts own Berkshire Hathaway) see this as the best way to return value to their shareholders.*

1. The difficulty with share valuation yes, the price to earnings and price to book ratios of businesses are useful in valuation, but dont always tell you the whole story. In the case of CSL, I overlooked the qualitative measures of valuing the business. CSL makes money from life-saving therapies that parts of our population need to survive. Their product mix is diversified across blood plasma products, vaccines and anti-venoms, but most of their business comes from immunoglobins  and the company has enjoyed significant tailwinds in this area from increased global demand. It has also enjoyed significant tailwinds lately from the lower Australian dollar as earnings are now reported in US dollars, reflecting the global nature of the business. But even without these tailwinds, the healthcare sector is incredibly defensive and in CSLs case there are high barriers to entry for competitors (such as intellectual property, reputation, economies of scale, meeting regulatory requirements etc.) The business is well run, with shareholder friendly management.

At its current price, CSL is looking a little bit on the expensive side and it seems that most of the estimated growth is priced into the stock. But the stock has always looked expensive, and it is only with the benefit of hindsight that we can say that it would have been a great buy.

It is well and truly worth putting CSL on your watchlist and waiting for some share price weakness as an entry point into the stock with the expected sharemarket volatility over the next few months, I dont think it is unreasonable to expect a few buying opportunities to arise.

I initially missed some key indicators of the quality of the business, and could have profited immensely had I understood the investment prospects early on. This, at least for me, has proven some truisms in the sharemarket investment world:

1. Past performance is no indication of future performance
2. Buy businesses, not stock tickers
3. It is much better to pay a fair price for a brilliant company than a brilliant price for a fair company

CSL could be a contender for the being the best stock on the ASX, but we should try not to fall in love with a stock eventually growth will slow and there will be better opportunities elsewhere (be prepared to sell when your investment thesis no longer holds true). For the mean time though, CSL shows no signs of slowing down and is likely to offer shareholders great returns for years to come.

*It is also worth looking at a stocks dividend payout ratio an increased dividend payout ratio may be used as a sweetener for shareholders when the picture doesnt look so rosy for a company (think of the banks maintaining their high payout ratios to ameliorate the expected lack of growth in the banking industry in the next few years).