The Prudent Growth^TM Philosophy

Piedra Capital's (PCL) investment goal is the real appreciation of our clients' wealth over a multi-year horizon. Our equity discipline, Prudent Growth^TM, is designed to reward our clients in a variety of market and economic environments. It emphasizes companies that have superior earnings growth prospects and valuations that reflect reasonable expectations.

Stock Selection Criteria

Our investment philosophy utilizes a bottom-up stock selection process with an emphasis on companies with market capitalizations between $1 billion and $15 billion.  Our experience shows us that investing in companies with the following characteristics will provide strong absolute and relative returns while lowering the overall portfolio risk:


1.  Earnings Growing Faster than the Market
One of the key reasons that our process has been successful is our utilization of a unique definition of a growth company.  PCL defines such companies as those with the ability to generate earnings-per-share growth faster than the market for the next two to three years.  The market generally rewards companies with rising earnings, but especially those with earnings rising faster than the overall market.  We believe that the market will continue to reward such companies.

2.  Reasonable Price Relative to Earnings Prospects
Prudent Growth^TM avoids paying too much for future earnings relative to the company's potential growth rate.  Market history is littered with shares where investors' optimism exceeded the company's ability to deliver.  We prefer to purchase those companies selling at a price-to-earnings ratio that parallels the expected three-year earnings growth rate.

3.  Strong Revenue Growth
The current competitive business environment limits companies' ability to increase prices.  We, therefore, look for companies where increasing revenue is a major contributor to earnings growth.  These companies are typically expanding market share, product lines and/or making accretive acquisitions.

4.  Conservative Financials
PCL searches for companies with strong balance sheets.  These companies will typically have low and/or rapidly declining total debt to total capital.  The Prudent Growth^TM  portfolio generally consists of companies that do not pay dividends but instead reinvest their earnings back into the company to fund future growth.

Investment Process

Where do we look for Prudent Growth^TM stocks? Piedra Capital utilizes the following sources to identify the companies in which we invest for our clients:

• Investment databases - We leverage technology to identify companies with superior fundamental and performance attributes by screening a universe of over 6400 stocks. We search for companies with strong absolute or relative technical performance. We generate ~ 60% of our ideas from this source.
  
• Management contacts - Our investment professionals make extensive direct contact with companies on a quarterly basis, which produces ~ 20% of our investment ideas.
  
• Wall Street sources - PCL has access to virtually every major provider of investment research. We derive ~ 20% of our ideas using Street research. 
   

Analytical Review

After identifying a prospect, and prior to making an initial investment, a stock must pass the following hurdles:

• Extensive computer modeling to determine the appreciation potential and downside risk. These parameters are under continuous review.
• Valuations should be reasonable on an absolute and relative basis.
• Product mix and pipeline, market position, current financials and projected earnings growth should be catalysts for future appreciation.
• Internal review of Wall Street opinions and earnings estimates.
• Contact company management to discuss any current investment issues and long-term corporate objectives.
• Assess the credibility of management and their business plan.
• Evaluate current supply and demand for shares, price trends and money flows.
  

Portfolio Construction

A Prudent Growth^TM portfolio is comprised of 35 to 50 stocks with an individual security position size of 1% to 3%. Individual security positions are limited to 8% of a client's portfolio. We believe these guidelines provide adequate portfolio diversification and do not severely dilute the impact of the significant winners. PCL does not attempt to time the market or mirror any index. Therefore, any cash allocation is a residual of our stock selection process.

Sell Discipline

PCL recognizes that one of the keys to our clients' long-term success is knowing when to leave or reduce an individual security position. Any of the following events will trigger a reevaluation and may lead to a sale:

• Shares reach initial or revised appreciation targets.
• Technical support levels are violated.
• Unexplained poor relative performance.
• Adverse corporate developments.
• More attractive investment alternatives.