Small-Cap Showdown

{Q} What have you done in your small-cap portfolio?

{A} Complained when our companies got bought!

{Q} Have you repositioned it? Have you bought different stocks as this market has become more skittish?

{A} Systematically, we invest in businesses that are underleveraged. As a philosophy, we want businesses that self-finance, so we are always positioned relative to an index in more companies that have very little debt in their capital structure. Our all-cap portfolio is more than 9 percent ahead of the Standard and Poor's 500, while our small-cap portfolio is more than 14 percent ahead of the Russell 2000 Growth Index this year.

{Q} What kinds of stocks do you own?

{A} We try to have no more than 20 percent of the portfolio in companies that have earnings correlations. For instance, a company like Patterson Companies, Inc. [Nasdaq: PDCO], which is a distributor of consumables and software to dentists, veterinarians, and physical therapists, is in highly economically insensitive businesses, yet growing.

{Q} What other stock-buying strategies do you employ?

{A} Marry Patterson Dental with another local business, such as Digi International [Nasdaq: DGII]. We see that the global economy is growing faster than that of the United States. Businesses need to be more productive, so they are deploying more technology. Digi has reinvented its product from a port adapter to plug a printer into a computer to solving connectivity problems across an enterprise. You can buy Digi at $350 million market cap. It will generate more than $20 million in after-tax cash flow and it'll grow more than 10 percent a year. What will accelerate or decelerate their earnings is very different from what accelerates or decelerates Patterson Dental's.

{Q} In the past few months, have any of these opportunities presented themselves because of the downturn in small-cap growth?

{A} Yes. We have established a position in a company called InnerWorkings [Nasdaq: INWK], which procures printing. Printing is a mature cyclical business. Recent economic fears have driven printing company stocks down. InnerWorkings is not a printing business. It procures printing. In fact, it's advantaged when there's stress in the printing business. Things are more competitive, and people are going to want to get the best prices.