Q: What is your investment philosophy in managing the Seascape Focus Growth Fund?

A: We manage the fund with the belief that we can identify companies that will grow faster than the market. Those companies tend to have certain identifiable characteristics in common. We believe that if we stick to those types of companies, the fund will outperform the market.

We focus exclusively on the fundamental characteristics of the companies to put together a relatively concentrated portfolio that still provides diversification. Overall, we want to own the best thirty companies in terms of earnings, growth rates in earnings and multiples to earnings, and the companies that are able to sustain those characteristics.

The fund was established in August, but we have run this strategy for almost five years for separately managed accounts. We set up the fund with the idea to increase the availability of this successful strategy beyond just the very high net worth individuals.

Our approach is long-term oriented. Once we put a company into the portfolio, we want to give it at least a year to realize its potential. Since the genesis of the firm is working with high net worth individuals, we initially wanted to make sure that our gains were taxed at a lower rate. However, we did examine shorter holding periods but didn’t find enough value added to offset the additional risk and transaction costs. So there is an element of tax efficiency in the process, but it is a byproduct of our discipline.

Q: Why do you believe that building portfolios with only 30 stocks is a viable strategy?

A: I believe that a 30-stock portfolio provides 95% of the diversification benefit. According to a 1970 study of Fisher and Lorie, to get a greater diversification benefit, would require quadruple the number of holdings. We believe that if we own more companies, we would dilute our portfolios with lesser quality companies than our top 30.

Q: How do you translate that philosophy into an investment strategy and process?

A: We have a disciplined process that is focused on the financial fundamentals of the companies. We start with a universe of about 8,500 domestic U.S. companies, including ADR’s. We exclude the companies with market capitalization of less than $1 billion for liquidity reasons, as well as the companies with negative annual earnings growth, poor sentiment, and low trading volumes. Overall, we want to be able to buy these companies without drastically moving the price.

We then apply our multi-factor ranking criteria and each company receives a composite score. The main factors are the projected growth and what we want to pay for that growth. Then we look at the valuation versus other types of investments to make sure that on a risk-adjusted basis, the investment is worth considering. We also look at the predictability and the sustainability of that growth. The relative strength is important to make sure that there’s institutional support for the stock.

We apply those factors across the entire subset without making any adjustment for industries or sectors. Then we go through qualitative evaluation of the top-ranked companies to make sure that we didn’t miss something that might not be captured in a quantitative score. Such factors can be management changes and corporate activities, such as mergers and spin-offs, for example.

Then, for risk management purposes, we limit the number of the companies in any particular industry to no more than five. So although we don’t apply any macroeconomic overlay to our sector weighting, we still limit the sector risk. Then we take the top 30 stocks from that universe and buy them for the portfolio. Our objective is to hold them for at least a year, unless there is a corporate action or a fundamental change. This is to make sure the portfolio is tax sensitive.

Q: Do you consider the dividends or the growth of the dividends when selecting the stocks?

A: This is a growth strategy, and we are not adverse to dividends, but they are not one of our screening criteria. We believe that we can identify companies that are growing quickly, while a company that pays dividends usually does so because it doesn’t have anything better to do with the money. Of course, dividends can add value to a portfolio, but they are not part of our focus and screening process.

Q: Why have you chosen the market cap threshold of $1 billion? Do you have a preference for companies of specific size?

A: We avoid companies with market cap of less than $1 billion for liquidity reasons, but that’s the only restriction we have. In that way we do get the top end of the small-cap market, as well as the mid-cap and large-cap universe.

I believe that one of the benefits of this approach is that we are led by the financial fundamentals rather than by a certain market-cap range. Overall, we have a portfolio of 30 equally weighted stocks and we don’t make any particular bets. Although we employ a bottom-up strategy, we don’t favor any of the 30 companies in the portfolio. We simply take the companies that screen most favorably for us.

We correlate most closely with Russell 3000 Growth Index, but that’s not a high correlation because we have a bottom-up process, and we’re not trying to match sector weightings.

Q: Could you give us any specific examples of stock picks that illustrate your process?

A: Three years ago we managed to buy early, Research in Motion which made it through our screens. At the time, you wouldn’t have considered it a good company to own because there were at least four other players in that market that were cannibalizing each other’s business. And that stock tripled for us in a year.