Janus' New Value Manager Sounds a Lot Like Its Growth Managers

David Decker has heard the questions, the skepticism, the downright doubt, that he -- or anyone at Janus Capital, the premier growth shop -- can run a value fund. And he minces no words on this point: "Can I run a value fund? Absolutely," is the answer.

But value -- the art of picking stocks that are undervalued relative to earnings growth, cash flow and other yardsticks -- is in the eye of the beholder, says Decker, the 33-year-old manager of the Janus (JASSX Quote)Special Situations fund.

Special Situations, without question the most valuation-conscious of Janus' lineup, is up an impressive 30.1% for the year through October -- a far cry from the average value fund, which has eked out a paltry 2.4% gain year-to-date.

Value: Just a Matter of Time?
	Total return*	Net asset flow*	15-yr. Avg. Annual Return
Growth Funds	20.4%	$70 billion	15.2%
Value Funds	2.4%	-$29 billion	14.1%
Source: Morningstar, Financial Research Associates. * For 1999 through Oct. 31.

Will the Janus Strategic Value fund, which starts trading on Feb. 29 (that's right, Leap Year Day), more closely resemble its category cousins or its Special Situations predecessor? Here's a clue: "My investment philosophy won't change one iota," says Decker, who will continue to manage Special Situations.

Securities and Exchange Commission rules, of course, prohibit Decker from talking about the specifics of the new fund. But I talked with him at length about his investment philosophy and how he might apply it to the new fund. Below, an inkling of what we'll see:

He won't buy stocks just because they're cheap.

In an observation sure to endear him to his new value colleagues, Decker notes, "There are some really crappy stocks out there that value fund managers resolutely hold. They may never go up."

The problem, says Decker, is that too many fund managers focus on price-to-earnings ratios as the ultimate measure of value. "P/E is an accounting metric that doesn't tell the complete story. It doesn't tell you the direction of earnings or the value of earnings. It's not useless, but it's not relevant. There's no correlation between stock price movement and P/E." So what are Decker's value yardsticks? Read on.

He'll look for companies with lots of free cash flow and high returns on invested capital.

They're the companies that'll beat earnings estimates every time, Decker says. A company deploying its cash at a 30% return via smart acquisitions, productivity improvements or what have you, will see six times the impact on earnings that a company getting money-market rates will see, regardless of how many widgets each of them sells. Decker has a special fondness for media companies, which dominate his top holdings in Special Situations, for their high free cash flows and low capital expenditures.

He'll limit risk.

The goal of value is to provide downside support in a lousy market, Decker says. That probably won't mean buying stocks markedly different from those in Special Situations. Instead, he'll likely lock in profits sooner. "In the grand continuum of stock prices, I like to position myself at an inflection point. I buy from the value investors, and sell to the growth investors. For the Value fund, I'll position myself earlier in the continuum than with Special Situations."

If there's a role model Decker admires among value investors, it's Bill Miller at (LMVTX Quote)Legg Mason Value Trust -- you know, the guy who found America Online (AOL Quote) back when it really was a value stock. Says Decker, "He understands that valuation is not simply P/E, it's more complex. If you understand that, it gives you the flexibility to look at companies you wouldn't otherwise look at."

Not that Decker is a big fan of Internet stocks in general. Expectations for the group are so inflated that the impact for positive surprises will be muted, says Decker, while "the impact will be catastrophic if they stumble."

Instead, Decker likes stocks such as Apple (AAPL Quote), among Special Situations' top 10 holdings. Apple is Decker's unique brand of value stock -- a "layup," he calls it. When Decker bought Apple in the low 30s, tech-shunning value funds didn't own it. But growth managers wouldn't touch it either because Apple's operating system was considered irrelevant in a Windows-dominated universe.

But Decker saw enormous free cash flow, with net cash equal to 25% of the stock's market capitalization. "That's a huge safety net," he says. Decker also saw returns on invested capital increasing, from the low single digits 18 months ago to triple-digits now. And he saw the World Wide Web as a huge catalyst for improving the company's business outlook. "The Internet made Apple no longer irrelevant," he says. Decker was convinced the stock had to be worth at least 65 a share; it's at 95 now.

Lest anyone think Decker is infallible, take a look at his relationship with Federal-Mogul (FMO Quote), a stock he calls the "bane of my fund." Decker first bought the auto-parts maker three and a half years ago in the low 20s, with high hopes for a new management team. The stock climbed to 65, became a Wall Street darling -- then tumbled back to the 20s after missing earnings expectations. "I should have sold at 65," says Decker, who nonetheless considers Federal-Mogul a "fundamentally great company" and a "classic value stock" that would fit in the new fund "without question."

Decker says he can't worry about when the market will come around to his way of thinking on any given stock. "My ability to gauge psychology is not great. At the end of the day, I like to have something to cling to, and that's valuation. If the psychology turns against you and you don't have valuation, all you'll have is a long, depressing fall."

Talking to Decker, you get the feeling that he could be clinging to that valuation at any moment. The market today reminds him of a crowded movie theater just before someone yells "Fire!" What could trigger a rush for the exits? "I don't know what the exogenous event will be. But it scares the hell out of me," he says.

In the mutual fund business since only 1992, all of that time with Janus, Decker concedes he has never seen, let alone navigated, a protracted down market. But in contrast to a lot of his young, "new era" peers, it's clear he has a healthy respect for the bear. "What I've witnessed is a cavalier attitude -- a desire to put up numbers more than to provide downside support for investors." The latter should be the overriding philosophy of a value fund, Decker says. "At the end of the day, it's paramount to preserve capital."

Now that sounds like a value fund manager.