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A Comprehensive Guide to Foyston, Gordon & Payne Inc. July 31, 2014
[Carolyn will make sure everything in the document is consistent: fonts, tables, colors, lines, etc.]
FGP Comprehensive Guide as at June 30, 2014
Welcome to Foyston, Gordon & Payne Foyston, Gordon & Payne (FGP) is delighted to present you with this comprehensive description of our firm. We have prepared this guide to tell you everything you need to know about FGP. Three partners launched our firm in 1980 to provide a value style of portfolio management to organizations and high net worth individuals. More than three decades later, we continue to invest in what we believe are high quality companies with attractive valuations – just like the original partners did. Our value philosophy is based on our view that earnings always matter. We believe high quality, sustainable earnings should contribute to producing excellent longer‐term value‐added results. We invest using a strict discipline in an effort to ensure we do not overpay for these earnings. Valuation is our key focus and is the primary determinant of long‐term outperformance. Long term performance excellence for our clients is FGP’s foremost objective. We are pleased to report that according to eVestment, the FGP Balanced Fund achieved the third best return among its peers in the 20 years to June 30, 2014. We provided this return to our clients with lower standard deviation than the first and second placed funds, and lower standard deviation than the median balanced fund. With over 100 institutional clients, we are very familiar with the needs and goals of major pension funds, endowments, and foundations across Canada. FGP clients have knowledgeable, experienced, and passionate investment and client service teams working for them. We invite you to explore this document to learn about everything we have to offer. Please do not hesitate to contact any of us directly if you have any questions.
James Houston President 416.848.1927 [email protected]
David Adkins Senior Vice President 416.848.1944 [email protected]
Stephen Copeland Senior Vice President 416.848.1965 [email protected]
Michel Rhéaume Vice President 416.848.1919 [email protected]
Josée Pelletier Vice President 416.848.1925 [email protected]
Patrick Osler Vice President 416.848.1926 [email protected]
Foyston, Gordon & Payne Inc.
FGP Comprehensive Guide as at June 30, 2014
Table of Contents [Carolyn will automate the table of contents so that when someone clicks “update entire table”, the main headings like “Corporate Information” will stay in place]
Competitive Advantages ........................................................................................................... 1
Corporate Information Assets Under Management ...................................................................................................... 4 Ownership Structure ................................................................................................................. 6 Our Team .................................................................................................................................. 8 Succession Planning ................................................................................................................ 11 Institutional Client Servicing ................................................................................................... 12 Remuneration ......................................................................................................................... 13
Philosophy and Process Our Philosophy ........................................................................................................................ 15 FGP’s Equity Process ............................................................................................................... 16 FGP’s Fixed Income Process .................................................................................................... 22 FGP’s Balanced Fund Process ................................................................................................. 28
Operations Governance and Risk Management ........................................................................................ 31 Business Continuity ................................................................................................................. 35 Institutional Fee Schedule ...................................................................................................... 36
Appendices Fund Fact Sheets Biographies
Foyston, Gordon & Payne Inc.
A Comprehensive Guide to FGP as at June 30, 2014
Competitive Advantages If we could only use one word to describe our competitive advantages, that word would be independence. We are an independent company focused solely on investment management. Over a third of FGP is owned by staff, making us well aligned with our clients’ best interests. We are independent thinkers with a long term timeframe willing to be contrarian and un‐index like. Our senior management team encourages this independent thinking. We use an independent and proprietary quality grading system as one way to assess and control risk. The better the quality grade, the more we can invest in a company. We conduct our own independent research. Our investment professionals thoroughly examine companies to uncover what we believe are undervalued opportunities. Of course, many other words also describe our company’s competitive advantages: Teamwork Our investment professionals work closely within their teams and informally with colleagues on other teams. A central Investment Committee brings these individuals together to formally discuss issues of common interest. The result is collaboration, synergy, and a cross pollination of ideas. Depth FGP’s investment team is comprised of individuals encompassing an average of 12 years of experience in multiple industries and countries. This depth of knowledge adds an invaluable dynamic to the investment team as these individuals can draw on their experiences to create and develop high quality and well‐researched investment ideas. Process FGP’s well‐defined investment management process has been instrumental to our clients’ investment success. Our portfolio managers use our disciplined value investment style to invest in what we believe to be high quality companies that have a high level of profits. Consistency The consistently rigorous adherence to our philosophy and style over many market cycles by three generations of portfolio managers since 1980 reinforces the fact that we intend to continue to use the same strategy through future market cycles. Conviction We focus on our best ideas, resulting in concentrated portfolios with high active positions in each security we own.
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A Comprehensive Guide to FGP as at June 30, 2014
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A Comprehensive Guide to FGP as at June 30, 2014
Corporate Information
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A Comprehensive Guide to FGP as at June 30, 2014
Assets Under Management Assets Under Management as at June 30, 2014 (by Client Type, in millions) Institutional
$8,852
Defined Benefit Pensions
$5,406
Defined Contribution Pensions
$808
Endowments and Foundations
$876
Working Capital
$511
$1,251
Other Sub‐Advisory
$3,942
Separately Managed Accounts
$2,930
Mutual Funds
$1,012
Private Clients
$944 TOTAL
$13,738
Assets Under Management as at June 30, 2014 (by Asset Class, in millions) Canadian Equities
$9,607
U.S. Equities
$771
International Equities
$777
Bonds
$2,104
Cash and Equivalents TOTAL
$479 $13,738
In addition to broad equity and fixed income mandates, we also manage large cap Canadian equity dividend mandates, enhanced yield fixed income strategies, and corporate bond mandates.
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A Comprehensive Guide to FGP as at June 30, 2014
Our Institutional Business Institutional Assets Under Management as at June 30, 2014 (by Asset Class Mandate, in millions) Balanced Mandates
$3,148
Canadian Equity Mandates
$4,832
Large Cap Canadian Equities
$2,661
All Cap Canadian Equities
$1,893
$278
Small Cap Canadian Equities Foreign Equity Mandates Fixed Income Mandates
$408
$293
$197
Short Term Bonds
$31
Long Term Bonds
$34
Other Fixed Income
$31
$171
$8,852
Universe Bonds
Non Discretionary Mandates TOTAL
As at June 30, 2014, we had 113 institutional clients. We are also sub advisors on the following Defined Contribution platforms: Manulife Financial Standard Life Great‐West Life Sun Life
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A Comprehensive Guide to FGP as at June 30, 2014
Ownership Structure Significant Employee Ownership Over a third of our firm ‐ 38% ‐ is owned by its employees. Just like our investment team members manage portfolios of companies, they also participate in the management of their own company, FGP. They see the impact of their actions first hand in FGP’s financial results. They see the positive effect the retention of satisfied clients has on FGP’s bottom line. And they are consequently motivated to meet clients’ needs for excellent risk‐adjusted returns.
Strong Passive Shareholder Affiliated Managers Group (AMG), a publicly traded asset management company in the United States, holds a 62% equity interest in FGP. AMG also holds equity interests in approximately 30 other investment advisers (AMG Affiliates) with total assets under management of about $625 billion (U.S.) as at June 30, 2014, making AMG one of the 30 largest asset management companies in the world. All AMG Affiliates, including FGP, operate independently of AMG and of each other. FGP maintains complete operational autonomy in managing its business. AMG has no role in the day‐to‐day management of FGP and is not involved in FGP’s investment process. AMG offers FGP support from its Affiliate Legal and Compliance Team of 18 experienced legal and compliance professionals which provide FGP with a broad range of day‐to‐day legal and compliance support.
Employee Controlled and Independent Other than AMG, all FGP shareholders must be FGP employees. Employees leaving FGP at or before retirement must sell their shares to other shareholders. If FGP wishes to accumulate shares for future hires, AMG facilitates the reserve of shares for future employee purchases. In effect, AMG helps FGP successfully transfer ownership to the next generation of partners. AMG’s equity interest in FGP is structured so that FGP maintains operational autonomy in managing its business. On FGP’s five‐person board of directors, two members represent FGP employees and two are AMG representatives. The fifth individual, an independent member, must be approved by the FGP and the AMG representatives.
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A Comprehensive Guide to FGP as at June 30, 2014
The current board composition is as follows: Board Member
Role
Relationship to FGP or AMG
Jim Martin
Chairman
Retired FGP CIO
Donald Foyston
Chairman Emeritus
Retired founding partner of FGP
James Houston
Secretary
President of FGP
Nathaniel Dalton
Member
President and COO of AMG
Umesh Vallipuram
Member
Vice President, Affiliate Development, at AMG Canada
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A Comprehensive Guide to FGP as at June 30, 2014
Our Team FGP had 50 employees working in three teams as at June 30, 2014. The largest team is the investment team:
Investment Team
# of staff
Average years at FGP
Average years of industry experience
Portfolio Managers
5
13
22
Research Analysts
11
7
10
Traders
3
5
5
TOTAL
19
8
12
Of the other two teams, one is dedicated to managing client relationships and the other one manages the business: Client Servicing Team
# of staff
Institutional
Portfolio Managers
4
Client Servicing Support
6
Private Clients
Portfolio Managers
2
Client Servicing Support
3
TOTAL
15
Operations and Compliance Team
# of staff
Operations Management and Compliance
5
Administration
11
TOTAL
16
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A Comprehensive Guide to FGP as at June 30, 2014
Investment staff turnover We have had very low turnover on our investment teams in the last five years. Most members of our investment teams have worked together since before the 2008‐2009 financial crisis. Arrivals
Responsibilities
2013
Owen Ko
Research Analyst, Canadian Equities (Financials and Health Care)
2011
Taylor Wilson
Fixed Income Trader
Kenneth Wong
Research Analyst (Utilities) on the Foreign Equities Team
2010
Ryan Domsy
Senior Research Analyst (Credit) and Co‐Portfolio Manager, Fixed Income
Kaitlyn Izon
Equity Trader
No other arrivals between July 1, 2009, and June 30, 2014.
Departures
Responsibilities
Departure Reason
2012
Jim Martin
Chief Investment Officer
Retirement
2010
Lance Speck
Portfolio Manager, U.S. Equities
Termination
Rob Gill
Research Analyst, U.S. Equities
Resignation
No other departures between July 1, 2009, and June 30, 2014.
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A Comprehensive Guide to FGP as at June 30, 2014
Teamwork and Collaboration FGP’s culture revolves around teamwork. Well‐defined and well‐supported teams and a joint Investment Committee work towards meeting our clients’ needs and objectives. The result is collaboration, synergy, and a cross pollination of ideas. The table below shows the relationship between three distinct functions at FGP:
Cross Functional Collaboration Investment Committee Thoroughly reviews new investment ideas by critiquing and challenging equity and fixed income teams’ investment assumptions.
Portfolio Managers
Possess ultimate accountability for portfolio construction and performance.
Research Analysts Conduct primary research on securities, make buy and sell recommendations, and reaffirm recommendations weekly to the portfolio managers.
Within each of our three investment teams (Canadian equities, foreign equities, and fixed income), portfolio managers and research analysts work closely together to research new securities. Each portfolio manager holds weekly meetings with his team to allow the research analysts to share their latest findings with each other. There are numerous examples of sharing, debate, and discussion at FGP: Canadian equity analysts discuss ideas with their counterparts on the foreign equity team. Equity analysts and fixed income analysts consult each other about common companies and new ideas, enabling them to share their unique perspectives and specific knowledge. The Investment Committee, featuring a cross section of individuals from the three portfolio management teams, debates and discusses which new securities to add to portfolios. Members of the Investment Committee deliberate on the best asset mix for our clients.
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A Comprehensive Guide to FGP as at June 30, 2014
Succession Planning Planning for succession is a critical element of FGP’s strategy to ensure continued delivery of investment management services years into the future. One of the key responsibilities of the Board of Directors and the Executive Committee is managing succession risk. Succession planning has worked as intended at FGP, which is in its third generation of investment professionals. This success is due to FGP’s consistency of philosophy, process, and style. New individuals who come here quickly learn from other team members how our process works; this process becomes part of the newcomers’ DNA because of its rigour and consistency. Each key role in the firm has an identified successor(s) with a sufficient differential in age to ensure an orderly transition from one generation to the next. Ownership in the firm is reviewed and allocated with succession a key variable in the review. FGP’s Shareholders’ Agreement allows shareholders to conduct an orderly transition to retirement by granting them the ability to sell their shares starting at age 60. To ensure a healthy succession plan, the firm does not allow retired employees to maintain share ownership in the firm. Since 2005, we transitioned portfolio management responsibility for all our main asset classes while maintaining the rigour and integrity of our investment process. The table below shows how each lead asset class manager has one or more backups who provide continuing oversight and management of client portfolios during the lead manager’s absence. This structure allows for the training of the next generation of lead asset class managers. Asset Class
Date of Transition
Lead Asset Class Manager
Backups
Fixed Income
December 31, 2005
Robert Head
Ryan Domsy Cameron Greenwood
June 1, 2007
Andrew Fernow
Mohammad Ahmad Valentino De Franco
February 1, 2008
John Berry
Bryan Pilsworth
April 1, 2012
Bryan Pilsworth
Tom Duncanson
Foreign Equities
Canadian Equities
Small Cap Canadian Equities
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A Comprehensive Guide to FGP as at June 30, 2014
Institutional Client Servicing Our client service philosophy recognizes that our interests are aligned with those of our clients; when our clients do well, we do well. Just as our investment teams focus on performance excellence, our client service teams are committed to service excellence. We aim to exceed our clients’ expectations. Our client service model is based on the appointment of a senior client service professional to each client’s account to understand their investment needs and to communicate FGP’s investment results and strategies. We also assign a client relationship manager dedicated to a client’s day‐to‐day needs. Each role is backed up by an individual from FGP’s nine‐member client service team. We believe the preferred way in which to report to our clients is face‐to‐face with our client service professionals and portfolio managers. These meetings are an important step in building long‐lasting relationships with our clients. Accordingly, we meet with our clients whenever and wherever they want. We also provide clients with a comprehensive portfolio reporting package every quarter. Monthly reporting can also be arranged. The institutional client servicing team is led by the following individuals: James Houston, President Stephen Copeland, Senior Vice President David Adkins, Senior Vice President Michel Rhéaume, Vice President Josée Pelletier, Vice President Patrick Osler, Vice President
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A Comprehensive Guide to FGP as at June 30, 2014
Remuneration All employees receive a competitive base salary and a bonus. An annual bonus pool based on the profitability of the firm is allocated to members of the senior management team and other members of the firm that have had exceptional years. Bonuses for investment professionals are tied to, among other things, overall performance and contribution to attaining value‐added investment performance. In addition to salary and bonus, all shareholders participate in their pro rata share of earnings distributions. Share ownership is based on an individual’s role and responsibility within the firm, thus a higher level senior executive will typically have a larger share ownership than other investment professionals. The table below summarizes the remuneration received by FGP’s three categories of staff:
Non Shareholder Employee
Earnings Distribution
Foyston, Gordon & Payne Inc.
None
(less than 2% ownership)
(2% to 5% ownership)
Yes
Based on individual contribution
Yes
Yes
Based on company performance
Yes
Majority of compensation
Based on individual contribution
Major Shareholder Employee
Majority of compensation
Bonus
Yes
Majority of compensation
Base Salary
Newer Shareholder Employee
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A Comprehensive Guide to FGP as at June 30, 2014
Philosophy and Process
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A Comprehensive Guide to FGP as at June 30, 2014
Our Philosophy We believe that superior investment returns are achieved by taking a long term, bottom‐up, value‐oriented approach to investments based on detailed fundamental research and analysis. Our philosophy revolves around three core concepts: Quality Profitability Value
Where to place us In equities, we strive to invest in high quality, highly profitable securities with cheaper valuations than the overall market in an effort towards placing ourselves in the upper left quadrant of the chart below.
High Profitability (High Return on Equity)
FGP
Cheap (Low Price to Earnings Ratio)
Market Index (Average)
Expensive (High Price to Earnings Ratio)
Low Profitability (Low Return on Equity)
In fixed income, we invest in what we believe to be high quality bonds with attractive valuations. For credit investments, this places us in the upper left quadrant of the chart below. High Financial Strength (Highly Stable Cash Flow)
FGP
Cheap (Wide Spread)
Market Index (Average)
Low Financial Strength (Unstable Cash Flow)
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Expensive (Tight Spread)
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A Comprehensive Guide to FGP as at June 30, 2014
FGP’s Equity Process Our equity process is focused on maintaining portfolios with a few dozen stocks held for the long term. We view each equity portfolio as an exclusive collection of quality companies. With low turnover and a highly‐concentrated portfolio, we are very selective. We are always on the lookout for the handful of stocks to add to the portfolio each year and the handful of stocks to remove or reduce to make room for the new ones. Companies that are currently in the portfolio were approved based on our assessment of their quality, their expected profitability, and their attractive value. New stocks must also meet these same criteria:
QUALITY
PROFITABILITY
VALUE
Characteristics
Key Measure
Long‐term track record
10 years or more of operating and earnings history
Consistent management and strategy
Company’s actions match management’s words
Conservative balance sheet
Low debt/equity ratio
High‐quality or improving operating earnings
Self‐sustaining businesses (positive cash flow)
Cash flow exceeding net income Stable share count
Cheaper, less expensive
Lower price‐to‐earnings (P/E) multiple (relative & absolute)
Shorter payback period
Discount to net asset value (NAV)
“Per share” profitability Higher return on equity (ROE) Lower price/book ratio Dividend growth
As contrarians, we constantly look for, and sometimes invest in, companies with excellent management teams and great business strategies but which are suffering from what we consider to be temporary setbacks.
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A Comprehensive Guide to FGP as at June 30, 2014
Research and Analysis Our research analysts form the core of our research and analysis. Their focus is to generate new investment ideas by putting stocks through screens for value characteristics, quality attributes, and recent share price movements. Our analysts evaluate business quality first. They learn the business inside out by looking at the company’s historical and current operational and financial performance. They compare the company’s quality with that of its peers, and they initiate meetings with company management. Since we hold stocks for an average of four or five years, our analysts typically get to know management quite well thanks to these regular meetings. The longer we own companies, the better insights we gain on these companies. The analysts look at the company’s historical profitability and determine the company’s absolute and relative fair value by assessing: Earnings sensitivity Multiple expansion potential Net asset value Using all this information, our analysts fill out a detailed Investment Grade Checklist. The end result is an overall ranking of a company’s quality from 1 to 5. This grading system acts as a risk control mechanism that limits the portfolio manager’s maximum weighting in a given position. The maximum allowable weighting rises as the grade moves from a 5 (minimum acceptable quality) to a 1 (highest quality). We will not invest in any company with a grade greater than 5. Once the analysts complete the checklist, they write a detailed research report on the company which includes all their findings and a buy or sell recommendation. In summary, our analysts: Gather five to 10 years of financial history and analyze it in detail. Examine the company’s business, its industry, and its business history. Interview management. Informally interview customers, suppliers and competitors whenever possible. Compare the company’s financial characteristics with those of its competitors. Conduct a detailed scenario analysis to determine a stock price’s upside and downside. Complete a quality Investment Grade Checklist. Prepare a formal detailed research report.
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A Comprehensive Guide to FGP as at June 30, 2014
Once an analyst makes a buy recommendation and reviews the analysis with the portfolio manager, FGP’s Investment Committee convenes. The committee, with representation from the fixed income team, the Canadian equity team, and the foreign equity team, listens to the analyst make his or her case to add a new company to the portfolio. As the devil’s advocates, committee members ask the analyst detailed questions about his or her review to make sure no research stones have been left unturned. The committee can challenge the investment grade rating and can request that the research analyst conduct additional due diligence. While the portfolio manager uses the committee’s feedback to help him evaluate the worthiness of the company, he has the final say on which companies enter the portfolios.
Portfolio Construction The portfolio manager makes the final decision on new additions to the portfolio he manages. He looks for input and constructive criticism from his analysts and the Investment Committee, and weighs that input before making a final decision. The analysts and the portfolio manager discuss on a daily basis any significant changes to the companies they’re following. Every week, the portfolio manager hosts an informal meeting where the analysts talk about their companies. Before discussing companies outside the portfolio, the analysts first review the ones inside the portfolio. They must justify why these companies continue to deserve staying in the portfolio. The analysts debate some of their colleagues’ insights. It’s a meeting with a free flow of ideas, with the portfolio manager serving as chairman and mentor. There are three reasons the portfolio manager will remove a stock from the portfolio: Quality has deteriorated. The stock reaches its fair value. The catalyst for the investment thesis has been impaired. Within the portfolio, the portfolio manager manages the positions using a model weighting system that takes into consideration input from the analysts and the portfolio manager’s own judgment of each stock’s best overall value in the portfolio. Weightings will shift in accordance with market volatility, in which case rebalancing could occur periodically. Occasional changes to investment grade ratings for individual stocks (upgrade or downgrade) may result in adjustments to individual weightings. Our weightings are different than the benchmark weightings. If we purchase and hold a stock, it’s because we like it and we’ll typically hold more of it than the benchmark.
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A Comprehensive Guide to FGP as at June 30, 2014
Risk Management The FGP Investment Committee is responsible for establishing the risk management guidelines for each portfolio. The lead portfolio manager must construct the portfolio while abiding by these guidelines. FGP’s compliance team is responsible for monitoring and enforcing the risk management guidelines. We define risk as the permanent loss of capital. There are three specific risks we try to control: Valuation risk We seek to buy stocks at a big discount to build in an extra margin of safety. Balance sheet risk We seek to buy well capitalized companies rather than highly leveraged companies. Earnings risk We buy companies for which we understand the specific factors that make earnings rise and fall. There are a number of ways we manage these three risks: Diversification guidelines from the IPS Each Investment Policy Statement specifies various diversification guidelines, including: The minimum number of sectors in which the portfolio must be invested. Market capitalization ranges. The minimum and maximum number of stocks in which the portfolio must be invested. The maximum investment in any one security as a percentage of the portfolio’s market value and as a percentage of the company’s market capitalization. Scenario analysis We endeavour to project future profitability by building multi‐year forecasts for each company and testing these forecasts with various scenarios such as higher/lower sales and higher/lower input costs. Our analysts update these models when quarterly earnings results are announced and at other times if necessary. This scenario analysis provides us with a good range of estimated price targets.
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A Comprehensive Guide to FGP as at June 30, 2014
Investment Grade Rating After having completed their research on a given company, our analysts fill out a detailed Investment Grade Checklist. The end result is an overall ranking of a company’s quality from 1 to 5. This grading system acts as a risk control mechanism that limits the portfolio manager’s maximum weighting in a given position. The maximum allowable weighting rises as the grade moves from a 5 (minimum acceptable quality) to a 1 (highest quality). [Carolyn will recreate this checklist in Word so that the look and font is consistent with the rest of the document.] FGP Investment Grade Rating (IGR) Checklist 1 3 5 Rating BUSINESS FUNDAMENTALS:
Market Position
Leader
2nd-Tier
Favourable
Medium
Low
High
Medium
Low
Favourable
Mid-Cycle
Neutral
Low
Medium
High
Revenues
>15%
7~8%
15%
7~8%
15%
7~8%
15%
7~8%
15%
~10%
15%
~10%