Barron's: Dan Chung Profile

Chung was once a star analyst at Al- ger, and he is quick to share that success with his diverse team. His time as an an- alyst came during the dot-com boom and bust, so he knows a thing or two about what causes bull markets to rise and fall. While markets seesaw with the headlines, Chung remains focused on the forces driving the market higher and the indi- vidual stocks that will benefit. He spoke to Barron’s about why the tech boom is far from over, why Microsoft (MSFT) still has it, and how the internet is touching just about everything. Barron’s: You made your mark as a tech analyst during the go-go ‘90s. What did that experience teach you about where we are in the tech boom? Chung: One trend that is really clear to us is Internet 3.0. Internet 1.0 was the birth of the internet, the ‘90s until the bust. In- ternet 2.0, postbust, was characterized by the fact that a lot of the companies and the technologies were not really ready for prime time. They were not mature enough or affordable enough or easy enough to use to really be powerful tools for cus- tomers. Internet 3.0 is the period we are in now. I think it’s between three and five years old. This is really about the prod- ucts, the technologies, the ecosystem, the affordability, and digital business trans- formation. We’re still in the early innings of great growth. There’s a much better chance that the market is surprisingly higher over the next two years. Part of the reason is because Microsoft and Apple are not expensive stocks. They can carry the market a long way. Speaking of Microsoft, it’s a company that has transitioned from Internet 1.0 to 2.0 to 3.0. It’s also one of your largest holdings. What do you like in Microsoft? Microsoft is in an incredible position, and the numbers are showing it. It is one of the few megacap companies that’s accel- erating revenue and expanding margins. This is also a bit of a life-cycle change story. Microsoft was growing only 2% and 9% in 2016 and 2017. This year it is going to grow by 15%. That’s a gigantic acceler- ation. And at the same time, we estimate that its operating margin will expand from 30% to 35% by 2020. If you are impressed by $43 billion of operating income, it [also] has $55 billion-plus of cash, and even after all of the expenditures for the cloud, free

cash flow is about $40 billion. It has a 30% free-cash-flow margin. For a company as big and as old as Microsoft, that’s an in- credible thing. What’s driving that growth? The traditional Office Windows suite of products is getting decoupled from the PC sales. They used to be tied at the hip, but now everything has moved to software as a subscription. Microsoft is indisputably a leading enterprise software provider to businesses of all sizes globally and this transition to a subscription model is very beneficial to them. But it can’t just be Office, can it? The big growth driver that has led to Mi- crosoft beating revenues by over a billion dollars in each of the past two quarters

strong free cash flows, and are often very software-like. Medical and scientific imag- ing is about 35% of sales; radio frequency technology is about 30%; industrial tech- nology is about 20%; and the last business is energy systems, testing, and control of petroleum pipelines and power-genera- tion systems. What do they have to do with the in- ternet? Internet 3.0 infuses every part of what they do. For example, its Neptune line is one of the leading water meters, and they are Wi-Fi connected, so no one has to get out of the van to read your water me- ter. Roper is aggressively making use of the Internet of Things with sensors built into devices that can provide feedback on problems, and offer predictive preventive maintenance. The market doesn’t really appreciate that in 2001 5% to 10% of Rop- er’s revenue was recurring revenue [and] as of two years ago, more than 50% of revenue was recurring. In addition, be- cause it has been early to spot all of these opportunities to use technology and soft- ware for clients, about 50% of profits are basically coming from software. It’s a good example of how technology, Big Data, and even artificial intelligence are really work- ing in the world. Roper has gained nearly 30% during the past 12 months, and has outper- formed the S&P 500. Isn’t the good news already reflected in the stock? The stock is currently trading at a price/ earnings ratio of 20, basically in line with peers like Honeywell International [HON], Amtech Systems [ASYS], and Danaher [DHR]. It should have a premium for the quality of the business model, particularly in that transformation to more recurring revenue and much more software use than other industrials. While it shouldn’t be val- ued as a software company, when we look at some of the hardcore software compa- nies that service manufacturers, they have multiples of about 35. So just apply a low industrial 15 multiple, blend that with a 35 multiple for software, and Roper should be trading at 25 times rather than 20, even if it won’t necessarily get that expansion. Health-care companies are also bene- fiting from the growth of the internet. Can you tell us how that’s helping Tan- demDiabetes Care [TNDM], a maker of insulin pumps that you own? Tandem is a company that had a near-

is the cloud business. Microsoft is clearly No. 2 behind Amazon.com [AMZN], but it is now growing over 80% a year, and [the cloud] is a gigantic opportunity that will drive the company for years. At around $100, the stock is trading at only about 20 times next year’s free cash flow, and Microsoft’s dividend is about 2%. Today, it is trading at about 25 times current earn- ings, and that’s high, but by the end of the 1990s it got to 40 or 50 times, and Internet 3.0 is probably going to be better for Mi- crosoft than Internet 1.0. It has organic growth in one of the leading growth mar- kets in the world. It has all of the char- acteristics of something that could return 30%-plus over the next couple of years. Are tech companies the only one’s ben- efiting from Internet 3.0? Roper Technologies [ROP] highlights how Internet 3.0 has come alive across indus- tries. Roper is an industrial with an in- credible management team that focuses on cash return on investment as a disci- pline. It has niche businesses, which have