1 January - 31 March 2022
The previous quarter-end summary referenced an estimated 100,000 Russian troops mobilising on the Ukrainian border. Sadly, as we now know, Russia invaded in February. This is a human tragedy, adding to the disruption and uncertainty for global supply chains and the economy.
The first ten weeks of the year witnessed a sharp decline in global stock markets and an even sharper decline by the strategy, with most damage done in January. Outside of January, the strategy clawed back some returns.
While the strategy historically withstood market drawdowns relatively well, past drawdowns have been in the face of economic concern, slow-down, and even shutdown in the case of COVID-19. Rather than economic slowdown, January witnessed a sharp rotation as investors followed inflation and moved quickly into the next phase of economic growth. Capital shifted to early-stage inflation beneficiaries, such as fossil fuels, resources and commodities, and developed world banks; while exiting quality healthcare, technology and small and mid-cap companies. Many of these beneficiaries fail the sustainability or quality hurdles, or both, that make up the core of our investment process.
We believe the most attractive long-term opportunity for our clients lies in the many high-quality companies we already own that experienced significant valuation de-rating, with no discernible underlying change to fundamental company health, and in some cases an improvement. We increased our ownership of technology companies Adyen (Netherlands), Nemetschek (Germany), Halma (UK), Spectris (UK), Zebra Technologies (United States); healthcare companies Tecan (Switzerland), DiaSorin (Italy), bioMérieux (France); and industrial companies MonotaRO (Japan) and Nordson (United States).
In some cases, the bounce back was as sharp and surprising. This saw us reduce our ownership of Alfen (Netherlands), Jack Henry (United States) and again MonotaRO. Due to valuations, we also reduced position sizes in technology companies Ansys (United States), Arista Networks (United States), Constellation Software (Canada) and Fortinet (United States).
Outside this active period of topping and tailing, we bought one company and sold one company. We bought Veeva Systems, the first US company to become a listed Public Benefit Corporation (not to be confused with a B Corp), ensuring that Veeva will work for customers, employees and shareholders. Management believe this shift from shareholder primacy is consistent with customers making 20 – 30 year commitments to Veeva. We sold Edwards Lifesciences (United States), reflecting high valuations and the potential for ongoing surgical interruptions going forward rather than fundamental quality concerns, in the context of a wealth of quality healthcare companies from which to choose.
We take comfort in the long-term quality and investment fundamentals of the portfolio of companies owned for clients. There are many macroeconomic factors driving uncertainty for the year ahead; inflation, interest rates, and both capacity and demand in the economy. We believe it is extremely difficult to know what will play out, but by concentrating on companies with consistent cash flow generation, strong balance sheets, strong sustainability positioning and reliable stewards, we should be well positioned for whatever eventuates.
The latest video strategy updates from the portfolio manager can be found here.
1 October - 31 December 2021
The final quarter of 2021 witnessed the rampant Omicron strain of the COVID-19 virus, the US Federal Reserve commit to double the rate at which it cuts spending on government bonds (known as tapering), and an estimated 100,000 Russian troops mobilising along the Ukraine border.
All three events illustrate the potential for uncertainty and headwinds for 2022.
During the quarter, we completely sold our shareholdings of Tata Consultancy Services (TCS), Taiwan Semicondcutor (TSMC), Alcon, and Godrej Consumer Products.
TCS was owned in the strategy continuously since the second half of 2016. Our motivation to sell was valuation rather than any quality concerns. Having bought into the company at a 5.5% cash flow yield, we believe its move down to 3% in what may well be a lower growth environment made it increasingly difficult to see us making acceptable returns. We remain believers in the stewards and quality investment case and may well own the company again for clients.
TSMC remains one of Asia’s highest-quality companies. Market movements meant we had bought in at about a 8% cash flow yield, and owned the company through a significant industry-wide capacity shortage, while seeing the yield fall to 5.5%. Whilst we don’t know where the semiconductor cycle will go next, we are aware that supply has historically shown quite cyclical traits, and the portfolio contains plenty of semiconductor exposure.
Alcon was owned in the strategy for only 2.5 years following its spin out from parent company Novartis. During this time, we struggled to become comfortable with management and financial quality and have concerns about current valuations, when considering historic industry growth rates and the need for Alcon to generate acquisition growth. During our ownership, we engaged with the company about our concerns with their approach to remuneration, with little impact.
Godrej Consumer remains a well-stewarded Asian consumer goods company. Our sale was a pure valuation decision as market expectations for the company rose to extreme levels, in part following an impressive new CEO hire from Hindustan Unilever. The company trades on about 60x price to earnings and in recent years has rarely grown sales more than mid-single digits.
We own Natura once again after selling it in late 2018, with concerns about the balance sheet and ability to swallow two large acquisitions. Natura has now digested The Body Shop and is moving onto Avon, and the balance sheet is in better shape. We bought into the company three months too early witnessing a share price slide, as concerns continue about the health of the Latin American consumer. However, we believe Natura - a listed Benefit Corporation - will continue its journey to become a global sustainable consumer company.
We also became shareholders of Nemetschek, a German listed software design company for the engineering and construction sector which is majority owned and run by Georg Nemetschek. It is dominant in its sector and we believe will benefit from the tailwind of assisting the property sector to become less resource intensive, and shift towards a circular economy.
1 July - 30 September 2021
Markets ended the quarter roughly where they started1, although the period was punctuated by the predicament of the highly indebted Chinese property company Evergrande, as well as by concerns about inflation, supply chain challenges, energy shortages and the resurgent Delta strain of Covid-19.
In short, the period reinforced the importance of the business qualities we prize: low debt, pricing power, resilient cash flows, and adaptable and competent management teams.
We completely exited positions in Unilever and Neogen.
Unilever (UK) had been held in the strategy continuously since 2012 on the strength of its core brands and ability to provide affordable hygiene products in emerging markets, as well as its ambitious sustainable living plan. Unfortunately, since the attempted takeover by Kraft-Heinz in 2017, Unilever’s balance sheet has deteriorated, and an increasing focus on margins has done little to improve competitiveness.
The company has struggled to develop and acquire leading new brands. It has also had difficulty evolving areas of its product portfolio to suit changing consumer preferences, and has been slow to adapt to the online and omnichannel distribution environment.
The sale of Neogen (US) was motivated mostly by valuation. However, our lack of success in attempting to engage the company on product safety and sustainability also contributed to the decision.
We brought three new companies during the period.
Synopsys (US) is the market leader in design software for digital integrated circuits, with around 30% market share. Against a backdrop of increasing costs and resource consumption in the production of ever-more advanced semiconductors, Synopsys supports its customers in achieving better designs and in developing more energy efficient chips, while cutting down on design time and errors. Its specialist software also supports climate solutions in building automation, telepresence and electric vehicles. Synopsys is growing its security services offering, enabling customers to embed best practice cybersecurity checks into software development processes. The company has a distinctive culture and is led by co-founder Dr Aart de Geus.
Adyen (Netherlands) is helping redefine and reduce costs in the complex payments processing ecosystem. Traditional payment processing systems include up to seven steps, commonly carried out on ageing platforms, with various intermediaries charging often-opaque fees to merchants. Adyen consolidates many of these functions to provide excellent process transparency using a modern platform which accepts many different payment types from anywhere in the world. The company is growing rapidly in emerging markets, where payments have historically been complex, expensive and insecure, thereby contributing to our access to finance human development pillar.
Masimo (US) is a specialist health technology company that uses light and electroencephalogram (EEG) signals to monitor patients’ vital signs in a non-invasive manner. Its products are embedded in the medical devices of leading companies like Philips and GE Medical. Masimo was established in 1989 by founder and CEO Joe Kiani, whose mission to improve patient outcomes and reduce health system costs still defines and strongly influences the company’s culture.
Quality, sustainability positioning and valuation continue to inform all of our investment decisions.
1 Source: FactSet
1 April - 30 June 2021
Recent market movements have gyrated off the back of the short-term economic re-opening thematic, and expectations, or speculation, on whether inflation will be transitory or long-lasting with obvious implications for interest rates.
Either way, some economies are discussing a move to tighter money supply and slowing quantitative easing programs and uncertainty remains.
We remain focussed on the long term and the strategy is not exposed to outsized investment risks for inflation or deflation in future. We continue to examine the liquidity and solvency of our companies and the strategy is largely invested in companies with net cash balance sheets. Our companies are not over-reliant on government action or support, and the strategy is predominately invested in companies that historically show strong pricing power and resilience in a variety of economic conditions. About 45% of the strategy portfolios remain invested in companies with some form of shareholding steward, either a family, founder or foundation, who have guided their company through cycles and sometimes generations.
During the quarter we invested in Cognex, a US-listed inspection and machine vision company for industrial automation. The founder, Bob Shillman, and other executives, provide the research and development and engineering-excellence culture that makes this company successful. They guide a very high profit margin business sensibly, selectively choosing growth opportunities to maintain their pricing power. Cognex is a contributor to sustainable production as their products and software help ensure manufacturing quality, reduce waste in the process by minimising errors, reduce costs through the manufacturing process, and allow for greater traceability and control.
This new investment was funded through selling investments in Novozymes, Lenzing and Topicus. Novozymes appears very expensive considering its moderate long-term growth and more recent moves to push inventory through distribution channels, although the market voting machine has disagreed with us in the short term. Lenzing is one of our rare cyclical companies and with elevated industry inventory levels and commodity pricing for cotton, appears fully valued. Topicus was a gift to us after spinning out from our investment in parent company Constellation Software. We prefer to remain invested in the parent company and struggle to understand the structure that was created to set Topicus free.
We remain positive about the prospects for our sustainable, quality companies as we enter an uncertain second half of 2021 where a delicate balance remains between central bank policies and the fragility of real and consistent economic growth.
1 January - 31 March 2022
During the quarter there were 63 resolutions from six companies to vote on. On behalf of clients, we voted against three resolutions.
We voted against the appointment of the auditor at Infineon Technologies, as they have been in place for over 20 years and the company has given no information on intended rotation. (one resolution)
We voted against the approval of Nordson’s executive compensation (as we did last year). Our preference is for remuneration schemes that are reasonable and simple. We also voted against the appointment of the auditor, who has been in place for over 60 years. We believe rotating an auditor on a relatively frequent basis (e.g. every 5-10 years), helps to ensure a fresh pair of eyes are examining the accounts, and following best practice. (two resolutions)
1 October - 31 December 2021
During the quarter there were 57 resolutions from seven companies to vote on. On behalf of clients, we voted against four resolutions.
We voted against the approval of CSL's remuneration report and the equity-based remuneration of the CEO. We have engaged with CSL over a number of years on remuneration and whilst we appreciate and acknowledge the changes they have made to their remuneration structure, our concerns remain that their remuneration focuses on the shorter term over the longer term, and the absolute level of CEO pay and the gap between median pay. (two resolutions)
We voted against the appointment of the Auditor at Chr. Hansen and Coloplast. In both cases, the Auditor has been in place for over 10 years and the companies have given no information on intended rotation. (two resolutions)
1 July - 30 September 2021
During the quarter there were 71 resolutions from eight companies to vote on. On behalf of clients, we did not vote against any resolutions.
1 April - 30 June 2021
During the quarter there were 417 resolutions from 28 companies to vote on. On behalf of clients, we voted against 13 resolutions and abstained on one.
We voted against the approval of Texas Instruments’ executive compensation as we believe the CEO’s median pay ratio is excessive. (one resolution)
We voted against the approval of Edward Lifesciences’ executive compensation because they changed the goalposts of their plan in light of COVID-19 and the company was not achieving the threshold performance level for any of the corporate financial metrics. (one resolution)
We voted against Atlas Copco’s remuneration report as we believe the increase in base CEO pay, and the awarding of exceptional bonuses based on short-term and unusual circumstances, is excessive. (one resolution)
We voted against the approval of Alcon’s executive compensation and their compensation report as we believe the CEO’s pay is excessive and have reservations on the company awarding bonuses for the year despite all financial targets being missed. (two resolutions)
We voted against Constellation Software’s request to appoint KPMG as their auditor for the 26th year and their ability to set the auditor fees. We believe the non-audit fees are excessive, given they exceed those paid for audit related services, and a change in the auditor would be in shareholders’ best interests. (one resolution)
We voted against Ansys’ equity compensation plan and executive compensation as we believe they do not reflect long-term thinking and are unnecessarily complex. (two resolutions)
We voted against Zebra Technologies’ executive compensation as we believe the CEO’s median pay ratio is too high and the plan is unnecessarily complex. (one resolution)
We voted against Illumina’s executive compensation because they changed the goalposts of their long-term incentive plan in light of COVID-19. (one resolution)
We voted against two shareholder proposals relating to Texas Instruments and Edwards Lifesciences which would have enabled shareholders to take action with written consent on important issues that arise between annual meetings. We consider ourselves active shareholders and voting an important responsibility in our investment management duties. (two resolutions)
We voted against a shareholder proposal relating to Ansys where shareholders were requesting the company eliminate the super majority vote they have in some circumstances and replace it with a simple majority vote. We believe the current arrangement better protects the company’s independence and growth over the long term. (one resolution)
Voting in line with WEG’s Board for the election of two independent non-executive directors to serve on their Supervisory Council resulted in us abstaining on the minority shareholder nominee. (one resolution)
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