4/24/2020 12:00:00 AM

Investor Update (24/04/20)

Dear Investor,

We hope you’ve had a good week.

Please find below our weekly video update along with the written version.

This week we cover off the following questions:

  1. What has been happening in markets over the past week?
  2. What’s the feeling on the ground in the UK and Europe right now?
  3. When we think of the UK and Europe now, we think “what a mess”, what optimism can you give to clients about investing in these markets?
  4. How does Pie specifically test the quality of management teams?
  5. How does Pie specifically test balance sheet strength?

Please send through any questions you have to [email protected]  and we will either respond directly or answer them in the next week’s video update.

I hope you have a great weekend.

Kind regards,

Founder and CEO



Written version

Investor update, written version - 24 April 2020

Sam De Court: Hi everyone, my name is Sam De Court, and with me I have CEO Mike Taylor and Toby Woods. Toby is part of our UK-based investment team, and he is, of course, in isolation over in London. Hi Mike, Hi Toby.

Mike, we will start with you again this week. So, the first question is, what’s your take on what’s been happening in markets over the last week?

Mike Taylor: The first thing I wanted to say this week is our Global Fund went positive, year to date. Which I wanted to mention because I think it’s a tremendous achievement in the current environment, and Toby is one of the team who works on that Global Fund. So publicly I want to say well done to Toby and the rest of the international team on the performance of that fund. It’s really remarkable. And I’m sure our investors in that fund will be very pleased.

Markets, you know, there’s never a dull day, Sam. This week there has been a bit of a crude awakening, black gold turned red, oil prices went negative for the first time. I’m not sure that’s going to translate that the next time you’re at BP, you’ll actually get paid to fill up the car, but it certainly has created some global implications - what does it mean when effectively oil is free? So, for us, what are we looking at? We are more looking at the implications of widespread bankruptcies and the credit market, and how oil’s collapse will affect credit.

At this point we are also starting to see a little bit of divergence between markets around the world. Specifically, if you look at say the NZX versus how the ASX has performed, the NZX is doing much better. Obvious reasons for that would be that Australia’s market is dominated by banks, miners, even oil companies on there. They have suffered more. And the NZX has had a couple of star performers in Fisher & Paykel Healthcare and A2 Milk, which has actually dragged our index up higher than it might have been if you removed those two from the index.

Going around the globe again, the NASDAQ-100 has been the top performer in the world, it’s only probably down -5% year to date, versus other markets like the FTSE, which is still off 20%. Again, obvious reasons, the NASDAQ has got the stars in there, like Netflix, Microsoft and Amazon, and the UK FTSE market is dominated by old world traditional businesses.

Sam De Court: Thanks Mike. Toby, we’ll move to you now. What’s the feeling on the ground at the moment, in Europe or in the UK?

Toby Woods: Thanks Sam. As we are all aware these are pretty extraordinary times. Never would I have thought that I’d be living through a period where I can’t even get a haircut. I also would never thought our Prime Minister would end up in a critical state in intensive care. Thankfully, he seems to be recovering well and able to get his feet back under the desk.

Across Europe and the Uk, the feeling is, a bit like Boris’s condition, that the worst is behind us, with the virus curve flattening out. The focus is now shifting to look for the exit. In the UK, there’s speculation that in about three weeks, we will start to see society opening up again. It’ll be a gradual process, and we are pretty light on details about that at the moment. We are seeing some European countries start to return to normal already. Austria opened some shops last week, Denmark is opening primary schools, Germany announced the top flight football, the Bundesliga, will start again in early May, although behind closed doors for now. We’re expecting more news like this over the coming weeks and, presuming there’s no second wave, that should bring a return of confidence to businesses.

Sam De Court: Thanks. I know in New Zealand, in particular on the news, all we seem to hear about the UK and Europe is kind of what a mess. It’s all about the huge number of new cases and deaths, particularly in Spain, France and Italy. From an investment point of view, what can you say to get people optimistic about investing over there right now?

Toby Woods: Firstly, I think these countries have reacted in the right manner so far, because the purpose of the lockdown was to stem the spread of the virus, and stop the healthcare systems being overwhelmed, while at the same time, preserving the economy as much as possible, so the return to normal can happen. And it looks like they are largely on track to fulfil this.

Secondly, and most importantly for us as investors, in every crisis, opportunities are born. So while we had to readjust the portfolios we went into this crisis [with], which included buying into some companies that are net beneficiaries in the current situation, that I think has been discussed in this forum previously, we are now able to go further and start earning long term, structural winners, that may not necessarily benefit from the coronavirus, but will be winners in any circumstances, in which we can pick at much lower valuations than we could have imagined just a few months ago.

So, for instance, we recently bought Telenor, a Finnish accounting software business, a bit like Xero that you guys in New Zealand know well, BioGaia, a Swedish producer of probiotics that has proven health benefits. We also bought S&T, an Austrian business geared towards factory automation. These companies have good long-term structural growth as well as robust, although perhaps not excessive, demand at the current time. They have high returns and strong balance sheets. So, they’re exactly the companies we want to own. It’s actually a great time to be selectively investing into high quality European companies. Which is exactly what we are doing.

Sam De Court: Thanks Toby. One of the questions we had from one of our clients last week was we often talk about the importance of investing with high quality management teams. What specifically do you do to determine the quality of management teams.

Toby Woods: Yes we certainly have a bias towards quality management teams. Typically things we look for are good track records, high insider ownership, incentive structures, and good market communication. But this question also opens up the debate about whether entrepreneurs or professional managers are the best operational executives. To be honest, there’s no right or wrong answer to that. Both have strengths and weaknesses. And we will always not only assess the individuals on their backgrounds and track records, but also assess the suitability of their character for the job in hand. Often the best businesses are those where there has been a natural evolution, from the founder or entrepreneur, to a more professional manager to take over and lift the company to another level. So long as those founders or entrepreneurs stay with the company, at least on a board level for the time being.

So, in one of our recent purchases, Shop Apotheke which is a European online pharmacy, actually seeing booming demand at the moment, that’s exactly what’s happened, and we support it. I would also add that we always like to meet management teams in person, which obviously can’t happen at the moment, but we are having many video calls for now. And hopefully we can get back to some kind of normality in the not-too-distant future.

Sam De Court: Thanks Toby. Mike, one of the things that Toby mentioned earlier was the importance of balance sheet strength. We’ve talked about that a little bit in the last few weeks. Can you elaborate a little bit on specifically what the Pie investment team does to review balance sheet strength of companies?

Mike Taylor: The first thing we do is we look at a balance sheet and we want to assess the most obvious thing, whether it has cash. But then just because it has cash, can be a little bit deceptive, because they may have a working capital requirement, and they may have loads of cash in a certain period of time and a big draw down of debt throughout the year when they need to build inventory or stock. So that net cash needs to be looked at throughout the year, as opposed to necessarily one period, depending on the type of the business.

As well, if a business has net cash, are they actually burning through their cash? If they’re a startup, or a business which is not profitable, just because they have net cash doesn’t mean they won’t get into trouble, because they could be burning through that cash.

If you then start to look at businesses that have debt levels, typically Pie has preferred companies with low gearing, I guess that’s from my original experience before Pie even started. I remember being involved in deals where private equity would get into companies where they had nine times EBITDA leverage and many of them failed. Such names as Yellow Pages in New Zealand, which failed, because they had too much leverage. We have always had a view to have companies that have not much debt, but if they do have some debt, we would like to see them around 1-2 times of EBITDA, and then we look quite closely at their debt covenants and if they could potentially breach their debt covenants because if they do, potentially things like dividends get suspended, and a host of all other issues start to arise. So that’s the main thing, but broadly, we are preferring businesses that have high recurring cash levels, that are already profitable, and more likely to be net cash, than net debt.

Sam De Court: Thanks Mike, and thanks very much Toby. Thanks everybody for watching. Have a great weekend and we will see you next week.

To download our product disclosure statements, go to www.piefunds.co.nz.  Past performance is not an indicator for future returns. This information is general in nature only. Before relying it on it, we recommend you discuss with an expert