Short-term factors such as inflation, rising interest rates, supply chain disruptions and the war in Ukraine continue to cause great volatility in equity markets and put share prices under pressure. But Portfolio Manager Kieran Kennedy and Investment Analyst Jaye Guy reminded shareholders at AMCIL’s recent Annual General Meeting that it’s the earnings potential of high-quality companies over the long term that ultimately delivers superior returns.
AMCIL’s investment approach is based upon portfolio quality, diversification, and market leadership; characteristics that are a source of reassurance, especially in these uncertain times.
If you missed the AGM, here are the key takeaways.
‘Quality markers’ help define our portfolio companies
Around 30 per cent of our portfolio companies are run by owner drivers who have a deep understanding of the industry in which they operate and the companies they manage and lead. They are well aligned with outcomes for shareholders through their financial incentives, size of their shareholdings, and aspirations for their companies.
Nearly 80 per cent AMCIL's portfolio companies are expected to grow earnings faster than the benchmark index, meaning we're less reliant on valuation multiples for companies expanding to generate a return for our shareholders.
Furthermore, 35 per cent of our portfolio has a net cash position. We believe this provides further safety against financial risk and creates a form of value latency, especially in the current environment where management can potentially be opportunistic.
Portfolio diversification by sector and market capitalisation provide long-term confidence
Our sector exposure is relatively evenly split across financials (including property), healthcare, consumer, and industrial companies, which is an important feature of AMCIL's portfolio.
Over the long term, this diversity gives shareholders broader exposure compared to our benchmark index where financials and resources companies comprise nearly 50 per cent of the index. Greater diversity reduces any skew towards a particular economic outcome or exposure to more cyclical sectors. However, it does mean in the short term our portfolio performance can vary from the index.
Our portfolio is also well diversified in terms of the size of companies. The market capitalisation of our portfolio companies ranges from $51 million, to around $190 billion for mining giant BHP, and this spread gives our shareholders exposure to larger companies that have already established leadership positions, and smaller companies with longer-term growth prospects that could be potential market leaders of the future.
Our portfolio companies are established leaders
Market leadership is an important factor in our investment process because in many industries, a disproportionate share of the profit pool with a higher return on capital accrues to the leader in the industry. Industry leaders with a well-defined reinvestment mindset can generate a cycle of sustainability and prosperity that can last longer than many expect.
Within the AMCIL portfolio, this leadership position extends to examples with operations in more than 25 countries. Healthcare companies especially have become global leaders in their fields, including CSL, ResMed and Fisher & Paykel in our portfolio. Additionally, some less familiar stocks in our portfolio also demonstrate market leadership, such as Goodman Group, PEXA, and Breville.
Goodman Group is a global leader in the ownership, management, and development of industrial property around the world through both good and bad economic cycles.
In recent times, industry tailwinds have strengthened as e-commerce has driven a faster adoption of well-located industrial properties in many cities around the world. Goodman's established leadership position leaves them in the enviable position of having a long-duration development pipeline, which allows them to grow attractively and to avoid paying high prices at a stage in the economic cycle where prices are rising sharply.
With a strong portfolio of assets, Goodman doesn’t need to gear up its balance sheet to extract returns. The return on assets and the return on capital available from these projects is attractive enough meaning Goodman can enhance its relationship with key tenants and capital partners as cyclical conditions change, enabling the company to further entrench its leadership position.
Digital property settlement company PEXA is a more recent portfolio addition as an industry leader. It was formed to change industry practice and now processes most property transfer and refinancing transactions in Australia. Incumbency benefits in this industry are very high and PEXA’s ability to take its expertise into other jurisdictions such as the UK enables it to grow into much larger markets.
Some of our emerging companies have been purchased for their longer-term leadership potential, such as Breville which has a long history of product quality recognition in kitchen appliances. Its reputation has spread globally. The company is growing its sales in the US at an impressive, yet steady rate and it has stepped up its global ambitions significantly and is entering new markets in Europe and Asia.
Breville operates in a niche kitchen appliance market compared to much larger appliance markets such as fridges, televisions, and washing machines. But the global opportunity is large relative to Breville's current size. Our interactions with management highlight a company that is strategically thinking about developing leadership in this niche category.
There is undoubtedly increased uncertainty in the market from a range of external factors. However, the uncertainty reminds us that quality attributes, diversification, and market leadership matter even more in tough economic times.
Whilst valuations swing markets in the short term, by far the biggest driver of share prices in the long run is earnings growth. The companies in our portfolio are selected for that long-term potential.