[Part 2] Value Investing Summit 2018 – Building a League of Hidden Champions
This part 2 will focus on the second speaker who is the CIO of Hidden Champion Fund.
I enjoyed the simplicity of his ideas and it made total sense to me on why certain companies do outperformed other companies.
What are hidden champions? The speaker shared that they are focused market leaders in sophisticated, hard-to-imitate niche products and valuable critical niche services that are largely invisible to the average consumer, yet are indispensable to our well-being in daily life.
In my view, good businesses are businesses that solve high value and critical problems for the community it serves and it becomes stronger because of TRUST from its customers. So again, it made sense to me.
There were some companies being mentioned such as Godrej Consumer, Asian Paints, Reece, largan Precision, Nitori Holdings, Keyence Corporation and Hoshizaki Corp.
Hoshizaki is interesting because they do dominate a big segment of their market with their ice makers. Interestingly, they invested so much in R&D that they are able to make certain ice cubes which were able to cool down the drink much faster and it melts slower as well. This has great benefits when drinks are needed to be kept chill.
This reminds me of an earlier company which I spotted called Logitech. Well, it has compounded over 600% in a short period of 5 years. They make beautiful products and work very closely with their key partners to integrate. While electronics may seem to be a commodity-type, commanding low profitability margins, it has ROE > 20% and EBIT margin of >9%. Compariing it with Asus who has ROE of approximately 9-11% and EBIT margins of 3-4%, Logitech products command a premium.
It would be interesting to understand why and the reasoning behind it.
Ultimately, it does boil down to one thing: the business QUALITY
- Any strong leading market positions?
- Any continuous innovation and R&D?
- Exposure to service and after-market sales
- Prudent steward and allocation of capital
- Is the management top quality owner-operators with values and passion?
In my earlier days of investing, I have always picked out just decent companies whose intrinsic value may be growing very slowly due its business model challenges or industry dynamics. Capex intensity, etc. They may be undervalued by 30-60% yet once the price-value gap closes, it becomes problematic for me. This means I need to find another company to buy. Yet, with Hidden Champions concept, I am able to find a high quality business at reasonable price and buy it. Due to its business model superiority, it creates a foundation for sustainable profits across business cycles. This is a type of business where the possibilities to be a multi-compounder is higher.
After listening to his approach, I found it made a lot of sense to invest in a multi-compounder as compared to my earlier methods of earning the price-gap value.
It is very similar to Philp Fisher’s approach versus Ben Graham’s.
Sharing more on business quality, I have learnt to pick up companies whose management is still hungry to succeed and do well. This can be traced using metrics such as increasing sales from new products, or inclination towards going global (20% sales from overseas?).
Overall, the biggest takeaway for me is shifting an investment philosophy towards higher emphasis on business quality as opposed to merely buying companies that are undervalued.
The margin of safety equals to the business quality. Just think about it for a moment, if a business appears undervalued today, yet — ongoing basis, the company continues to meet heavy competition which erodes its margins and profits. What would happen? Its future EPS would go down and undervalued may become fair value due to weaknesses in business fundamentals.
Stay tuned for Part 3!