FIRST STATE STEWART ASIA - ASIA PACIFIC EQUITIES - First State Stewart Asia Asia Pacific Equities May 2019 Client Update - FSSA ...
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First State Stewart Asia
Asia Pacific Equities
May 2019 Client Update
FIRST STATE
STEWART ASIA –
ASIA PACIFIC EQUITIESClient Update | May 2019
First State Stewart Asia – Asia Pacific Equities
“To infinity...and beyond!” At present, the Fed’s liabilities can be so surprising. On balance, we
Buzz Lightyear, only be used to inflate financial remain more focused on capital
Toy Story assets via the banking system, preservation than reaching for
but the proponents of MMT argue growth.
Although financial types that the law should be changed
everywhere seem to believe that so that they can be used to pay US
things are absolutely dire, world- government expenditure directly.
Portfolio implications
ending and the sky is about to fall Onwards and ever upwards, it “In preparing for battle, I
on our heads, most of humanity seems; to QE43... and beyond. have always found that plans
have better lives now than in all are useless, but planning is
of history. That is certainly so in How should you expect your
the developed world. Prosperity, money manager to operate in indispensable.”
in our time, has yet again been such economic conditions? After US President and Army
underwritten by those clever all, we are infamously allergic to General Dwight
technocrats at the world’s central macro analysis and top-down views D. Eisenhower
banks. of the world. We call investment
themes ‘tailwinds and headwinds’. Like President Eisenhower’s
Markets and assets everywhere are What does MMT and its variants reflections on war but rather more
broadly elevated. All is well. So, mean from a portfolio point of trivially, our discussions about
why the angst? Why all the talk view? Does any of this make any macro often seem wholly irrelevant.
about Japanification, zombies and difference to how we should and But, then again, such views can
unicorns?1 Just as heresy turns into do invest? sometimes provide a helpful
orthodoxy, is Modern Monetary framework for understanding
Theory (MMT) the new QE? 2 To Well, yes and no. At the very least individual company valuations.
us, it looks like an even madder a PER4 of 25x has become the new Comprehension of the big picture
twist on what has generally passed 15x, as interest rates have plunged can greatly aid implementation and
for economic policy over the last around the world. Simplistically, execution. Investing often involves
decade. Academic respectability everybody knows that free capital a synthesis of thinking top-down,
cannot be far behind. broadly erodes returns; and we but at the same time investing
would argue that overall quality, bottom-up on a company-by-
“There are some ideas so as well as balance sheets, have company basis.
wrong, that only a very become ever more important
Today, it seems easy to argue that
intelligent person could in our bottom-up assessment of
the world has changed irrevocably
believe in them.” companies.
and that we are heading for
George Orwell That has been the case over the cataclysmic times. Economically, if
past year, when higher quality we do not eventually end up with
George Orwell was writing about companies have generally held up inflation, it seems that the negative
politics. But these days he would no well, underpinning our returns. consequences of deflation (no
doubt be appalled at what passes Overall, our positioning has not growth and falling returns) might
for economics. MMT looks radical, changed very much, with some be just as deleterious to returns.
but it is just the latest iteration modest additions to technology On the other hand, often the real
in a long line of dangerous ideas. and China companies on earlier and more pressing danger is being
Wrapped in the pseudo-science of weakness. paralysed into inaction and thereby
a theory, MMT offers a pervasive missing out on opportunities.
subversion of much of the As recent volatility has clearly
economics that most of us learnt demonstrated, the contradictions Most of the time, the markets roll
at school, with regards to sound and instability of a system piled on unperturbed. If you read any
money management, inflation, high with debt means that of the economic histories, say of
independent central banks, deficits, yet another crushing loss of Britain or much of the world in the
capital flows and even markets. market confidence would not 1970s, the environment was much
1 See appendix
2 Quantitative easing
3 Yet another round of quantitative easing
4 Price-to-Earnings Ratio
1Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
worse; and yet investing fortunes Most analysis, as we all know, subsequently saw them plunge
were made. There is no morality in consists of trend extrapolation. and then just as quickly rebound
money. Markets are just efficient Our mental framework is usually to almost regain their previous
discounting mechanisms of future bound by what has happened highs. The MSCI China-rebalancing
returns. We can deplore all we recently and many will admit noise has helped. That is fine, as
like, but market conditions are that inflection points are only more broadly (though mostly at
something to be taken advantage obvious in hindsight. Yet, just a the margin), we used this same
of, rather than obsessed about. short six months ago, everything volatility to add a number of new
was collapsing. Markets have positions.
“If something cannot go on swiftly recovered, but economic
forever, indicators and corporate earnings
it will stop.” have continued to be quite weak.
Attractive valuations?
Herbert Stein Market valuations are predicated The sell-off meant that a number
With much of the developed world on a sharp bounce in both. We now of companies became more
now seemingly in a thorough mess have to wait for the follow-through, attractively valued (though they
– with lack of growth, lack of self- with conditions otherwise likely to have since rebounded). These are
belief and rolling political and deteriorate again. companies that we have followed
economic crises – global capital for a long time, but in many cases
In the meantime, investors feel
has, unsurprisingly, projected its they were previously richly-priced,
broadly assured that any market
dreams onto Emerging Markets on what we felt were elevated
sell-off will be quickly recouped
(EM). Increasingly, everybody seems profit margins. We initiated new,
through intervention, given the
all-in on China in particular, with but relatively small, positions
recent market-driven Fed-panic and
special thanks to MSCI. China’s in Largan Precision, ASM Pacific
policy-reversal. As usual, the stakes
growth will continue and the Technology, AAC Technologies
get ever higher. Growing political
country will rightfully become the Holdings, Uni-President China and
influence argues for further
world’s second superpower, so the CK Asset Holdings.
policy-easing, too. Echoing Maya
story goes. Angelou, we are “hoping for the In India, we added a small position
That may be true, but even best, prepared for the worst, and in Godrej Consumer Products, as it
if it marks just another surge (should be) unsurprised by anything has struggled with growth and a
in foreigners’ enthusiasm for in between.” very high earnings multiple, while
somewhere far away and ill- in Japan we bought back into
Ryohin Keikaku (Muji) and initiated
understood, it suggests an ongoing Portfolio activity a new positon in Daikin Industries.
flow of funds to this part of the
world. Moreover, the case for EM is Our last note, published in late For both Muji and Daikin, China
persuasive and easy to understand, 2018, highlighted that there had is the biggest driver of overall
given the prospects for longer-term been more activity than usual in growth. On the other hand, we
growth and plenty of tailwinds. It our Asian portfolios, in a greater sharply reduced our holding in
does not seem overly fanciful to effort to focus on absolute Nippon Paint which, with 50% of
expect the region to move closer quality, above all else. We exited a profits from outside Japan, is the
toward global norms, in terms of number of weaker franchises and PRC’s5 largest paint company.
consumption and wealth, over the in hindsight this appears to have
At the same time, we trimmed a
next decade. Indeed, we believe been sensible, generally helping
number of our more defensive
that to be so, which is why we to underpin absolute and relative
holdings, such as Hong Kong &
expect our absolute returns to returns.
China Gas, Jardine Matheson,
remain attractive. Over the last six months, as you HDFC Corporation, HDFC Bank
would expect, these efforts have and Newcrest. We completely
De-coupling? continued; more so in our All- disposed of China’s Sun Art Retail
cap than Leaders portfolios. The and subsequently, Shanghai
And yet, we have never believed in swings in markets have, however, International Airport. In Korea,
the idea of economic or market de- been extreme as well as rapid. we exited from Hanon Systems
coupling. As goes America, so goes We have moved from bear to bull and LG Household & Health Care,
the world. In particular, the impact market conditions in China in just a while in Australia we sold Ramsay
of US dollar-rates and liquidity quarter, which is quite something, Healthcare.
has always been amplified in EM. even by EM standards.
Hence, the conflicted position of In India, after further consideration
a bottom-up Asia fund manager. Having earlier trimmed a number and post the long discussion in
Today, the very idea that the world of our holdings in China, such as our last note on mistakes, we
will mean-revert and that rates and Midea, China Mengniu Dairy and finally sold Vodafone Idea. Though
profit margins will ever normalise Shanghai International Airport the position was not substantial,
seems rather fanciful. (SIA), at elevated levels, we the loss is permanent, which is
5 People’s Republic of China
2Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
unfortunate. It has subsequently is now probably circa 16x FY19 Like the other two companies,
plunged, with the company earnings, on a much reduced profit ASM’s economics have more
announcing a highly-dilutive rights forecast. recently been dominated by the
issue. smartphone, which probably
Largan Precision, listed in Taiwan,
accounted for up to 40% of sales.
As for our All-cap portfolios, we is more opaque than AAC and
Their stock price has similarly
sold out of John Keells and Hatton quite secretive about its prospects.
fallen sharply and the forward
Bank in Sri Lanka, Cemex in the They operate at the top end of
PER is now supposedly 17x. As
Philippines and Greatview Aseptic lens manufacturing. We all know
we all turn increasingly to data
Packaging, as well as Wuxi Little that Apple (50% of Largan’s sales,
and chip-content intensifies,
Swan in China. Only Wuxi Little previously) makes a fetish out of
these companies should perform
Swan has done well subsequently, secrecy, but as ASM commented to
well, while areas like industrial
with a takeover offer from their us in the past, they can only see a
applications and the automotive
parent, Midea. In India we sold quarter out and that is based on
industry provide new avenues for
Mphasis, a mid-tier IT services forward orders from clients. It is
growth.
company, as well as HDFC Life hard to regard companies, with
Insurance on valuation grounds. such characteristics, as ever being In a completely different sector,
large or top holdings. but using the same playbook, we
initiated a position in Universal
What we bought Robina Corporation (URC) in the
A common theme behind three of
5G & smartphones to the Philippines. We have known the
the new names (Largan Precision, rescue? company for many years; it is
ASM Pacific and AAC Technologies), For Largan, the outlook seems as
the biggest food and beverages
is technology and in particular hazy as for AAC, but the longer-
business in the country. Looking
smartphones. We have always term tailwinds are perhaps more
back, we had struggled with their
struggled with such companies powerful and easier to understand.
governance around the 1997 Asian
and in view of the share price There is the 5G upgrade-cycle to
Crisis, but then failed to appreciate
volatility of the last six months come, but camera quality (dual,
the changes underway. Over
that is perhaps understandable. triple lenses and so on) is already a
the last decade, the company’s
They are manufacturers, but smartphone-model differentiator.
revenues and profits have tripled
with the general enthusiasm for In addition, vision (and the need
and the share price has surged. We
smartphones, growth and Apple- for lenses), seems likely to be at
watched, but did not bite.
plays in particular, all three were the centre of all sorts of future With success came increased
rated like genuine technology long-term trends. Machine vision is challenges and greater
companies. increasingly the primary interface competition. Troubles in some
Today, everybody knows everything between us and the world of data, of their markets (Vietnam), a
that is wrong with the smartphone from robotics, to surveillance and botched acquisition (New Zealand)
sector, from saturation to lack of autonomous driving. Largan is one and generational transition all
innovation. But, the companies now of the industry leaders; however, its came together. Consequently,
trade on much more appropriate share price has already rebounded their profits and the rating both
valuations for cutting-edge very strongly (+50% year-to-date), fell sharply last year. This would
manufacturing businesses. We with the forward PER (21x FY19) ordinarily be enough to pique
assume that the smartphone cycle admittedly now a lot less enticing. our interest, but the decision by
will again turn upwards, one day. ASM Pacific is the only company
the controlling family to turn the
After all, it will probably not be too CEO position over to an outside
of the three businesses run by
long before everybody gets excited professional motivated us to act
professional managers, as opposed
about 5G. Such enthusiasm will more purposefully.
to entrepreneurs and owners,
surely drive a big product upgrade which is both good and bad. It is The appointment of an ex-Proctor &
cycle. We like another of our larger the most institutionalised too, as Gamble professional manager, with
holdings, Mediatek, for similar well as more broadly diversified the family’s backing and a high
reasons. by customer (though it is probably degree of autonomy to reshape
All three companies have good the same cycle). It would be too the business, is very encouraging.
balance sheets, pay decent much to call ASM the TSMC of As we’ve highlighted before, it is
dividends and have strong track semiconductor packaging machine one of our favourite combinations.
records. AAC Technologies is manufacturing, as there are a When professional leadership
perhaps the most concentrated, number of competitors, but the is applied to under-managed or
or risky, with the business almost company offers diversified exposure somewhat tired, but fundamentally
entirely focused on acoustics and to a large number of industries. sound family-owned franchises, the
haptics for smartphones (although, They are a leading surface-mount subsequent outcome is often very
at least it is for both Apple and technology (SMT) machine maker positive in terms of returns.
Android). The share price declined too (the machines which attach
by 75% to its trough, but we expect components to circuit boards at
it to remain profitable and the PER high speed).
3Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
Professionals solving old decade. UPC was listed in 2007; its As we mentioned earlier, Daikin’s
performance has been mediocre, economics are dominated by China
problems with the underlying PRC noodles (about 40% of profits), as well as
Many of the issues have been and beverages business proving the property and investment cycles.
experienced before, as well as to be extremely challenging. The Given our general concerns over
previously solved, in the West business accounts for less than 20% debt and very high investment
by multinationals. We have a of parent profits. spending, it is perhaps not an
similar view about one of our obvious holding. The attraction lies
Competition has been intense, with
largest holdings, Dairy Farm, as in their very strong and long track
the company engaged in a battle
discussed in detail in our last note. record, their global positioning and
for market share with Taiwanese-
Overhauling the product range, their efforts to localise in countries
owned competitor Tingyi. This
SKU’s6, supply chain, distribution, such as China and India.
has meant years of capital-spend
logistics, capacity and branding and promotional activity; and, The heads of both the China and
are all familiar issues. As the new consequently, thin margins, lack of India businesses are on the main
CEO observed, the overall situation cash-flow and low returns. Whisper board (novel for Japan), while the
was “not unlike P&G in 1998”. it softly, but capital-spending has group trades on a prospective
Though the shares have rebounded, peaked, cash-flow is rising and it PER of 20x. Our holding remains
margins have fallen by a third and may just be that even competitive relatively small because the
you can see (though clearly it will intensity has retreated slightly. business is clearly cyclical, as their
not be easy) a route to recovery. past profits track record makes
Both companies recently declared
CK Asset Holdings is another amply clear. We are not very good
100% dividend pay-outs and, while
business we know well. We have at owning cyclicals. It is always
the beverages market remains
even owned it directly in the difficult to know when to add on
brutal (subject to competition and
past, before Cheung Kong was economically-driven weakness
fashion trends), we believe matters
split into two listed parts. We (or indeed when to sell). Daikin’s
may be improving on a three-to-five
continue to hold CK Hutchison, quality should make it relatively
year view. The industry could finally
which has become the utility-like easier than for most.
be moving from an obsession with
component of the group, while our market share to thinking about For our All-cap portfolios, the
CK Asset shares were previously quality of profits. The group now sum of all our activity in the last
sold in 2015. The shares have gone trades on a forward PER of around twelve months has been to sharply-
nowhere in that time, but it seems 21x. We believe that medium- reduce the number of holdings,
that the group is being positioned term growth should be mid-to- particularly at the smaller-cap end
as the true successor to the original high single-digit, with a potential of the spectrum. These actions have
Cheung Kong. The family have dividend yield of 4%. That looks been positive, with such companies
increased their shareholding on fine. suffering in general, but in
weakness and the business has particular those in the Philippines,
become more diversified. Sri Lanka, Pakistan and Vietnam
India & Japan doing worse. Liquidity has been an
Recurrent earnings account for
around half of profits, with the Indian-listed Godrej Consumer important factor, as all the interest
group optically-trading on a PER is already owned broadly across has pivoted to North Asia.
of sub-10x and a 0.6x price-to- some portfolios, but has lately
We bought two All-cap companies,
book ratio (PBR). The dividend pulled back some 30% on earnings
both of them in Indonesia. Astra
yield is over 3%, gearing is low and disappointment. That said, the
Otoparts is controlled by Astra
there is plenty of capacity for the forward PER multiple is still circa
International, which we already
group to expand with a USD45bn 40x. Hence our newer position is
own indirectly through Singapore-
balance sheet. Though the property small. They have stumbled in a
listed Jardine Cycle & Carriage,
earnings will be volatile and the number of overseas areas, such
while the other is air-filter
group recently increased exposure as Indonesia and Africa, but these
manufacturer Selamat Sempurna.
to HK, their long-term track record operations now appear to be
Astra Otoparts, though illiquid,
gives great comfort. It should turning around. Issues with the
looks inappropriately priced. It is
be easier to add on any general household insecticide business in
the leading auto parts and service
reversal. In the meantime, we have India seem to be only short-term
company in Indonesia (Astra has
added to CK Hutchison as well. and the management are focused,
50%+ market share), but the market
as well as motivated, on returning
In China (though it is listed in Hong capitalisation is just USD550m,
to growth. Like URC today, Godrej
Kong), we bought Uni-President while the group trades at 11x PER
Consumer is a good example of a
China (UPC). We have owned and on a PBR of 0.7x.
family-controlled company that
the Taiwan-listed parent, Uni- moved to professional management Selamat Sempurna is more
President Enterprises, for over a a number of years ago. expensive, but trades at a similarly-
6 Stock Keeping Unit – or an individual item for sale
4Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
attractive FY19 PER of 13x profits. Korea is always difficult add meaningfully when things go
Its market capitalisation is not against you. That was the case with
much bigger at USD600m, but We have struggled to generate Hanssem and calls into question
they have a strong balance sheet strong, sustainable returns in our original quality assessment.
and a good long-term track Korea. Governance and indeed even
record. They have strong links with regulation remain rather mixed, to
Donaldson of the US and expect to put it politely, while the country as Opacity and weak
be a beneficiary of any trade wars, a whole is already rich. Growth is regulation
though they are always long US quite limited. Institutional reform,
which looks rather necessary, has Since we last wrote about the
dollars, being primarily an export
historically always been choked company, the share price has more
business.
off by the cosy nexus between the than doubled, which of course
Chaebols and the ruling party. fills us with relief, but is more of
What we sold This doesn’t look like it is going to a matter of luck than judgement.
change anytime soon. The underlying business appears
In our last note, we highlighted to have stopped deteriorating and
our concerns around Shanghai Over the last six months, we sold Shanghai’s losses have slowed, but
International Airport’s substantial out of Hanon after a surprisingly- the rebound seems to hinge on
capital expenditure program, positive experience, the more so Korean corporate machinations.
and that we had already begun given the company’s 50% exposure There are all sorts of speculation
to trim our weighting on the to Hyundai in particular and the that the family are now sellers.
sharp rebound in the share price. auto sector in general. The group
The share-price chart has since is the biggest manufacturer of When we initially bought the
resembled something of a roller- HVAC (Heating, Ventilation & Air- company, there were suggestions
coaster, thereafter selling off, Conditioning) systems for cars, that they would cancel their
before rebounding again. with the move to electric vehicles treasury shares. Now it turns out
providing a strong tailwind. The that they might, with observers
It has now almost recovered
group provides a good example pointing out that a buyer would
back to when we initially made
of the power of alignment, with be able to take control of Korea’s
those remarks. Midea Group, the
the company controlled by Korea’s largest interior design, decoration
white goods and air-conditioning
largest private equity company, and furnishing company for less
manufacturer, has followed the
Hahn & Co. than USD400m. It is very much an
same pattern – as has China in
insiders’ market. We have been
general. SIA looks quite fully priced They are highly motivated to reducing our stake on strength.
at 23x FY19 PER, given our concerns increase returns, as we are all co-
around earnings, while Midea trades invested in the same equity vehicle, Lastly, in Australia we reduced and
on a forward PER of just 15x profits. with leakages often a structural then completely exited our holding
We sold out of SIA entirely and we problem in Korea. Besides the in Ramsay Healthcare. Ramsay is the
trimmed our Midea holding. challenges facing the automotive biggest private hospital chain in
sector, the group subsequently Australia, but they have been very
We noted then that we would be
acquired a related American acquisitive in the last few years,
more inclined to add on further
controls business (from US-listed expanding into the UK, France and
weakness. However, the company
Magna International) for USD1.2bn. latterly Scandinavia. Leverage of
has since rebounded on general
With the purchase funded by 130% always concerns us, while the
A-share enthusiasm, despite
debt, balance sheet gearing has surprise exit (at least, to us) of its
concerns around the sustainability
increased to 95%. While Magna well-regarded CEO Chris Rex in mid-
of capital-spending and inventory
trades on a forward PER of 8x, 2017 was disconcerting too.
oversupply across the home
appliances industry. Hanon trades on an FY19 PER of Since then, the industry headwinds
19x. It has held up surprisingly well. appear to have grown stronger,
We finally exited Sun Art Retail,
We detailed our issues with with a softening of demand as
with the major Taiwanese
Korea’s Hanssem in our last note, privately-insured customers trade
shareholder selling their stake to
with the weak housing market down (premiums-wise). Insurance
Alibaba. As Amazon has acquired
and expansion into Shanghai de- companies and governments
Wholefood Markets, so Alibaba
railing profits. We added to our everywhere have become much
is experimenting with next-
shareholding, with our confidence tougher as well. The business now
generation retail. The French
somewhat bolstered by their trades on a forward PER of 22x
shareholder, privately-owned
net cash balance sheet and the profits and we sold our holding
Auchan, are still owners; but we
25% shareholding of the family. completely on the back of a recent
would not be at all surprised if
Additionally, 25% of the company’s share-price bounce. Subsequently,
profit is no longer the main focus
shares are held as bought-back reductions in the personal holdings
for the group. The shares have
(but not cancelled) treasury of both the CEO and CFO caught
fallen sharply since, with the group
shares. However, the opacity of our attention.
now trading on a prospective PER
multiple of 22x. Korea is such that it is hard to
5Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
Portfolio positioning Indian versus Chinese Additions to existing
Our overall portfolio positioning capitalism holdings
has remained fairly constant, The Bombay Stock Exchange, We have added to Techtronic
despite the stock additions (eight) founded in 1875, is the oldest Industries, OCBC, Dairy Farm,
and deletions (six). India remains in Asia. China’s stock markets TSMC and, latterly, President
the biggest weighting, despite the (Shanghai and Shenzhen), only Chain Stores; and discussed these
macro noise around the current reopened thirty years ago in 1990. companies in our last note. As
general election. The bulk of Capitalism – the idea of a separation for trims, most were made on
our holdings still consist of the of powers between ownership and valuation grounds, with Comfort-
IT services businesses (TCS, Tech management, as well as the rights of Delgro, Newcrest and Nippon Paint
Mahindra and US-listed Cognizant), outside minority shareholders – has perhaps the most significant, as
alongside the private banks (HDFC, been established and subsequently well as worthy of further discussion.
Kotak Mahindra and Axis). developed for over 150 years in Comfort-Delgro has rebounded
It is interesting to reflect for India. strongly, but the core taxi business
a moment on the differences has been permanently impacted by
By contrast, in China such ideas are
between India and China. Where ride-hailing apps.
understandably more nascent. It is
China attracts plaudits for its top- not at all surprising that as bottom- The company’s response has been
down economic management, it is up investors, we find it is still easier to expand more aggressively
not unfair to say that the opposite to find opportunities in India. outside Singapore (already half of
is true of India. Typically, you don’t That said, as China continues to earnings), with a significant step-
buy India for its government; you develop, the potential for growth up in mergers and acquisitions
buy it for its corporate governance. and positive change is clear. The (M&A) in the UK and Australia. This
The opposite, ironically, seems true challenge, in our view, remains seems sensible, but increases the
in China. For bottom-up investors on governance. In particular, as risk profile and erodes free cash-
like ourselves, it is perhaps was made clear towards the end flow (FCF), with the original FCF
therefore not entirely surprising of last year, the level of debt and yield of 8% being what caught our
that we own more companies and especially the pledging of shares by attention in the first place. Perhaps
typically have bigger weightings many A-share companies’ owners, is less easy to understand is the
in India compared to China. We a material hurdle. company’s decision to establish a
recently tried to put some number fund of USD150m for investment
In terms of existing holdings,
around these assertions. into technology ventures. The
there has been more trimming
shares have re-rated from 13x to
If you screen both countries’ main and adding than usual, as general
18x forward PER. We have trimmed
stock universes for companies of market volatility has provided
our holding.
over USD100m market capitalisation, opportunity. In particular, we have
with 10% return on capital employed continued to add to US-listed IT Nippon Paint has, unsurprisingly,
(ROCE) and average earnings per services company Cognizant, which experienced very tough trading
share (EPS) growth greater than 10% has a new CEO and now trades on in China and yet the share price
(both over five years), there are twice a forward PER of 17x. The stock has has rebounded. It now trades on
as many qualifiers in India as China rebounded since the beginning of an FY19 PER of 34x. This seems
(723 in India compared with 285 in the year, but still looks attractively- rather excessive, with our previous
China). As a percentage of the listed valued. valuation being based on a PER of
universe, though, the countries are 25x. We have sharply reduced our
The relatively new CEO of AIA gives
much closer at 12% in India versus holding. The CEO described recent
us great comfort too, with his
9% in China, with 5,820 listed India trading conditions as the worst
focus on operations and people.
corporates compared with 3,052 in in his memory. Japanese M&A, as
AIA is another case in point, with
China7. well as the injection of the other
China now driving 50% of group
half of the Asian business (and all
You could easily argue that this economics. And yet, the company
of Indonesia), may give us another
comparison is unfair to China, as (being the only 100% foreign-
chance.
it excludes the offshore markets owned insurer in China) is only
where returns are generally higher addressing a quarter of the PRC’s
and there is at least another 1,000+ GDP, via licenses to operate in Gold?
companies (including all of Hong three provinces. Another two areas
Finally, to Newcrest, which has
Kong’s H-shares). But are Hong have been added recently and
been one of our top long-term
Kong & China Gas, or say Vitasoy, further liberalisation to 2021 is
holdings. The company has
Chinese companies? Increasingly, expected. AIA trades at embedded
continued to execute extremely
we would argue that they are and is value, plus a multiple of 12x one-
well, with record production, cash-
another reason why we have never year new business. This still seems
flow and profits. From risk of a
felt compelled to follow indexes. quite reasonable, given the quality.
7 Source: Kotak Mahindra, as at end 2017. We believe these figures would not have changed materially.
6Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
rights issue four years ago, the looks like a possible mistake of profits. At 30x earnings, we
current CEO Sandeep Biswas has with the share price rebounding exited our position, but on what
transformed the balance sheet, substantially over the last few we perceived to be shorter-term
with a cash inflow of USD2.5bn months. We had concluded that issues, and we added it back on
and gearing reduced to 13%. The free capital and shared bikes a supposed-PER of 20x. In the
company has delivered against would permanently overturn the meantime, we read the latest
promise and after its recovery is industry’s economics. That may be annual report, which undermined
now articulating a growth plan. true, but the credit contraction in our view in respect of the absolute
China very quickly saw a number of quality of the group. We have since
With the recent acquisition of a
these start-up companies go under, reduced our holding.
Canadian copper/gold mine for
with Giant’s sales now starting to
USD807m, as well as plans for Their financial planning and
recover. Electric bikes in Europe
existing assets, the group have controls are not where they should
were more apparent on my last
articulated a transformation path: be, while rapid physical expansion
trip there too, which offers another
from owning two tier-one assets in China has diluted same-store-
growth avenue for the company.
to being in a position to control sales growth (SSSG). Retail is
and operate five on a three-to-five In the past we have owned a always difficult and there is an
year view. They are already there. lot of LGH&H and Amore, with element of fashion, which means
This will require significant capital both companies at one stage it can be difficult to add when
expenditure and inevitably much together constituting more than things go wrong. And then there
higher operational risk. 5% of the portfolio. We trimmed is the internet. More recently, its
them aggressively on escalating results have been disappointing
We were recently taken to task by
valuations. The entire sector was and the shares have fallen. Our
a client for indirectly expressing a
subsequently sharply de-rated on position is small, but for now our
macro-view through our Newcrest
the geopolitical fall-out between level of confidence does not give
investment. The criticism is broadly
China and Korea, with the PRC us comfort to add. That probably
fair. Our push-back would be
preventing packaged tours from means it may well be regarded as a
that we have invested in the CEO,
visiting its neighbour. mistake in the future.
but naturally the fortunes of the
company depend on the gold price.
With gold attracting much
Korean cosmetics Outlook and conclusion
opprobrium until fairly recently, Duty-free sales collapsed and Ray Bradbury, the science fiction
we considered the pricing risks the two stocks declined. LGH&H writer and author of Fahrenheit
to be more on the upside. That is is something of a conglomerate, 451, said about his writing: “I was
arguably less true today, though consisting of beverages and not predicting the future, I was
without much prospect of interest household products businesses trying to prevent it.” One hopes
rate increases, a dividend-paying too. We had always thought that that in much the same way, today’s
gold mine run by sensible people Amore was a higher-quality-focused harbingers of doom will succeed in
still looks like a pretty decent business, with an emphasis on highlighting just how high the stakes
investment. Nevertheless, we have longer-term brand value seeing the are if we continue to subvert old-
reduced the position, with the group periodically limiting sales. fashioned economics. Perhaps we
future size of the holding being Amore’s Sulwhasoo is one of the may even avert financial disaster.
dependent on the ready availability strongest cosmetics brands in Asia.
Thankfully, we are not in the
of better bottom-up alternatives.
On the other hand LGH&H owns the business of prophesy. We have
History of Whoo cosmetics brand, always respected Yogi Berra’s
Mistakes which is said to be a favourite of aphorism that “It’s tough to make
the wife of China’s President Xi. predictions, especially about the
As highlighted earlier, we
Surely that has helped and LGH&H future.” Investing in this part of the
capitulated on Vodafone Idea and
has continued to do well (FY19 PER world is still all about China, our
a good thing too. Thankfully, there
of 29x), while Amore has lagged. elephantine bedfellow, in terms of
have been no similar examples
We have added to Amore in the its relative economic dominance.
of such rapid capital loss in the
meantime, with margins now at You can find data, or a pithy
last six months, but in hindsight
half their historic level and the anecdote, to support any view
we sold Korea’s LG Household &
valuation rather depressed, recently about the country that you care
Health Care (LGH&H) too soon. Our
trading down to 2x sales. Even to advance. America is much the
preference for Amore Pacific has
using conservative assumptions, same.
yet to be proven, to say the least.
reasonable upside seems more
Otherwise, having sold Ryohin China has lately surged from zero
probable than not. The position
Keikaku at highs, buying it back to hero in a furious rebound, but
remains relatively small.
(though at much lower levels) looks PRC scares come along regularly.
increasingly questionable. Ryohin Keikaku has been successful Our issue remains finding a
in China, with the country now sufficient number of companies
Our sale of Giant Manufacturing,
accounting for around 40% where our confidence levels are
the maker of racing-bikes, also
7Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
high enough to add, should the Sizzle and story are always
world turn upside-down. This seductive. It can be tempting to
downturn gave scant opportunity take the advice of Buzz Lightyear’s
to add to existing holdings, pal, Woody, and “reach for the sky”,
being over in the blink of an eye rolling along with the markets.
as a substantial jolt of credit That is arguably even more the
was injected just as the second case these days, given generally-
derivative of the downturn was stretched valuations and an
beginning to be felt. apparent lack of growth. The sirens
are beckoning us all. But, thirty
years of history and a long track
Valuation of top 10 record of investing in Asia means
holdings that we are not about to surrender,
or capitulate and stick our hands in
Just as we concluded in our last
the air.
note, we remain comfortable
with our portfolio positioning, In the meantime, just as Orwell
almost irrespective of the market was a firm believer in the wisdom
and economic cycle. Somewhat of the ordinary citizen, we do not
surprisingly, for our top-ten believe that many of these new-
holdings (circa 40% of the fangled macro ideas will prove to
portfolio), the current average PER be sustainable. It may indeed be
valuation (20x FY19) is at much the different this time, but just as Buzz
same level as the ten-year average. Lightyear later discovered, we are
The PBR (4.2x) is at the ten-year probably not in another universe. It
average. By contrast, the MSCI Asia is the same old world and perhaps
Pacific ex-Japan index PER valuation the same old, if rather extended,
is 13x, but that is just a 10% cycle.
premium to its 10-year average
PER of 12x. The current PBR for We will instead continue to
the index is 1.5x, which is at the invest in growth, on a company-
average level. by-company basis, all the time
worrying most about capital
Given that we have doubled down preservation and focusing on
on quality and balance sheet, in absolute returns. If we can still
light of our longer-term track- do that in a disciplined fashion,
record, we find this valuation our longer-term returns – whether
data highly reassuring. It is also a absolute or relative – should
little positively-surprising. We are compound respectably. That should
confident that our returns will be be true no matter what returns-
absolutely respectable, if money universe, or indeed even which
printing continues; but if things galaxy, you happen to prefer.
normalise, we expect to protect
capital and our relative numbers to We are always very happy to hear
improve further. investor feedback or reply to your
questions. Many thanks.
“Quality means doing it right
when no one is looking.”
Henry Ford
Growth, unsurprisingly, remains at
a premium. But, any shocks should
provide us with good opportunities
to recycle capital from our more
defensive franchises to bolster
overall absolute returns. The key,
per Henry Ford, is to make sure
that our companies can stand up
to closer investigation and endure
more stressful conditions. There will
always be surprises, but we are very
confident of the absolute quality of
our portfolios.
8Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
Appendix
Economics & MMT the Hong Kong stock market in Zombies
1997, drew a deafening chorus of
At its heart, MMT expresses disapproval around the world. These Interest rates are used to price risk;
contempt for the idea that days, it has almost become standard whilst creative destruction, as cycles
money matters, arguing that it operating procedure. rise and fall, is the process that
is just another thing that the keeps an economic system honest
modern state arbitrarily decides. Wealth transfer and vigorous. If you break the
In some ways, it is an inevitable key pricing signal, then arguably
consequence and the logical But, why so serious? We seem, in all everything ends up being mispriced.
culmination of the very idea of fiat our over-clever modernity, to have The subversion of market forces, as
currencies. It is already long ago finally discovered the alchemy of well as inappropriate allocation of
and far away that money was a finance. Almost certainly though, capital, leads in time to a decline in
claim on something tangible, first such intervention will prove to growth and returns for everybody.
via barter for goods and services be unsustainable, if for no other Demonstratively, we find ourselves
and then as an easy means of reason than the machinations of economically becalmed. Inefficient
the political process. Over the and zombie companies stay in
exchange via gold. business and returns generally fall
last ten years, there has been a
“Practical men, who believe massive transfer of wealth from towards the very low and falling
themselves to be quite labour to capital and from the poor cost of capital.
exempt from any intellectual to the rich. This has fed political In the meantime, the predictable
influence, are usually the extremism, populism, intolerance corporate response is not to invest,
and a growing sclerosis in public but to add even more debt through
slaves of some defunct affairs; in history this has produced M&As and buy-backs in an effort to
economist.” revolutionary conditions. bolster lower returns. These M&As
John Maynard Keynes increase corporate concentration,
“What has been will be decrease competition and underpin
As for fiat currencies, if a little
bit of something is good, then
again, and what has been corporate profit margins at the
surely more must be a whole lot done will be done again; expense of the broad populace.
there is nothing new under Buy-backs underpin and trigger
better. And so, we find modern stock incentive schemes. The
economics in love with the idea the sun.” division between capital and labour
that governments can print money Ecclesiastes 1:9 is exacerbated and political division
with no inflationary consequences, exaggerated.
interest rates will remain low In democracies, we know politicians
forever and debt does not matter. will eventually respond to such high Long-established and proven
So far, so good. Japan is doing fine, and rising levels of dissatisfaction. business moats erode, too. A new
the argument goes. The rest of the world’s citizens are competitor can, increasingly,
unlikely to behave as quiescently as borrow billions and take on any
It is really an economic vision of business stalwart. Hence, the
the Japanese. Nor is that desirable.
magic realism. Governments can mighty are fallen and we live in
We know too, that when such
supposedly print as much of this an age of accelerating disruption.
excesses reverse, the unwinding
stuff as they want, summoning Mal-investment thrives and today’s
is never gradual or indeed even
cash from computer code at will. business plan, backed by billions, is
particularly manageable. That
Central bank balance sheets swell, soon off to the races. Unicorns have
is what, we believe, makes
with government paper (bonds) on become commonplace, soaring (or
today’s market conditions so
the asset side, matched by growing not?) on a tide of free money and
unpredictable, volatile and really
cash and bank reserves on the hope. Whether it is sustainable or
quite dangerous for investors. not hardly matters when debt (and
liability side, as funds are injected
into the banking system. The price More fundamentally (and this is refinancing) is abundant.
of money goes down and assets old-fashioned, real economics), Some have argued, (like Y2K’s over-
generally escalate in a virtuous and money-printing and excessive investment in fiber-optics), that
seemingly never-ending spiral. debt build-up have always proven society still broadly gains. But the
to be toxic for real returns. trouble, as any cursory reading of
It is easy to see why this may
Such conditions systematically economic history teaches, is that
well have been warranted as
undermine the constructive when governments bypass markets
an emergency response to an
beauty and utility of capitalism. or dictate the price of money and
international liquidity and capital
The longer-term damage to the allocation of resources, we all end
crisis, such as the world experienced
basis and credibility of capitalism up impoverished. Socialism has
a decade ago. But, it has become
– the force that has broadly driven not worked in the past, but there
habitual and now looks like the
wealth generation and human is a generation coming of age that
standard global response to any
progress over the last few hundred feel like giving it a try. You can
economic bump in the road. Long
gone are the days when actions, years – is even more invidious. understand why.
such as the Hong Kong Monetary
Authority’s direct intervention in
9Client Update | May 2019
First State Stewart Asia – Asia Pacific Equities
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