Each week, a professional investor tells us where he'd put his money now. This week: James Milne of CRUX European Special Situations.
European equity markets have experienced something of a rout this year as investors run scared, fearful of the repercussions of developments such as Brexit and the developing crisis in the Italian banking sector. We at CRUX are much more sanguine. Europe is home to strong businesses that have global footprints and whose fates are not inextricably intertwined with that of their continent of birth, offering rich pickings to those willing to seek them out.
We are stockpickers which leads us to identify companies that not only survive during periods of market uncertainty, but also typically thrive. These firms share a number of characteristics that make them compelling, regardless of regional market noise. They are cash-generative and operate in areas where barriers to entry are high. They maintain conservative balance sheets and are run by proven management teams who typically have significant personal stakes in the business.
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We like businesses that have a small, yet crucial function, which means that a customer needs to continue to buy their product or service. Given that these typically have a relatively low total cost to that customer they are able to secure pricing power. We are less keen on firms that deal directly with the end consumer and are therefore hostage to their capriciousness regarding demand and price. Nor do we like businesses that are capital-intensive, preferring those that have strong cash flow, which can be invested in funding future growth.
Swiss scent manufacturer Givaudan (Zurich: GIVN) sells fragrances to perfume makers. Although it enjoys high margins, its products account for less than 1% of the cost base of its client companies. Since perfume makers are extremely sensitive to the quality of their suppliers, it is very rare that they review them. This means Givaudan enjoys secure cash flow, coupled with pricing power.
A very different stock that we hold is banking giant UBS (Zurich: UBSG). We believe that the chief executive's move to switch the group's emphasis from investment banking to wealth management is a key differentiator from the other banks in its peer group. We also like the way its investment-banking division has grown through the acquisition of equity rather than debt houses. Equity houses require less working capital and offer a better fit with UBS's wealth-management operations.
Finally, Safran (Paris: SAF) is listed in France but has a global reach. Safran makes both the engines and the landing gear for the Boeing 737 essential elements within aircraft construction and which therefore afford the company pricing power. Safran's overall margin on manufacturing these is relatively low, but most of its profit is generated from the recurring revenue of the maintenance contracts.
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