A professional investor tells us where he’d put his money. This week: Peter Rutter of Royal London Asset Management picks three well-managed sector leaders.
When people buy equities they are purchasing a part of a company – literally a “share” of its future dividends and earnings prospects. The share price is a snapshot of the market’s view of the value of those dividends and prospects.
This reality underpins our approach to investing. Firstly, we identify companies where management is either creating wealth for shareholders through innovation, sustaining a strong market position, or laying the foundations for a brighter future if recent performance has not been very impressive. Secondly, we focus on valuation to gauge whether upside potential outweighs downside risk.
We believe that investing in businesses that are willing and able to create wealth for shareholders, and being able to buy that potential wealth creation at a discount, are the two crucial drivers of healthy long-term returns.
Three examples of such companies are aerospace company Safran, trucking firm Old Dominion Freight Line, and energy business Suncor Energy. They are managed effectively, with a strong emphasis on shareholders’ interests, and are better at creating wealth than the other key players in their industries.
Half of a duopoly
Safran (Paris: SAF) is the dominant player in commercial short-haul jet engines through its joint venture with General Electric. Air travel has consistently grown at about twice the rate of GDP for the last four decades. Whenever you fly short haul, there is a 50:50 chance that your plane will be powered by Safran engines.
The company effectively operates in a duopoly in a high-growth industry, with regulatory, safety, technology and cost hurdles for new entrants presenting huge barriers to entry. Throw in a proven management team, and Safran is in an exceptional position. Investors can currently buy in at a reasonable valuation.
No.1 for profitability
US-based trucking company Old Dominion Freight Line (Nasdaq: ODFL) has a national network. Investments in technology and service, alongside an excellent management team, make this the most profitable company in its industry. The firm is using these profits to grow the business organically, thereby compounding profit growth for shareholders. Members of the senior management team are also major shareholders, so the firm’s long-term growth is their key consideration.
We think the firm’s potential is not reflected in its share price.
The upper hand in the oil sector
Suncor Energy (Toronto: SU) is the largest player in Canadian oil sands, extracting crude oil from certain types of sand and rock. Its existing oil-sands facilities should produce oil for decades, unlike many traditional oil reserves, which often have short operating lives.
This gives Suncor a competitive advantage over rivals, who are forced to keep replacing reserves. Management has an excellent record of careful investment and has avoided getting caught up in the industry’s boom-and-bust cycles. The valuation at Suncor also implies a very low oil price for many years, limiting downside if the oil price remains low and providing significant upside if we see a more sustained recovery in oil.