12th May 2014
The £4.8bn AXA Framlington UK Select Opportunities fund has achieved a 130% return over the past five years, well ahead of its peer group average of 93%. Its manager and investment veteran, Nigel Thomas outlines his update on the UK market and explains some of his top stock picks…
We live in an ever changing world and as equity investment managers we must look forward to position portfolios for the future – tomorrow, tomorrow, tomorrow. From all the company meetings we do, we are often amazed at how well some management teams cope with disruptive technologies, business cycles and new secular trends.
One industry where we are witnessing much change is in the retail sector. We do not hold any mainline food retailers i.e. Tesco, Sainsbury or Morrisons in the fund but do hold shares in Booker. Under the astute leadership of Charles Wilson, the company has flourished in a sector characterised by three main growth drivers – convenience, discount and online. Booker supplies over 340,000 independent catering businesses and 74,000 independent retailers and they also supply 3,000 convenience stores under their Premier brand/franchise.
IGD Group have monitored the growth of food revenues over the last five years with results showing that consumption outside of the home has grown by 18%, convenience by 29%, discount by 65%, online by 98% and then mainline supermarkets and hypermarkets by only 8%. Even in Booker’s nascent cash and carry business in India, which we visited last year, the largest customer in their Pune branch is an online grocer. Booker themselves have made £800m of web sales from nil in 2005.
Amongst the plethora of new issues (IPOs), we liked and invested in Poundland. Run by Jim McCarthy – with whom we invested in T&S Stores, which was sold to Tesco in 2002 – 53% of their customers are now classified as ABC1. We are all promiscuous shoppers now. The invested cash payback on the stores is twelve months, so this is very much a rollout-inspired investment. It is difficult to get like-for-like growth when all your products retail at £1. Indeed, we learnt from the company that their average basket size, where every item is £1, is £4.44! Don’t you just love the law of averages: nobody has ever left a Poundland store having spent £4.44.
When investors and commentators look at technological change, they often focus on the dramatic growth of the digital connected world through ‘whizzy’ mobile devices. We try and broaden the scope of our analysis into more industries where the pace of change can be just as fast. Take 3D printing, or what is now described as ‘additive manufacturing’. One of the UK’s leading pioneers in this field is GKN, one of our top ten holdings. Through their knowledge of aerospace – particularly carbon fibre – and their powder metallurgy division, they are assessing the use and potential of this new technology.
It will take a decade to make significant inroads, but additive manufacturing will open up the growth of new materials, will be disruptive for those companies using traditional tooling techniques and will reduce the underlying volume of machining. For complex or large parts, the time taken from design to first production prototypes could be reduced from 95 to 12 weeks. Using less raw material will save cost and waste. Working with these 3D printing, or additive, machines will mean less design constraints – complexity is in for free!
Industrial automation too is fast-growing. Researchers at Oxford predict that 47% of jobs in the USA are at risk from robotic automation or computerisation. In the 100 years to 1910, the automation of farming reduced the proportion of US workers engaged in the sector from 90% to 2%. One UK company that we hold in the Fund provides the nuts and bolts of industrial automation. Nearly half of IMI’s fluid power division revenues go into industrial automation to drive production machines and robots. The newly appointed Chief Executive of IMI is Mark Selway with whom we invested very successfully when he turned around Weir Group. He will refine his strategy for the business in a Capital Markets Day presentation in the summer.
Innovation in medicine is well covered and well-known, as learned journals and open access divulge trends and clinical trials that are necessarily both well-regulated and documented. We have made a recent investment in the AXA Framlington UK Select Opportunities Fund to gain exposure to immunotherapy or immune-oncology. While approaching the subject as a layman, the basic tenet of the research is that cancer can be transformed from a terminal illness to a chronic disease through immunotherapy. The immune system is unleashed, disarming the cell-cloaking mechanism of cancer by freeing the immune system to fight off the disease.
As a general rule, people such as Aids sufferers are more prone to cancer as their immune system is impaired, while patients with overactive immune systems (i.e. sufferers of rheumatoid arthritis) have lower incidence of cancer rates than the general population. Positive responses from this therapy can last much longer than those associated with chemotherapy and research predicts that 60% of cancers could become chronic, rather than terminal diseases. The commercial leader in this pharmaceutical field is Bristol-Myers Squibb (USA). They already have a product on the market called Yervoy for melanoma, with sales in 2013 predicted to be approximately $1 billion. They have more compounds in research and development, especially for lung cancer. Just imagine if you could turn lung cancer from a terminal to a chronic disease and live with it for 20 years.
The other leading companies in this field are Roche AG, Merck Inc and AstraZeneca. We have purchased shares in AstraZeneca in the last six months; their predicament of significant revenue-earning patent expiries over the next few years has been heavily discounted by the stock market. However, behind the other three companies, Astra’s portfolio of compounds is notable due to their expertise, with existing drugs across a wide spread of clinical outcomes. Given that many immuno-therapies will incorporate other drugs in ‘combination therapies’, AstraZeneca will have the option to commercialise a great deal of in-house compounds to late stage trials. AstraZeneca shares have been lowly rated due to their cliff of patent expiries but have recently responded to the takeover approval from Pfizer. More portfolio managers are now looking across to the sunlit hills beyond. Bristol-Myers Squibb was lowly rated for similar reasons, but now trades on 31 times its consensus 2014 earnings.
For every Pollyanna, there is a Luddite. At a recent meeting with Next chief executive Simon Wolfson, who incidentally wholly embraces ‘total shareholder returns’ (TSR), bemoaned the efficacy of the UK planning regulations. In this regard, at a recent shale gas conference Professor Paul Stevens elevated the acronym ‘NIMBY-ism’ on to a whole new level with ‘BANANA-ism’ i.e. Build Absolutely Nothing Anywhere Near Anything! The endeavours of mankind will hopefully improve the returns of diligent investors. When we take equity risks, we want equity-type returns. Total shareholder returns will arise from a portfolio of well-managed companies that can cope with change.