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Bestinver Fund Manager Highlights European Value Investment Opportunities

Alvaro Guzman dé Lazaro Mateos, fund manager at Bestinver, gave a presentation at the Value Investing Seminar in Italy today. Our notes from his speech follow:

Bestinver Investment Philosophy

  • Seeks profitability in absolute terms and not in relation to benchmark indices.
  • Considers risk in absolute terms, defining it as the possibility of losing the money invested and not in terms of volatility or deviation with respect to a particular benchmark index.
  • Are asset managers, not asset gatherers.
  • Invest in companies that are trading at a reasonable discount to their true economic value.
  • Patience. Are in it for the long term and like what they do so are prepared to wait (Most of alpha due to patience).
  • Daily goal is to increase the portfolio’s potential, swapping companies with less upside for others with more, factoring in the time needed to analyse the company (in contrast to the UStax regime, in Europe mutual funds are taxed on capital gains at just 1%, making divestments less inefficient).
  • Have a very high effective turnover but quite low turnover by name. For example, since the starting of the current drop have seen a 120% effective turnover with only one new company in the global portfolio.
  • Management vision aligned with Austrian School of Economics, with its deep understanding of human actions and its implications in business cycles, people behaviour, market structures, etc.

Investment Idea #1: Fuchs Petrolub - A High Grower in a Non-Growing Market?

  • At €39/share, market cap is €923M
  • Valuation: Normalised FCF of €135M --> trading at 6.8x FCF. Worth €90/share
  • Description of business: #1 independent lubricant manufacturer worldwide. Fuch’s lubricants are used in a variety of end markets (metallworking fluids, mining specialties, corrosion preventives, car manufacturers, etc..). Sells over 10K products to around 100K clients. 70% of revenues generated from a direct sales force in over 100 countries. Products mainly manufactured where sold (50 plants worldwide).
  • Market Structure: Market volume in 1990: 40mn Tonnes; 2007: 39mn T. The “big boys” (14 integrated oil majors) hold 60% of the market in volumes, the rest spread out among 700 players (1300 players 5 years ago).
  • Historical Performance: CAGR in sales, EBITDA, EBIT 01-08 of 6%, 12% and 16% respectively. Never a year of losses in its 75-year history. Key to sales growth is Fuch’s expertise in application engineering (sales people are Engineers with MBA) and a focus on specialties. Systematic emphasis on organic growth with smaller add-on acquisitions. Key to profitability is bargaining power with clients/specialties focus
  • Management: Third generation of the Fuchs family. Honest, candid, able people. Extremely sound incentive system in place. Focused on the business vs “selling the story”.

Why is Fuchs Undervalued?

  • Under-researched.
  • Misunderstood. It has ability to pass on base-oils price rises and keep a lot when they decline (EBIT margin 6% in 2001, 14% in 2007). The product is essential, and attempts to save on it politically risky for clients. Over-emphasized “Auto” exposure.
  • The 2008-09 “Tsunami” has had an effect on Fuchs: 1Q09 sales down 20%, EBITDA down 40% and very little visibility.
  • Bestinver xpects volumes will recover and Fuchs will keep expanding market share. Earnings will recover  sooner rather than later.
  • Business is NOT capital intensive. ROCEs have averaged 20% over the last 9 years. Net debt<0,5x EBITDA. R&D is expensed and amounts to 2% sales.
  • No strategic issues, it is a competitive market. Fuchs’ clients somewhat captive. Fuchs has among the biggest R&D budgets in absolute terms that gets “diluted” over the largest specialties volume. Its management has a culture of austerity one can smell at all parts of the organization.
  • Bestinver values Fuchs at 15x its stable FCF earning power of 135mn. This implies 8.7x EV/EBITDA, in line with PMV deals involving structurally LESS profitable competitors. The family owns 25% of the shares and has cancelled 10% of its stock through buybacks over the last 3 years.

Investment Idea #2: Esprinet - True Competitive Advantage + Turned-Around Operation at 5x FCF?

  • At €6.6/share, market cap is €337M
  • Valuation: Normalised FCF €50M. Worth €16/share.
  • Description of business: Italian leader in IT distribution with 3x the market share of the next competitor. The best margins of the European peer group (Also, Actebis, Ingram, Tech Data). A classic example of “regional economies of scale”.
  • Why the market share differential? Optimal logistics and an internet focus has allowed Esprinet to carry a big number of references and a big service ratio at competitive prices. Profited big time from 02-03 crisis.
  • Why the margin differential? Better purchasing terms with vendors, better working capital management, more efficient SG&A.
  • Why a true sustainable competitive advantage? Very difficult-to-replicate logistic set-up, economies of scale, switching costs for clients.
  • Spanish expansion: Expanded into Spain by buying 2 companies at peak of the cycle. Had several operating problems: '06 EBIT was €23M and '08 EBIT a NEGATIVE €8M. Today the operation has recovered service levels, enjoys the highest market share, and is streamlined after massive restructuring. Bestinver only relies on HALF the historic EBIT levels as remain pessimistic on Spain.

Why is Esprinet undervalued?

  • Market correctly penalized Esprinet as the first profit warnings from Spain started to be released. The base for the share price fall was a 17x near-term FCF multiple= the stock got crucified and fell from €17 to €2 in less than 2 years. Management lost credibility, but in Bestinver's view they’re only liable from not “timing” Spain.
  • Italian operation kept outperforming and now faces a GREAT consolidation opportunity AGAIN as it did in the previous crisis.
  • As badly-timed as the Spanish purchase was, they are now outperfoming the market significantly and reported “black EBIT” again in Spain in 1Q09. Plus they’ve learned many lessons about what capital allocation means!
  • Market has partly recognized the improvements, but still, the Italian operation is worth €12-13 per share or 2x current price. Spain is a free option. Balance sheet is debt-free.
  • Business has a ROCE close to 30%. Management is excellent as an operator, and capital allocation wise.
  • Stable shareholder base and management also a shareholder with a SIGNIFICANT personal stake.
  • Business + people + a very good price = a safe good, undervalued business.

About Bestinver

  • Incorporated in 1987
  • Shareholder structure: 100%-owned by Acciona
  • Investment decision-making independent of Acciona
  • Focused on returns nor volumes under management
  • Spain´s leading independent fund manager
  • €3,1Bn and 30,000 customers
  • Investment philosophy based on “Value Investing”
  • 90% of managed assets are in equities
  • Largest Spanish equities fund (Bestinver Bolsa)

About Alvaro Guzman dé Lazaro Mateos

Born in 1975, Mr. Guzman dé Lazaro Mateos began his career in 1994 as an auditor for Arthur Andersen in Madrid. He continued his career at Bankers Trust in Paris, where he eventually headed the Middle Office at the early age of 21. In 1997 he started as a stock market analyst at a Frankfurt fund management company (Value Management) founded by a former employee of the legendary Peter Lynch. Subsequently, he returned to Spain, where he worked as a financial analyst at Spanish broker Beta Capital and later Banesto Bolsa. In 2003, he joined Bestinver to work with Francisco García Paramés, with whom he had frequently exchanged investment ideas since 1998, given their common liking for the "value school of investing". Alvaro speaks Spanish, French, English and German.

Disclosure: No positions.