The broad consensus is that economic growth in Europe will be pedestrian for the foreseeable future and this will have significant implications in differentiating corporate winners from losers.
We are witnessing great change, globally and in Europe, in the way business is done. Think of concepts such as e-commerce, 3D printing, the internet of things, the cloud, etc. There is also significant change underway in Europe as the crisis countries re-emerge with more competitive economies. All of these developments are threatening business models whilst simultaneously creating significant opportunities.
In our view, two developments will drive compelling investment opportunity: moderate economic growth leading to differentiated corporate performance and rapid, transformational business change. On the one hand we are investing in well managed companies which can grow relatively independently of the economy with a proven track record, delivering consistent high levels of free cash flow. We look for companies generating more cash than can be reinvested into the business without diluting returns.
An example of this is DCC, which distributes fuel and gas to households, petrol stations and small and medium sized businesses. Their business has naturally high barriers to entry and is not capital intensive, meaning that it is able to generate high levels of free cash flow. The industry is fragmented across Europe as oil majors increasingly divest operations to focus on core competencies. This creates ample opportunities for companies like DCC to redeploy the free cash flow into cheap, small acquisitions with substantial synergy benefits whilst maintaining dividend growth. In our view DCC has the potential to achieve high single digit revenue growth for many years to come.
Another example is Sika, a manufacturer of specialty chemical additives for concrete. Their products significantly lengthen the lifetime of concrete with a marginal impact on the total cost of the construction project. The company has what we believe is a competitive advantage in their solution based approach to serving clients. We like the stock because of its high levels of free cash flow, low capital intensity, and its visible growth as market share increases. Sika has an opportunity to redeploy free cash into small acquisitions expanding their geographical reach or product portfolio whilst still continuously growing the dividend.
Meanwhile, we are also finding opportunities to invest in companies undergoing great change as the result of technological advancement and changing consumer behaviour.
A good example of this is Eniro, a yellow pages business in Scandinavia that has reinvented itself for the digital age, finding better and more efficient ways to reach their customers. Whilst yellow pages companies in many countries have gone bankrupt, Eniro is making a successful transition into a digital platform which is very user friendly based on high levels of local content. Over the last several years the company has invested heavily in technology and in retraining its sales force. They are now at a crossroads with the growth in the digital business more than compensating for the decline in the paper business. On the basis that we believe management will prove successful in this transition, the stock is trading at an attractive valuation of less than 10x earnings. This valuation is a reflection of the uncertainty for the company’s outlook, but we have the conviction that management will execute well on their strategy and see strong upside potential in the holding.
Patrick Vermeulen, Fund Manager, JP Morgan Europe Focus Fund
