RISING IN THE MIDST OF DISRUPTION

The current catchphrase is, “DISRUPTION”.

Even though certain primary forces at work that are causing the disruptions – technology, globalisation, demographics and environment – are not new1,  it was the environment, especially with COVID-19, that pushed the world over the edge. We might not have witnessed or experienced disruptions on so many levels at one go.

Ray Dalio, founder of Bridgewater Associates, the world’s largest hedge fund, in an interview last month mentioned a few drivers when he was thinking of the current economy:

Drivers2 Characteristics
1 Longterdebt cycle •High debt
•Zero or near zero interest rates
2 Monetary Policy •Printing of money
•Market led by liquidity instead of fundamentals
•With high liquidity, asset prices continue to rise
3 Rising global power •High tension
•Trade wars
•Disruption in supply chains

And as COVID-19 has changed how we live, work and play, it will also be partly responsible for probably another decade or more of slow growth. Thus, in the selection of equities to be exposed to in your portfolio, they must be sectors and businesses that have continued to innovate and delivered results over time despite the headwinds.

Unfortunately, the word “disruption” usually has a negative connotation.

However, it could also spell ”opportunity” for businesses with products and services that bring new relevance to what people are looking for, and these businesses would thrive instead.

So the keyword should be “relevance”.

How do we look for relevance among so many companies?

In our previous write-ups, we discussed the various types of companies: the cyclicals, the mature and stable, the structural losers, and the structural winners.

And some types of companies tend to perform poorly in certain environments:

We have also identified structural winners as the companies which are relevant to their customers and will continue to be so despite the environment of slow growth, and other disruptions.

Thus, it is with great joy to feature the investment methodology, H.E.R.O., that has been selecting structural winners for our stocks portfolio. The methodology is characterised by H.E.R.O. which stands for “Honourable. Exponential. Resilient. Organisation” – a unique, systematic 4-step investment process to identify the structural winners.

We are proud to be associated with Kee Koon Boon, founder of HERO Investment Management (HERO) and thought leader of the H.E.R.O. investment methodology, as Unicorn’s Equity Research Partner.

He is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst. He had also taught accounting at the Singapore Management University (SMU) as a full-time faculty member and pioneered the 15-week course on Detecting Accounting Fraud in Asia as an official module at SMU.

What is the H.E.R.O. Investment Methodology?

1) H: Honourable, High-Integrity, Solves High-Value Problems

Companies selected by the methodology are run by entrepreneurs who have a higher purpose and are also honourable and far-sighted.

This is backed up by the investment framework which eliminates downside risks from accounting tunnelling fraud and misgovernance. The proprietary forward-looking fact-based accounting fraud detection system within the framework developed by HERO, ensures that there aren’t malpractices such as unusual related- party transactions, consolidation accounting craftiness (opportunistic shifting of expenses and debt into unconsolidated entities), and hidden balance sheet liabilities.

These entrepreneurs are homed in on solving high-value problems for their customers and the society. An example would be Sectra, a Swedish company that’s active within the medical technology and encrypted communication systems. It is a global leader in medical imaging
software systems (PACS) with a particular focus on cancer diagnostics, serving over 2,000 healthcare providers around the world. The company is also Europe’s public defence cybersecurity leader in the area of encryption and secure mobile communications, serving governments, defence organisations, EU and NATO organisations that handle classified information.

© 2018-2020, HERO Investment Management Pte Ltd, KB Kee

2) E: Exponential

The companies are also focused on and expected to benefit from an exponential non-linear structural growth with disruptive innovation and a large addressable market. Beyond economic moats, these companies have an edge in the 4Cs:
i) Curiosity: Creates curiosity and discovery, gives recommendations that are customised to user, resulting in deep engagements
▪ Examples: Amazon Prime, Netflix, Spotify

ii) Compellingness-Craftsmenship: Uses process intellectual property, intangible know-how and mastery to give comfort, convenience, as well as “customised” pain-killing mission-critical solutions
▪ Examples: Novo Nordisk, Givaudan

iii) Circumspection: Delivers or enables circumspection with insights, intelligence, tools and analytics that help the customers make better decisions
▪ Examples: Microsoft, Sectra, Wolters Kluwer

iv) Community: Builds a community where members can connect and interact repeatedly, uses user-generated content in reviews and ratings to foster trust; feedback loop to improve; and social capital to expand into complementary products and services
▪ Examples: Apple iOS, Spotify

3) R: Resilient

The framework also eliminates businesses that are not resilient in recessions. Not only do these companies have financial resiliency with healthy operating cashflows, strong balance sheets and pricing power, they also enjoy business model resiliency.

In other words, the companies have:

i) Resilient recurring revenue streams
ii) Proprietary/Unique offerings and solutions
iii) Capabilities in design knowhow, manufacture of mission-critical and innovative products in multiple applications
iv) Attractive position in the value chain/ecosystem without being dependent on certain suppliers or customers only

For example, Microsoft’s shift to the cloud has left it well-placed for a world where large numbers of people are working remotely. The Teams communication app has become a way for workers to stay in touch. Instead of 20 million people using the app in late 2019, 75 million people used it in a single day in April. The Azure cloud computing platform has also become a more critical part of the digital backbone for many companies.

As the leaders of these companies are guided by an inner compass and governed by a greater purpose in their pursuit to contribute to people’s welfare, their businesses are therefore also resilient as they are quietly fulfilling their inner innovation work and delivering value, day in and out.

These companies are therefore more independent of economic cycles and less sensitive to changes in interest rates compared to banks, property or energy.

4) O: Organisation

These companies understand deeply that the organisation needs to be larger than any single leader for the firm to last the distance and find enduring success to grow stronger with each passing day.

A company that is properly managed and has a corporate culture of decentralisation, trust and cooperation fosters innovative experimentations. This signifies investing in a system so that decision rights are cascaded, with relevant and timely knowledge disseminated throughout the organisation.

One such Swiss company, Givaudan, has created perfumes and flavours (for food and beverages) of the highest quality over 125 years, innovating and inspiring trends in scent and taste. Simply for strawberry flavours alone, they have a portfolio of about 2,200 different notes3! Dior, Saint Laurent, and Prada turned to Givaudan to create the iconic J’adore, Opium, Infusion d’iris, and more.

The company has since trained over a third of the world’s creative perfumers when it opened a perfumery school in 1946. Givaudan’s perfumery team is also the largest in the industry.

What is the new fund about?

It has been a dream long coming to bring even more value to our clients who have trusted us over the years by recommending a fund that is made up of structural winners that have continued to be relevant during times of disruption.

This new fund is the Phillip Global Rising Yield Innovators Fund (Bloomberg Ticker: RISINGA) and it “focuses on both dividend yield to achieve sustainable income streams and long-term capital growth to enhance shareholders’ returns.

The Fund’s strategy is to invest primarily in a portfolio of global equities with quality businesses that generate sustainable long-term value. The Fund believes that superior, innovative companies with growth models that are resilient in economic downturns will continue to ride on secular growth tailwinds and in doing so, the aims to achieve a net fee of return that exceeds that of the reference benchmark, Dow Jones Global Select Dividend Index.

To avoid potential value traps hampering on returns, the Fund will seek to avoid cyclical or old economy stocks that may be once-stable. In (the Fund Manager’s) view, innovative companies could be more resilient in economic downturns to deliver higher than average return on investment over the long-term horizon.

The Fund will invest within the theme of innovation. In the selection of investments, the Fund Managers define “innovators” as companies that generate sales in technologically enabled new products and services that potentially transforms the way the world works.  These innovators are typically market leaders in their respective fields, have strong corporate cultures that foster innovation, and with business models that are unique, scalable, with recurring-revenue and possess high-profitability4.”

Who is the Fund Manager?

It is Unicorn’s honour and privilege to be appointed by Phillip Capital Management (PCM) as General Adviser to PCM. PCM is a well-known local brand and an independent fund management company since 1995, which is a part of the Phillip Capital Group established 40 years ago.

PCM is the Investment and Fund Manager of the Phillip Global Rising Yield Innovators Fund; and as General Adviser to PCM, we are remunerated for making general recommendations to the Fund Manager in respect of the Fund.

We are excited to propose this fund to you that’s backed by an investment philosophy we believe in wholeheartedly. Do speak to your Unicorn consultant if you would like to know more or have further queries.

Note: We will increase the frequency of our communication with you during the current turbulent times. We will continue to communicate monthly with you during usual times.

References:

  1. Ernst & Young Megatrends Framework 2020 EYQ 3rd Edition
  2. Adapted from video interviews with Ray Dalio on Bridgewater Associates
  3. Givaudan’s website
  4. Phillip Capital Management’s website on the Phillip Global Rising Yield Innovators Fund

 

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