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Often when investors think about smaller companies, they conjure thoughts of IPOs or speculative assets that may lack the operational history required to make a long term assessment of a business’s resilience. What Australian investors often miss is that a mid-cap company in the US has a market value up to US$40bn and have storied histories.
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Stock Profiles
At Fairlight, one of the indicators of quality we look for in an investment is a company that sells a product with a high ‘value to cost’ ratio. This ratio compares the cost of a product with either the benefit received by the customer, or the loss incurred when the product is not used.
Stock Profiles
While our judgement of Nordson’s latest deals may prove overly pessimistic, it is informed by a plethora of studies which show that acquiring relatively larger businesses from sophisticated sellers is statistically more likely to destroy value. Selling a beloved stock is never easy but can often be necessary to manage portfolio risk.
Stock Profiles
Often cyclical concerns cause entire sectors to fall out of favour, and when this happens, the share prices of even the most admired companies come under pressure. Earlier in July, widespread concerns about new housing construction in the US provided Fairlight with an opportunity to purchase shares in Pool Corp at a relatively attractive valuation.
Investment Philosophy
Artificial intelligence (AI), in its more modern ’generative’ form (GenAI), is the latest example of a new technology that has the potential to fuel a new wave of competitors eager to disintermediate the current market leaders. We have thus spent significant research time to understand the potential threats and opportunities for our companies.
Investment Philosophy
The recent excitement surrounding ChatGPT and OpenAI has catapulted Artificial Intelligence (AI) into the public spotlight. Within this update, we will discuss the evolution of AI and its core concepts and will follow up next month with a broad discussion of Fairlight’s exposure to the technology.
Media
Over the past five years, the Fairlight team has focused on capturing alpha in the small and mid cap market and navigating around a number of the commonly held beliefs regarding active investing in the sector. Portfolio Managers Nick Cregan and Will Dowd use these and other specific business examples to debunk several common myths around SMID.
Stock Profiles
Fairlight’s investment mandate is to invest in wealth-generating small and mid-cap businesses located outside of Australia. Provided there exists both a strong regulatory framework and a stable currency, we are generally agnostic about the country in which our businesses are domiciled and, more importantly, operate.
Investment Philosophy
An important responsibility of the Investment Team at Fairlight is to analyse and review the quality of earnings and accounting at our portfolio companies. We are of the view that not all earnings are created equal, and believe a durable source of investing edge for us is correctly appraising the true earnings power of a business.
ESG Reports
Fairlight’s primary objective is to deliver our investors superior long-term investment returns by owning a portfolio of high quality, value creating businesses. As a signatory to the UN PRI, we believe environmental, social and corporate governance (ESG) issues can directly impact company level performance and portfolio returns.
Annual Reviews
2023 was a successful year for the Fund, delivering investors a 33% return, outpacing the MSCI World SMID Index by 19 percentage points. Since inception in 2018 the Fund has now delivered investors a 13% p.a. return and 5% p.a. outperformance which is in line with our long term objective.
Stock Profiles
Fairlight scours global markets for high quality businesses with a long track record of high returns on capital, organic growth, and low leverage. In general retailers fall short however Ulta Beauty, a new addition to the portfolio, distinguishes itself with a unique culture creating a deep competitive advantage and exceptional financial results.
Investment Philosophy
Fairlight generally views public companies that are led by owner-managers or their families favourably. The key decision makers are naturally incentivised to perform at their best, minimise risks and think longer-term by virtue of their sizeable personal wealth tied to the business.
Investment Philosophy
Fairlight has found that those businesses which score highest on the Porter's Five Forces framework often see their industries consolidate into cosy oligopolies over time. Within this monthly we discuss how holding a basket of “Porter Stars” can be a winning strategy, and with an overlay of buy/sell discipline investors may fare even better.
Stock Profiles
Across the market there are many different approaches to measuring and managing risk, however at Fairlight we define risk as the probability of permanent impairment of capital (i.e. losing money). In this article we use the example of portfolio holding Landstar System to demonstrate the sometimes-counterintuitive nature of risk.
Stock Profiles
The ability to invest globally means that we can compare and contrast similar businesses that operate in different countries. In this article we compare the property portals of Australia, Germany, Sweden and the Baltics to draw out the nuances of the different operating models and margin opportunities for each.
Stock Profiles
A common misconception we encounter in discussions with our investors relates to the apparent incongruence between the small cap nature of the Fund and the quality focused investment philosophy where a track record of profitability for many years is a key criteria.
Stock Profiles
In this article we profile Reply, a niche consultancy focused solely on ‘new generation’ technologies, including artificial intelligence. By selling the ‘picks and shovels’ to clients, Reply is well placed to benefit from the rapid change in the industry without taking on significant product-specific risk.
Investment Philosophy
In this performance update, we analyse historical performance data which suggests that quality investing enjoys the favourable characteristics of not only long-term outperformance, but resilience in downturns and perhaps counterintuitively, rapid recoveries from drawdowns.
Investment Philosophy
We view the management teams of our portfolio companies as stewards of our and our clients’ capital. While management are traditionally viewed as operators of the business, the decisions made around reinvesting and returning capital form an equally important part of their responsibility and drive the returns generated for long term shareholders.
ESG Reports
Whilst Fairlight’s primary objective is to deliver superior investment returns to clients, we believe this can be achieved in an environmentally and ethically aware manner. We do not market ourselves as an ESG Fund, however the outcome of our pragmatic, research driven approach to ESG is a portfolio 95% less carbon intensive than the benchmark.
Stock Profiles
We analyze two companies operating in a rational duopoly but with starkly different financial outcomes. Fairlight believes company culture can be a source of sustainable competitive advantage, especially when management teams take a multi-decade view on building a business. Copart is the story of a scrappy entrepreneur turning junk into gold.
Annual Reviews
2022 was a difficult year for the Fund, delivering investors a -24% return, lagging the MSCI World SMID Index by 11 percentage points. While share price returns for the portfolio in 2022 were disappointing, the underlying operating performance of our investee companies was resilient and in line with our long-term earnings growth expectations.
Stock Profiles
While strong organic growth is often the preferred avenue to generate shareholder value, businesses that can ‘create’ their own growth via a repeatable, low risk acquisition strategy can provide underappreciated countercyclical characteristics to a portfolio.
Stock Profiles
Given the recent volatility and widespread price declines in European equities, we believe it is an opportune time to profile Fairlight’s largest European domiciled portfolio holding. Scout24 is the dominant online real estate classifieds portal in Germany with nearly 70% market share and twice the property listings of its nearest competitor.
Investment Philosophy
In this month’s commentary we discuss the performance of the portfolio across the three key inflation defences; pricing power, margins and cash conversion as well as comparing the second quarter performance of the portfolio to the wider equity market.
Investment Philosophy
In this article we explore accounting quirks within the technology sector and why buying growth at any price can be a risky decision. When assessing technology companies, or growth companies in general, it’s advisable to ensure the management team is on your side, especially when the share price is under pressure.
Stock Profiles
A recent research trip provided the opportunity to probe the investment theses for most of the Fund’s holdings domiciled in Europe and the UK. An example of such effort involved meeting with the management of IT value-added resellers Softcat and Bechtle, speaking with their competitors and also with industry participants.
Investment Philosophy
2022 performance has so far been disappointing for the Fund on both an absolute and market relative basis. In this piece we will highlight the headwinds currently facing the portfolio, explain portfolio changes and provide an update on the recent reporting season and the current outlook for the portfolio.
Stock Profiles
In theory, the longer dated cashflows from technology shares are less attractive than the certainty on bonds as interest rates rise. We don’t disagree. However, caught in the speculative unwind are several high-quality technology companies, which are highly profitable and attractively priced even when factoring in higher rates.
Investment Philosophy
Over the history of the portfolio the Fairlight investment team has witnessed several long tenured holdings eschew traditional complex reporting structures with great success. This piece explores the similarities in the competitive advantages derived from their decentralised operating structures.
Annual Reviews
2021 was a successful year for the Fund, delivering investors a 31% return, outpacing the MSCI World SMID Index by 7 percentage points. Despite a year punctuated by market concerns on inflation, coronavirus variants, China sovereign risk and rate hikes the Fairlight portfolio grew earnings per share in aggregate by 24%.
Stock Profiles
Fairlight’s definition of growth differs from that of the broader market as we have a far higher hurdle for profitability compared to sales growth. IT research provider Gartner is an example of a portfolio holding that possesses all the quality characteristics that we look for in a growth company.
Investment Philosophy
With 2021 characterised by strong commodity prices, we are often asked our view in terms of the sustainability of this trend. At the risk of embarrassment but with the benefit of historical precedent, we argue that investors may be better off avoiding the commodity sector entirely.
Investment Philosophy
Brands are an important intangible asset from which some companies are able to derive significant value. Those businesses that understand how to develop and steward brands often exhibit both the qualitative and financial characteristics that Fairlight looks for in potential investments.
Stock Profiles
A consistent theme emerging from the Fairlight portfolio over the past few quarters has been the outperformance of companies that seized the opportunity to invest throughout the pandemic-driven uncertainty without trying to optimise short-term earnings via myopic cost measures. Cordless power tool manufacturer Techtronic Industries, profiled in Sep
Stock Profiles
Masco Corporation, a recent addition to the Fairlight portfolio, has quietly transformed itself following a near-death experience in the GFC. The company has evolved from a low quality, cyclical business dependent on the traditionally volatile US new housing construction to durable, high returns on capital, stable compounder.
Stock Profiles
Papa John's, a portfolio holding since 2018, was founded in 1984 when "Papa" John Schnatter knocked out a broom closet in the back of his father's tavern in Indiana. He sold his 1971 Camaro Z28 to purchase $1,600 worth of used pizza equipment and began selling pies to the tavern's customers out of the converted closet.
Stock Profiles
Zozo is a Japanese online apparel marketplace, catering to fashion conscious consumers under 40 years of age. The company was founded in 1998 by punk rock drummer Yusakau Maezawa originally as a mail-order service for imported records and CDs that were difficult to find in Japan
Investment Philosophy
In a world where intangible assets such as research and development, employee training and branding increasingly form the backbone of companies’ competitive advantages, it makes sense that a good corporate culture can partly explain strong and consistent business performance, especially by companies who mostly rely on their people for their success
Investment Philosophy
While the Fairlight investment process is predicated on bottom-up fundamental stock research and is not reliant on macroeconomic forecasting, one factor carefully considered by the investment team when evaluating potential investments is the risk posed by inflation.
Investment Philosophy
Fairlight has a strong preference for founder led businesses as there is evidence to support the view that founders are more likely to establish an enduring culture, plan for long-term performance and are more likely to take well informed but necessary risks.
Annual Reviews
2020 was a successful year for the Fund, delivering investors an 11% return, exceeding the MSCI World SMID Index by 6 percentage points. In Q1, the Fund declined 10% compared to a 17% decline for the Index. In contrast, the Fund appreciated by 24% in the remainder of the year versus an increase of 28% for the Index.
Stock Profiles
The Fairlight investment process is designed to identify high quality businesses, generally those with sustainably high returns on capital and a long runway for future growth. However, identifying quality alone is not enough to ensure investment success if an excessive price is paid.
Investment Philosophy
A simple real-world definition of risk is the chance and consequences of being wrong. In Fairlight’s business as an investment manager, being wrong implies that we fail to meet our stated investment objective of outperforming the broader global small and mid cap market over the medium to long term.
Investment Philosophy
The Fairlight strategy is designed to reduce risk within the Global Small & Mid Cap asset class and we are pleased by the performance the Fund was able to deliver during this difficult quarter. Our portfolio holdings continue to generate attractive returns on invested capital, with low leverage, whilst being operated by capable management teams.
ESG Reports
Whilst Fairlight’s primary objective is to deliver superior investment returns to clients, we believe this can be achieved in an ethically aware manner. Consequently, Environmental Social Governance (ESG) considerations represent an important part of our process.
Investment Philosophy
Despite the evidence that acquisitions in aggregate fail, Fairlight has collated a cohort of acquisitive small cap companies that counterintuitively have managed to consistently outperform for decades. On average, companies within the Fairlight ‘Acquisitive Capital Optimisers’ contingent have delivered shareholders a return of 34% p.a...
Investment Philosophy
In the simplest sense quality companies are those that are highly profitable, growing and relatively safe. Over time a wealth of academic research has shown that excess returns have been historically available to investors in quality companies. The research has been robust to various definitions of quality and it hasn’t mattered whether you....
Investment Philosophy
While many are now seriously pondering stock-sell offs as fears about the financial impact of COVID-19 intensify, people may be surprised to learn that investment decisions made in regard to selling are generally far less disciplined and effective as those made about buying – even by professionals.
Stock Profiles
Copenhagen headquartered SimCorp is the global leader in integrated software solutions for large asset managers, insurance companies and sovereign wealth funds. Its main product, SimCorp Dimension, builds on the company’s state of the art investment book of records (IBOR) technology to provide front-to-back office multi-asset class functionality.
Investment Philosophy
Whilst it gives us no joy to deliver a negative absolute return to investors (-10.4%), the Fairlight strategy outperformed the MSCI Global Small and Mid Cap index (-14.9%) for the month by 4.5% after all fees. Our one year rolling return is +8.0% as compared to -6.8% for the benchmark.
Annual Reviews
2019 was a pleasing year for the Fund, delivering investors a 36% return, outpacing the MSCI World SMID Index by 9 percentage points. Although this is understandably an important data point for investors, evaluating performance on a single number can be a blunt tool that obscures the nature of the underlying decisions.
ESG Reports
Whilst Fairlight doesn’t market itself as a specialist ESG (Environmental, Social & Governance) asset manager, we are a signatory to the UN Principles for Responsible Investment and ESG considerations form an important part of our risk management process.
Shareholder Activism
Fairlight Asset Management, a stockholder of Hexcel Corporation (NYSE: HXL), has delivered a letter to Hexcel's Board of Directors expressing our concerns regarding the proposed merger with Woodward, Inc., including that it has limited strategic merit and significantly undervalues Hexcel, a demonstrably higher quality business.
Stock Profiles
American IT reseller CDW Corp has been a core portfolio holding of the Fairlight Global Small and Mid Cap Fund since inception. On first glance, CDW appears to share many low-quality attributes with its peers such as razor thin margins, reliance on large suppliers and a competitive environment characterised by intense discounting.
Investment Philosophy
A 2018 analysis demonstrated that boutiques significantly outperform non-boutiques in institutional equity categories (with the greatest outperformance in small cap and emerging market equities) and interestingly, also asserted that boutiques have added significant value not only versus institutions, but also verses indices.
Investment Philosophy
When searching for high quality growth investments, Fairlight prioritises finding businesses with high returns on capital, evaluating the sustainability of the excess economic returns and only then considering price. This approach is informed by the notion that over the long term the returns achieved on any stock will approach the return on capital
Investment Philosophy
Platform or network businesses take many forms and defy neat segmentation, but what we can confidently say is, in aggregate, leading network businesses have delivered immense value. In fact, one study suggests 70% of the value created in the Tech sector since the 1970’s has been driven by successful iterations of network-based business models.
Stock Profiles
German businessman Horst Pudwill founded Techtronic in 1985 in Guangdong, China. Initially, the business operated as a contract manufacturer of power tools, but it has since evolved into a brand owner after acquiring the Ryobi brand in 2000 and Milwaukee in 2005.
Investment Philosophy
Australian investors understand the case for including domestic small and mid cap (SMID) companies in their portfolios and have typically benefited from these allocations. This is however, at odds with their more sparing allocations to global SMID, leaving them underweight this non-trivial USD $13 trillion asset class.
Stock Profiles
Auto Trader is the UK’s dominant online used car marketplace, connecting consumers with 13,000+ used car retailers as well as manufacturers and direct consumer-to-consumer sales. The business employs a subscription-based business model, with retailers paying monthly subscriptions to list vehicles on the website.
Investment Philosophy
Our team is often asked why we choose to organise our investment process along generalist rather than sector specialist lines. The answer is partially empirical, in that we have noticed the cross pollination of ideas across sectors is helpful in generating investment ideas, but crucially, the answer is one of risk management...
Investment Philosophy
Whilst defining quality is no minor philosophical challenge, we are fortunate that the application of the concept of quality to investing is robust to various definitions, be they qualitative assessments of competitive position or earnings quality and sustainability, or alternatively quantitative measures such as returns on capital.
Stock Profiles
The Fairlight investment process is grounded in quality; seeking businesses which have long track records of high returns on capital and strong cash flow throughout the cycle. In order to minimise risk, Fairlight avoids technology businesses that are dependent on one product that has a binary success/failure payoff distribution.
Stock Profiles
Ritchie Brothers is a Canadian auctioneer of earthmoving, oil rig, tractor and other heavy equipment. With a storied history after launching its auctioneer business in 1958, today the group is the largest marketer of second-hand industrial equipment globally.
Stock Profiles
Constellation Software is a Canadian domiciled collection of Vertical Market Software (VMS) companies operating across a variety of industries. VMS companies provide products that are tailored and specific to a single industry (i.e. vertical) and are typically focused on billing, administrative, and operational systems.