Global Equity: The Case for Quality - Buy from the pessimists

Buy from the pessimists

Here are some more recent earnings updates from our portfolio:

L’Oreal

L’Oreal reported another year of impressive results. Market share growth in practically every region fuelled top line growth of 15%, double the overall beauty industry. Gross margins increased 80 bps to 73.9% whilst operating margins increased 50 bps to 19.1%. The positive mix, operating leverage and premiumisation more than offset inflationary pressures. Earnings per share grew 20.9%. 

Online sales reached 29% of overall sales in 2021. This is an area where L’Oreal is materially outperforming its competitors, who have been much slower to act and adopt. The company is working towards its objective of reaching 50% of sales online.  

Some analysts have commented negatively on the 190bps increase (as a % of Sales) of marketing and promotional expenses. This led to operating margins to be slightly lower than expected. Following the stellar results, shares drifted lower on this “miss” yet from our point of view, it only highlights the short-term nature of the market.

L’Oreal is the world’s third largest advertiser, notable because the top two - Procter & Gamble and Amazon - have far, far more product lines. At a cost of approximately 33% of revenue, it is a hugely material discretionary spend which, if curbed, would lead to a massive rise in profits. However, as L’Oreal’s management reiterates, the firm prioritises investments in brand equity over short term profits. Within the beauty industry, L’Oreal keeps on getting stronger and stronger.

During the month of January, L’Oreal bought back 22.3 million shares (4% holding in its shares) from Nestle.

L’Oreal reported a dividend increase of 20%.

Adyen

Adyen reported fantastic second half 2021 results. The company has been a major beneficiary of the accelerated shift towards online commerce during the pandemic. Adyen is now capitalising from the return to normality. Growth of point-of-sale volumes in the second half of the year surged 97% year on year.

Volumes grew 72%, to reach over 500 billion euros on an annual basis. Earnings before interest, tax, depreciation, and amortization grew 51% with an EBITDA margin of 64%. Its North American division, which saw scorching net revenue growth of 74%, is winning material market share at scale with its one-stop-shop platform approach.  

For fiscal 2021, propelled by a year-on-year revenue growth rate of 46.2%, net revenues hit the billion euro milestone. Earnings before interest and tax grew 62.6% whilst free cash flow grew a whopping 72.4%. 

Pool Corp

Pool Corp, the world’s largest wholesale distributor of swimming pool and related outdoor living products, reported record fourth quarter and year end 2021 results as the firm surpassed $5billion in annual revenue for the first time.  

Pool’s shares have been hit due to inflationary concerns and the anticipation of a higher interest rate environment. Yet ironically, management highlighted that, amongst other things, such as the warmer weather conditions in the US, the company benefited from inflation.

Fears that growth will be hit as white-collar employees return to the office were quickly cast aside. Annual sales grew 35% year-on-year whilst, thanks to a 390bps improvement in operating margins, operating profits grew a whopping 79%. The stellar founder led management team executed admirably.  Supply chain disruptions were addressed by increased stocking levels. Higher labour costs, which increased due to performance-based compensation and elevated freight costs were more than made up for by operating leverage and higher pricing.

Pool provided strong guidance figures for the year ahead.

Nvidia

Nvidia reported phenomenal fourth quarter and year end results which beat management and market expectations. Fourth-quarter sales grew 53% year-over-year to $7.6 billion, with gaming and datacentre revenue up 37% and 71%, respectively.  Annually, total sales grew 61% year over year, with gaming and datacentre revenue up 61% and 58%, respectively, year-over-year. Gross margins expanded to 64.9% from 62.3% a year ago. Operating and net income more than doubled from a year ago whilst free cash flow surged 72% ahead. In the datacentre segment, hyperscale and cloud sales more than doubled year over year.

Management expects first-quarter sales to be at a midpoint of $8.1 billion, which implies year-over-year growth of 43%.  The datacentre segment is likely to remain strong as customers such as Microsoft, Amazon, and Alphabet invest in Nvidia's A100 GPU.

With investments in the Metaverse, AI, and other cloud investments likely to remain elevated, Nvidia remains enviably positioned.

Philip Morris 

Philip Morris reported strong full year 2021 results which were ahead of market expectations as performance accelerated in the final quarter of the year. The firm reported adjusted net revenue growth of 7.6% for the full year. At an organic level, strong 200 bps operating margin expansion led to diluted earnings per share growth of 15.3% when compared to the previous year.

In combustibles, due to strength in emerging markets, particularly the Middle East and Africa, Philip Morris reported stable market share in the fourth quarter despite the impact of IQOS cannibalisation.

The company reported continued strength of IQOS, which delivered 31% full year organic growth in RRP net revenues. Smoke-free products surpassed 30% of total net revenues in the final quarter of the year.  Market share for heated tobacco units (HTU) in IQOS markets, excluding the US, increased up by 1.0 points to 7.1%. PMI HTUs now have a 7.1% share in the markets where they are present, making them the third largest tobacco 'brand'. 

Total IQOS users at quarter-end estimated at approximately 21.2 million, of which approximately 15.3 million have switched to IQOS and stopped smoking. The market opportunity ahead is incredible. Globally, it is estimated that 19% of adults smoke, which Philip Morris is aiming to transition towards reduced risk products where it is the clear leader. IQOS is also far more profitable, gross margins are approximately 1000 basis points higher than combustibles.

Malcolm Schembri
Fund Manager, EPIC Global Equity Fund