Emma Fisher is Portfolio Manager of the Airlie Australian Share Fund. She discusses the Airlie portfolio and highlights companies she currently favours with Jennifer Herbert, Head of Listed Funds at Magellan.
JH: CSL is one of the largest positions in the portfolio, and you were recently in Europe at a CSL site visit. What key takeaways from that visit?
EF: Over the last five years, CSL has spent nearly US$6 billion on capital expenditures (capex). It was great to see in person what they've built. CSL has been a phenomenal success story but over the last few years, the share price has been range bound $250 and $300 due to a decline in returns. In 2018, they made a 31% return on invested capital, and last year, it had fallen to about 20%.
Three things have weighed on returns. First, plasma collection costs rose in the US where they pay donors to donate plasma at their facilities. Pre-pandemic, the cost was US$60 per visit, but the cost went to over $100 during the pandemic as people stayed home. A second factor is all the capex, including a massive increase in their fractionation capacity. And third was the 2022 acquisition of Swiss pharmaceuticals maker, Vifor.
One of the reasons we've been adding to our position is that these three factors that weighed on returns are now going the other way. Donor fees are falling fast, and the capex has delivered highly automated, state-of-the-art manufacturing capacity. We think the returns will improve as those assets come online. And finally, having visited the Vifor assets in Switzerland as part of this tour, I think got my head around what they see in this business. CSL has been successful in broadening the applications for its products. Vifor’s primary product is intravenous iron, which probably should be used a lot more. To give an example, if you need surgery but you’re anemic, you should have an iron infusion with a Vifor product. You will typically have better outcomes in the surgery and be much less likely to need a blood transfusion. So, it's a similar CSL DNA of building out indications for the iron products that they've bought. You can see long term how that acquisition could be a success.
JH: What other takeaways are there for the portfolio from your European trip?
EF: The vibe in Europe in general, and in particular in London, would be summarised as surprisingly resilient. In Australia, the headlines suggest a dire economic situation over the last 12 months, but I think they took a lot of pain last year and there's almost a sense of relief that they've come through the winter a little bit better. The Government stepped in and capped energy costs for households.
Of the relevant meetings for stocks we own in the portfolio, one of the standouts was QBE. It's been a sort of perennial underperformer but outside of North America, the international business has always been good. The key for that business is the underwriting of risk. It was pleasing to hear in our meetings that QBE has a fantastic reputation in the London community and is able to attract really highly talented underwriters. The insurance cycle has seen significant rate rises for a few years and we expect that to continue. And obviously, insurers also have the kicker of higher interest rates working through their investment book.
The other one in the portfolio is Tabcorp, for us a classic turnaround story. In their wagering business, we met a competitor of Tabcorp that was forthright that they'd seen an improvement in the last 18 months in Tabcorp's competitive offering. That was really pivotal for us as they’ve also launched a new wagering app.
JH: What's your view on the Australian banks? Do you think there's a risk of contagion from the problems at smaller US banks?
EF: It's never say never with the banks because they are highly geared vehicles, but on the face of it, I don’t see much risk of contagion for the Aussie banks. That said, when I look at the cycle, we must be aware that we are late in a tightening cycle globally, and this is the point of the cycle where things start to go bump in the night. Our reading of the SVB and Credit Suisse situations is that they look idiosyncratic. However, the Aussie Banks show the importance of having a low-cost, sticky deposit franchise, and the Australian banks have had access to incredibly cheap funding over the last few years. Now that's come to an end, the banks need to replace those funding sources with more expensive sources, and the recent banking crisis in the US and Europe has increased wholesale funding rates. The real standout performer is the Commonwealth Bank, with far and away the largest deposit franchise in Australia.
With respect to the portfolio, we remain significantly underweight the big four banks and I'm very comfortable with that position. We appear to be staring down at an economic downturn and while a bad debt cycle is not our base case for the banks, they are incredibly levered vehicles. It’s not worth being a hero with some of those downside risks.
JH: And commodity prices have been resilient considering the economic doom and gloom, and that's probably partially due to the China reopening. Where do you see the opportunities in this space?
EF: Yes. At Airlie, we are bottom-up stock pickers, so, when we look at commodities, we're focusing on understanding the supply dynamics as well as where these assets sit on the cost curve and the industry structure. Through that lens, a lot of the noise is always generated by demand side factors, and China reopening is an example of that. But over the long term, I think that the returns that a company generates and the returns as an investor in resources companies are much more dictated by the supply side dynamics. So, that's where we spend a lot of our time focusing, especially understanding where an asset sits on the cost curve.
Through that lens, we have owned Mineral Resources for a long time. It's been our best performer. The returns from here will be driven by the lithium price and the penetration story of electric vehicles. The supply-demand perspective is giving conflicting signals. The demand side signals look quite weak. Price are falling, Chinese EV sales are disappointing and the subsidies might be hit by a recession. But the supply side signals look quite positive long-term for pricing as it’s costing other producers more to bring their assets online. And Mineral Resources will be a great beneficiary of that. I've got no idea where pricing is going in the short term, but over the long term, I see a positive skew from that supply-demand setup.
JH: In light of everything we've talked about, how is the portfolio positioned for the current market?
EF: There’s always doom and gloom and a lot of noise and a lot of headlines. I think if we are going into a recession, it's got to be the most well-heralded, most well-anticipated recession of all time. So, for us, we like this kind of environment because we think in that volatility you can find opportunity. One thing we're always focused on at Airlie, but particularly at the moment, is the strength of balance sheets. The first step in our process is focusing on financial strength. Right now in particular, we want to own businesses that are not only protected from a balance sheet perspective in a downturn, but also have that opportunity on their side, particularly if they're going into a downturn with net cash. So, that's the lens that we're applying.
But we are still finding opportunities out there and businesses like CSL, Mineral Resources and QBE show from a bottom-up perspective the potential we are excited about.
Emma Fisher is Portfolio Manager on the Airlie Australian Share Fund. Airlie is part of the Magellan Asset Management Group, a sponsor of Firstlinks. This article is for general information purposes only, not investment advice.
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