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European small caps benefit from dynamic management

17 September 2013

They can plough their own furrow and deliver returns in unappetising environments, as long as the management make the right decisions.

Sam Cosh, Manager, European Assets Trust.

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European smaller companies have a number of positive attributes, not least the sheer number of opportunities that are not well covered or understood by the wider investment community. This can lead to very substantial rewards for disciplined stock pickers. However, one of the attributes of European smaller companies, which is perhaps not emphasised quite as much, is the ability management have in driving a business forward; a particularly appealing quality in an anaemic economic environment. When growth is scarce, dynamic management can re-allocate capital quickly to attractive areas of growth – something that we believe is harder to do in a larger company. That is why, in managing European Assets Trust, we look for businesses with management that have a strong track record of capital allocation, who are well aligned with shareholders who will reap the benefits of improved long term corporate performance through share price appreciation.

Within European Assets Trust, our performance has benefitted from a number of companies which have transformed over a relatively short period. Perhaps the best example is one of our largest holdings, Glanbia plc. Glanbia is an Irish listed business which has its history in Irish dairy processing, fertiliser and feed distribution and Irish consumer foods. These are not necessarily poor businesses, but fairly capital intensive and volatile, while also facing a tough demand environment. Over the last five years, the company has sold off much of its consumer foods, feed and fertiliser and dairy processing, while investing in global ingredients and nutritionals, areas of better profitability, lower capital employed and with strong growth prospects. The company now makes approximately 70% of its profits from these areas and has seen a much better, less volatile operational performance. The shares have performed superbly over the period of this transformation, whilst the Irish economy has stagnated.

Another example in our portfolio which is earlier in the transformation stage is Amer Sports, a Finnish listed mid cap. The company owns an enviable collection of sporting brands, amongst which are the tennis brand Wilson, winter sports brands Salomon and Atomic, and the cycling brand Mavic. Historically these brands haven’t demonstrated the type of economics that they are worthy of because of poor management. We invested in the shares when a new team arrived from P&G with a clear remit to improve the company’s return on capital and growth. Within a relatively short time period, we have seen improved profitability and growth and consequently good share price performance. Contrast this with the much larger competitor Adidas, which is still struggling to turn round its Reebok brand after acquiring it in 2006.

The beauty of the above examples is that the economic environment in which they operate can be of little importance in influencing the operational performance of these businesses. They can plough their own furrow and deliver returns in unappetising environments, as long as the management make the right decisions. When we do our fundamental research, we pay particular attention to how management have allocated capital historically and whether they have made the right choices for shareholders. When we meet management we have a particular focus on understanding how they made their decisions and whether they are aligned with shareholders. Within European Assets Trust we own a number of businesses who have navigated the difficult environment successfully and now find themselves in stronger positions as recent evidence suggests that Europe is emerging from recession. Ultimately this is another reason why, for the disciplined stock picker, investing in small and mid cap equities can deliver superior performance on a sustainable basis.

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