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In value investing circles there’s a hotly contested debate around predicting the future. It’s impossible to do it with any accuracy, but what happens in the future defines the value of any investment so you have to give it a go.
The key is to keep your assumptions firmly rooted in the present. So instead of thinking about how things are likely to change, you think about how they are likely to stay the same.
There’s a subtle but important difference between these two approaches, because change compounds quickly, leading you down a multitude of dark alleys, whereas the same, well, stays the same – at least until it changes.
With stocks this means focusing less on trying to guess how things will actually turn out and more on the factors – which are apparent now, in the present – that will serve a company well whatever the future holds.
These qualitative factors must then be blended with price, and that’s where much of the art of investing lies; a great company can make a terrible investment if you pay too much for it.
Of course over the short term it’s the price – what people are prepared to pay – that makes the most difference to an investment. That’s probably why people worry about it so much.
Over the long term, however, quality comes to the fore. So, in a bid to balance the discussion, we asked our analysts to leave price aside and nominate three stocks each (at least two from the ASX), which they were confident will still be around in 20 years’ time, having grown at least in line with the economy.
Here’s what we got.
Great businesses have protections in three main areas: they have a product that people want; they have a competitive position that allows them to deliver it without too much interference; and they have the management and culture not to stuff things up.
Because we can’t sell for 20 years, I’m going to take management and culture out of the equation. Without the ability to reassess, I have to pick businesses that could be run by monkeys because, as Warren Buffett notes, sooner or later they probably will be.
infrastructure immediately springs to mind. Transurban (TCL:ASX) is one possibility but I’ll exclude it due to its short leases – when these expire, on average in around 35 years’ time, it may not even have a product, (unless it extends them at commercial rates). So while its revenues will likely rise with GDP growth over the next 20 years (through price rises and traffic increases), it’s amortised value may not.
Sydney Airport (SYD:ASX), with its airport lease due to expire in 81 years, suffers in the same way. The difference is that revenues that should grow well ahead of GDP and the lease’s value might only decay by 10-20% in the next 20 years.
For my second pick, I’ll go for something with a higher difficulty multiplier and pick NextDC (NXT:ASX). It’s less of a banker than Sydney Airport but there aren’t many more reliable growth areas than data storage – demand for which has increased tenfold in the past two years.
While other industries are being disrupted by the ‘cloud’, NextDC is the cloud. And there are good reasons for it to be able to supply these services without too much competitive interference. For one thing, location matters. Customers want to access their servers easily and the further data travels, the longer it takes and the more it degrades. This is also why many companies choose to co-locate within the same data centre and connect directly with important business partners via ‘cross-connects’.
Judging the right price to pay for NextDC is the tricky part and explains why it hasn’t yet joined our Buy list. But it’s hard to imagine it not taking its share of economic growth over the next 20 years.
Sydney Airport and NextDC are both close to joining our Buy list, but for my final selection I’m going to go with a stock that’s actually on it – Ramsay Health Care (RHC:ASX). James Greenhalgh nominated Ramsay as one of Australia’s 10 best businesses back in 2016 (along with Sydney Airport) and I have to agree.
Hospitals are hard to build and even harder to run effectively. Ramsay appears to be excellent at both. Most of its hospitals are local monopolies and, in Australia, it accounts for more than one in four private hospital beds. That gives it negotiating power with private health insurers and suppliers of medical consumables.
The proportion of Australians over 65 is expected to double over the next 40 years, and yet debilitating conditions like obesity and diabetes are at record highs. Rapidly improving medical technology means we’re almost certain to be spending more of our wealth on health care in 20 years than we are now.
The cost of building hospitals makes Ramsay somewhat capital intensive, with a return on capital of just over 15%. That means you need to be particularly careful about how much you pay for it. At the moment, though, with a free cash flow yield of around 5%, we think it’s attractive.
I’d echo the comments about it being dangerous to extrapolate themes and trends. The value in the exercise is from removing the focus on price in favour of business quality and longevity.
My approach was to think about basic services that have been around a long time and will continue to be vital. Stuff that is sexy is out; tech, software and healthcare are too hard to predict and vulnerable to disruption. Basic services that are universal and long lasting were my choices; think food, water, banking, defence and booze. Drumroll please ...
My first pick is Woolworths (WOW:ASX). Often underestimated, this is one of the best businesses in the land. As one half of a powerful duopoly and with Australia's unique population characteristics (low density, large landmass) I doubt online retailing will ever pose a serious threat to this business.
Add to that a superlative supply chain, a hard-to-replicate store network and a fine operating nous (notwithstanding some poor strategic decision-making), and Woolies is a good shout for doing well decades from now.
Perhaps a controversial choice right now, I would still class Commonwealth Bank (CBA:ASX) as one of Australia's best businesses. Banking might be a maligned service but credit is crucial to greasing the wheels of growth and no one does this better than CBA.
Investments in technology and risk management, and dominance in the super-profitable mortgage market make CBA one of the most profitable banks in the western world. There’s a risk of disruption from new technology but the legacy banks are also best positioned to benefit from it.
At its core, banking is a simple business – matching borrowers with savers – but this means venturing into international capital markets, building trust and meeting regulatory burdens. These aren’t things disruptors can do easily, which is why banks are some of the oldest companies anywhere. The Big Four are some of the most tech savvy in the world and should, in my view, retain their market share.
When you think about holding businesses for 20 years it quickly becomes apparent that, as good as some medical technology or online businesses are – Cochlear or REA Group, for example – it’s better to own businesses selling tangible goods or services that will still be required 20 years from now.
On that basis, my first pick is Wesfarmers (WES:ASX), which was on our Buy List five months ago. While the conventional view is that store-based retailing will be damaged by online, the latter will eventually hit a ceiling.
Some goods don’t lend themselves to online selling, including many of those sold by Bunnings and even much apparel. In any case, there’s no reason why Wesfarmers can’t capture its fair share of online sales in its existing retail brands.
More importantly, Wesfarmers may not own any retail businesses in 20 years – it’s an industrial conglomerate utterly agnostic about its portfolio. Management’s sole task – facilitated by the company’s long-term culture – is to generate good returns on the capital deployed. Over time, we expect management to recycle capital into high-returning business opportunities within and beyond the existing portfolio.
Like James, I’ve also included Ramsay Healthcare (RHC:ASX), and for the same reasons. It’s hard to imagine less demand for hospital services 20 years from now. As Australia’s largest private hospital company, Ramsay could easily take a greater share of this industry over time. Greater privatisation and overseas expansion also offers opportunity. The main issue will be managing the capital intensity of hospitals but Ramsay has managed this process well in the past.
While lifespans are lengthening, the reality is we all die eventually, which brings me to my final choice. Death volumes will accelerate over the next 30 years and, while the nature of funerals may change, humans are wedded to commemoration and memorialisation.
Australia’s largest funeral provider, InvoCare (IVC:ASX), despite its current business issues, should take a reasonable share of future industry growth. Greater professionalisation and regulation of the funeral industry is possible over time, as is further consolidation of the numerous small players; both trends are favourable to the largest players.
If you had to boil ‘sustainable competitive advantage’ down to two words, Sydney Airport (SYD:ASX) comes to mind. This 901 hectare site sits on the edge of Australia’s largest city with 44 million passengers moving through it each year. Historical passenger growth was barely dented by 9/11, the GFC, or the collapse of Ansett.
In 20 years, Sydney Airport will be one year out from finishing its 2039 masterplan, under which passenger numbers are expected to rise 50% to 66 million. What’s more, the airport has ‘light touch’ regulatory oversight, allowing it to take advantage of its monopoly position, whether that’s through high-margin parking fees, aeronautical charges, or retail sales. Given its prime location, we expect demand to remain strong even when the Western Sydney Airport opens in 10 years.
My second pick is the ASX’s king of healthcare, CSL (CSL:ASX). Despite its categorisation, the company has a formidable set of competitive advantages that should ensure another 20 years of growth and profit.
It’s the world’s largest plasma therapy maker with a market-leading network of difficult-to-replicate plasma collection centres. This ensures a more stable supply of raw plasma than its competitors and makes it the industry's lowest-cost operator.
CSL focuses on niche therapies for patients with compromised immune systems or other blood diseases, and many of its drugs have no viable substitute. That means it can charge through the nose and there’s little health insurers or governments can do. Top this off with a few lottery tickets like a new cholesterol drug currently in clinical trials, but potentially worth billions of dollars, and there’s little doubt this behemoth will still be with us 20 years from now.
My final choice is one company truly built to last: US-based Berkshire Hathaway (BRK.B:NYS). Built over five decades by Warren Buffett, this value investing conglomerate has a diverse range of businesses, from railroads, energy generators and insurance, to premium chocolates and underpants – not to mention a US$100bn portfolio of well-known stocks such as Apple, Coke, and American Express.
These 100-plus companies have been hand-picked for their competitive advantages and strong management, combined with Berkshire’s philosophy of buying high-quality businesses at sensible prices. The company is conservatively capitalised, uses little debt and has US$111bn of cash on hand. I’m a big believer in the mantra ‘deserve what you want’ and Berkshire deserves to be around 100 years from now. I think it will be.
The continued rise in online shopping is a threat to marginal malls but premium shopping centres in great locations are likely to be desirable for decades. Even if they eventually fail to attract enough shoppers for their shopping, entertainment, food and service options, they can be converted into more valuable uses like commercial offices.
Unibail-Rodamco-Westfield (URW:ASX), currently on our Buy List, owns some of the best shopping centres in Europe and the US. This offers local investors a nice growth option and overseas diversification. Its collection of malls are performing well and we’d bet that will be the case in 20 years.
For my second pick I’ll go for another property stock, Sydney Airport (SYD:ASX), for the reasons already given by others. Passenger numbers are expected to continue rising, though earnings growth will outpace that figure, due to the operational and financial leverage – the former on account of the relatively fixed cost asset base and the latter because of the large debt. But if ever an asset could manage some debt it would be Sydney Airport.
Rising interest rates will be a dampener to earnings growth in the short term, but over the next 20 years, the business should perform very well. My final pick sounds really dull. Link Administration Holdings (LNK:ASX) provides a range of specialised administrative services to the finance industry, all of which save time and money for clients.
Its markets offer modest growth but that masks what the company can achieve. Through consistent cost cuts, product roll-outs, acquisitions plus market growth, Link, with a management team that owns a substantial stake in the business, should endure and thrive over time.
Top of my list would be Woolworths (WOW:ASX). There are several things that make it such an attractive business, mostly flowing from its huge scale.
It’s able to buy in bulk and receive discounted prices in return for its high volume of orders. It’s also able to squeeze the margins of suppliers as it typically makes up a large portion of their sales.
Scale also allows the company to offer a wide range of products, and give it a sustainable cost advantage.
It also boasts an enormous nationwide footprint which is difficult to emulate. Numerous locations makes it convenient to shop there and people are likely to visit the shops nearest to them.
Demand is likely to be steady, making the business an attractive defensive asset. The way that groceries are offered may change over time, but Woolworths is likely to be well placed to be a prominent provider.
Competition is increasing from the likes of Costco and ALDI, and margins may come down a little, but this remains a solid business that is likely to grow in line with the economy over time.
Next up for me would be Sydney Airport (SYD:ASX). The company has a lease on Sydney’s main airport until 2097, for the reasons already given by others.
Finally, I’d go for Berkshire Hathaway (BRK.B:NYS). Over the years, Berkshire’s key competitive advantage has been the capital allocation skills of Warren Buffett and Charlie Munger. Chances are they won’t still be at the helm in twenty years, but in Ted Weschler and Todd Combs they have capable successors lined up.
There’s more to Berkshire, though, than capital allocation. Buffett and Munger have maintained a ‘hands off’ approach to managing their portfolio of businesses since the beginning, with managers largely given free reign to run their respective business as they please. It’s unlikely Berkshire’s subsidiaries will suddenly deteriorate in their absence.
The diverse mix of high-quality businesses, many with sustainable competitive advantages, means it’s likely to capture GDP growth at least in line the US economy over time.
Sydney Airport (SYD:ASX)
Ramsay Health Care (RHC:ASX)
Berkshire Hathaway (BRK.B:NYS)
Commonwealth Bank of Australia (CBA:ASX)
Link Administration Holdings
Disclosure: James Carlisle owns shares in Ramsay Health Care; James Greenhalgh owns shares in Wesfarmers; Graham Witcomb owns shares in Sydney Airport and Berkshire Hathaway. Staff members may own securities mentioned in this article.
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