Value investing boutique Brickwood Asset Management, which was recently established by former Jupiter star manager Ben Whitmore, has just launched the TM Brickwood UK Value fund.
Fund manager and partner Kevin Murphy said Brickwood invests in high quality companies facing temporary issues, such as negative sentiment, profits coming under pressure, an acquisition that has gone wrong or an overseas expansion that has not worked out.
This “wrinkle to the investment case” causes the stock to become cheap and “it’s our job to look through that feeling, that emotion, and focus on the numbers,” he explained.
The most important question Brickwood asks is whether the current pressure on profitability is temporary and can be resolved, or permanent.
“We're looking for temporary issues. We want the company to have generated good cashflow in the past and to have a strong balance sheet, such that it can survive through the tough times,” he said.
Its largest holding is GSK and other investments in the 46-stock portfolio include Burberry and Airtel Africa.
Established in 1856, Burberry has a long heritage as a strong consumer brand but has made mistakes recently.
Most of Burberry’s sales don’t come from items on the catwalk, they come from staples such as scarfs, coats and polo shirts. “It's important for the product to stay fresh and relevant but you can't pivot and forget about those core elements of the of the range,” he noted.
“Burberry pivoted too much to a fashion-forward brand. The range hasn't been quite right in shops. It has been too difficult to find product. It hasn't been displayed effectively enough. But those are all very easy problems to fix. There's nothing catastrophic with the brand.”
Burberry’s new board has a clear understanding of these issues and how to rectify them, he said.
Even though profits are under pressure, Burberry’s balance sheet is strong and its return on operating assets is above 20%. “In its history, clearly when it's firing on all cylinders, that number is 30% plus and that compares to about 10% in the [UK stock] market,” Murphy said.
“It's that overlap between a temporary issue but a strong balance sheet, historically strong cash generation and a historically strong return on operating assets to give us that quality aspect, which is really what we're looking for,” he concluded.
Brickwood has also invested in Airtel Africa, a mobile phone company with large operations in Nigeria and Kenya.
“It's a reasonably defensive business. There are no landlines in rural Africa and a significant proportion of banking and communication is done via mobile phone, because there is simply not the financial infrastructure,” he said.
Airtel’s balance sheet is strong, the dividend yield is 3.5% and the valuation is attractive. Top-line growth on a like-for-like basis is around 20% per year, which is unusual for a UK-listed stock, but to find opportunities like this “you have to be prepared to do the work”, said Murphy.
“You have to not assume anything just because it operates in a certain sector or has a certain word in its title. Once you start digging, you can find some gems in the UK.”
The UK market trades on a cyclically adjusted price-to-earnings yield (CAPE yield) of around 6% whereas Brickwood’s portfolio has a CAPE yield in excess of 12% and the companies within the portfolio have stronger balance sheets.
The portfolio’s return on operating assets is 40% on average versus 10% for the FTSE All Share. This makes the fund “substantially cheaper, higher quality and better protected” than the wider market, he said.
“We are benchmark agnostic when we're building the portfolio. What that means is, if we don't think something's attractive, we will have zero in it,” he stated. The fund does not hold AstraZeneca, for instance, although competitor GSK is its largest position.
“AstraZeneca has been much more successful in developing new drugs and as a consequence, the market is more enthusiastic about its future prospects. The valuation is much higher because the market thinks that the future is bright,” he explained.
“GSK has been less successful in developing new drugs and, as a consequence, the market is more downbeat on its prospects. But fundamentally, Glaxo is a phenomenal business, one of the biggest vaccine producers in the world. It has some unbelievable franchises within it, including the anti-HIV franchise that is world leading.”
GSK has also embarked on a process of streamlining, which included spinning off its consumer health business Haleon in 2022. “It has a robust balance sheet and an attractive-looking pipeline as the drug discovery process has been enhanced,” he added.
The stock market is assuming that AstraZeneca’s recent success and GSK’s struggles will both continue into perpetuity and has priced the shares accordingly, he observed. “But there are signs of optimism within the GSK pipeline and its historic issues may not reflect the opportunity from today.”