Emma Wall: Hello and welcome to Morningstar. I'm Emma Wall and here with me today is Richard Pease, Manager of the Crux European Special Situations Fund to give his three stock picks.
Hi, Richard.
Richard Pease: Hello.
Wall: So, what's the first stock today?
Pease: I think I'd like to talk about ISS (ISS), which is a Danish catering and property management business. It kind of ticks a lot of our boxes. It went through private equity, which in a way shows how reliable the actual cash flow is and recurring revenue is. One of the nice thing about these sorts of businesses is they do have very strong free cash flow as well.
The cash conversion is very high. I think we're all worried about the macro at the moment and these sorts of companies can really grow regardless. Simply because when they make a proposition to somebody who is in sourced catering or property management. They can immediately save them between 20% and 25% of their costs. So it's very attractive, almost regardless of who you are pitching to and we feel that this company is in a way being able to increase its margins at the same time.
We've seen some quite good organic growth in the last quarter for example is about 5% and the great thing is, when you're generating so much cash, you can do great things with it. You can either by your shares back, you can do bolt-ons which will be accretive, you can be generous with the dividend and I think I'll do all three. So it's a sort of company which we like is done quite well. It's still not expensive, we think it's on about 15 or 16 times earnings. Yielding about three but that's going to be getting better every day. So, we're very happy with that one.
Wall: And is that business solely in Denmark or is it sort of spreading across the region.
Pease: Like most of our businesses it is very global. It's very global because I think it's a great test of a success. But if you are born in Denmark or a smaller economy clearly, if you are remotely ambitious you have to try grow your local economy and they certainly have.
Wall: What's the second stock today?
Pease: I think probably, which is a slightly odd one called Aurelius (AR4). Aurelius is actually a German company. And it's a bit of a funny one. It's really almost like a private equity, but it's quoted. What it does is, it tends to pick up great opportunities from bigger businesses very often, mainstream sort of DAX-type companies, not just German by the way. Where they are finding it quite tricky to turn something around, it's more difficult for Siemens or Bosch or somebody to sack people and have quite sort of down to earth conversations with unions, about pensions and that kind of thing.
For Aurelius it's what they kind of do and they are very good at it and the mother company now has about 19, it's actually I think about 22 companies which they bought or even being paid to take away. The classic one was a little business called Blaupunkt which did cast and the Bosch is control with losing something like €28 billion a year, which is quite lot even for Bosch. So, they actually paid Aurelius, in this case €102 million to take it away.
Aurelius turn it around after, I suppose, spending about €50 million to actually do so. It is not making money. The brand is actually quite meaningful in places like Latin America and Asia and they'll sell at some stage for good price. I mean it's very helpful, obviously. It's sort of a nice story. The guy who runs it is a guy called Marcus – sorry, Doug Marcus and he has 22%-23% of the company. So unlike with most private equity kind of businesses, you aren't paying any performance fee. So we like that.
We don't think it's on a – we think it's more discount to its NAV and we've already doubled our money, and this is what we think we'll quite possibly do the same again given the bit of a time. So, again patience and good guy running it and a good team running it, I think should work very well.
Wall: Presumably, not all of his bets pay-off as that example, the Bosch example, did. It is private equity, in general, if you are an investor going into private equity is a volatile asset? Is that the case then as a shareholder of that company? Are you exposed to the losses, to the failures?
Pease: I think he has only had one obvious failure so far. I'm afraid the beauty is, you can just cut the umbilical cord and it falls away. I mean he has done a lot of these things. Most of them do well, you're quite right somewhat, other one hasn't worked at all. It's not a major problem because there was no major amount of money invested, that's the truth with these things. So it's not – there is a minimal risk and lots of upside in terms of all. I would say, it's structured in a very sensible way.
Wall: What's the third and final stock?
Pease: I think probably I will choose a fallen angel, just to make it interesting; Zodiac (ZDC), which is in aerospace business. Again, it has been a very good long-term friend for us. We've made a lot of money in this over the years. It basically dominates aircraft seating, it does aircraft cabins, it does aircraft lavatories, kitchens all sorts of things and lots of safety equipment and if you have ever fortunate enough to have to go down the chute, it's going to be probably a Zodiac chute.
Very well run historically. It has made tremendous returns for the shareholders. It's sort of mid-teens growth for 20-25 years. Families sort of have big stake in it. It ticks a lot of our boxes and it's got a sort of structural growth story. The problem really has been – actually almost a problem with their success in their new seat range because they haven't been able to produce the seats as fast as they thought. They've had to pay quite heavy penalty clauses to some of their airline customers. And so, we've had to kind of write-off. It's a final year, it's an August 2015 year and probably bit of 2016 August year end.
So, we've kind of lost a year, 18 months. But if you look through all that, we think it's on not much more than 14, 14.5 times earnings and we think it will resume its growth. It's been hit very hard in terms of stock price and we feel this is a great opportunity to actually to jump on board.
Wall: Richard, thank you very much.
Pease: Pleasure.
Wall: This is Emma Wall for Morningstar. Thank you for watching.
