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Terry Smith (Fundsmith) AGM video


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UK-based investor that I wasn't familiar with until @Bluegrasscap posted this video of their AGM on twitter:

 

https://www.youtube.com/watch?v=vbe5Qo9Hcjg

 

Looks like an interesting guy. I'm going to read his letters later, but I'm curious if those of you who are more familiar with him can share what you know (positive/negative) and any recommended readings or things to watch/listen to about him or from him.

 

Letter:

 

https://www.fundsmith.co.uk/docs/default-source/analysis---annual-letters/annual-letter-to-shareholders-2017.pdf

 

Thanks

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I could probably write an over-long essay on Terry Smith, but I'll do my best to be concise (spoiler: I failed).

 

Read all the annual letters - there may not be much new that you'll learn, but he writes very well and entertainingly, and is one of the most no-bullshit people around (he's not really like Munger, but they're both refreshingly honest and scathing about the problems of their industry).

 

Some people don't love his pugilistic tone - he has that boxer-style 'I am the greatest' thing, but he's mostly backed it up.

 

I haven't yet watched the AGM videos.

 

He's been around forever - his initial notoriety came from a book he wrote called 'Accounting for Growth' which basically showed how companies can manipulate things in their Annual Reports.  One of the examples was a client of his then employers, and he got fired.  Which, as he said, was the best possible publicity for the book.

 

For a long time he was CEO or chairman of UK inter-deal brokers, so at this point he'd been a successful analyst, and run a business, which seems like pretty good experience.

 

His fund has been incredibly successful for a retail fund since launch in late 2010.  Until recently I worried that his strategy hadn't been tested in different environments, but I've since found that he ran a very similar strategy for his former company's pension fund, and it did very well from late 2003-10, doubling MSCI world performance in gross terms.  I don't know what the 08 drawdown was.

 

The strategy is simple - 25-30 blue-chips, with about one purchase and one sale (if that) a year.  The geography is about 60% US / 40% Europe.  At the start there were more Consumer Staples/Bond Proxies (e.g. Nestle, Unilever, Colgate), but has picked up a bit some tech and industrials along the way.  He also really likes healthcare, and I was very impressed how he swooped in on Novo Nordisk when it bottomed in late '16.

 

I guess Akre would be roughly the sort of US equivalent in terms of a concentrated, low-turnover approach.

 

He does quite a lot of press, as he's so quotable compared to most UK fund managers.  There are some longer interviews which I've really enjoyed - I'll try and remember a few of the best.

 

He is up to about US$20bn AUM now, which is peanuts in the US, I know, but it does mean that with a max of 30 holdings means that he can no longer realistically invest in some of the mid-caps that he did in earlier days.  So there may potentially be a time when performance dips because of size constraints.  He's hinted that he might one day close the fund, but my instinct is he won't.

 

One key point to note is that his right-hand man is a guy called Julian Robins, and there is a suspicion that he is almost more important than Smith.  This is unproven, as is how well Robins would operate without Smith.

 

Smith is in his mid-60s so could retire if he chose, so succession is something to consider.

 

Smith also has a London-listed closed-end fund invested in EM and Frontier markets.  This launched in mid-2014 and to date has NOT been a success.

 

FEET has about 50 holdings, and the Portfolio Turnover has been a lot higher than the main fund.  It has a lot of Consumer Staple subsidiaries, and also healthcare as he sees that as a big EM growth area.

 

I can't say exactly why it hasn't worked - my hunch is:

a) he and his team don't have the on-the-ground expertise and focus they should have, compared with, say, Arisaig, whose portfolio is very similar, but they have so many years of on-site engagement and insight with their companies.

b) the EM consumer stocks have been eye-wateringly expensive for a number of years.  He professes to be unbothered by this, and appears to have a Nifty-Fifty view i.e. they have phenomenal metrics and so will grow into their valuations.  But it hasn't worked so far.

 

I am a big fan of him as someone to read and get inspiration from, but I don't invest in the fund.  I wish I had!  However I favour another firm with a similar strategy called Lindsell Train.  I would very much recommend you look at their website - their 'Insight' papers which are wonderful - they are more Buffett-esque, and very wise.  Their USP is that they manage a closed-end fund which has an unusual 40% holding - their own asset management company.  It has been phenomenally successful.  The fund trades at an absurd premium, but if you've been a long-term holder, you've made a killing.

 

I hope this is the sort of thing you were after.  It's off-the-cuff, so I apologise if there are any inaccuracies, but it's approximately right.

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Thank you very much for the thoughtful and detailed piece, I learned a lot about Smith, and I appreciate you taking the time to write it. Sorry for the delay in getting back to you, I haven't been only much the past few days as my wife gave birth to our second boy :)

 

I will check out Lindsell Train, not familiar with him.

 

Cheers!

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  • 2 years later...

Haven't watched the 2020 yet.  But I should think it'll be more of the same.  The fund has had it's first real test, and has held up extremely well.

 

You might also enjoy this:

 

 

Since I did my thing above, they've launched a global mid-cap closed-end fund called Smithson.  The link is to their first AGM presentation.

 

It's early days, but there are a lot of great companies in the portfolio, and while the manager is different, it follows exactly the same methodology i.e. buy-and-hold 30 excellent quality companies.

 

It's probably a bit hard to buy if you're not in the UK, but the portfolio might be interesting for ideas.  The manager reports are a blander version of Terry Smith's, I've found so far.

 

 

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The strategy is simple - 25-30 blue-chips, with about one purchase and one sale (if that) a year.  The geography is about 60% US / 40% Europe.  At the start there were more Consumer Staples/Bond Proxies (e.g. Nestle, Unilever, Colgate), but has picked up a bit some tech and industrials along the way.  He also really likes healthcare, and I was very impressed how he swooped in on Novo Nordisk when it bottomed in late '16.

 

 

To add to that, the core of his strategy is to invest in "high quality" companies, at a reasonable price.

He defines high quality specifically in a value of ROCE (Return On Capital Employed), which is (almost) net profits divided by total assets. This shows the return the company is generating on capital employed (not taking into account long term debt) - i.e. how valuable will the company become if it is not saddled with any debt.

He chooses companies with ROCE around 25% or higher. Assuming a company reinvests its profits internally, then he argues that its intrinsic value also increases by 25% each year.

 

Two points he does not answer in his presentations that I have seen, are the effect of debt servicing on this process, and why doesn't the efficient market theory discount this effect (by making the shares correspondingly expensive at the outset). The implicit answers to these two questions are that compounding by 25% per year will deal with the debt problem over the longer term, and that other investors don't understand the long term uplift of this kind of compounding, leading them to value the business in aggregate higher than, but not sufficiently higher enough, than other businesses with a lower ROCE.

 

Edit: Just to say that in the video of the 2020 meeting posted tonight, he explains this strategy at time 16:48

 

 

 

Smith also has a London-listed closed-end fund invested in EM and Frontier markets.  This launched in mid-2014 and to date has NOT been a success.

 

FEET has about 50 holdings, and the Portfolio Turnover has been a lot higher than the main fund.  It has a lot of Consumer Staple subsidiaries, and also healthcare as he sees that as a big EM growth area.

 

I can't say exactly why it hasn't worked - my hunch is:

a) he and his team don't have the on-the-ground expertise and focus they should have, compared with, say, Arisaig, whose portfolio is very similar, but they have so many years of on-site engagement and insight with their companies.

b) the EM consumer stocks have been eye-wateringly expensive for a number of years.  He professes to be unbothered by this, and appears to have a Nifty-Fifty view i.e. they have phenomenal metrics and so will grow into their valuations.  But it hasn't worked so far.

 

 

I've been looking into this tonight.

Watching the two annual shareholder meetings for FEET (Fundsmith Emerging Equities Trust), for 2017 and 2019, he says that the fund underperformance of net asset value was caused by outflows of money from far east actively managed funds, into far east index funds (ETFs), resulting from general investor sentiment in favour of passive investing, and regional investing. He says that the sectors of the companies he is invested in are under-represented in the main indexes, hence demand for his companies dropped in aggregate, along with the price). It sounds plausible, but might be an excuse of course.

 

time: 50:50

 

time: 20:00

 

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  • 2 weeks later...

Terry Smith is a good investor. Seemingly the best part of the company he managed for years (Tullet Prebon) was the pension fund. ;-)

 

The results for Fundsmith have been attractive since inception. But it seems a big part of the results came mainly from valuation and multiple expansion of somewhat higher company profits.

 

So, it looks a little like the nifty fifty era. This thing could go in reverse as well I'm afraid.

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Terry Smith is a good investor. Seemingly the best part of the company he managed for years (Tullet Prebon) was the pension fund. ;-)

 

The results for Fundsmith have been attractive since inception. But it seems a big part of the results came mainly from valuation and multiple expansion of somewhat higher company profits.

 

So, it looks a little like the nifty fifty era. This thing could go in reverse as well I'm afraid.

 

exactly my thoughts.

the FCF yield of the portfolio, as reported in the funds letters, was 4.0% at the end of 2018, 3.4% at the end of 2019. can the multiple expansion continue any further? and what happens if the market decided it does not require a 3.4% FCF yield, but a higher (though still modest) 4.5%? and if it required a 6.8%?

 

this is not something that only us consider, although the managers of the fund dont seem to find reason to worry too much at the moment:

Whilst this [the high multiple, and multiple expansion] is a good thing from the viewpoint of the performance of their shares and the Fund, it makes us nervous as changes in valuation are finite and reversible, although it is hard to see the most likely source of such a reversal — a rise in interest rates — in the near future.

 

 

 

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The strategy is simple - 25-30 blue-chips, with about one purchase and one sale (if that) a year.  The geography is about 60% US / 40% Europe.  At the start there were more Consumer Staples/Bond Proxies (e.g. Nestle, Unilever, Colgate), but has picked up a bit some tech and industrials along the way.  He also really likes healthcare, and I was very impressed how he swooped in on Novo Nordisk when it bottomed in late '16.

 

 

To add to that, the core of his strategy is to invest in "high quality" companies, at a reasonable price.

He defines high quality specifically in a value of ROCE (Return On Capital Employed), which is (almost) net profits divided by total assets. This shows the return the company is generating on capital employed (not taking into account long term debt) - i.e. how valuable will the company become if it is not saddled with any debt.

He chooses companies with ROCE around 25% or higher. Assuming a company reinvests its profits internally, then he argues that its intrinsic value also increases by 25% each year.

 

Two points he does not answer in his presentations that I have seen, are the effect of debt servicing on this process, and why doesn't the efficient market theory discount this effect (by making the shares correspondingly expensive at the outset). The implicit answers to these two questions are that compounding by 25% per year will deal with the debt problem over the longer term, and that other investors don't understand the long term uplift of this kind of compounding, leading them to value the business in aggregate higher than, but not sufficiently higher enough, than other businesses with a lower ROCE.

 

Edit: Just to say that in the video of the 2020 meeting posted tonight, he explains this strategy at time 16:48

 

 

 

Smith also has a London-listed closed-end fund invested in EM and Frontier markets.  This launched in mid-2014 and to date has NOT been a success.

 

FEET has about 50 holdings, and the Portfolio Turnover has been a lot higher than the main fund.  It has a lot of Consumer Staple subsidiaries, and also healthcare as he sees that as a big EM growth area.

 

I can't say exactly why it hasn't worked - my hunch is:

a) he and his team don't have the on-the-ground expertise and focus they should have, compared with, say, Arisaig, whose portfolio is very similar, but they have so many years of on-site engagement and insight with their companies.

b) the EM consumer stocks have been eye-wateringly expensive for a number of years.  He professes to be unbothered by this, and appears to have a Nifty-Fifty view i.e. they have phenomenal metrics and so will grow into their valuations.  But it hasn't worked so far.

 

 

I've been looking into this tonight.

Watching the two annual shareholder meetings for FEET (Fundsmith Emerging Equities Trust), for 2017 and 2019, he says that the fund underperformance of net asset value was caused by outflows of money from far east actively managed funds, into far east index funds (ETFs), resulting from general investor sentiment in favour of passive investing, and regional investing. He says that the sectors of the companies he is invested in are under-represented in the main indexes, hence demand for his companies dropped in aggregate, along with the price). It sounds plausible, but might be an excuse of course.

 

time: 50:50

 

time: 20:00

 

I think the key is to only invest in companies where you are fairly certain that the returns on capital are not going to trend down to the mean and the revenues will keep growing. 

 

That is the only way this works. 

 

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They put all their AGMs on the web.  I've watched everything they've ever put up.  It gets highly repetitive after a few years, but I'm a bit of an anglophile so I am fine watching for the accents and backgrounds, etc... 

 

Seems like another good quality-compounder investor, but that style has had an epic run. 

 

I found the flip flop on colgate to be abrupt and the explanation, which I recall was basically a critique of management's plan (I thought we were investing in such great businesses, particularly colgate with the oft mentioned tailwind of emerging markets, that management didn't matter that much).

 

He did savage Michael Mouboussin once tho by referencing Mouboussin's pounding the table for Nortel Networks (I think) back right before it imploded (when Moubosson was an analyst, prior to becoming a guru).  Smith is pretty entertaining, seems like the Julian fellow who lives in Connecticut is a big portion of the brains of the operation.

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Corpraider - I think you pretty much nailed it there.

 

The only thing I'd add is that I think they are never very good at explaining their thinking at a stock level.  This used to frustrate me, but I've reconciled it as much of their investor base is UK retail, who don't really care about why they sold something.  I often find another fund, which has sold the same stock, and bothers to articulate it. 

 

At this point I trust them enough to believe in what they're doing - though that's not to say that I don't think they'll get it wrong sometimes.  Maybe Colgate was one of those.

 

But yes, I've long felt Julian Robins is doing the bulk of the work - which is good, as he's younger.  They've said from the beginning that they designed the operation to survive Smith, which is smart succession planning.

 

And yes, Smith is entertaining, and says things about other managers that most people wouldn't (the year he put the boot in to Ackman, Loeb etc. was refreshing).

 

Agree also on the repetition, but again I like that, I want consistency from managers - though it does mean there's only a tiny snippet of intrest each year.

 

I'm now really curious on how the mid-cap closed-end fund will do - it's still early days, and hard to know how good the manager is.

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I'm now really curious on how the mid-cap closed-end fund will do - it's still early days, and hard to know how good the manager is.

 

That's the Smithson investment trust I think you're referring to?

https://www.hl.co.uk/shares/shares-search-results/s/smithson-investment-trust-ord-gbp0.01

 

I did consider investing in it. But a number of its holdings have very high P/E levels, which in my opinion make it too risky. For example I looked at 10 stocks out of the 30 or so in the fund at the moment, and four of them have P/E levels above 45:

 

CDK Global: 91

Domino's Pizza Group: 107

MSCI: 47

Fisher & Paykel Healthcare: 70

 

The other six had lower P/E levels, but they also had lower ROCE values, and gave out half their profits as dividends, preventing them from being fully used to grow the business according to his stated high-ROCE methodology.

 

Terry Smith claims he is still effectively managing this fund, from his home in the Caribbean, and is -only- outsourcing the day to day stuff to the manager.

 

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Smith never ran the TP pension fund. Cedar Rock did. Smith's involvement was limited to appointing them, and requesting a few stocks be divested (eg: He asked them not to own newspapers). IMO, Smith more or less got religion from Cedar Rock. To my knowledge, there's no real record of him ever talking about quality-growth investing prior to his engagement of Cedar Rock. Cedar Rock was founded by Andy Brown, who used to run the Morgan Stanley Global Brands fund. As an aside, that fund is still around today, and offers a decent look at what this kind of concentrated, low turnover quality-growth investing can look like across several market cycles.

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a number of its holdings have very high P/E levels

 

Terry Smith claims he is still effectively managing this fund, from his home in the Caribbean, and is -only- outsourcing the day to day stuff to the manager.

 

Yes, Smithson stock valuations do seem a bit 'hot', though there's a lot of that around at the moment!  So it's a question of how much faith you put in Fundsmith to have selected stocks of sufficient quality that can justify their valuation (which as we've seen can work).

 

My feeling is that this is a basket of high-quality stocks that would be fiddly for a UK investor to put together, but it's a case of being patient and waiting for the right entry point.  That came briefly in late March when it was briefly on a 20% discount.  I'm bewildered that it's on a premium again right now.

 

 

Coleman - I only recently found this out, and find it fascinating, though obviously it's hard to know the complete story without knowing any relevant people directly.  I note that 13Fs show that Cedar Rock still has a number of the Fundsmith US stocks in its portfolio.  It's a shame that Any Brown doesn't seem to communicate much.

 

It seems reasonable to suggest that Smith got 'religion', but I like to think that this successfully combined with his expertise in analysing company reports - his past, e.g. 'Accounting For Growth' indicates that he's not one to be fooled by companies who aren't the real deal.

 

I've been looking at Morgan Stanley recently - generally I'm averse to institutional fund firms, but MS seem to have quite an impressive long-term team - especially with the 'Opportunity' funds.

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It seems reasonable to suggest that Smith got 'religion', but I like to think that this successfully combined with his expertise in analysing company reports - his past, e.g. 'Accounting For Growth' indicates that he's not one to be fooled by companies who aren't the real deal.

 

I think that that's exactly right. He's also been around long enough to know how to be very discriminating (though I admit, I think Facebook is a mistake). There's no doubt that he and Robins are both talented investors, and they run what I consider to be a first rate fund. I take your point re: not knowing the complete story, though I've seen it asserted by enough people that it's hard for me to escape the conclusion that there was a sleight of hand re: the track record.

 

I'm in sympathy with you re: institutional firms. I hadn't looked at the 'Opportunity' funds; appreciate your pointing them out. You might also find the Brown Brothers Harriman Partner Fund interesting.

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Terry Smith claims he is still effectively managing this fund, from his home in the Caribbean, and is -only- outsourcing the day to day stuff to the manager.

 

didnt Terry say that they would not open more funds? as opposed to those who gave the market the flavour of the day (for example, a BRIC fund, and income fund, etc) just to get more funds under management?

yet now they also have a mid cap and an emerging markets funds

 

 

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didnt Terry say that they would not open more funds?

 

He did.  It's a fair point.

 

But personally I feel there's a difference between deciding to open two more funds, versus ten.  Over ten years, I think you're allowed to change your mind a little.

 

I am still unconvinced by the EM closed-end fund - I'm yet to see evidence that they have an edge against other EM funds.  That said, the portfolio looks good now and valuations are better.  It's still slightly hard to not think it's an Arisaig copycat (if you know the EM Consumer specialist outfit).  And I think it must have distracted Smith.

 

But I think the mid-cap closed-end fund could be great - it's full of good companies, it's focusing in areas and markets they know well, and there's currently nothing like it available for UK investors in terms of global quality mid-cap exposure.

 

 

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  • 10 months later...

Mostly reassuringly similar to past meetings.

 

Discusses effect of inflation & higher yields on portfolio:

1) Operationally, companies should be OK.

2) Valuation: could be more problematic.

But thinks 1) should overcome 2).

 

Looks at purchase prices, suggesting that for top quality cos, you can leave room for error in entry price, as they can grow into their valuation fast (as we're familiar with from Munger etc.).

 

Explains why not convinced by Amazon (this has rubbed people up the wrong way!).  Would own AWS in a shot, but doesn't think the e-commerce business is profitable enough.  (I'm not smart enough to know if he's right, and if not, why not).

 

I still think he's a terrific front man, and that Julian Robins is the real brain of the operation.  I think that they target 'Joe Six-Pack' investors who don't care about the really technical stuff, meaning they don't really explain what they do.  This frustrates some (it used to bother me) but I think it's deliberate, not because they don't know what they're doing.

 

If you're lazy and not a great investor like me, it's an easy, quality, sleep-well-at-night portfolio to hold.

 

But always happy to hear people trying to kill it!  Stay paranoid!

 

 

 

 

 

 

 

 

 

 

 

 

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