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Fund Manager Focus - July 2010

Christophe Nagy, Comgest - Paris

Comgest is an independent fund management group founded in 1986. Total assets under management are $13.9 billion (as of March 30th). The firm manages long-only equity funds, roughly split: 80% Asia and Emerging Markets and 20% in developed markets including the US. They have a fundamental, long term (4 - 5 yrs) investment approach and concentrate primarily on growth stocks selling at a reasonable price (GARP).

Christophe Nagy graduated from the Ecole des Mines de Saint-Etienne and holds an MBA from INSEAD. Prior to joining the investment industry Christophe was a partner at Mercer Management Consulting. He started his investment management career in 1997 when he joined Carmignac Gestion. From 2002 he was a senior fund manager at LCF Rothschild and joined Comgest in 2009 where he manages US funds.

Can you tell us a bit about Comgest and its positioning in the French investment management industry?

“Comgest has a unique position. We are long term investors. Our time horizon is 4 – 5 years. We look for earnings growth and prefer companies with the ability to grow the top line versus expanding operating margins as this means openended opportunities through market share gain or a growing market.

We have low turnover and run very concentrated portfolios. We target 180 names in the US. We have €300 million ($375 million) in US equities. We have a true GARP approach and rarely pay multiples above the market. Our target companies have earnings growth of 10 – 15%. We like to pay the market multiple or less as we want to avoid the phenomenon of multiple compression. The US market has dozens of examples of severe multiple compression in the last 10 years.”

What changes have you seen in US market since you started covering it?

“I started covering the US market during the bubble so what’s changed is that companies are now more willing to devote time to explaining their business model. Therefore the relationship between companies and the investment community has changed. Companies are now better at keeping in touch with investors – either by visiting Europe or being available on the phone.”

With the dollar recovering and the outlook for the US economy better than for Europe, do you think French investors will invest more in US equities?

“I wish they would! French investors have had it easy for the last 10 years. European markets and the French equity market in particular have outperformed the US equity market for 10 years so why invest beyond your borders? However, that has changed dramatically in the last six months. It is maybe too early to talk about a sea change but I believe at the end of 2010 there will be more interest in the US equity market. It is worth noting that only 25% of our client base is French. The Netherlands, Germany, Belgium, Luxembourg and the UK each account for between 15 – 20% of our client base.”

How would you describe your investment style?

“Very much GARP. We look for solid franchises and don’t take much emerging technology risk. We look for barriers to entry and like pricing power from a strong technology base, patents, installed base, distribution base etc. We like healthcare, technology and industrial companies. We don’t invest where there is zero visibility on earnings. So for example, banks and insurance companies as we have no visibility on the balance sheet. We have limited exposure to commodities – our only exposure would be via oilfield service companies. We don’t hold any of the oil majors or mining stocks.”

How do you screen stocks?

“We do basic screening. ROC of >15% and growth of earnings around 10%. We prefer a solid balance sheet.”

How do you know if you want to meet a company?

“There are 180 companies on our watch list in the US. Out of that 180 there are 70 companies in our investment universe and we invest in approximately 30 names. We do a basic valuation model – a forward p/e valuation given assumptions for growth five years out and discount it back. We look for 30% upside over our holding period.”

Typically how many US positions will you hold, what’s your average position size and what is the value of your largest position?

“30 US names. 4% is our average position. 2% is our lowest. We don’t have anything above 7%.”

What’s your active share? (how much will you bet against the index?)

“We are not benchmarked so I can’t answer this question! We are not index huggers. There are plenty of large cap names we don’t hold – GE, IBM, HP, Pfizer. No banks and no materials companies either.”

Average market cap of a US holding?

““$45 billion – so we have a large cap focus. But 20% of our investments are in the $1 – 5 billion range. $1 billion is our minimum. We like the $1 – 5 billion range as there are great leaders in niches here.”

Any sector constraints?

“No sector constraints as we are really bottom up. If we believe there are great technology companies, for example, we will have twice as much as the benchmark.”

What do you think about the US market at the moment?

“Extremely cheap. Investors are not giving value to the growth of earnings. It has rarely been as cheap. I expect economic slowdown in the second half of 2010 and in 2011. Once there is clarity on the pace of the slowdown, the market should stabilise. The stimulus is going away and raised taxes will have an impact. This lower growth is largely discounted into the market.”

Favored companies and why?

“Honeywell. It is extremely well positioned around the energy conservation theme. It is geared to energy saving such as energy conservation in buildings. It is a leader in the turbo charger market and turbo chargers are a great way to save fuel. So there are huge growth opportunities particularly in the US and Asia. Also its avionics and aerospace businesses are helping airlines to fly more efficiently and to increase utilisation of fleets. It is misunderstood as it has a pension fund funding issue this year which will slow down its earnings recovery. But in 2011 it will be the opposite – growth will accelerate.

A smaller cap name is Dreamworks Animation ($2.6 billion). It is a company which has managed to increase its output of movies. It now does three per year and used to do one. All its films are profitable. It has a great relationship with Viacom (Paramount). It is very good at extracting more value from films via TV rights in the US and internationally. It is very good at merchandising. It is a pioneer in 3-D technology and gets 20 – 30% more for each ticket sold. It has a sweet spot in the industry – as only in animation is there no cost inflation with actors. It has predictable franchises – e.g. Madasgascar which means the following two or three releases are likely to be successes as well. It is a reasonably priced stock at only 14 times next year’s earnings. It has long term earnings growth of 10 – 12% so it fits our criteria.”

Favored sectors/themes?

“The current industrials, healthcare and technology slant are a result of stock picking, not sector allocation. For example, we believe that many large companies need to invest in technology and this theme ‘has legs’. This is likely to be more than a six month phenomenon. There are significant technology changes such as cloud computing which is driving investment so there is likely to be two to three years of IT investment growth.”

Least favored companies and why?

“Banks in general because of the lack of visibility. The driver of earnings is what’s on their books and there’s no visibility on the quality of those assets so it is difficult to make an investment decision. We can make a bet on corporate spreads and short and long term rates but that’s betting on macro trends.”

Can you invest in Canadian companies?

“We can but don’t for practical purposes – partly because many of the larger cap names are banks or commodity companies and partly because we are a small team and would have to spend a long time on local regulations for example.”

Do you vote your proxy?


How important are SRI considerations?

“We don’t have any formal SRI guidelines. It’s up to the judgement of each fund manager but there are sectors and companies we steer clear of. Comgest has signed the UN Principles for Responsible Investment and manages some Equity mandates with a SRI overlay in partnership with a Swiss institution.”

How do you measure your performance?

“The S&P 500 net total return. The fund was managed by a third party until 2008. Since January 2009, we have outperformed by 13%. We want a better performance by outperforming in the downturns and performing on a par in a decent market. The fund has been resilient in downturns since early 2009.”

How important is it to meet management?

“Very important as it gives us a very good idea of how management view their markets and also it’s the best way to assess their view on capital allocation. We like to have a clear view on ROIC versus cost of capital. We are very interested in ‘what if’ scenarios. For example, if the market slows down, would you make acquisitions or return cash to shareholders? These issues and the long term picture are rarely mentioned in conference calls.”

Who do you prefer to meet?

“CEO and/or CFO.”

Any US names who stand out in terms of IR?

“Walgreen regularly visit Europe. Beacon Roofing (BECN). Applied Materials does a good job. Dell is pretty good at covering European investors.”

Tips for US companies visiting Paris

“They usually come not knowing what to expect. Europeans and particularly Comgest, take a longer term view than their US counterparts. We like to hear about the market structure and the competitive environment which is key to understanding the company. Our US counterparts are more focused on the next quarter.”

Will the euro survive?

“I’m not a European specialist or economist but there’s no chance that Greece won’t have to restructure its debt. The fiscal position of Europe can be brought under control via strict budgetary measures like the UK announced last week (w/c 21 June).”

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