2 quality companies we're adding to our Asia portfolio
The lingering impact of COVID-19 varies by different regions in Asia. In China, domestic life has largely returned to normal. Restaurants, malls and even movie theatres are full again. In the most recent Qingming holidays (early April), flights and attractions were packed. On top of this, businesses and consumers have learned to live with regional breakouts of COVID-19. For example, lockdowns in the Northern provinces during January and February created few disruptions, as people swiftly moved back to working from home and shopping online.
A recent development in China is the rise of patriotism. This sentiment was manifested in March 2021, when the controversy around H&M’s supply chain policy led to a nationwide boycott of the brand. Other successful international brands such as Nike and Fast Retailing were also dragged into similar, albeit much lighter in scale, controversy on social media. Domestic apparel companies such as our portfolio company Li Ning, on the other hand, saw sudden surges in consumer interest.
We have been investing in best-in-class domestic brands in both China and elsewhere in Asia for over a decade. Examples of portfolio holdings include China Mengniu (dairy), Li Ning (sportswear), Feihe (infant formula), Blue Moon (laundry detergent), and Huazhu (hotels). Our investment thesis in these companies is long term in nature and does not count any short-term swings in consumer sentiment. In the long run, consumers choose products and services based on quality, design aesthetics, and value for money. We are particularly excited about the substantial management quality upgrades in these winning domestic companies.
Investing in China's largest infant formula company
Our fund initiated a position in Feihe (6186.HK), the largest Chinese infant formula company.
Feihe was established in 2001 when its passionate founder, Mr Leng You Bin, acquired and privatised the assets of its state-owned predecessor. In less than 20 years, Feihe emerged from a largely unknown brand to the undisputed IMF leader, commanding a market share of 17%. Impressively, this was achieved in a market that had been dominated by international companies for decades. Feihe’s flagship premium product, Astrobaby, was launched in 2010 and dethroned the reigning champions such as Iluma by Wyeth within a few years.
Unlike most of its international and domestic peers that import milk powder from overseas, Feihe sources and manufactures its products in the northern province of Heilongjiang. Strict selection of upstream farms and a highly automated ‘wet blend’ spray dry process ensure the quality and freshness of its milk powder.
Feihe’s marketing and distribution system is highly innovative, well managed and digitally savvy. It pioneered running grass-root offline promotional events in mom-and-baby stores. These events focus on new moms’ skill training and community building (e.g. mom and baby classes) and are well received in all communities. In 2020, its sales team hosted a staggering 700,000 events all over the country (that’s nearly two thousand events per day). All of these events are tracked and analysed in Feihe’s digital system, recording conversion % from participants to buyers, % of repeat purchases, % of new purchases, etc. Its sales team use this data to continuously improve and refine their activities.
Feihe’s culture is focused, energetic, and competitive. We found its management team down to earth, knows every miniature detail of operations by heart, and has a very long term strategic outlook. Feihe’s famous sales team has a flat structure and empowers the local teams to operate its own marketing budgets and events, with clear and challenging key performance metric goals. We did not observe a whiff of bureaucracy that is often expected from domestic or international conglomerates.
At ~20x P/FCF, we observe a lot of value latencies in Feihe. We believe it can deliver free cash flow growth of 15-20% over the next few years, driven by continued market share gains in infant formula and new products such as children’s milk formula and adult nutrition.
The Dutch semiconductor player with 80% market share
We initiated a position in Dutch semiconductor production equipment company ASML (NASDAQ: ASML). ASML specialises in tools for photolithography, which is a key process step of semiconductor manufacturing. ASML is the clear leader with over 80% market share in photolithography tools and is also the sole supplier of the next generation of photolithography scanners utilising an Extreme Ultraviolet ('EUV') light source - an area in which competitors Nikon and Canon have decided not to enter.
ASML's EUV technology is critical in enabling the manufacture of smaller features on chips, leading to increased chip density and ultimately better computing performance. For example, Intel recently announced that its solution for its delayed and problematic next-generation 7nm manufacturing process was to more than double the use of EUV in its manufacturing process.
Demand for ASML’s products remains highly robust as ASML’s key customers such as TSMC and Samsung are enjoying strong demand. We remain confident that the long-term growth in computing driven by the development of 5G, artificial intelligence and the Internet of Things will continue driving demand for the ecosystem. China’s increased investments in domestic chip manufacturing in the next decade will provide an additional source of value latency for ASML.
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Qiao Ma joined CI in July 2017. Prior to this, she spent seven years investing in the technology and consumers sectors in Asia and the US. Most recently she was the Head of Asia for Jericho Capital, a multi-billion dollar global investment fund