Fund Manager Q&A

The Asian middle class is set to explode in the coming decade, and Australia is set to benefit in more ways than one. Australian investors, in particular, have a unique advantage – proximity to the Asian consumer. As Qiao Ma, Portfolio Manager at Cooper Investors, recently explained:

“You get to observe the trends of the Asian consumer and Asian students just by looking around you. You get to see their behaviour, you get to see what they're doing, you get to see what they're watching, what they're buying. That's really useful insight for an investor to have that tangible feeling.”

In this edited transcript from our recent interview, Qiao explains why LVMH (Louis Vuitton Moet Hennessy) forms a part of their Asian portfolio, discusses three reasons for Australians to invest in Asia, and shares a story from her time working at Lehman Brothers in 2008.

Question: When did you first realise that you wanted to be an investor for a living?

Qiao: The first time I got interested in stocks was when I was six years old. It really started as the A-Share market opened in China and my dad became one of the first wave of amateur traders and then I became his chartist at night. That's when I found the intense interest in not only the charts and the movement of all these stock prices, but the companies themselves. I started reading up on companies. I started connecting those charts to the actual businesses. And when I got to see those businesses on the street, I got excited because I knew how their stock was trading. But I never knew I could do this for a living.

I thought I would just become an amateur trader like my dad. Until I was in high school, and started reading the first series of stock books, Market Wizards. I read it in Chinese and later in English. I'm a big fan. And then I started reading the whole philosophy of value investing. I realised, "wow, I could do this for a living and how much fun would that be?" So that's really where the idea took root and I never really wanted to do anything else other than this.

Question: I understand that you worked at Lehman Brothers in the investment banking sector in 2008. Pretty interesting time to be working at a company like that. What was that experience like? And have you got any interesting stories from around that time?

Qiao: Absolutely. Not only was I at investment banking, I was working at the financial institutions group at Lehman Brothers. This was the investment banking group that went out and analysed the financial strength and liquidity of all the other financial institutions, since they were our clients. But the entire group never really bothered to turn our sight inwards and look at our own employer. I think that was just a classic hubris to humility cycle that a particular industry, a particular company went through and they happened to be part of the whole cycle. So that was a very eye-opening experience.

I still remember the absolute confidence that all the Lehman employees had in our CFO or our CEO and founder, Mr. Dick Fuld. He was a legend on Wall Street and Lehman Brothers was the best performing Wall Street stock. Lehman employees all piled in their annual bonuses and salary back to Lehman shares because there was no reason not to. Absolute confidence, which really at that point translated into hubris. That was a pretty humbling moment in September when everything went down.

Question: Could you give us an example of a time that you've dived deep into analysing a company and something interesting that you found out as a result of that deep analysis?

Qiao: I'm a big believer in not just doing a deep analysis to one company, but instead keeping your eyes open, looking at the entire industry, the whole sector and see where it goes. One example is the pharmaceutical industry in China. We've always had an interesting experience with the whole industry and lots of these companies have been on our watch list for years. But there was a massive regulation change in the industry around the middle of year last year. We ended up widening the net and over six months we spoke to about 100 companies. Many of these were founders that we went all the way to China and visited them in their office and asked them, "this is a huge change in the industry, what do you think?"

I would say the insights that we got from speaking to so many, what we call the coalface management is completely valuable. We ended up adjusting our portfolio one way or the other according to the findings. Whenever we see a big wave of changes, this is really the level of research we love to do. We are a big believer that we are not going to be able to predict where the industry is going, but the best management in the industry that's leading the operations probably will. Those are the people that we do everything we can to speak to.

Question: Is there a sector, or a geography, or a cluster of stocks that you're really excited about at the moment?

Qiao: Let's just start with consumer, because I think that's really an underpinning trend that goes underneath all industry sectors.  When you look at wealthy consumers in Asia, what you are seeing is, they've become more well-read, they travel internationally and they go pick international brands. A lot of the multinational companies really benefit from this rise in the middle-class consumer in China without really having to do much work. And consumers seek them out.

What we've seen in the past five years is the very rapid rise of local companies that no longer are happy to stay on the lower end of the product spectrum. They say, "actually I can make really high end, I can make really premium quality products and I can sell them at a more affordable price than my international peers. Plus, I have built out three different tiers of retail distribution, that work that is almost impossible for an international company to build". And they cover 100,000 points of interest across the country. You start seeing the local companies that are selling a high quality product and use the local distribution advantage giving international brands a real run for their money.

One example we like is Anta, a sportswear brand. It used to be able to only sell shoes that retail for $20 and all the high-end shoe market went to Nike and Adidas. What we're seeing now is that domestic brands are really coming up with shoes, probably at the equivalent quality at a much better price, and then pumping through 6,000 stores in the country and really capturing the consumer mind share again.

Question: What is it about founder led and owner operated businesses that you like so much?

Qiao: It's about the human story, that's what we love. At Cooper Investors we have an investment philosophy, key tenants of which the components are: value, latency, operating trends and industries, strategic positioning, and focused management. For the Asian companies we look at, focused management comes front and centre. If we do not have confidence in this focused management, their expertise, their passion, we do not touch the company. The atmosphere and the culture we're looking for is when we go in and sit across the table from the founders, they just start talking about the story of how they started the business, how they run it. I love to think of them as eat, sleep, drink, thinking about their product, thinking about how to connect with the consumers on a very human level. That’s the kind of passion and drive that we love to see.

When you look at the adaptability of these companies, the competitive landscape changed so much in China. You really need a very strong founder that spots these trends from a mile away, that adapts the organisations very quickly and then captures the next wave of consumers. If you're waiting for bureaucracy to sit around the board room and then for a 12-person board to make the decision and eventually drive down the organisational change, that opportunity probably no longer exists. It's probably at the earlier point of development where a strong founder really makes the big difference.

Question: Could you share an example from your portfolio of a founder led business that meets the criteria that you've just mentioned?

Qiao: Actually, 50% of my portfolio is founder led. To be honest with you, I wish it was 90%. Those are the culture and management teams that we love to back. One of the companies is the top pharmaceutical company in China (Hengrui). When this wave of regulation happened, the low end, common generic drugs had to cut prices by 90%. I went to see him and I said, "How are you going to turn your company around?" And he said, "I've done that over the past four years." He basically said, "I travelled to India, I travelled to Korea, I travelled to the US and I realised that generic drug prices in China were unsustainably high." So before the regulator even came down and asked me to cut my drug prices, I have pivoted the entire organisation’s resources into R&D to develop domestic drugs.

He stayed completely calm and said, "This is my cash cow, generics portfolio. If those prices get cut, and that cash goes down a little bit, that's totally fine because my innovative drugs are five years ahead of everybody else's.” You really need a founder to travel to collect these insights and then make the organisational pivot.

Question: LVMH is not usually thought of as being an Asian stock. Could you explain to us how LVMH fits into your portfolio?

Qiao: Anyone who's recently been to an LVMH shop will probably understand intuitively how that fits into an Asian portfolio. There was one store just across the street, and if you go in you will see probably 80% of the clientele there are Chinese. Flip back to LVMH, the entire group, about 40% of sales come from the Asian region. Because the Asian region is growing faster than the global business, roughly half of the incremental growth is now being driven by Asia. We actually think understanding the ground consumer behaviour, understanding how LVMH connects with the Asian consumers. By the way, this is not just a brand that a consumer just seeks out, but they do a lot of digital marketing. They really run the company based on data and they really figure out a new way of connecting with millennials, Chinese consumers, and that's really been the gross driver. That's how it fits into the Asian portfolio.

Also, we do have a global team, so they travel to France and meet with management teams. To us it's a little bit of both of best worlds. You get a world-class, great owner operated company, great culture, great track record, squeaky clean corporate governance, and then you get a very vibrant Asian business. That's really the growth driver.

Question: At Livewire Live, Hamish Douglass made the comment that he didn't think there would be a luxury brand coming out of China in the foreseeable future. I'd be curious to get your view on that. Do you think that luxury brands are likely to be imported from Europe like he does, or do you think that China is capable of producing its own endemic luxury brands?

Qiao: I think if 1.2 billion people put their minds together, they can do just about anything. Of course, we haven't seen that. A big part of a luxury brand’s value proposition is the legacy. It’s the history and the heritage. To that extent, yes, we haven't really seen a legacy Chinese luxury brand yet. But I'm sure you've heard of Moutai, which is the domestic luxury liquor brand. Even in infant formula, we have seen a few of these very new domestic companies really going after the high end. They are procuring milk straight from farms in the Netherlands, farms in Europe, and some of the farms here. We haven't seen one yet, but never underestimate the creativity and ability of domestic entrepreneurs to innovate. That's one of the reasons why we love investing in China.

Question: If you had three minutes to make a pitch to an Australian investor as to why they should invest in Asian equities, what would you tell them?

Qiao: I would say number one, to diversify some of the portfolio holdings away from the domestic equities market and into more international, it's just good and prudent portfolio management.

Two, I would say that Australian investors have this massive advantage; you get to observe the trends of Asian consumers and Asian students just by looking around you. You get to see their behaviour, you get to see what they're doing, you get to see what they're watching, what they're buying. That's really useful insight for an investor to have that tangible feeling.

Thirdly, I would say don't settle for the opaque corporate structure. Don't settle for the classic cyclical businesses. Think about the brightest Chinese students at university of Melbourne that you know. Think of backing that guy when he goes back to China and then put 10 years of working experience under his belt and he gets to really combine his local knowledge of China with the best in class Western education in ethics, in management skill, in communications. That guy, he symbolises a lot of the cultural attributes of the companies we're backing now. We're backing this new wave of Chinese managers. They're educated overseas then they go back to China and now doing lots of interesting things.

Question: What's the best book you've read this year and what was the best lesson you got from it?

Qiao: I've read a couple of really good books this year. The two books are not necessarily the newest books, but I just read them this year.

One is ‘Little Black Stretchy Pants’, by Chip Wilson, he is the founder of Lululemon. And then ‘Pour Your Heart Into It’ by the founder of Starbucks.

What I really took out of this is that companies always talk about ESG, talk about caring about employees and not just about shareholders. But when you read how these companies, what I call new era companies are founded, you understand the brand is built on the spirit of employees. Treating your employees right and then caring about ESG is not a slogan you throw out at a shareholder meeting. It's truly something that symbolises the spirit of the company. That's how you connect with the new age consumers. That actually speaks very much to my heart.

Nowadays when we back a consumer company, we actually look for the underlying heart of the business. That's not just about making money.

Another wonderful book that I will recommend to anyone who is interested in investing in Asia read is the personal memoir of Robert Kwok. That book talks about how he grew up and how he built this massive empire in Southeast Asia. It was a fun read.

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Comments

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Tomas Shteyman

Thanks Patrick, interesting wire. However, I disagree with Qiao's suggestion that Australian investors should invest more in international stocks to gain more exposure to Asia. The Australian stock market is one of the most well-regulated in the world, and given the large number of Australian stocks offering exposure to growth in Asia, Qiao's suggestion is a hard sell from where I stand.