At Bestinfond (Trades, Portfolio) we aim to buy great businesses at great prices. Even decent businesses at extraordinary prices. Unfortunately, this is only possible when things are not going well. It happens, for example, in times of crisis when investors are overly concerned about the economy. Also when they have doubts about the long-term profitability of a business or distrust the reliability of a company's management team. In such circumstances, the market projects current events onto the future, permanently. Sometimes this makes sense, but most times the opposite is true. When these doubts are not well founded, pessimism drives share prices below their real value and allows us to buy them cheaply. We believe that our investment in Philips (PHG, Financial)(XAMS:PHIA, Financial) fits perfectly into the pattern we have just described.
The Dutch giant, after more than a decade of business restructuring, has become a major player in the design, manufacture and marketing of high value-added healthcare equipment (MRI machines, cardiac monitors, catheters for non-invasive surgery, etc.). This is an oligopolistic sector, with only three global competitors, where the necessary technological capabilities and the equipment base already in place are a significant barrier to entry visà -vis the competition. This sector also features the demographics and cost savings that diagnostic equipment brings to hospitals as evident tailwinds.
Just over two years ago (June 2021), Philips announced a recall of thousands of sleep apnoea respirators (a division that accounts for only 13% of the group's revenues) due to a manufacturing defect that could cause health risks. The foam used to reduce the noise of the device could deteriorate in very hot conditions or through the use of ozone or other cleaning methods not recommended by Philips itself. If this occurred, certain particles could be inhaled by the person using the device, potentially causing injuries ranging from simple headaches to cancerous diseases.
The announcement, one of those events that the market hates because of the uncertainty generated by the possible consequences (recall and replacement costs for new equipment, potential compensation for those affected, etc.), coincided with a difficult period in the sector. The pandemic had completely disrupted the functioning of hospitals (diagnostic tests, surgeries, etc.), the production of equipment was affected by the shortage of materials (chips) and well-known supply problems (freight rates) made it very difficult to market them. In short, the business's profitability was not exactly optimal.
All these events had, just a year ago, caused Philips shares to fall by a total of 75% from the maximum levels reached in April 2021. The obvious uncertainties facing the company had erased from investors' minds the improvement that the end of the pandemic would bring to the profitability of its core business.
The starting point seemed very interesting. Fundamentals were improving and the multiple at which the shares were trading was very attractive. The impact on the balance sheet of potential compensation payments remained to be assessed, as did its competitive position following the departure of the former CEO and the obvious distraction caused by the respirator issue. We had to determine whether, at the prices at which we could become Philips shareholders, the worst-case scenario was already discounted.
Accordingly, we got down to the job and after a few months of hard work we came to the conclusion that, with a bit of perspective and assuming there would be a few bumps along the way, we could buy a company which was a leader in a sector with obvious long-term advantages. Most importantly, we could do so at a valuation that would potentially allow us to double our money within three to five years. The rest is history. Earlier this year, Bestinfond (Trades, Portfolio) unitholders became Philips shareholders.
This document has been drawn up by Bestinver Gestión, S.A. SGIIC for informative purposes only and may not be considered under any circumstances as an offer to invest in its investment funds. The information has been compiled by Bestinver Gestión, S.A. SGIIC from sources deemed to be reliable. However, although reasonable care has been taken to ensure that the information is correct, Bestinver Gestión, S.A. SGIIC does not warrant that it is accurate, complete or up to date. All opinions and estimates included in this document constitute the judgement of Bestinver Gestión, S.A. SGIIC at the date to which they refer and are subject to change without notice. All the opinions contained herein have been expressed on a general basis, without regard to specific investment objectives, the financial situation or individual needs. In no event shall Bestinver Gestión, S.A. SGIIC, its directors, employees and authorised personnel be liable for any type of damage that might arise, directly or indirectly, from the use of the information contained in this document. Under no circumstances is the announcement of past returns a promise or guarantee of future returns. All Bestinver returns are expressed in euro, net of fees and expenses. Potential: The fund's revaluation potential at a given time in the opinion of Bestinver's managers, calculated as the difference between the current and target PER. It is not the gain that the fund will achieve in a given period because, even if the fund achieves a specific performance, the managers' objective is to increase or at least maintain that potential. PER: Free cash-flow price at which the fund is listed, based on the PER estimated by Bestinver's managers for each company (including adjustments such as: debt, time of cycle, share price, foreign currencies, etc.). Target Price: Net Asset Value that could be reached by the fund's units based on the intrinsic value of all the securities making up the portfolio estimated by Bestinver's managers.
