What opportunities lie beyond our shores?

Shane Tremeer

Why are so many South African investors increasing their offshore allocations and should you be following suit? The rand denominated Denker Sanlam Collective Investments (SCI) Global Equity Feeder Fund provides easy access to our disciplined and proven investment approach, and great companies around the world. It has also delivered excellent performance for rand investors. In this article, Shane Tremeer, CEO of Denker Capital, tells us about the fund, and the investment team share their latest investment ideas.

As a South African investor, there are several benefits of adding international investments to your portfolio. 

These include:

  • Investment diversification: By investing in different countries, sectors and geographies, you reduce your risk by spreading your assets across different economies and markets.
  • Global growth exposure: Investing internationally gives you the opportunity to participate in the growth of other economies. This can be a way to boost your returns and not be solely dependent on the growth of the South African economy.
  • Hedging against rand depreciation: The rand is a relatively volatile currency and by investing internationally you’re able to hedge against the risk of rand depreciation.
  • Mitigation of South Africa’s political and economic risks:  There are always risks associated with investing in any one country. By investing internationally, you can mitigate some of the political and economic risks associated with investing only in South Africa.

But with so many global fund choices, where does one begin?

For convenient and low-admin access to international opportunities, it makes sense to invest in a rand-denominated fund. 

The Denker SCI Global Equity Feeder Fund invests directly into the US$-denominated Denker Global Equity Fund, so despite investing in rands in South Africa, you will benefit from underlying exposure to hard currencies and international opportunities. There are a number of benefits to investing in rand-denominated feeder funds. These include:

  • Convenience: You can invest in rand-denominated feeder funds without having to convert your rands into foreign currency.
  • Ease of access: Rand-denominated feeder funds are available through most South African investment platforms.
  • Trusts and companies: Typically, only qualifying individuals are able to apply for foreign allowance clearance in order to invest directly in foreign domiciled funds or assets. Most investors, including trusts and companies, can only invest in rand-denominated vehicles, making global feeder funds the investment of choice.

Despite a challenging global environment, the Denker SCI Global Equity Feeder Fund has been a top-quartile performer in its category over one and two years and outperformed its peers over five years.

As the following stock-specific examples will demonstrate, the performance comes down to the quality and experience of our team and the way they apply our disciplined investment process. And obviously, having over two decades of experience in investing in global equities is a significant advantage.

Figure 1: Annualised performance over the last 10 years, as at 30 June 2023

Source of performance data: Morningstar, 30 June 2023. Inception date of A1 class: 2 July 2007. The A1 class has an annual management fee of 1.00% (excl. VAT). Returns are net of fees. Returns for periods longer than one year are annualised. The highest annual calendar year return since inception was 30.7% and the lowest was –10.4%.
*SCI stands for Sanlam Collective Investments

In the section below, our investment team showcase some of the stocks in which we currently see opportunities.

Portfolio manager Jacobus Oosthuizen leads the team, which together have almost 60 years of investment experience.  The stock examples explain the investment case to show how we think, but it is important to note that investors in the fund benefit from diversified exposure to a range of sectors and geographies.

1. Oracle

Oracle is a leader in database software.

Oracle Corporation is a software and cloud infrastructure company which was founded in 1977. It is best known for its market leading database software and other software solutions such as Fusion, NetSuite, Java and Cerner.

We invested when the market underappreciated the business.

Oracle caught our attention in 2014 when it appeared on our valuation screens after a prolonged period of derating. Over the three years leading up to that, Oracle’s price-earnings (PE) multiple dropped from 15x to 11x – indicating that the market was becoming increasingly pessimistic about the future of the company. At that stage it reminded us of an out-of-favour Microsoft in 2010/2011. One of the market’s main concerns at the time was that Oracle was slow to enter the cloud-computing arena, as a new generation of competitors were offering software-as-a-service (SaaS) products. A client no longer needed to buy a five year on-premise license, but could simply sign a pay-as-you-use agreement with a SaaS company who would host and maintain the required software in the cloud (two of the best-known examples of SaaS are Office 365 and Gmail).

In 2014/2015 the market was sceptical of Oracle’s ability to successfully execute a strategic plan to transition a significant part of its business to the cloud. We believed that, at the time, the market underappreciated the underlying strength of the business model, the quality of the management team, and the potential for the company to adapt in the new cloud-world.

Oracle (+44% YTD), has been one of the top contributors to fund performance this year.  

It is the third largest position in the fund, at 3.7%.

Looking ahead:

Oracle’s core database business remains a wonderful high margin, cash generative and high return on capital business.

Why? Once a customer (usually a large enterprise) adopts a database solution, it becomes very difficult to switch to an alternative provider. Replacing an Oracle database is a costly and risky endeavour as critical business data is involved, and all the applications linked to the existing database have to be re-written and integrated all over again when a database is replaced. That is why, in most cases, when companies implement application software such as SAP, they prefer to build it on top of their existing Oracle database.

Key to our investment case is that Oracle has to successfully transition, over time, its legacy on-premise software business to the cloud.

In August 2016 we saw the first significant milestone, when the increase in total cloud revenue outweighed the decline in on-premise license revenue for the first time. Since then, the company has continued to steadily build its cloud business.

In the last financial year Oracle reported cloud services revenues at US$15.8bn (31.6% of total revenue).

This part of the business is growing at almost 30% per annum. The market is now, at last, starting to give Oracle some credit for their cloud strategy, which is evident in the strong share price performance of +57% over the last 12 months. We believe that the outlook for Oracle’s business remains positive and that the current market price still doesn’t fully reflect the intrinsic value of the business once it completes its journey to the cloud. The main risks that we have to monitor are:

  • the increased use of debt on the balance sheet (we believe the recent debt funding was wisely allocated to share buybacks and growth initiatives but would like to see the gearing level stabilising); and
  • the successful integration of the recent Cerner acquisition into the business.

2. Ferguson

Ferguson plc is the leading North American distributor of plumbing and HVAC (heating, ventilation, and air conditioning) products.

The business has undergone a full transformation since the Global Financial Crisis. This included divesting all non-US operations that were subscale and lower return businesses, a name change (previously Wolseley) and finally changing its primary listing to the US¹. Today, Ferguson is a better-quality business with higher margins and less cyclicality – since the company is less focused on the new residential construction end market.  In our view, this is underappreciated by the market and the good underlying performance is masked by all the divestments.

Ferguson occupies a critical role in the value chain between a very fragmented supplier and customer base. The company holds the top or second position in most of the vertical markets it operates in. It is still a relatively small company at US$30bn market capitalisation.

We first established a small position Ferguson in 2021, when excessive fear of the US recession presented us with a great entry point to this high return business.

We have been adding to the position opportunistically since.  It is currently the fifth largest holding in the fund, at 3.0%.

Over the past year the stock is up 44% and has been a good contributor to fund performance. 

Looking ahead:

We think the business has sustainable advantages derived from its scale, branch density and distribution footprint.

This translates into superior service, in the form of convenience, range and availability of products, as well as product knowledge and project expertise. The scale advantages lead to better purchasing and fulfilment. Ultimately, this allows the company to offer the best pricing and reinvest back into the business with more distribution centres and adding branches, thereby increasing network density. This will likely continue to result in share gains.

The company has around 55% exposure to the US residential market, with the balance from the US non-residential market. The former benefits from several tailwinds including an ageing housing stock, energy-efficient investments into homes and a structural undersupply of housing; the latter is poised to benefit from fast ageing infrastructure and big and complex projects in the US such as the onshoring of semiconductor manufacturing and upgrades to national water pipes and water treatment plants.

The company has low capital expenditure requirements and, therefore, generates strong cash flow, and has an immaculate balance sheet.

The management team has proven good at allocating capital and excess capital is used for value-creating bolt-on acquisitions and returning capital to shareholders via buybacks and dividends. The business quality has improved, by shrinking and focusing on its crown jewel – US operations – and its 60% focus on the repair and remodel market will also make it more resilient through any economic environment. We expect the business to compound earnings at roughly 10% per annum over the next couple of years and earn a return on invested capital (ROIC) well above its cost of capital, which makes its current 17x PE ratio attractive relative to peers.

3. HCA Healthcare

HCA Healthcare is one of the largest US healthcare facility operators.

The group’s expertise and scale enable it to deliver superior operating efficiencies, higher quality care and attract best-in-class healthcare professionals. In addition to owning and operating 182 hospitals, HCA manages approximately 2,400 outpatient facilities, allowing the group to optimise resource allocation and deliver patient care in the most effective settings.

HCA is the fund’s fourth largest holding at 3.3% and has been a strong performer over the past year (+45%).

HCA boasts leading market shares across most of its markets. This includes Texas and Florida, which combined contribute approximately 50% of revenue and benefit from favourable demographic tailwinds. HCA’s scale and relentless cost focus enables it to operate more efficiently than peers, while its regional market leadership improves its bargaining power with insurers. The combination of the above should enable the group to continue to deliver strong cash flows and returns well ahead of its cost of capital over time. HCA also provides valuable portfolio diversification in case of a potential economic slowdown given relatively stable demand and a track record of strong cost control.

Looking ahead:

HCA has been very successful in leveraging its scale to improve efficiencies and has a very low cost structure relative to its peers.

US healthcare operators are reliant on government programmes like Medicare and Medicaid for funding. Reimbursements have come under scrutiny as the US government attempts to reign in expenditure. We estimate that HCA’s cost structure is ~10% below that of peers. This enables the group to continue to generate adequate returns while many of its peers struggle to make ends meet.

Its leading position and great facilities attract top medical professionals, which provide superior care.

HCA’s positioning as the leading healthcare operator in most of its markets affords it the ability to invest in state-of-the art facilities that attract high-quality surgeons and physicians, and thereby deliver superior patient care. The group’s reputation also supports its bargaining power with insurers, who are compelled to include HCA’s hospitals in their offerings due to consumer demand.

HCA has an experienced management team with a solid capital allocation track record.

Most key executives have been with the group for several decades, and the founding family retains a significant stake in the company. The group has been able to reinvest cash flows to increase its exposure to higher margin services and outpatient facilities that complement its core hospital network. This has supported increasing returns on capital over the past decade. Staff shortages and rising labour costs (one of the group’s largest expenses) have been a key concern in the recent past. However, the pressure continues to abate as conditions post the Covid-19 pandemic normalise. Going forward, policy changes that could hamper government healthcare reimbursements remain a key risk.

HCA has a robust balance sheet and benefits from strong cash generation.

We expect HCA to be able to deliver low double-digit earnings growth over the medium term, underpinned by mid-single digit revenue growth, stable profit margins and continued share buybacks. On our estimates, HCA is currently trading on a rolled forward PE of ~15x. Although the discount to intrinsic value has narrowed, HCA’s relatively more defensive positioning provides valuable portfolio diversification.

4. Legal & General

For over 186 years, Legal & General (LGEN) has been a leading financial services group in the UK.

They are a major global investor, with over GBP1.2tr in assets under management and world class asset origination capabilities. Together, these capabilities allow LGEN to offer retirement and protection solutions to clients across international pension risk transfer, UK and US life insurance, and UK workplace pensions and retirement income.

LGEN benefits from scale across four key businesses.

Structural and capital synergies between LGEN’s Investment Management, Retail, Institutional Retirement and Capital Investment businesses have underpinned a sustainable return over the last 10 years. LGEN has been a core holding in the fund for several years, currently at 2.1% of the portfolio and the 10th largest holding.

LGEN has a long-term track record of consistent growth at attractive returns.

Over the decade to 2022, return on equity has averaged 20%, earnings per share compounded at 11%, the dividend compounded at 10% and the average dividend yield (after tax) was 5.5%. The group has a fortress capital position, with the latest solvency ratio estimated at 255% and comfortably above the management team’s targeted range.

Looking ahead:

LGEN is a major beneficiary of the structural trend of pension de-risking and the shift from defined-benefit to defined-contribution plans.

The business has had remarkable success in this market in the UK and is replicating their success in the US, Canada and the Netherlands. To give a sense of the opportunity, UK pension liabilities are estimated at GBP1.4tr with only ~14% having been transferred to insurance companies to date. In the US, pension assets are estimated at US$3tr and only 9% are estimated to have been transferred to insurance companies. We expect these percentages to tick up meaningfully over the coming years and expect LGEN to be a leading player, given its track record of success, scale, expertise and appetite to write significant volumes subject to their key new business metrics.

The shares of LGEN have come under selling pressure in recent months given what we believe are misplaced concerns around:

  • the risk of UK recession on their large credit portfolio, which is diversified and well managed;
  • some reporting noise from the shift to a new accounting standard which does not change the underlying economics of the business at all; and
  • a new incoming CEO who will take over in January 2024 after the retirement of long-tenured current CEO Sir Nigel Wilson.

On the latter, we view the board as having selected the best candidate to continue to drive LGEN’s strategic ambitions forward and view the group as having an exceptionally deep bench of senior and middle management who are key to executing on the large opportunity ahead of them.

The shares offer tremendous value and at current prices offer a great buying opportunity.

Given the above concerns, the shares trade at just 1.1x book value, vs. a long-term average of 1.8x and a dividend yield of 8.2% (we believe the dividend will continue to grow mid-single digits in the coming years). The shares offer tremendous value, and we believe weakness during the current weak economic cycle provides a great buying opportunity for patient investors.

The real challenge for investors is knowing how to navigate the range of choices and select a fund that meets their needs.

With the wide range of funds available and a global universe of opportunities, choose a fund that’s managed by a credible and experienced team with a proven track record. Denker Capital has been managing global assets from South Africa for more than two decades. The Denker SCI Global Equity Feeder Fund is available via Sanlam Collective Investments, and the following LISP platforms: Glacier, Allan Gray, NinetyOne, Momentum, PSG, Stanlib and Old Mutual, as well as a tax-free savings option.

View the latest fund information by clicking on the links below:

Fund fact sheet

Fund overview

For more information, or to invest, please contact us at investorrelations@denkercapital.com

Shane Tremeer

1. The company changed its primary listing from the UK to the US in May 2022.  The company is yet to be included in any US indexes.  The fund first invested in Ferguson before the company was listed in the US.

Disclosures

The information included above belongs to Denker Capital (Pty) Ltd and Sanlam Collective Investments (RF) (Pty) Ltd. The information should only be evaluated for its intended purpose and may not be reproduced, distributed or published without our written consent. Although all reasonable steps have been taken to ensure the information in this brochure is accurate, Denker Capital and Sanlam Collective Investments do not accept any responsibility for any claim, damages, loss or expense – however it arises, out of or in connection with the information. No member of Sanlam gives any representation, warranty or undertaking, nor accepts any responsibility or liability as to the accuracy of any of this information. The information does not constitute financial advice as contemplated in terms of the Financial Advisory and Intermediary Services Act, No 37 of 2002 (FAIS). Use or rely on this information at your own risk. Consult your financial advisor before making an investment decision. Sanlam Collective Investments (RF) (Pty) Ltd is a registered and approved Manager in Collective Investment Schemes in Securities.

The Manager of the Denker SCI Global Equity Feeder Fund is Sanlam Collective Investments, a registered and approved Manager in Collective Investment Schemes in Securities. Collective investment schemes are generally medium- to long-term investments. Past performance is not necessarily a guide to future performance, and that the value of investments/units/unit trusts may go down as well as up. Changes in the exchange rates may have an adverse effect on the value, price or income of a product. A schedule of fees and charges and maximum commissions is available from the manager on request. Collective investments are traded at ruling prices and can engage in borrowing and scrip lending. Additional information on the proposed investment, including brochures, application forms and annual or quarterly reports, can be obtained from the Manager, free of charge. Forward pricing is used. The Manager does not provide any guarantee either with respect to the capital or the return of a portfolio. Performance is based on NAV-to-NAV calculations with income reinvestments done on the ex-div date. Performance is calculated for the portfolio and the individual investor performance may differ as a result of initial fees, actual investment date, date of reinvestment and dividend withholding tax. Lump sum investment performances are being quoted. The performance of the portfolio depends on the underlying assets and variable market factors.

Collective investments are calculated on a net asset value basis, which is the total market value of all assets in the portfolio including any income accruals and less any deductible expenses such as audit fees, brokerage and service fees. The manager has the right to close the portfolio to new investors in order to manage it more efficiently in accordance with its mandate. Funds that hold assets in foreign countries could be exposed to the following risks regarding potential constraints on liquidity and the repatriation of funds: macroeconomic, political, foreign exchange, tax, settlement and potential limitations on the availability of market information. The A1 class is the most expensive class of the fund. A feeder fund is a portfolio that invests in a single portfolio of a collective investment scheme, which levies its own charges, and which could result in a higher fee structure for the feeder fund. The Denker SCI Global Equity Feeder Fund is an approved collective investment scheme in terms of Collective Investment Schemes Control Act, No 45 of 2002 (CISCA).

Sanlam Collective Investments retains full legal responsibility for the co-branded portfolios. The portfolio management of the fund is outsourced to Denker Capital (FSP no: 47075), an authorised financial services provider in terms of the FAIS Act. Standard Bank of South Africa is the appointed trustee of the Sanlam Collective Investments scheme.

Source of performance figures: Morningstar. Returns are annualised and net of fees unless otherwise stated. An annualised return is the weighted average compound growth rate over the performance period measured.

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About the author

  • Shane Tremeer

    Shane is the CEO of Denker Capital. His investment career started in 1999 when he joined Sanlam Personal Portfolios. In 2005 he was appointed as Head of Distribution at Innofin, which was then part of the Sanlam Group, and in 2008 became CEO of Distribution at Sanlam Investments. In 2012 he joined Sanlam Private Wealth as Director of Branch Operations and was Managing Director of Sanlam Private Wealth (Africa) from 2016 to 2019. Shane joined Denker Capital in July 2019.