Global Equity: Results Update - Pool Corp, LVMH, L’Oreal, ASML

The tragedy in Ukraine, inflation and interest rates have dominated stock markets this year. Yet over time, company fundamentals are the overriding factor which drive share prices. So far, the most recent financial earnings have been encouraging.

Pool Corp is a relatively unknown name within the EPIC Global Equity Fund. The company is the world’s number one distributor of pool related outdoor living products and has more than 100,000+ professional contractor & retailer customers.

Pool meets our focus of companies which consistently grow their top line and can invest capital at high rates of return. Returns on invested capital is how we measure value creation as EPS Growth can be misleading especially in the short term.

Pool Corp’s strong top line growth and capital discipline led to strong returns on invested capital.

Source - Pool Investor Relations Website

The return on invested capital reached 43.9% in 2021.  Despite the clear growth in intrinsic value, the shares are down 25% year to date as investors fret on inflationary pressures which ironically serve as a tailwind as the company has been able to raise prices further than the input cost increases. According to data taken from Quest, the free cash flow yield is 3.9% despite the additional working capital expenditure requirements to fund growth and manage the supply chain issues. So, considering the quality of the business, high profitability & structural growth, the shares are trading at very attractive levels.

Pool Corp has proven to be a phenomenal compounder over time. The table below is taken from an investor presentation in late 2021.

The company reported record first quarter results which crushed market expectations. Net sales grew to $1.4 billion, up 33% from the same corresponding quarter a year ago. The strong growth was realised on top of an impressive 57% sales growth in the prior year period. The increase in sales reflects the continued strong demand for outdoor living products in addition to elevated price inflation of approximately 10% to 12%. Furthermore, sales also benefited approximately 5% from both a pull forward of customer early buys and an extra selling day in the first quarter of 2022 compared to the first quarter of 2021.

Gross profit increased 49% to a record $447.2 million with gross margins expanding 330 basis points (year on year) to 31.7%. Selling and administrative expenses (operating expenses) increased 23% to $211.5 million in the first quarter of 2022 compared to $172.1 million in the first quarter of 2021. Operating expenses have increased as the workforce has expanded and employees rewarded through performance-based compensation. As a percentage of net sales, operating expenses decreased to 15%, compared to 16.2% in the same period a year ago.

Operating income of $235.7 million grew 83% from Q1 2021 with a 450 bps increase in operating margin.

Following the great start to the year and management’s confidence in the industry dynamics, which supports the sustained momentum and long-term growth of the business, the annual earnings guidance increased to $18.34 - $19.09 per diluted share from previous range of £17.19 - $17.94.

Management’s disciplined execution and focus on return on investment have once again been stellar. the supply chain issues have been navigated by planning ahead and overstocking inventories.

The rising home values in the US support increased home improvement spending. Pools and outdoor living consistently rank among the top features desired by homeowners.  The average age of a pool in the US is 20 years old. This leads to high maintenance and repairs which account for 60 % of revenue with remodelling and upgrades accounting for another 20% of revenue. New pools account for just 20% of revenue so the business is not as cyclical as one might assume.

LVMH

LVMH kicked off 2022 on a strong note. Revenue grew 29%, 23% when adjusted for currency movements, despite the challenging market backdrop. All business units reported double digit organic revenue growth except for Wine and Spirits which is still being impacted by supply constraints.

All major geographical regions grew, the US market increased 26%, Japan increased 30%, Europe grew 45% whilst Asia grew 8% despite the impact of the new COVID restrictions.

Al business divisions contributed to growth.

There was remarkable performance from LVMH’s Fashion & Leather Goods business group, particularly from Louis Vuitton, Christian Dior, Fendi, Loro Piana, Celine and Loewe. Over the past ten years, due to a healthy marketing budget, brand awareness, the Louis Vuitton grew 3% annually faster than luxury leather goods.

LVMH’s exposure to Russia is estimated to be around 1.5% of overall revenue. Management also provided comfort that although Russia is a major supplier of the world’s rough diamonds, the group has been able to find other suppliers.

In response to the high inflationary environment, LVMH Group CEO Jean-Jacque Guiony said that the company has been making its goods more expensive “in a fairly meaningful way” and expects to implement further price hikes in the coming months too. Guiony also noted that the price hikes have not affected demand levels from its affluent clients in any significant way and whilst it is impossible to measure scientifically there is no evidence of any meaningful price elasticity.

Management confirmed that April was pretty much in the same vein as the first quarter figures.

As we have previously argued, high margin businesses with pricing power are ideally positioned to withstand, and in many cases profit, from inflationary pressures.

L’Oréal

L’Oréal reported very strong 13.5% like for like currency neutral first quarter top line growth which once again materially exceeded the 8% estimated growth in the global beauty market and market expectations. This level of growth is even more impressive when considering the lockdowns in China, supply chain disruptions and product shortages. Reassuringly management reported that these bottlenecks should improve as cargo is flowing through the terminals at faster rates.

With consumer purchasing behaviour unaffected by inflation strength was evident across the board across all zones and divisions both on volumes and values. Whilst there was a clear revival in offline sales e-commerce continued to grow and now represent 25.8% of sales.

L’Oréal Luxe, L’Oréal’s luxury higher margin luxury division outpaced company growth and achieved 17.5% like for like growth. Latin America grew 22.2%(LFL) whilst Europe rebounded strongly and posted 16.4% growth. The 110 year-old behemoth significantly outperformed the market and grew 9.4% in North Asia despite Hong Kong’s significant disruption due to a new wave of infections in February as well as lockdowns and travel restrictions in several Chinese cities in March.

In response to the Russia-Ukraine conflict, L’Oréal closed all its stores and has ceased selling luxury products in Russia, although it continues to sell essential items in its mass beauty and dermo-cosmetics channels. As at the end of 2021, Russia represented only 1.5% of 2021 sales so the impact is negligible.

Management expressed confidence in the year ahead. Furthermore, with approximately 50% of revenue being derived from emerging markets, L’Oréal is well positioned to benefit from the emergence of the middle class which spends an increasingly disproportionate amount of disposable income as incomes rise. When compared to developed markets, consumers in Latin America spend a third and consumers in Asia and the Middle East spend just 20%.

ASML

Recent top 10 position ASML reported first quarter results which were marginally ahead of expectations. At face value, first quarter revenues at Euro 3.5 billion was down 19%. However, as previously stated, in order to mitigate the chip shortage, ASML has been using fast shipments which ships out to customers as soon as possible but delays revenue recognition.  Nonetheless, ASML still expects to achieve 20% revenue growth for 2022 -  this figure does not include the full shipment value of systems output this year due to a number of fast shipments which will result in delayed revenue into 2023.

Following another quarter of strong order intake, which materially exceeded supply capacity, the significant bookings over the past several quarters resulted in a backlog of around 29 billion euros, an all-time high. Management expects the strong order intake to continue with exceeding supply well into next year.

Due to the overwhelming demand, ASML is exploring the feasibility of increasing its 2025 output capability of immersion lithography systems by 60% with its supply chain partners. Once this analysis is completed, the firm is expected to revisit its 2025 scenarios and growth opportunities beyond 2025. The intention is to provide an update to the capital markets in Q4 2022.

Malcolm Schembri
Fund Manager, EPIC Global Equity Fund