Transcription of Finance News Network Interview with Pengana Emerging Companies Fund Portfolio Manager, Ed PrendergastClive Tompkins: Hello Clive Tompkins reporting for the Finance News Network. Joining me from Pengana Emerging Companies Fund for an update is Portfolio Manager, Ed Prendergast. Ed welcome to FNN.
Ed Prendergast: Thanks for having me.
Clive Tompkins: First up can you start by introducing the Fund, which stocks do you invest in?
Ed Prendergast: We invest in industrial small cap stocks. By definition that’s companies outside the top 50, down to a market cap of about $30 or 40 million.
Clive Tompkins: Thanks Ed and which stocks do you exclude?
Ed Prendergast: We try and take a low risk approach, so we exclude speculative stocks. And in that category, we include the resources sector which is heavily reliant on resources pricing, which is obviously harder to predict. And we exclude biotech and loss makers, and exotic finance type companies and over geared companies.
Clive Tompkins: And Ed tell me, how have small companies performed over the last year?
Ed Prendergast: Small Ordinaries which captures the entire sector that we look at, is down about four per cent over the year. The industrial component is actually up eight per cent, but the small resources stocks have been hit very hard, they’re down 33 per cent. So they’ve dragged the overall index down.
Clive Tompkins: Now stock selection is critical, what is your approach?
Ed Prendergast: That’s right, so we’ve got about 800 companies we can invest in and we try and choose the best 50 or 60. Really our approach is looking for the lowest risk revenue streams. Recurring revenue is a key feature of the stocks we own. Companies that can grow well into the medium term, without a huge amount of risk and equally, that don’t require a lot of capital. The starting point for our investment is always the quality, our assessment of the quality of management. And therefore, we won’t invest in a company where we haven’t met the CEO and/or CFO, and more often than not quite a number of times.
Clive Tompkins: And Ed, can you give us a recent example where you initiated a position based on this approach?
Ed Prendergast: Sure. A smallish position in our Fund is a group called Capitol Health
(ASX:CAJ), which we bought into when it was capped at about $40 million, trading at 13 cents. It’s a radiology business based in Victoria. And it’s based on acquiring small radiology businesses at the right price and integrating them, and growing them. The guy that runs it is very disciplined in his acquisition strategy, John Conidi and he has not overpaid, and has integrated the businesses quite well. Now that stock’s gone and it has raised money along the way, but it’s gone to 60 cents, so the market cap is now $250 million. We’re still shareholders having sold a few on the way up, but in our visits to the actual facilities out in the suburbs, it’s a key part of understanding how they control the risk and their growth.
Clive Tompkins: And Ed, where do you see growth occurring as the economy transitions from mining?
Ed Prendergast: Well about two thirds of our portfolio, at most points in time is in companies that can grow in any economic environment. There’re plenty of stocks that we own that grew 15 to 20 per cent each year through the GFC. So there’s examples of companies and Ramsay Health Care
(ASX:RHC) is a great example, or Slater & Gordon
(ASX:SGH) where their industry is not tied to the economy. The balance of our portfolio does have some cyclical tendencies.
We don’t own any exposure to the mining sector as it relates to mining services, we think that’s a sector that will struggle. The housing sector is very appealing to us, we have quite a holding there and the low interest rates is contributing to a growth in housing activity. Retail is a bit ambiguous to us, there’re a lot of old retail models which may or may not enjoy the fruits of a recovery. And financial services as a sector, we like a lot. The main reason is there’s been a repair to the confidence in the equities market, because the market is up and a lot of the scars are fading.
But the flow is back into equities through financial planners and platforms is yet to happen. And we think that will, because people are sitting on term deposits which are not really yielding much at all any more, post-tax and inflation. And there will be a shift back towards equities and companies like Perpetual
(ASX:PPT), Treasury Group
(ASX:TRG), IOOF
(ASX:IFL) will be beneficiaries over the medium term.
Clive Tompkins: And can you give us some other examples of companies that people might not be familiar with?
Ed Prendergast: Sure yeah, so another one of our larger shareholdings is a New Zealand based company called Mainfreight (NZX:MFT), which is a transport and logistics business which is expanding into the Australian market, and into the US and Europe. And you would assume in a global economic downturn, that volumes for a company like that would be trashed and so would their earnings. But they’ve be able to consistently grow, because their growing market share from a low base and they’re in relatively less volatile areas of the market. They cart fast moving consumable goods primarily, which are not as volatile as other products. And it’s a very cleverly run business, they smartly acquire and have a very strong sense of discipline about their growth.
Clive Tompkins: And Ed, how’s the Fund performed over the last 12 months?
Ed Prendergast: Over the last quarter we were up about five per cent, after all fees and the market is up about four. So it’s been a pretty dramatic bounce in the last six weeks, which we’ve captured thankfully. And over the last 12 months, the Fund is up 16 per cent and the market is up about – as I mentioned before, up about eight per cent in the industrials and down four per cent overall, because the mining stocks have underperformed.
Our Fund has been around for almost 10 years now, so over the 9.5 years since we founded it after all fees are up, about 14.5 per cent per annum. And over that time, because we’ve had a GFC in the meantime, the market is only up three or four per cent. So we’ve outperformed by roughly 10 per cent per annum after all fees.
Clive Tompkins: So how much skin in the game do you and your colleague Steve Black, have in the Fund when it comes to performance?
Ed Prendergast: Well there’re three levels, so we’re very much aligned and we watch the unit price very closely. The primary one is that we were unit holders. So when we started the Fund, I personally put as much as I could in and most of my Super in it, and have never taken any units out. I’ve only ever topped up, so it’s a big investment for me in the Fund.
And then second, the fee structure is very heavily skewed towards performance. So our fees are quite – and we’ve kept the Fund low for this reason, our fees - it’s a low base fee within a performance fee kicker. So when the unit holders enjoy a good year, so do we and Steve and I are shareholders in the Company that runs the Fund. So we get a profit share and we’ve shut the Fund and new money primarily. And our incentive now is very strongly based on performance, not just growing the size of the Fund, which is a problem for some other Funds.
Clive Tompkins: Ed Prendergast thanks for the update and congratulations on the Fund’s performance.
Ed Prendergast: Thanks for your time.
Ends
