HL Select UK Growth Shares - August Review

Charlie Huggins (CFA) - Fund Manager

14 September 2017

The UK stock market made modest gains in August, with the FTSE All Share rising by just over 1%. The Materials sector had another good month, rising by almost 7%, as commodity prices continued to strengthen. We prefer not to speculate on the direction of commodity prices, instead focusing on businesses that have greater control over their own destiny. Our lack of exposure to this sector was a headwind. On the other hand our significant exposure to Consumer Goods was beneficial for performance, with the sector rising by just over 4% in August.*

Below we highlight the biggest positive and negative contributors to fund performance in August. However this is over a very short period and past performance is not a guide to future returns.

Biggest positive contributors

Past performance is not a guide to the future. Source: *Bloomberg 01/08/2017 – 31/08/2017.

Intertek’s half year results were very well received and the stock went on to add almost 19% over the course of the month, making it both our best percentage gainer and the largest contributor to the portfolio’s value. The group provides testing, inspection and assurance services to customers worldwide, with a strong exposure to Asia and the USA.

Double digit profit growth with a currency tailwind of similar magnitude was driven by margin gains and accompanied by a sharp rise in cash flow, giving the group confidence to hike the interim dividend by 21%. With a yield of 1.3%, Intertek is hardly a yield play, but the increase was welcome all the same.

Intertek’s product testing division is performing strongly, and its growth means that it now accounts for almost three quarters of the group’s profits. Their resources business may one day offer cyclical recovery potential on top, but for now we are happy to see testing, which we regard as their highest quality revenue stream leading the way.

Sanne enjoyed a strong month in anticipation of strong interims in early September. These were duly delivered, with the company reporting a doubling of revenues and underlying profit as well as a 31% increase to the dividend.

Double digit organic growth was bolstered by substantial contributions from recent acquisitions in the USA and Mauritius. The group is starting to capitalize on the increased cross-selling opportunities that its larger global footprint has created and the new business pipeline is described as healthy. The balance sheet remains lowly leveraged and we would expect Sanne to continue playing a lead role in the consolidation of the fund administration services sector in the years ahead.

Burford Capital enjoyed another very strong month as investors continued to digest interim results at the back end of July, which showed a 151% increase in operating profit. We met with Chris Bogart, Burford’s chief executive officer and co-founder this week and will provide a further update in due course.

Diageo shares continued to make new highs following better than expected full year results at the end of July, with the raised margin target and £1.5bn share buy-back announcement the main highlights. Diageo’s brands and market positions are fabulously strong, but in recent years growth has been a little sluggish. This is probably why investors reacted so positively to the 2017 results.

Ivan Menezes took charge at Diageo in July 2013. Since then he has changed the sales model and raised productivity, making Diageo more agile and more responsive to consumer trends. The evidence suggests these changes are now bearing fruit. We expect this momentum to be sustained given 3G’s failed approach for Unilever, which raises the pressure on all consumer goods giants to up their game, or risk losing their independence.

Biggest negative contributors

Past performance is not a guide to the future. Source: Bloomberg 01/08/2017 – 31/08/2017.

InterContinental Hotels Group weakened despite posting solid half year numbers, which showed underlying revenues up by 4% and operating profit rising by 7%. The share price had been very strong up to that point so we put the pull-back down to profit taking.

IHG offers hotel owners the choice of either licencing the brand, as a franchise, or allowing IHG to manage the hotel day to day, in return for a slice of the revenues. Either route means that IHG only needs to spend limited amounts on the properties themselves. The makes the group extraordinarily cash generative and since IHG has little need for the cash, the majority of it can be returned to shareholders. True to form, IHG lifted its interim dividend by 10% hot on the heels of the $0.4bn special dividend paid in May.

WPP shares reacted badly to a small reduction in the company’s forecast for revenue growth during the remainder of 2017, which is now seen as flat to +1%, compared to earlier predictions of “around 2%”. Major advertising groups are struggling with the pace of change, as the industry shifts ever further toward digital communications.

WPP has been notable for embracing this shift, along with a tilt toward faster growing regions, but it needs to become even more agile. The group’s creative position remains strong, winning the top award at Cannes for the sixth year running and new business wins have picked up. Gongs however, do not pay the bills and WPP must continue winning new business to improve its standing with investors.

Sentiment towards Auto Trader and BCA Marketplace weakened after the Society of Motor Manufacturers & Traders (SMMT) issued a report saying that sales of second-hand cars had plummeted by 13.5% in the second quarter of 2017. The figures turned out to be completely wrong and had to be recalculated.

The corrected figures showed that sales of used cars only fell by 0.7% in Q2, and sales for the first half of this year actually went up by 1.3%. Neither Auto Trader nor BCA shares have fully recovered from the fiasco reflecting a certain nervousness amongst investors over the health of the UK car market.

It is the used car market that matters most to Auto Trader and BCA. Recent results from UK car dealers continue to suggest that, while the new car market has weakened somewhat in recent months, the used car market continues to hold up well.

Summary

The economic environment remains uncertain, with North Korea’s actions dominating the headlines currently. We spend little time worrying about these factors, which we can neither control nor predict. We think our time is much better spent researching companies, seeking out those with robust finances, strong market positions and growth drivers that are largely independent of the wider economy.

Please note a connected party of the author owns shares in Sanne Group.

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