The equity market is incredibly simple. It’s made up of very few exceptional companies and thousands and thousands of really mediocre ones. As a global growth investor, Munro Partners believes it is their job to find those few exceptional companies.
The 2017 study by Hendrik Bessembinder, Professor of Finance at the Arizona State University, examined what would happen if an investor bought and held every company that ever listed on the US stock market over the prior 90 years. The results were startling.
Of those companies, the top 50 stocks now make up more than 40% of the value of the market – 50 companies out of 26,000. Investing is a game of few winners and many losers.
If you plot those winning companies in terms of the annualised return over the lifetime of each, it becomes evident that every company is benefiting from some form of structural change. This might be digitalisation with Amazon and Google, software development with Microsoft and Oracle, big box retailing with Home Depot and Walmart or quick service restaurants with McDonald’s. Historically, wherever there is a big structural change, there are some winners and many more losers.
The S-curve tracks how a company or industry grows over its lifecycle. There comes a point in a lifecycle when growth inflects, driven by a structural change. It is the tailwind created by the structural change that allows a company to deliver and create wealth.
Facebook, Amazon and Apple have ridden the wave of demand for technology products and services that did not exist 15 or 20 years ago, but which are now considered indispensable in our daily lives. The COVID-19 pandemic has accelerated this trend further.
To recognise the winners, investors need to identify both the next round of structural changes and the companies that will benefit from them. Importantly, this needs to be as close to the start of the S-curve as possible, and not at the end.
The simplest way to understand the S-curve is by way of example. Using smartphone adoption to illustrate, figure two shows the development of the global mobile phone market, which went from feature phones to smart phones, and then smart phones went from a 10 percent market share to an 80 percent share. Apple went from a market capitalisation of US$50 billion to over US$2 trillion.
When the smartphone market started to plateau, Apple pivoted a range of recurring revenue businesses, such as the cloud, the app store and payments systems that included wearables. Apple’s S-curve continued on its growth runway as the company continued to pivot and innovate.
Munro Partners has identified climate change as the biggest S-curve since the advent of the internet…and not only is it potentially a big S-curve, but we are also right at the start of it.
If you consider the internet, it is clear that the trend toward digitalisation will keep growing. The internet is more than 20 years old; it’s had huge adoption over this time horizon, and it’s still creating great companies today.
Like the internet, Munro Partners believes climate change will also create great companies. Climate will be a strong beneficiary of stimulus and a strong beneficiary of Biden winning the US presidency.
When Munro Partners first started analysing climate change, the team noted an ‘epidemic’ of countries, industries and companies launching zero carbon targets to achieve by 2050. It is important to note that zero carbon does not mean emitting less carbon, it means emitting no carbon by 2050, which is likely to be very expensive.
European countries have committed to plans to achieve ‘net zero emissions by 2050’ and have accounted for it, suggesting a cost of US$10 trillion to achieve this objective over the next 30 years. From this, the Munro Partners team believes it will cost at least US$21 trillion for the world to achieve these zero emissions targets and decarbonise the planet (figure three), however, they acknowledge this number is likely to much higher.
Figure three also illustrates where the money is likely to be spent. There are a range of industries that will benefit from decarbonisation; it is not confined to the obvious industries such as renewable energy or electric vehicles. In each of those segments, there will be winners and losers. As a global growth investor, Munro Partners follows the money to find those companies best positioned to win.
While there has been a lot of focus on passenger electric vehicles because of Tesla, there are many more industries and companies where investment dollars will be devoted. Money will flow to energy efficiency, renewable energy, heating, transmission grids…the list goes on.
Figure four illustrates the world’s installed capacity of global onshore and offshore wind turbines. The chart also shows what capacity onshore and offshore wind power has to reach to get to zero carbon by 2050. This year, as much global offshore wind capacity is being auctioned as has been built in the entire timeframe of offshore wind energy. So, from that perspective, both onshore and offshore wind power is that beginning of an S-curve and has decades of growth ahead of it.
Denmark’s Orsted is one of the companies Munro Partners has identified as a potential winner from this trend. Orsted is the global leader in offshore wind generation and, as illustrated in figure five, is benefiting from that long curve.
When companies want to build an offshore wind farm, they talk to Orsted because the company’s experience in developing wind farm projects makes them the developer of choice. For example, when Taiwan Semiconductors wanted to build an offshore windfarm to make its business carbon neutral, it approached Orsted about building what is Taiwan’s largest wind farm.
The company has reached $100 billion market cap today and Munro Partners believes it has decades of growth ahead.
Think about batteries and consider battery production today versus where it needs to be to support a zero-carbon future (figure six). This is not merely a doubling in size; this is projecting the battery market to grow more than 10 times its current size over the period between now and 2050. There is a huge S-curve of demand laying out in front of it.
If renewables need to provide base load energy to the grid, which they must in a zero-carbon world, then a battery must sit alongside them to ensure continuity of supply. This supports the long-term growth of the battery industry and select companies within it.
Samsung, SDI, based in South Korea, is a large contract battery manufacturer with a market cap of around US$40 billion. It is one of the five major battery manufacturers in the world.
Samsung builds batteries for everything…electric vehicle batteries and electric scooter batteries, mobile phone batteries and computer batteries. Importantly it is the world’s number one supplier of container batteries or energy storage batteries. Every renewable energy facility around the world will perform better with a large, grid-style manufacturing battery to store the energy it creates. Because it is not sunny all the time, or windy all the time, such batteries are an essential component for the renewable energy market.
Although Samsung may trade on a high multiple, Munro Partners believes the next year is not relevant. What is relevant is what is going to happen over the long-term and the long runway of growth ahead.
The electric vehicle market is another where there is a huge S-curve of demand laying out in front of it. The market will see this opportunity is one that is very long, continuous and sustainable, and will try and price a lot of this future growth in to current prices.
Today, three percent of all new car sales are electric. Tesla comprises 26 percent of those sales. When considering a single company such as Tesla, investors must consider what will happen when 80 percent of new car sales are electric vehicles? Will Tesla retain a 26 percent market share, or will it be 20 percent, 15 percent or 10 percent? There is no point looking at next year’s earnings multiple; instead, investors must look much further ahead because this growth will eventuate. That is why Tesla’s share price is so high.
Tesla is disrupting the car market in the same way that Apple disrupted the mobile phone market. When Apple came along, the mobile phone market was approximately US$500 million. It was expected that Apple would take a significant share of that market, which it did – but it also pivoted into providing a range of other services that saw its market cap increase significantly higher than expected (figure nine).
The car market is significantly larger than the mobile phone market – it’s a $2.5 trillion market. The opportunity over a long-term time horizon shows Tesla could benefit from being the dominant electric vehicle manufacturer, as well as from a range of add-on services.
The world is heading toward a zero carbon future and climate change is the next big S-curve, one that will last twenty years or more. Every country in Europe has committed to get to zero carbon by 2050, China wants to go to zero carbon by 2050, and in the US, new president Joe Biden has announced a 2035 target. Most states, countries, councils have a zero carbon target. In its regular meetings with company management teams, every single corporate the Munro Partners team speaks to has a zero carbon target.
In other words, the entire planet is aiming for zero carbon by 2050.
The more these targets get set in stone, the more the race to zero carbon gains momentum, the more markets prepare to pull forward demand and discount it in the relevant share price. According to Munro Partners, this process is closer to the start than the end and opens the door to a myriad of investment opportunities.