Picks and shovels, famously, were the way to get rich in the gold rushes of the past, not the gold itself. Some professional investors use a modern version of this approach to choose their stocks.
Look at the success of Beyond Meat, which produces plant-based burgers, sausages and the like. It has an annual turnover of $300m (£240m) but is valued by the stock market at $6bn.
However, “plant-based proteins will become a commodity product and Beyond Meat will lose market share”, said Barnaby Wilson, who runsthe Lazard Global Sustainable Equity Select fund.
He prefers Symrise, which produces flavourings that make plant-based meats taste good.
The German firm’s products add flavour to a host of other foods and drinks, while another part of the business makes the substances that give perfumes their particular scent.
Mr Wilson said having this key role in the appeal of its customers’ products gave Symrise a huge advantage.
“It is such a good business because it provides a critical component of its clients’ products,” he said. “With a perfume, for example, it supplies the substance that produces its particular smell. But this substance accounts of a very small proportion, perhaps less than 5pc, of the total value of the perfume.
“This gives the firm tremendous pricing power. Imagine you are L’Oréal. You could switch to another supplier for the key ingredient of a perfume but the mixture of substances from a rival won’t be exactly the same. You risk alienating your customers in return for a tiny saving.”
He said that while in principle another company could try to “reverse engineer” one of Symrise’s flavourings or fragrances, its clients would probably not want to take the risk. This makes the firm more or less immune from the kind of competition from “generic” manufacturers that tends to decimate drug makers’ profits when patents expire.
Mr Wilson added that the company enjoyed long-term relationships with many of its clients.
The firm has been increasing its sales at rates in the mid to high single digits, somewhat faster than rivals thanks in part to its exposure to emerging markets.
- Sign up to our Business Briefingnewsletter for a snapshot of the day's biggest business stories
- Read Questor’s rules of investment before you follow our tips
Regular readers will be familiar with the refrain that pricing power leads to high profit margins, which lead to high returns on capital, strong cash generation and the prospect of compounded gains over the years.
So it is with Symrise: margins are 20pc and returns on invested capital are in the mid teens. Investment tends to take the form of research and development expenditure rather than the purchase of significant assets, so profits convert well into cash.
“All these aspects of the business are good,” Mr Wilson said. “It’s a high-quality company with stable revenues and profits thanks to the types of industry it sells to.”
It does have €1.6bn (£1.4bn) of net debt as a result of the acquisition of a pet food company but he said this was a “comfortable” level relative to profits for such a stable business.
He said that, “as you would expect”, it’s not the cheapest of stocks – it trades at about 30 times forecast earnings – but reasonably valued in light of its good growth and the likelihood that its high returns are sustainable for at least another decade.
Questor says: buy
Ticker: ETR: SY1
Share price at close: €91.80
Update: Lancashire
This specialist insurer was tipped here in March last year on the strength of its inclusion in the Troy Trojan Ethical Income fund. When we spoke to Troy in connection with last week’s stock, Visa, the firm confirmed that it still owned shares in Lancashire.
Questor says: hold
Ticker: LRE
Share price at close:608.5p
Update: NMC Health
We wrote two months ago that our advice in February to sell shares in NMC Health had come just in time as dealing was suspended four days later. In the end trading never resumed and the shares have been delisted after the firm entered administration.
The lesson we take from this is that in certain circ*mstances – the emergence of a string of governance concerns among them – an immediate sale is the only option, no matter the loss crystallised.
Read the latest Questor column ontelegraph.co.ukevery Sunday, Tuesday, Wednesday,Thursday and Friday from 6am.
