Europe is seen as a mature economy, where growth is hard to find. Investors often overlook Europe for this reason, preferring other markets such as the United States and China. However, the Aubrey European Conviction Fund has a different perspective. It seeks to identify the European leaders of the future that will be most influential in how future generations live their lives.
My recent trip to the Netherlands confirmed the value of this approach. I was able to see first-hand the level of innovation and technology behind products such as the smart phone, that would not have been possible without European based innovation.
ASML for example, is probably the most important European technology company that many people have never heard of outside the investment industry. Situated in De Run, Veldhoven, it is the global leader in the production of lithography machines that are critical in the production of microchips. The machines that ASML builds and subsequently sells to well-known blue chip semiconductor manufacturers at an average selling price of €130m or above, project light through a lens to pattern a wafer that is subsequently built up with millions of tiny transistors. These chips are used in almost all hand held products today.
The complex engineering involved in creating these machines is not rocket science – it is harder than that! To create extreme ultraviolet (EUV) light in the machines, a twenty micro-meter droplet of tin is hit with a laser 50,000 times per second, twice!
The guiding principle that drives ASML is Moore’s Law. This principle allows the company to increase the functionality of a chip while simultaneously reducing its size. In other words, ASML can produce machines that have allowed companies such as Apple and Samsung to increase continuously features of the smart phone at a more cost effective scale. To comprehend the technological revolution to which ASML is contributing, in 1980 management started with 2,000 transistors on an average chip, now there are over 45m. Chips today can take as many as 1.2 trillion transistors.
While this change has been exponential, some argue the number of transistors that can be crammed onto an integrated circuit board has peaked. However, ASML holds a different view. Management believes Moore’s law is likely to remain an adequate description of the foreseeable future, which will be supported through improved patterning solutions such as increasing the angular acceptance for the incoming EUV light (High Numerical Aperture). It seems that the limits to Moore’s law have more to do with cost of implementation for customers rather the science. Regardless of the predictions on the end of Moore’s Law, ASML continues to innovate enabling affordable microelectronics that can improve the quality of life.
In contrast to ASML, which operates at the front end of the semi-conductor value chain, BE Semiconductor (BESI) operates at the back end. I visited this company in Duiven which is near the German border.
BESI is the leading global supplier of semiconductor assembly equipment that is used for wafer level packaging applications in a wide range of end-user markets. Once the chips have been produced, BESI’s equipment then sorts and attaches them to other carriers. This allows the die (chip) to be inspected for defects and sorted accordingly for the customer to achieve a cost effective, higher yielding device.
Another key division within BESI’s business model is packaging. This is where a block of the integrated semiconductor material is encapsulated within a mould for protection. This allows customers such as Sony and Toshiba to produce products that are more robust as the underlying technology is not exposed within the circuit board.
Given the complexities embedded within ASML’s and BESI’s business models, patents are a significant barrier to entry. This allows each company to protect its intellectual property rights. However due to the competitive nature of the industry, trade secrets can be implemented by competition. As such, management of both companies attributed their competitive advantage to persistent research and development.
ASML spends over €1bn annually in research and development costs, which is greater than the market capitalisation of some smaller listed companies. Similarly, BESI has four research and development centres, three located in Europe, which allows the company to cater continuously to the ever decreasing size of the chips.
Both ASML and BESI are linked to the semi-conductor cycle. This cycle is difficult to predict, and the visibility is often limited. However, management of BESI appears sanguine and upbeat that a point of inflection is either on the horizon or indeed has already past. This confidence stems from the fact that typically the top line contracts between Q3 and Q4 by 15-20%, however this year sales are flat quarter-on-quarter.
If management is correct, the growth of both these companies in terms of earnings and share price performance will be very attractive. This is an area that the Aubrey European Conviction team keeps a close eye on given the important roles both companies play in allowing well known blue chip names to innovate continually.
Another high growth area within Europe that the Aubrey European Conviction fund is interested in is the payments processing market. I visited Adyen at the headquarters in Amsterdam which owns a payment processing technology that has disrupted the outdated infrastructure of making payments.
Adyen’s competitive advantage is embodied within the company’s integrated payment technology that allows a merchant to boost its transaction authorisation rates. Unlike other companies, such as World Pay, that have grown through bolt on acquisitions making their payment infrastructure fragmented, Adyen can improve a merchant’s authorisation rates by connecting easily the acquiring bank to the customer’s bank.
To date, Adyen has processed up to €159bn worth of transaction volume and charges a small percentage fee (at a premium to competitors) which is how the company makes money. Some of the merchants that use Adyen’s technology include Uber, Ebay and Spotify, all of which are attracted to Adyen’s modern infrastructure that can allow them to accept payments in a single system all around the world. Adyen is also channel agnostic meaning the company can accept payments on platforms such as WeChat and Alipay, two Chinese payment giants that are leading the way to achieving a cashless society.
Although valuations can sometimes prevent us taking a position in premium growth companies, these three stand in stark contrast to the low GDP growth image with which Europe is associated.
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