Gregor Mast, press article from the Neue Zürcher Zeitung

Private equity specialist Partners Group loses its crown as Switzerland’s best quality company. It is replaced by an air-conditioning specialist. Other names in the top ranks are ASML, Novo Nordisk and Rational.

Partners Group is no longer the best quality company in Switzerland – at least not according to the experts at Hérens Quality Asset Management (HQAM), an asset manager specializing in quality investments.

Since 2010, HQAM has presented annual Excellence Awards to the world’s best-quality companies. The country winners are selected for all major European markets, the USA, Australia, Japan, China and South Korea. The world and European winners are recruited from these.

Rewarded for an outstanding performance record

HQAM awards prizes to companies which, thanks to good management, generate a sustainably high return on capital and are solidly financed. For this purpose, a preselection is first made on the basis of quantitative criteria such as return on capital employed, equity ratio or gearing.

A jury consisting of four HQAM representatives and two professors – Dieter Pfaff from the University of Zurich and Max Ringlstetter from the Catholic University of Eichstätt-Ingolstadt – then selects the winners. Companies with an outstanding business performance over several years are honored.

The country ranking of the top companies (see table below) includes names such as Hermès (France), Novo Nordisk (Denmark), ASML (Netherlands) and TSMC (Taiwan).

High recurring revenue as the key to success

But why was Partners Group dethroned in Switzerland? After all, the private market specialist from Baar has won the award four times in a row. Thanks to the hunt for returns, a lot of capital has flowed to it. The long duration of private equity programs ensures high recurring and easily foreseeable fee income. Since the business is not very capital-intensive, it results in proud returns. Both are characteristics of many quality companies.

“Because of the higher debt, Partners Group’s balance sheet quality has declined,” says Diego Föllmi of HQAM. That is the main reason for the loss of the crown, he adds. “However, Partners Group is still a top quality company, among the hundred best in the world,” he adds.

Belimo replaces Partners Group

The new Swiss winner is Belimo. The Hinwil-based company is the global market leader in actuator solutions for regulating and controlling heating, ventilation and air conditioning systems. Urbanization, climate change and regulation are creating high demand for intelligent cooling and heating systems. In addition, there are growth opportunities in the residential sector that have not been covered by Belimo to date.

Belimo’s strong market position is reflected in its return on investment and operating margin, both of which are consistently high – even in difficult times such as the financial crisis (see graph).

Belimo operates highly profitable

Both sizes in %.

Graph: themarket.ch – Source: Bloomberg – Created with Datawrapper

In addition, Belimo’s balance sheet is debt-free. Total borrowed capital amounts to 94.7 million Swiss francs. This amount can easily be paid out of cash, which totaled 172.6 million Swiss francs as of the balance sheet date at the end of December. In addition, free cash flow this year is estimated by analysts at 98.5 million Swiss francs.

Belimo’s good track record has not gone unnoticed by the market. Since the beginning of 2016, the share price has more than tripled. The securities are trading near their all-time high. This also applies to the valuation: The price/earnings ratio based on estimated earnings for 2021 is 37, well above the long-term average of 24. The peak was reached in December at 46.

European winner from Bavaria

A high valuation is the reason why the shares of superior companies are not necessarily a good investment. This is shown by the example of the European serial winner Rational. The kitchen manufacturer from Bavaria is the world market leader for custom-made large kitchens, which are ordered by restaurants, canteens, hospitals, homes, prisons or cruise ships. It has been growing highly profitably for years. Due to the corona-related standstill, 2020 is threatening
however, a decline in profits for the first time since 2011.

However, Rational’s share price momentum was already weakening before Corona. Since the fall of 2017, the majority of the shares have been trending sideways (see chart). At that time, they were trading at a forward P/E of 45. Because Rational was able to further increase profits, the P/E had fallen to 31 by the end of 2018, before the shares advanced again significantly in 2019.

The Rational share price has stagnated since 2017

Graph: themarket.ch – Source: Bloomberg – Created with Datawrapper

The current uncertainty has also affected Rational. Since the high in January, the shares have lost 30%. In difficult times, a strong balance sheet helps, and the company has one. It is debt-free.

“We have no doubt that Rational will emerge from this crisis unscathed and possibly more competitive,” Deutsche Bank analysts write. “For investors with very long staying power, now should be an attractive entry point.” In the short term, however, economic risks dominate, they caution.

World winner remains unchanged

The US financial services provider SEI Investments remains the global winner. The Pennsylvania-based company offers asset managers back-office services such as fund administration, reporting, transaction processing and compliance, and benefits from the fact that more and more activities in the financial sector are being outsourced for cost reasons.

Because the company’s success depends on the performance of the financial markets – its income depends on the amount of assets under management and the activity of its clients – the corona-induced sell-off also took SEI Investments’ securities with it.

SEI Investments are favorable

Unlike Belimo or Rational, however, the shares were already cheap last year, and they still are, despite the expected drop in profits. The P/E ratio for 2021 is 17, which is below the long-term average of 20. From a valuation perspective, nothing stands in the way of higher prices for SEI Investments.

Only the shares of Korean NCSoft, which develops online games (see table below), are trading at an even greater discount to their own valuation history. It has a large fan base in Korea and is looking to expand into China and Southeast Asia. The attractive P/E ratio of 16 for 2021, however, results from high expected earnings growth.

With war games to success

The human play instinct is also at stake at the other end of the valuation spectrum, and it seems like an anachronism: With the highest premium to its own history, the British Games Workshop, which sells board games with fantasy characters, stands out. The titles are traded with a P/E ratio of 31.

Blockbuster is the war and strategy game “Warhammer 40’000”, where players assemble their own figures. Games Workshop sells the kit as well as glue, paints, brushes and other accessories. According to Wikipedia, a new player has to spend at least £300 to have enough figures.

In addition, Games Workshop grants licenses. A licensing agreement was just reached with the video game provider Frontier Developments for the game “Warhammer Age of Sigmar”. Royalties already account for 17% of revenues, and are expected to be the main source of income in the future.

Like the other stocks with a high valuation premium, Games Workshop has potential as long as the company’s operations are convincing. However, disappointments are not allowed – otherwise even the best-quality companies are threatened with setbacks, as the example of Rational shows.