Where Old Mutual invests wealthy people’s money

Private Clients by Old Mutual Wealth places heavy emphasis on the underlying quality of the companies it invests in, as these types of businesses provide strong growth while minimising risk. 

The head of research at Private Clients by Old Mutual Wealth, Victor Mpunga, outlined the strategy this division applies on behalf of Old Mutual’s wealthiest clients. 

Today’s investors have more options than ever, with the number of listed global companies growing fourfold to approximately 60,000 over the last five decades.

This forces asset managers to have some kind of filter to focus on companies that offer good returns at low risk. 

“At Private Clients, the yardstick we measure all companies we invest in is whether they have enduring quality characteristics,” Mpunga said.  

“While we are mindful of the cyclical nature of markets, we firmly believe that investing in quality companies over the long term is well-suited for clients seeking to grow and preserve their capital while managing risk.”  

Mpunga said no one admits they are buying poor-quality companies, but in times of economic hardship, the market will show which businesses are high-quality and which are not. 

The focus on quality gained traction after the 2008 – 2009 Global Financial Crisis, as quality companies proved more resilient during the downturn.

However, unlike beauty, quality is objective and measurable. Mpunga defines quality in two distinct categories –

• The first is quantitative metrics, which are measurable, quantifiable and comparable across companies and sectors. These metrics generally fall into four groups: profitability, leverage, cash generation and earnings.
• The second category of quality is qualitative metrics. One of the most critical qualitative factors of any company is its management team. Though intangible, a company’s leadership plays a key role in shaping its long-term success. 

The impact of management decisions is often most evident when comparing companies within the same industry. A clear example comes from the ingredients sector, which Old Mutual Wealth identified as an attractive space in 2021. 

Companies within this sector provide critical flavours, fragrances and ingredients to major food and cosmetics companies like Nestlé, Unilever and L’Oreal, whose products rely on consistent formulations.  

Within this sector, they compared Swiss-listed Givaudan and Ireland’s Kerry Group. Despite their similarities – including large market shares, stable customers and product diversification – their recent performance has diverged.

Over the last three years, the high inflationary environment saw rising raw material costs hit both companies, with their gross margins declining substantially in 2022. 

However, Givaudan’s margins have recovered strongly over the last year, with this year’s gross margins expected to surpass pre-2019 levels.

Meanwhile, Kerry’s margin recovery is lagging, with analysts forecasting only a return to pre-pandemic levels in 2026.

Kerry’s slower recovery can be partly attributed to its acquisition strategy, with recent deals aimed at expanding its product portfolio and geographic reach.

While these acquisitions deepen Kerry’s portfolio, integrating new systems and cultures has slowed efficiency gains.

In contrast, Givaudan has implemented contract renegotiations with its large consumer staples customers and concluded bolt-on acquisitions in faster-growing subsectors.

Mpunga said there are limitations to the emphasis on management. As Warren Buffett noted, “When a management team with a reputation for brilliance tackles a business with a reputation for poor fundamental economics, it is the business’s reputation that remains intact.” 

Factors such as competition, reinvestment needs, and the pace of technological change can significantly affect a company’s outlook.

These differences are illustrated by a comparison between the Information Technology Services (IT) and Oil and Gas production (O&G) sectors. 

O&G is capital-intensive, operates in remote locations, and is affected by numerous external factors, such as commodity prices, that are outside management’s control.

In contrast, IT businesses require less capital, have high switching costs and are not constrained by location. Inherently, this makes it easier to find higher-quality businesses within the IT sector.

One unique feature of equity investing is that retained earnings (profits reinvested back into the business) contribute to shareholder returns over time. The ability of a company to allocate these earnings effectively is critical. 

One way to assess this is through profitability metrics like Return On Capital Employed (ROCE), which measures how well a company or sector generates profits from its capital.

The graph below shows the ROCE across several industries and compares it to the Weighted Average Cost of Capital (WACC) – which is the average after-tax cost of capital from all sources – for each industry. 

As quality investors, Old Mutual Wealth prefers to focus on industries where companies consistently generate returns above their cost of capital. 

These structurally advantaged sectors increase the likelihood of finding companies with superior long-term return potential.

While Old Mutual Wealth evaluates each company’s quality metrics individually, a key aspect of portfolio construction is ensuring that the entire portfolio performs better than the sum of its parts. 

“We achieve this by diversifying across 20 – 25 carefully selected companies, strategically balancing the weights and assessing the valuations of each holding,” Mpunga said.  

The result aggregates all of the company’s Global Equity Portfolio’s underlying holdings and shows the quality metrics of the portfolio as if it were a single company. 

“We then benchmark the quality metrics of our portfolio against the S&P 500 and FTSE 100 while also tracking how these metrics have evolved over time. In 2023, our portfolio achieved higher margins, cash generation, profitability and lower leverage than the overall market.” 

Over short periods, the market often behaves like a voting machine driven by investor sentiment. However, over the long term, both markets and companies are driven by their earnings power and the quality of their assets. 

Remaining invested in companies with superior quality metrics gives these businesses the time they need to convert profits into cash, reinvest at higher ROCE and expand their competitive advantage over peers. 

When guided by capable management through effective capital allocation, this process ensures that investors benefit from the long-term benefits of compounding, Mpunga said. 

“At Private Clients, we focus on identifying these high-quality companies by analysing both quantitative and qualitative factors. Once they are included in our clients’ portfolios, the next step is simple but just as important – be patient and allow them to compound.”