Hidden Champions Fund Newsletters: August 2019

August 2019

Dear Valued Clients and Partners,

If you were to tell me 2 months ago (where we left off in the previous newsletter) that the protests in Hong Kong were to be still ongoing, I would probably tell you that it would be unlikely. However, up to the point of writing, the democracy movement in Hong Kong is apparently still strong and alive at this juncture. We can see the direct economic and social impact of these protests on the economy of Hong Kong, but I fear that the indirect impact will be far more damaging and encompassing.

If I were to put myself in the shoes of the China’s Government, my thoughts would definitely be to focus on strategically handling the situation whilst taking care of China’s sovereign interest. The unrest in Hong Kong might be a signal that the “One Country, Two Systems” concept is not working, and in fact will provide uncertainty on any plans of future growth and development for Hong Kong. It may be wiser to raise the profiles, economic development and growth in the major cities in China, so as to reduce the economic influence and consideration for Hong Kong. In fact, if you were to look at the financial numbers and growth statistics of China’s major cities over the past decades, you may even find that already happening. Despite the good intentions about protesting against the government while raising the multitudes of issues plaguing Hong Kong (particularly freedom & housing), one can’t help but to feel that the protestors in Hong Kong are damaging their long-term prospects for and of Hong Kong.

As a manager of the fund, a wider focus on the issue on politics and macro-economics is necessary to evaluate its impact to the companies that we are investing in. With the current situation in Hong Kong, it does create volatility to the China and Hong Kong stocks in our portfolio. Future speculative reports of China’s plans to focus on building up Shenzhen and “forget” about Hong Kong invokes further thoughts for our plans for these companies, as this plan does seem as the most natural course of action to take for the China’s Government.

How then should we, as investors, move forward? From my humble viewpoint, the current Government in China is so politically strong and stable that we would have to give due consideration as to whether the businesses that we are investing in are either 1. free of political and regulatory influences and, if not, 2. whether if it is on the “favourable side” of  the Government? This is a rather qualitative aspect and will require a certain level of understanding, research and judgement.

Despite the present circumstances, it is my belief that there will be windows of opportunities for outstanding entrepreneurs to shine, whether be they from Hong Kong, China or the rest of Asia. The difficult part is selecting the right business with the right management who are able to take the company to the next few levels.  Due to the legacy issues in Hong Kong, while I have reservations about the long-term future of Hong Kong, I am still optimistic about China’s future. This does means that we will continue to have exposure to China, whether through Hong Kong or otherwise.

Hackers & the Game

The word “Hackers” immediately brings about images of a hooded anonymous figure, bent over his weapon of choice, a discreet laptop, at a corner of a unassuming café, vigorously working against the many cyber security systems designed to specifically keep them out. A quick search on Google brings about results of movies and TV shows idolizing such characters, portraying them in an almost “Robin Hood-esque” image, where they tend to almost singlehandedly be able to break through multi-million dollar systems set up by large cyber security firms.

In fact, I would say these “wars” are even applicable in the investing world, where fraud accusations and short sellers are the “hackers”, looking for loopholes and weak companies to make a living. In this case, similarly to the world of cyber security, these “cyber security firms” are almost always more reactive than proactive due to the nature of the game. Because of this, some will idolize and consider that the criminal mind as “smarter”as they always seem to be one step ahead of everyone. From this perspective we find that while there is a certain element of truth in these “hackers” words, we may find that life is not just black and white; but comprises many different shades of grey. What is uncovered may be taken out of context, or just a small piece of a large puzzle.

With all these in mind, while there are a small minority of companies and management out there that are plain crooked to the core, some companies might have been led astray by management or the leadership by the incentives put in place.  Some may be cases of the management lacking in foresight. Some may be incentivized by other motives that could be unrelated to the vision of the company. Because of this, it is crucial to understand the management and their underlying beliefs and thinking. The recent whistleblower report’s accusation on General Electric makes for interesting reading. Ultimately, whatever that case turn out to be, it will be a most interesting case full of learning points to read and understand. Interestingly, one of our own positions was recently the subject of a short-seller interest, but has since been cleared for the time being. This reinforces my point of being well diversified in our portfolio, so that even when there are positions that could “suffer” or a mistake, it will not be too detrimental to the portfolio.


The little illustration above brings about the importance but also the challenge of assessing management (which is ultimately the spark and also the root of the company’s actions). This is why I have always felt that investing is not merely a quantitative game, which adds another level of difficulty in assessing any company: putting aside the quantitative side of a company, which is crucial in the sense that the underlying track record of the management is being shown, how does one truly detect the underlying motives and goals of the top leadership and management of a company? This is definitely not an easy task.

Interestingly, my own experience has taught me that the long-term “helicopter thinking” and capability of the management is crucial in dealing with the issues a company is facing. There is no single aspect that will guarantee a company’s success, but if there is any single most important success factor, I believe that it will be the management.

Prologue to next segment of Newsletter:

In this issue Richard will share his perspective on the importance of management, with his preference for founders/CEOs with an owners’ perspective. The owners’ intent and actions have profound impact on the success or failure of a business. More often than not, I believe that most businesses’ success or failure hinges more on the leaders’ action/inaction than anything else. It is crucial for us to assess if we can trust the management based on their underlying motives and ability.  By assessing the underlying behaviors of management, we seek to reduce our potential investment risk and increase returns.

I hope you enjoy this issue of our Newsletter.

Warm regards,
Clive Tan | CEO
Hidden Champions Capital Management

What is the Right Management and Why They Are Important.

Investing in the capital jungles of Asia would inevitably present its own set of challenges when compared to investing in western companies. While we may discover cultural differences between these markets, we find that if we were to choose one single explanation for the outstanding and continuing success of any company, it would without a doubt be the personalities at the top. These people could either be founders of the company, second generation management, or even professionals.

Despite the importance of the management at the top, it is the one area that many investors tend to pay the least attention to. It is no easy feat to properly evaluate the management of a company, given the many intangible yet varying aspects of the job, and this may be why investors choose to overlook such a crucial aspect of the business. However, fallouts such as Enron, Worldcom, and Imclone only serves to emphasize the importance of assessing the qualitative attributes of a company instead on relying solely on financial statements.

In this first part of a three-part topic, we will delve into the different types of managers based on their experience and background as well as passion for the business:

Above is a simple illustration of a scale adapted from “The Investment Checklist” – leaders on the extreme left tends to possess the most desirable traits, while those falling in the extreme right category is where more time is needed to assess their execution capabilities.

If we were to categorise these type of leaders into personas,  those falling in the extreme left category tend to be Owner-operators (OO), typically the founder of a business. Moving towards the middle of the continuum (LT), they are likely a long-tenured manager or one who has worked in the industry for at least 3 to 10 years. On the extreme right, managers falling under this category tend to be Hired Hands (HH), who have limited experience serving the customer base of the business, and have spent less than three years in the business.

In the first part of this series, we will focus on two different kinds of Hired Hands,and their specific characteristics.

1. Hired Hand 1 (HH1)

HH1 is a manager who joined the business from a related industry. These types tend to make job switches frequently, and typically make short-term decisions which may be effective in the short term, but sacrifice longer term growth. Due to their nature, they may not be as invested in the long term future of the company.  These managers are usually cost cutters rather than revenue builders.

2. Hired Hand 2 (HH2)

HH2 are managers who joined the business from a completely unrelated business, and they typically do not have related experience or a customer base from the same industry. HH2 must overcome a steep learning curve of the new business.

A school of thought holds the belief that industry knowledge are less important; instead management skills are transferable- “If this person was a great manager at The Coca-Cola Company then he or she will naturally be a good leader anywhere else”. However, this is equivalent to  saying that a great value investor will make a great trader, just because both involves being well-versed in the investment business. Contrary to such beliefs, these two styles of participating in the financial markets require vastly different expertise and experience to excel.

In addition, there are certain industries which require specialized skillsets like pharmaceuticals, chemicals, and insurance, to name a few. It can be especially challenging for someone unfamiliar with the business to  get a hang of the industry immediately, and investors should allow an extended period of time to see results if an external party outside the industry is appointed the head of the company.
However, there are exceptional cases where external hires tend to be a better choice than internal hires. One such scenario is when a business has been stagnant for some time and its existing leaders can no longer take the company to the next level. A new pair of lens to look at the business is absolutely necessary to have a breakthrough and bring the company to the next level.

If a leader is not adept at growing the business due to the lack of industry knowledge, a possible way for HH to succeed in the job is to become an efficient cost cutter. However, they may do well in their early tenure but this is not sustainable as it may weaken the business fundamentals over time. Afterall, when it comes to creating long-term growth, it is all about seeing the upside in revenue.
It is common to see HH type of managers in well-established large cap companies . One such example is Coca-Cola Amatil Limited (ASX:CCL) that is listed in Australia.

Coca Cola Amatil example

Coca Cola Amatil (CCA), previously also known as BTC & Amatil, was formed in year 1904 to take over a group of small tobacco companies. From 1968 to 1998, it began to actively increase its presence by acquiring Coca-Cola Bottling and franchises across Australia, New Zealand, Indonesia, Papua New Guinea, Fiji and Samoa. Today, CCA is one of the largest bottlers of non-alcoholic ready-to-drink beverages in the Asia-Pacific region and one of the world’s top five Coca-Cola bottlers.

After running Coca Cola Amatil for more than 12 years, Terry Davis decided to step down in 2014. This left a huge gap for Coca Cola Amatil to fill. Davis did a great job at CCA, including changing the culture to create a more innovative and performance-oriented approach, which was a move away from the usual volume growth strategy. He introduced new financial systems, overhauled the management and lifted profit margins from 15.6 per cent to more than 20 per cent. In 8 out of 12 years he has delivered remarkable double-digit profit growth.

Surprisingly, the board did not promote from within, where it is widely believed that the most likely successor was Warwick White, the head of the Australasian business, who has spent more than 28 years in the global Coca-Cola system. Instead, the role was given to Alison Watkins, whom we would normally consider as a HH.

Ms. Alison Watkins joined Coca-Cola Amatil Limited in March 2014 as Group Managing Director. She offers an extensive experience in the food, beverage, retail and financial industries. Before 2003, Ms Atlas practised as a lawyer for 22 years and was the Managing Partner of Mallesons Stephen Jaques. From 2003 to 2010, she held senior executive roles within Westpac Banking Corporation, including Group Secretary and General Counsel; and Group Executive, People where she was responsible for human resources, corporate affairs and sustainability.
She moved on to become the MD of GrainCorp Limited (listed in ASX), which is in the business of food ingredients and agribusiness. Prior to her joining GrainCorp Limited in 2010, the company was facing some issues.

After Ms Allison joined in 2010, she was able to lead the company to grow their revenue and net profit by more than 250%, and doubled its cashflow from operations, with the dividend per share increasing from AUD 20cents to AUD 60cents. Ms Alison managed to diversify its earnings by growing inorganically through several successful acquisitions. Under her leadership, she transformed a domestic player into a well-known multi-national company. Not only did Graincorp monopolize Australian market, it also expanded its business into North America and Europe areas.

With this impressive story of her leading the turnaround GrainCorp Limited, the board of CCA was eager to hire her to lead the company.

Nevertheless, it was never going to be easy for a HH without the in-depth industry knowledge and network. Ever since Ms. Alison Watkins took over CCA in March 2014, with revenue declining slightly by 3.9% to AUD 4.7 billion,  but operating profit increased slightly by 3.5% to AUD 672millon. The increase in operating profit is driven by the decline in Selling General & Admin expense from 26.0% to 24.5%. of sales revenue.

From a high-level perspective, this suggests that in her five-year tenure, the improvement in operating profits was a result of streamlining the business and various cost cutting measures. Yet, the underlying business fundamentals did not improve and this can be extremely worrying for an investor.

With the benefit of hindsight, we cannot help but wonder how much of her previous experience as a legal counsel actually helped in turning GrainCorp Limited around within such a short span of time. Although the business environment had been challenging over the recent years, there seems to be a learning curve for Ms Alison Watkins to be able to work her magic in Coca Cola Amatil.


In conclusion, we believe it is a combination of management skills,  extensive knowledge, strong network base, and most of all, getting the right fit to helm the business that truly makes a business valuable. When a HH type of leader takes over a new business, we must be cognizant of the potential consequences in which they may fail to perform.

At HCF, should we realise that the company has a HH as the leader, we will tend to spend a slightly longer time to assess the quality of their leadership and not rush into the investment. It is better to err on the side of caution in such cases.

Richard Sim Zhipeng | CFA, CA
Investment Manager
Hidden Champions Capital Management