Our Companies Delivered 13.5% EBITA per Share Growth in Q1 2024
+ earnings growth outlook, US CPI, FED decision, and French political turmoil
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Topics to discuss:
Taking a closer look at the earnings growth outlook
US CPI report and FED decision
Politics and quality growth investing
Earnings growth outlook
We’ve just started writing our H1 2024 quarterly letter (to be published in July), and as you know, we’re fond of Ancient History as it provides great insights into mankind. The myth on Icarus (the son of Daedalus who managed to escape imprisonment and flew by means of artificial wings but fell into the sea, and drowned when the wax of his wings melted as he flew too near the sun), Arachne, Prometheus… it all resonates to current human behavior, also in today’s stock market.
The Compounding Tortoise
Circling back to our portfolio, one of the learnings shared in the upcoming letter is that Q1 EBITA and cash flow performance for our companies remained rock-solid (see below table). On a look-through basis (based on our current allocations), year-over-year growth in EBITA per share was 13.5% in the past quarter with broad-based strength across our four buckets (high-end luxury, VMS serial acquirers, consumer defensive, and defensive industrials). We use EBITA, as it makes apples-to-apples comparisons more meaningful (compared to EBITDA) and it’s the basis for calculating NOPAT (and free cash flow).
It’s a very typical growth rate for our Tortoises, and we don’t see any reason for it to slow down anytime soon. We enjoy watching paint dry. (As a reminder, we don’t hold any Mag7 or “pure” AI plays)
For your reference, the S&P-500 index constituents reported 5.9% earnings per share growth in Q1, driven primarily by Nvidia’s incredibly strong performance. While EPS is not EBITA or EBIT per share, our companies continue to demonstrate above-average growth, which is reflected in their slight valuation premium (admittedly, it’s skewed toward two of our core positions). However, we feel this premium is not excessive considering the strong earnings growth momentum over the past quarter, and frankly, years.
Most importantly, the index’ valuation has risen sharply with no material improvement in the long-term EPS growth outlook (it’s still about 5%). Even more worrying: that growth is currently being driven by one segment: tech and AI related themes.
While it’s great to see your portfolio increase 15% in just 6 months (S&P-500), there’s a trade-off between putting more capital to work in stocks with extremely strong momentum (which may be short-lived) and acknowledging that significantly higher valuations (seems like a race to the top, not to the bottom) will eventually be commensurate with lower returns/IRRs and above-average volatility. Multiple expansion is a belief; it’s putting faith in a structurally different and very positive investment case and its definitive outcome.
As quality growth investors, we ideally want to own stocks that deliver our targeted return with quite stable multiples, and thus good IRRs that allow for periodic purchases.
At the risk of repeating ourselves, it’s all about maximizing the risk-weighted IRR over our whole investment journey. If we put 10% of our investable wealth to work at a 15% IRR and the remainder 90% at 5%, it doesn't feel good.
Let’s take a closer look at the earnings growth outlook.