Webinar: Can the US economy accelerate without the tailwind of stimulus? Antipodes Global Investment Company (ASX:APL) – Shareholder Update July 2019

Stock Spotlight: Siemens

For a protracted period in the early part of this decade Siemens was the European anti-Apple. In the US, the inexorable rise of Apple powered US indices to ever higher highs; in Europe, Siemens was having the inverse impact as a sprawling conglomerate with a growth fixation which caused frequent and expensive execution missteps.

IRRATIONAL EXTRAPOLATION

Hence, the Siemens market narrative has long focused on its seeming inability to evolve – both due to a lack of will and competing stakeholder interests that meant consensus on any radical action always proved elusive. The need for change has long been apparent. The core of Siemens is comprised of several truly world class businesses. Of the prior nine operating divisions, all but two are in the global top three in their respective industries, most of which are oligopolistic in nature. These high-quality assets have long stood in stark contrast to the low valuation which has been, and still is ascribed to the equity of the overall group. Figure 5 uses Antipodes’ proprietary data to show the divergence between the valuation of industrial conglomerates, including Siemens, and pure play businesses in its two most profitable sectors (automation and medical devices).

The break-up of a conglomerate to unlock value makes sense when it results in greater focus and accountability to shareholders and reduces counterproductive competition for resources amongst disparate businesses. Siemens had in the past taken modest steps to address these issues by creating separate equity listings for two of its businesses, but more radical action was needed. In May this year, as evidence of growing pragmatism, management announced its intention to spin out the conventional and renewable power businesses. In one fell swoop Siemens will divest itself of a business which has annual revenues of ~€30 billion accounting for roughly a third of the assets and revenues of the industrial business in fiscal 2018 but only ~15% of profits.

MULTIPLE WAYS OF WINNING

Competitive dynamics & Product cycle

As alluded to earlier, Siemens holds strong positions in the bulk of its group businesses. The jewel in the crown is the Digital Factory business (Figure 6) which supplies hardware and software for the automation of manufacturing processes; the hardware enables the plant to run as efficiently as possible and the software – the brains – controls and optimises processes. This is a secular growth market due to demographic aging trends that drive the need for productivity gains as workforces start to decline together with the need for highly responsive and flexible production. Despite the perception that Siemens is a slow-moving, it was very early in identifying these trends and in 2007 started to acquire strategic software assets that their competitors are only now attempting to replicate. Consequently, Siemens is the only player in this field that offers a complete end to end solution with the full integration of hardware and software. Further, given Siemens’ scale, its rivals find it difficult to compete on R&D investment.

It’s not just the automation business. Siemens’ healthcare business also operates in a secular market with limited competition. And whilst the conventional power business is facing a cyclical challenge of weak demand, gas power is likely to be a key part of the future energy mix as the cleanest and most viable complement to the ongoing build out of renewables.

Regulatory

Given the diversity of the businesses within Siemens, the list of regulatory challenges addressed by the evolving portfolio is too lengthy to contemplate. The most easily comprehensible of those is the ever-present global drive for the more efficient power generation/consumption. Regulation, and increasingly customer preference, drive generation choices; whilst minimising electricity usage in manufacturing facilities is an economically compelling proposition for any management team as the payback period on that investment is typically rapid.

More broadly, Siemens’ portfolio addresses many societal issues that may not yet be codified in law. These include efficient and connected buildings, rising urbanisation, aging populations, big data, the industrial internet of things, renewable generation, changing electricity grid structures and many more.

Management and Financial

The current management team – long-serving CEO Joe Kaeser and relatively new Chairman James Snabe, formerly of SAP – appear to have convinced all stakeholders that Siemen’s businesses need to evolve faster. Mr Kaeser clearly has great personal capital with the unions and political stakeholders whilst Mr Snabe has led a business in a rapidly evolving industry. The two have already delivered significant change with concrete plans to continue to improve growth, margins and cash flow conversion.

The final piece is a more proactive capital deployment. Siemens is in the privileged position of having both undervalued equity and an under-geared balance sheet. We don’t hold the view that share buybacks are always rational, but we believe they are highly value creative when a company has more than enough funds for the operational needs of its businesses and when its stock is significantly undervalued. Both criteria are comfortably met at Siemens.

Style and Macro

In a market that is prepared to pay a very high valuation multiple for structural growth, our investment in Siemens represents a remarkably cheap way of gaining such an exposure. For Antipodes, this would represent a potential style tailwind that should accelerate a rerating of the company assuming our fundamental case is sound.

MARGIN OF SAFETY

Whilst Siemens has historically been a complex company, the current management team is focused on simplifying the structure and realising the latent value that has long been apparent. Our proprietary quant tools clearly show that within Siemens are businesses which would trade at higher multiples if they were separately listed. The Antipodes proprietary heat map lends supports this view. Developed world automation and healthcare companies continue to be valued at elevated levels. Buying Siemens today therefore represents an inexpensive exposure to highly valued sectors, a discrepancy which we believe will close as management execute on their plan.