10 May 2018

CSL, the company holding the largest position in the Australian Equities Fund

What is the business?

The Commonwealth Serum Laboratories has been providing Australians with access to medical advances since its establishment in 1916. Originally founded to support a country at war, their services have since expanded to include advances in insulin, penicillin, vaccines and infectious diseases. CSL acquired Aventis Behring (CSL Behring), a global biotech leader responsible for developing therapies to treat bleeding disorders and immune-deficiencies among others, in 2003. CSL Plasma, a subsidiary of CSL Behring, is the largest collector of human blood plasma in the world.

The company can be separated into two main value components, Plasma fractionation, which makes up 90% of the business and the remaining royalties, R&D and vaccines, which makes up the remaining 10% of the business.

Is it a good business?

CSL Behring has over 190 plasma collection centres across the USA and Europe, given the cost per litre of plasma collected is a substantial portion of costs of goods sold or COGS, doing this efficiently on a large scale is a major competitive advantage. For reference, CSL’s mature collection centres collect an estimated 100k litres per annum per centre; double that of its nearest competitor.

There are several structural changes that have improved the industry dynamics on a sustainable basis namely;

  • Significant consolidation with three companies now accounting for 80% of the market.
  • The underlying demand for immunoglobulins (plasma product) has grown substantially exceeding future additional supply infrastructure. In addition, it takes 3-4 years for new plasma collections centres to reach operational efficiency.
  • The increase in GDP per capita in China has generated enormous ongoing demand of Albumin. This increase effectively balances the demand for Albumin and IVIG (Intravenous immunoglobulin) produced per litre of plasma, a significant development when examined in conjunction with ‘Last Litre Economics’.

They are also the largest global processor of plasma (they produce 18 million litres per annum as compared with 14 million produced by their nearest competitor). Also for several years, CSL has been building its collection network at 20-25 centres per year while its competitors for some unknown reason have chosen not to add to their collection capacity. This creates a real competitive advantage for CSL as it has control over an increasingly scarce resource – Plasma.

CSL have continued to increase their competitive edge through generating substantial revenue from additional products outside of the typically in-demand Albumin, Immunoglobulins and Factor VIII products. An act, which has generated a Gross Profit margin of almost 60% and EBIT (Earnings Before Interest and Tax) Margins of 34% for the blood fractionation business.

It is also important to note that due to the nature of this business and patterns of supply and demand when it comes to medicine and medical assistance, CSL’s revenue and profitability is economically insensitive.

 

Is the Management team competent?

The management team has a history of under promising and over delivering, in addition to erring on the side of caution with conservative accounting and frequent disclosure.  Their recent investment decisions in both plasma collection centres and expanding their processing capacity has provided a massive strategic advantage.

Within the industry, they have a reputation for high quality products produced reliably and consistently.

 

Can we buy it at the right price?

As with all of our investments we are looking for a company with a current sustainable after tax cash earnings yield of 6 – 8% p.a. with strong growth for the medium term. CSL sits at 6% and is growing at 10%+.

CSL Limited holds the largest position in our Fund for these main reasons:

  1. CSL is a global leader.
  2. CSL is the lowest cost producer of plasma globally.
  3. The revenue outlook is robustly double digit due to the favourable product mix and strong operational leverage and with good long term visibility.
  4. Demand for CSL products are non-economically sensitive due to their life saving nature.
  5. The company has a good track record for successfully launching new products at higher margins and their current product suite is performing well.
  6. The Vaccines business – Sequris – has substantial potential over the medium term.

 This stock is held by our Australian Equities Fund.

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This report has been prepared by Pengana Capital Ltd (ABN 30 103 800 568, Australian Financial Services Licence No. 226566) (“Pengana”).  This report does not contain any investment recommendation or investment advice and has been prepared without taking account of any person’s objectives, financial situation or needs.  Therefore, before acting on the information in this report a person should consider the appropriateness of the information, having regard to their objectives, financial situation and needs.
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