As a group of generalists, the Riverbridge investment team embraces an unconstrained perspective when choosing companies to add to our clients’ portfolios. Paired with our champion/devil’s advocate decision-making approach, which prevents groupthink and rigorously examines all potential portfolio companies, this mindset of openness enables Riverbridge to think beyond singular factors, recognize context, and focus more fully on identifying companies positioned for long-term earnings power.
As per its earned reputation, the third quarter of 2023 posed challenges to investors. As the Fed maintains high interest rates and disruptive remnants of inflation continue to linger, the market is facing a difficult road into the new year. However, Riverbridge portfolio companies—marked by internal financing and mission-critical products and services—remain well positioned to confront current and emerging challenges.
At Riverbridge, every investment is made to serve our clients—and the culture of our investment team is designed with that commitment in mind. Through compensation based on the overall results of the firm, a decision-making structure that avoids internal politics and confirmation bias, and behavioral expectations grounded in transparency and listening, we cultivate an environment conducive to long-term client success.
The first half of 2023 exceeded low investor expectations. Equity markets surged, excitement for possibilities surrounding AI grew, and the Fed’s goal of orchestrating a soft economic landing showed signs of promise. We welcome these outcomes, but we also recognize that they serve as a reminder of the perils of attempting to time the market. Above all, this quarter reinforced our commitment to investing in fundamentally sound companies with the ability to adapt to changing market conditions.
Due to the prevalence of ChatGPT, the first quarter of 2023 brought artificial intelligence to the forefront of our collective consciousness. Although we agree that some worries and hesitations around the rapid adoption of AI are valid, we believe the continued evolution of AI presents great opportunity to enhance human creativity and productivity—which, in the case of Riverbridge portfolio companies, is likely to drive sustainable earnings power.
Throughout the first quarter of 2023 the equity markets proved resilient, posting strong gains as investors became more discerning of fundamentals. Despite the ongoing uncertainty surrounding the Federal Reserve and other macro factors, we remain confident in Riverbridge portfolio companies and their fundamental commitment to financing their growth from within.
After the historic year that was 2022, questions of valuation have become commonplace. At Riverbridge, we believe these questions are unanswerable without the benefit of hindsight, so we approach them through a long-term lens, focusing on a given company’s fundamentals. This enables us to invest in solid companies that are well positioned to outperform over the course of a full market cycle.
The fourth quarter closed out a particularly challenging year for investors. Looking ahead to 2023, we predict market performance will likely be dictated mainly by inflation and the Federal Reserve. Due to their focus on internally financed companies, Riverbridge portfolios are well positioned to thrive amidst these factors.
Even if the market experiences an earnings recession in aggregate, some companies won’t experience an earnings decline. What are the characteristics of businesses that can build earnings power in a difficult economic environment?
The third quarter was a challenging period of the year for investors, marked by high inflation and efforts by the Federal Reserve to combat it. Despite these factors, Riverbridge portfolios contain many fundamentally vibrant businesses that we expect to adapt or even thrive in this uncertain operating environment.
Today’s market and economic environment shares many similarities to the 1960s and ’70s when the “Nifty Fifty” reigned supreme, then sold off precipitously. What transpired after the crash of the Nifty Fifty, however, provides some valuable reminders for long-term investors in 2022.
The first half of 2022 saw accelerating inflation and rising interest rates, resulting in equity markets experiencing their worst first half since 1970. While it is futile to attempt to predict when the market will bottom, Riverbridge is confident that our companies will continue to build their earnings power by leveraging their strategic market positions.
Automation, digital transformation, cloud computing, eCommerce, and other trends accelerated during the pandemic, but Riverbridge’s forward-thinking portfolio companies have been in front of these opportunities for years. The choice to build earnings power for tomorrow is critical for successful long-term outcomes.
Despite market optimism at the end of 2021, investors were met this quarter with the first market loss in two years. Although corporate earnings were impressive, market-shaping events like a European invasion and inflation readings at a 40-year high had an impact on the S&P 500®.
Despite an ongoing pandemic and the return of inflation, the market posted nearly a 30 percent return in 2021 and continues to demonstrate resilience time and time again. While forecasters don’t anticipate the same level of growth for 2022, other factors could potentially give investors confidence to withstand increased market volatility.
As the pandemic continues to shift the modern workplace, there is need for continued innovation in back-office solutions. More reliable mobile and cloud-based solutions are becoming imperative to scale and position a business for long-term growth.
At Riverbridge, we believe that investing in high quality companies—those with strong management teams, flexible balance sheets, and customers who depend on the good or service that they provide—will produce strong results over the long term.
While supply chain bottlenecks and inflationary pressures gripped the markets, Riverbridge portfolio companies continue to perform well due to their strategic market positions and internally financed growth.
Unlike many investors who define risk as being different than the broader market or deviating from a stated benchmark, we define risk as the permanent impairment of earnings power. This unique approach continues to deliver a risk profile that helps our clients invest with endurance.
Riverbridge strategies all generated strong returns for the second quarter and year-to-date. Our portfolio companies also reported vibrant earnings and forward guidance and are well-positioned to thrive in the new post-pandemic economic normal.
The societal and market upheavals of 2020 have caused and will continue to cause some economic hardships. However, they are also creating new opportunities for near-term and long-term growth.
Despite prevalent restrictions on mobility and capacity, 2020 saw a spike in new business applications in the United States. This surge has profound implications for the pace and sustainability of our ongoing economic recovery, as well as the long-term value these new businesses will add to markets and stakeholders.
In the midst of a rapidly changing world, companies built on innovation, flexibility, and responsiveness have exhibited the vision and fortitude necessary to create enduring value.
The societal and market upheavals of 2020 have caused and will continue to cause some economic hardships. However, they are also creating new opportunities for near-term and long-term growth.
Fueled by monetary stimulus and an economy recovering faster than most predicted at the start of the pandemic, the third quarter of 2020 saw overall gains. However, the ongoing pandemic and political uncertainty in the upcoming final quarter of 2020 has the potential to offer more market-shaping events than any quarter in recent memory.
True value is never created quickly and requires endurance and a long-term mindset. Through discipline, resilience, and purpose, investors can avoid common pitfalls and experience the value creation that occurs over time.
The first half of 2020 was packed with significant news and events, namely the COVID-19 pandemic, which remains at the forefront of the world’s attention. Aggressive action by the Federal Reserve catalyzed a market rally in the second quarter, but investors remained discriminating about which businesses are well-positioned to navigate the unpredictable road ahead.
It is impossible to predict the future. So we choose portfolio companies that are positioned for success amidst unpredictability—those that see, adapt, and invest in opportunity to embrace change and create value.
Agility and innovation play a critical role as companies make decisions about how to weather the storm and develop solutions for society in the midst of disruption from the COVID-19 crisis.
There was breathtaking volatility as investors navigated the 20-day transition from record highs to a bear market, largely influenced by the COVID-19 pandemic. Nevertheless, taking a long-term perspective means investigating the opportunities that lie in this changing environment.
Despite continuing and rapid technological change, productivity growth in the U.S. has dropped significantly in recent years. Today, a new wave of technological innovation is being leveraged to solve productivity problems in every industry and geography, with the hopes to enable the next surge in productivity growth.
For the first time on record, the U.S. economy has started and concluded a decade without entering a recession, resulting in truly remarkable economic results. When contemplating the last ten years, and the strong finish to 2019, many investors are hoping for a repeat performance as we begin the new year.
In today’s fast-paced world requiring ever-evolving skillsets, human capital has emerged as a strategic imperative for employers of all sizes and in all industries. No longer simply an HR issue, recruiting, training, and retaining employees is now a priority for the entire executive suite.
Struggling global economies. Continued Brexit deliberations. The Fed reducing interest rates. The market conundrum that was the third quarter has set the stage for investors to ponder what is in store for the remainder of the year as well as for 2020.
The United States healthcare system is making necessary changes to keep up with rising health costs and needs—as well as investing in technologies that better understand, prevent, and treat a myriad of conditions.
Despite a strong ending to the second quarter of 2019, market headlines are still not the key to achieving good long-term results.
Accounting practices serve as a reflection of a management team. When analyzed properly, accounting does not answer many questions, rather it raises topics to further explore. Thoroughly understanding a company’s accounting practices and philosophy provides a richer fundamental understanding of a company and the integrity of its management team.
Equity investors could not have asked for a better start to 2019, as all major equity averages appreciated more than ten percent in the first quarter. Nevertheless, investors made rather large redemptions in the first quarter, likely reflecting some collective angst. The present mix of optimism and skepticism may actually be a good balance for long-term investors.
More than any other investment discipline we deploy, internally financed growth shapes our compelling downside protection in weak markets and contributes to the relative predictability of our investment returns.
This past year forced investors to contend with renewed volatility spurred by increased inflationary pressures, a hawkish Federal Reserve, trade wars, and decelerating economic growth. As we conclude the year, investors are left to ponder whether 2019 will be reminiscent of the idyllic market of 2017 or if they will be forced to relive the headaches of 2018.
Enduring investments require leadership to cultivate a culture encouraging and even demanding constant innovation—even if it comes at the expense of near-term earnings.
While few dispute growth is a necessary ingredient for capital appreciation, an oft-neglected piece of analysis is the sustainability of such growth, which requires a deep look at a company’s strategic market position.
We focus on companies that are producing enduring unit growth while maintaining high returns on invested capital. Sustained unit growth combined with increasing returns on invested capital creates earning power.
The ability to resist near-term market emotions and not deviate from their stated investment philosophy is what separates enduring managers from those that come and go based on short-term market phenomena.
Ross:
As a company that was very dependent on one particular technology or product in your early days, how did you build adaptability into the organization over time so that you could start to diversify? Certainly, with one very successful product that’s monetized very well, you have plenty of competitors and there’s plenty of change afoot in the end-markets you’re in. How do you get past those hurdles?
Balu:
Well, the first question you ask is how big the market is. Obviously, if the market is too small, you have to diversify out of the market. But I’m always surprised every time we look at the market, because it’s bigger than we think. The reason is that power is everywhere. Especially with this carbon net-zero initiative, it’s going to become a humongous market. It’s estimated by Goldman Sachs that about $54 billion will be spent between now and 2050 on aligning with the Paris Accord requirements. 70% of that will be spent in areas that directly benefit us. You see, the U.S. has already committed a lot of money, and the market is growing. The question is, “How do we get the most of the profit to our company?” We do that by having products that span the entire spectrum of power levels and applications.
The good news about power is that power is power. It doesn’t matter if it powers a solar invertor, a motor driver on a locomotive, an automotive power supply, or a power converter on any of your appliances in the house. The power supply is still the power supply. The only differentiation is power. Some things take very little power—your cell phones might take just a few watts—but if you’re in a high-voltage DC transmission system, you’re talking about a couple of gigawatts, maybe more.
So, our goal, which we have been pursuing for some time now, is to address it all. We go from a few watts to gigawatts. It’s just a question of the products. The more products you introduce, the more market there is. We have already identified products that will take us to about $8 billion in SAM by May 2027 or 2028. And in the last six months, we’ve already thought about products that will push us lot further from there.
Our board asks all the time, “Do you have to acquire a company or maybe go into a different conversion?” But when you look at it, we have so much intellectual property. We understand high voltage conversion better than anybody else in the world. Why would we not stay in this area and capitalize our intellectual property, our knowledge, and our know-how? Why would we compete with people doing DC/DC conversion? Why wouldn’t we make our own way and grow the company where there is no competition? That’s the whole thought process. You focus, you keep innovating, and you generate more products that continue growing the SAM. I don’t even see a limit to growing the SAM. It’s just a question of us coming up with more products.
Disclosure: Information in this transcript is not intended to be used as investment advice. Mention of companies/stocks herein is for illustrative purposes only and should not be interpreted as investment advice.
Ross:
How have you been able to keep your company focused on the long term in a market that is not known for long-term thinking?
Balu:
The only long-term barrier to competition is innovation. You have to constantly innovate. Number two, you have to protect your innovation. You have to protect your IP. In the early days of the company, we decided to not put our IP in China, Taiwan, or Korea, because we wanted to make sure we weren’t going to lose it over time. So, we started with Japan with our wafers.
Our assembly is done in Malaysia, Taiwan, Thailand, and the Philippines, because we also have IP in our packaging, which we have to protect as well. We really isolate that. The manufacturers only know what they need to know in order to make a part. Even at our wafer foundries, we own the recipe. They just make the wafers for us. All of that gives us a unique advantage, even within the company. Our employees don’t have access to information unless they need it to do their job. So, we have been very successful in protecting our IP.
Disclosure: Information in this transcript is not intended to be used as investment advice. Mention of companies/stocks herein is for illustrative purposes only and should not be interpreted as investment advice.
Ross:
How do you incentivize people to take chances and innovate? As companies get larger and larger and more successful, they tend to become more risk averse, and that’s the exact opposite of what they need to be doing. How do you make sure that people continue to stay aggressive regarding innovation and learn from their failures?
Balu:
It’s important for me to make sure the engineers take risks. I always tell them that if they don’t take risks, they’re not going to be any better than our competitor. We have to take risks. It’s okay if we fail, because we will learn from it and move on. But not taking risks is not an option, because then we will become mediocre over time.”
As a company grows, you really have to instill that mindset into every engineer in the company. Luckily, we have a lot of people who have grown into it and believe in it 100%. So even if I didn’t personally talk with an engineer, I’m very sure they understand our business model of needing to push the boundaries.
Now, I don’t want to take risks in operations or finance. They have to do their jobs perfectly and not take risks anywhere. But everywhere else, we really, really need to take risks. Sometimes, when I suggest some ideas, the engineers think I’m totally nuts. But I say, “Okay, try it. Who knows? It may work and then you’ll know it works.” It works sometimes, and sometimes it doesn’t work, which is OK.
Disclosure: Information in this transcript is not intended to be used as investment advice. Mention of companies/stocks herein is for illustrative purposes only and should not be interpreted as investment advice.
Ross:
The technical challenges you’re describing are enormous. But I’ve always understood that the analog-semiconductor market requires more design prowess and more creativity out of the engineers. Why do people come and work for Power Integrations?
Balu:
My experience with the engineers is that you have to give them an environment that allows them to thrive in terms of pushing boundaries and trying things without being faulted for doing something wrong or hitting a dead end. You also have to make that environment apolitical, because as soon as you bring politics into it, the engineers just hate it. Also, there needs to be complete communication, with no barriers, across all groups. There can’t be secrets in the company. We have talk about what our shared goal is.
Everybody in the company has exactly the same goals, which is very unique to our company. If you give a goal that’s different for a design group versus a test group, they will all blame each other for missing the deadline. If they all have the same goals, they help each other. If one of them is struggling, the others will ask what they can do to help. It creates a very unifying force where everybody works together for the success of the company. I even have the same goals as everyone else, and they understand that. And we have very few goals, which are very specific. Everyone does their part. When you have an environment with no politics and no limitations, we couldn’t get rid of the engineers even if we wanted to. Most of them like the environment more than money.
I mean, I can’t tell you how many people have stayed with us until they retired. We have a high average age, and probably the first eight years are the most vulnerable, because the newer employees don’t know us very well and don’t know what else is out there. They often think maybe there is another company that is better, because they just come from school. They haven’t tried any other company. Sometimes people leave, and if they do, we always tell them they are welcome to come back, and lot of them do come back. Some come back after two years, some of them after five years. I always ask them why they came back. They say, “I did all of these different things, but I realized this is the company I want to work for.”
Disclosure: Information in this transcript is not intended to be used as investment advice. Mention of companies/stocks herein is for illustrative purposes only and should not be interpreted as investment advice.