During their recent episode, Taylor, Carlisle, and Gwen Hofmeyr discussed Deep Dive into Melexis: Belgium’s Niche Sensor Powerhouse. Here’s an excerpt from the episode:
Gwen: Yeah. So, Maiden Financial is my research company. I started it, because I published a couple reports last year. One, on a regional bank in the US, called Hingham Institution for Savings. And another one on Ingles Markets. Both reports took about 300 to 400 hours. The market response was pretty overwhelming. I think it affirmed this theory that I had that there’s a lot of research volume today, but there’s not a lot of research depth, especially on the sell side. That’s typically, because sell side research is viewed as a bridge to capture the economics of other financial services. It’s seen as a means to an end.
So, a lot of it is surface level, a lot of it stays at the rapport level. I identified that need to go beyond and to do the work that managers just don’t have the time to do, because they’re wrapped up in the minutiae of running their fund. So, yeah, we do in depth research on companies across the developed world. Our reports average about 50 pages or longer. We research the way that we do with the intention of acquiring an owner like understanding of the companies that we research.
I find in my eighth year now being in the industry that the more that I know about a company, the better that I behave. And so, I think that instead of looking at the forest and forgetting about the few diseased trees that are within the forest, I feel more inclined to go inside the forest and to analyze every tree inside the forest and to say truly, “I know which areas are healthy, which areas are not.” I find it very behaviorally grounding when the tide pulls out to stay focused on business characteristics and not on the movement of their respective share price movements.
Tobias: Well, tell us a little bit about your most recent research report, which is in a firm called Melexis, which I confess I had not heard of before and know nothing about. So, we’ll get started from the start.
Jake: Toby knows more than I do, I think.
Tobias: [laughs]
Gwen: Yeah. So, it’s one of the more recent reports, technically second most recent that I published. It’s on a Belgian sensor producer. So, Melexis is a Belgian sensor producer, mostly for automotive applications. So, about 90% of the sensors that they make are for automotive. And the rest go into white goods, robotics, various other consumer goods.
Jake: Gwen, can you give the ticker for people, so they can–
Gwen: Yes. So, it trades on the Euronext exchange under the ticker, M-E-L-E.
Jake: Okay. Thank you.
Gwen: And so, what drew me to the company, is earlier in the year, especially around the announcement of Liberation Day tariffs, industrial inventories were quite high at the OEM level and also at the supplier level. And they remain fairly elevated. So, a lot of OEMs as well as their suppliers were seeing quite notable declines in the share prices of their stocks.
So, I am fairly interested in analog sensors, just because it’s lagging edge technology that I can wrap my head around. There are sensors that are just taking data about some physical characteristic of the environment, whether that’s heat or electrical current or pressure, and they’re transforming that into a digital signal that can be used for various applications across many different mechanical wares, whether that’s a car or a blow dryer. They’re in everything basically that we use and that require microelectronics to assist their function.
One company that I noticed in particular, so one thing that we do at Maiden is when we’re thinking about analyzing an industry, we just take every company in that industry, put it into a spreadsheet and figure out just almost chart like an archaeological dig site around the whole industry, like what have the economics of each respective company been on a 20-year basis and how has that changed over time and where are the difference in the capital structure and ownership, etc., etc.
Melexis really stood out, because Melexis produces returns on capital and returns on capital employed that are I am about double the average of its named competitors. The only company that best sit on a return on equity basis over the past 10 years and the firm has about 45% debt to equity, so I think it’s relevant to cite that figure is Texas Instruments.
So, Texas Instruments slightly best them, but in terms of return on capital, employed capital efficiency, Melexis bests Texas, which is really surprising, because Texas is one of the better companies in the world, in my opinion. That was particularly odd, because Melexis generates about a 10th of the revenue of its named competitors. So, that begs the question, how is it that a company that generates a 10th of its revenue of its peers, and those peers are 10 times larger and it’s generating returns on capital that are double that peer average? I mean, economies in scale, blah, blah, blah, why isn’t that showing up in those larger peers?
And so, in my experience, when you get a smaller player or even a larger player that shows really high profitability, it’s typically because they have a niche. They’re focused on one particular area of the market, they might dominate that area of the market or they might just be optimized in a way that other firms are not. There’s just a lot of inertia and there’s maybe not the incentive to streamline in the same way.
And so, immediately, I developed theory that Melexis was very likely focused on the production of just a few types of sensors. But you would be misled to be thinking that, because when you look at the company’s website, they offer 13 different types of integrated circuits. And so, from the face of it, you would think, oh, they’re a diversified player. They’re offering a bunch of different products. But there are over two dozen different types of sensors that are sensing completely different environmental phenomenon. And so, if it was the case that they were focused on just a couple different types of sensors, it would be explanatory for their upper profitability, if they’re dominating smaller markets.
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