Andrew Mitchell: "Get the earnings right and everything will look after itself"

Ophir Asset Management's Andrew Mitchell runs his firm and his investment team differently to most. More often than not, the analysts start their days at 6:30am. By the time other professionals are arriving at work, the team may very well be on its third or fourth meeting of the day. Why does Mitchell take this approach?

"We have to work harder and smarter than everyone else, doing the work that others find too hard to do," Mitchell said on a recent episode of The Exchange by EWL Private Wealth.

This, along with an investment process that draws heavily upon the ideals of professional idol Peter Lynch, has contributed to Ophir's track record. The firm's flagship Opportunities Fund has returned an impressive 21.4% per annum on average since its inception over 10 years ago in 2012.

And Mitchell is far from done. 

In this wire, I'll share some insights from Mitchell's deep-dive interview on The Exchange podcast. He'll explain why he will continue to invest even if he believes markets are heading lower, his approach to a macro overlay in investing, and two companies owned in Ophir's the local and global funds. 

His macro perspective

Although Mitchell's career started as an economist in Federal Treasury, he does not claim to take a macro-centric view of portfolio construction. 

"Who are we to say that we know? We are stock pickers. Let's make sure we get our stocks right and not worry too much about the macro," Mitchell said. 

Having said this, Mitchell has noticed a few trends in the US market of late. 

For example, Wall Street's best and brightest issue year-end forecasts for the S&P 500's points as well as its earnings per share. This year, those forecasts are clustered around the 4,000 level (bar the odd outlier such as Michael Kantrowitz and Tom Lee). To Mitchell, that suggests the sell-side has no idea whether the market can sustainably gain or drop by double digits this year. 

"They don't know and they don't want to go on a limb," he noted while adding that it boosts the case for why stock picking is more important than ever. 

He also noted that the S&P 500's rally has, so far, been driven almost entirely by mega-cap tech stocks. As the chart below shows, the equal-weighted S&P 500 and capitalisation-weighted S&P 500 are telling two very different stories.

Mitchell says this divergence suggests that the rally may not last. In addition, the Russell 2000 (ie the US small-caps index) has not participated in a lot of the rally enjoyed by the mega-caps. Traditionally, markets do not move sustainably higher without the contribution of small-cap stocks.

The Peter Lynch effect

Mitchell is, to put it politely, a big fan of Peter Lynch. Lynch ran the Magellan Fund at Fidelity Investments between 1977 and 1990. He averaged a 29% annual return, making him the world's most successful fund manager at the time. His philosophy is a simple one that Mitchell has applied to his own firm.

"Behind all the smoke and noise on the market's surface, it's important to remember that companies -- small, medium, and large -- make up the market's backbone. And corporate earnings drive stock prices."

Lynch also has a well-known mantra about investing in businesses that everyday people can understand and relate to.

Beyond these simple principles, Mitchell and his team are fervent believers in going beyond the C-suite's talking points. 

Mitchell recalls a story of when the fund first invested in Afterpay (now Block). When it first landed on the fund's radar, there was a lot of chatter around changes to the consumer credit code which would have put companies like it out of business. But Afterpay was also doing something that its competition was not - attempting a US launch. In typical Ophir fashion, they went straight to the source to find out whether Afterpay was worthy of investment.

"We just went out to try and find the [US] companies that were using Afterpay and see how it was going. We got to one particular company and they basically just said Afterpay is absolutely killing it for us," he recalled. 

"It's fantastic, driving our online [sales], and changing the behaviour of our online shoppers for the better. And it was exactly what the Australian retailers had said," he added. 

By this time, Mitchell was convinced this was no ordinary trade - so much so that he bought $30 million of it at the same time many people were trying to get out. By the time the fund exited its position, Afterpay had become a "50-bagger". 

A current position and a recent mistake

Consistent with its mantra of going straight to the source, the Ophir team have a holding in Codan (ASX: CDA). The mining services company runs the world's largest gold detector business. 

The only problem is that it sells a lot of its products in Africa – a traditionally opaque market at the best of times and a hotbed of political activity at the worst of times. The latter is particularly true today, given the ongoing war in Sudan. Ophir got around this problem by hiring a middleman (or what journalists would call a 'stringer').

"We found someone who knows how to speak Arabic and French, and he's called up the distributors with us and asked them questions about what is happening over there," he said. 

But not every trade can be an Afterpay. In this episode, Mitchell also revealed a mistake related to the fund's holding of Omni Bridgeway (ASX: OBL). The litigation funding business has an opaque business model. The model also has one major weakness - any further court appeals can place a burden on the company's balance sheet.

"I thought the cash flow was going to come basically now and the market's become concerned about the balance sheet. What if this keeps happening and it keeps getting appealed?," Mitchell said. 

The fund took profits on the stock but Mitchell openly admits that the mistake was that the team didn't take enough profits when it did. The stock has fallen some 20-30% since the fund entered its position, and it still holds onto some of it.

The next 10-bagger?

When pressed about a stock that Mitchell is most excited about, he hesitated for a moment saying that talking stock picks sometimes leads to the exact opposite.

"I love how you call it "talking your book"! We call this the "kiss of death". Whenever we talk about a company, it's as if something happens from left field," he quipped.

Eventually, he settled on a US-listed healthcare company. With a market cap of US$2 billion, TransMedics (NAS: TMPX) is a company that deals in organ transplant transportation. While far from its biggest weighting, it's a technology that Mitchell believes can quickly move from break-even to dominant player.

"They will transport a heart and the heart is actually beating the whole way. It's great for the surgeon because they aren't called in at 2am as a heart comes in and the patient is rushed into surgery for the heart transplant. The patient doesn't have the extra stress," Mitchell noted.

The stock has come off its recent highs but Mitchell believes in its story. 

 "We asked one of the CEOs (who use this product) and he said it's a game-changer and that they will have 50% market share. It's at 5% market share right now. Gross profit margins are at 70%-plus and it's got a huge amount of operating leverage," he added.

You can access the full podcast on this link.