European growth: unique brands, hidden champions

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Is the tide turning for European stocks? After years of weak economic growth, policymakers prioritising regulation over innovation and high energy prices, valuations are depressed. However, these same difficulties may have led markets to underestimate Europe’s potential, especially when it comes to exceptional companies operating in pockets of growth. Now, there are tentative signs that sentiment is shifting.

“We’re starting from a very low base of expectations,” Baillie Gifford’s head of European Equities, Stephen Paice, tells our Short Briefings on Long Term Thinking podcast.

“And when you have low expectations, the potential to surprise and make money from the upside is greater.”

Paice cites a potential ceasefire in the Russia-Ukraine war and the formation of a more pro-growth German government as two developments that could cause “top-down” investors, who focus on macroeconomic factors, to rebalance their portfolios in Europe’s favour.

But he notes his team takes a “bottom-up approach”, looking at individual firms’ fundamentals, to find the “relatively small number of outlier-type growth companies” based in Europe, excluding the UK. This includes focusing on characteristics such as resilience, adaptability and culture, which can help turn adversity to their advantage.

“We’re looking for companies with very strong competitive positions, that have pricing power that enables them to mitigate any kind of macroeconomic shocks, and are run and managed by people we trust,” Paice explains.

“Take tariffs – businesses with innovative products that can’t be substituted are in a much better place to raise prices but not affect demand than others. And companies that can help to reshore supply chains or move them to the US will also benefit from whatever happens.”

Biological revolution

In the episode, Paice discusses four areas of interest where European companies are growing strongly over the long term.

The first is the ‘biological revolution’, with technological advances and a deeper understanding of the science driving new healthcare solutions.

He gives Novo Nordisk as one example of Europe leading the way. It’s responsible for the weight-loss drug Wegovy and various diabetes-related treatments, among other therapies.

“I’ve been to its largest manufacturing site in Kalundborg, Denmark, which covers the equivalent of about 250 football pitches, where it makes about half the world’s insulin,” Paice says. “When you have that kind of scale, it gives you certain advantages in terms of costs and manufacturing that very few others have.”

Lonza is another holding whose size plays to its advantage. The Swiss firm develops and manufactures drugs on behalf of others, ranging from small biotechs to large pharmaceutical and nutrition companies.

“One of the things underpinning its growth are biologics – drugs made from complex proteins and other living organisms that are difficult and costly to manufacture,” Paice explains. “It’s very well run and is investing in lots of capacity, particularly in the US.”

But scale isn’t a prerequisite to include a drugs maker in our portfolios. The European Equities Team invested in Camurus, a lesser-known Swedish firm, last year thanks to its FluidCrystal technology. The innovation slows the release of injected medications.

“The drugs only need to be taken once every week or even every month, meaning patients are more likely to continue taking them,” Paice explains. “The firm has reformulated a treatment for opioid addiction as an alternative to daily liquid shots of methadone or pills. And it plans to use the technology on lots of other approved drugs to make them longer-lasting as well.”

Dominant digital platforms

The second theme Paice covers is ‘dominant digital platforms’. While Europe lacks companies commanding the engagement of Amazon, TikTok or Google, its firms lead in other niches.

“Spotify, for example, is the world’s largest audio-streaming platform – it has 670-odd million monthly active users,” he says. “Schibsted is another, with its large collection of online classified businesses. And we get to invest in those, in many cases, at lower prices than we would if they were listed in the US.”

These platforms enjoy network effects, gaining in value and utility as more people join to create a self-reinforcing cycle. Adyen is a third company that fits the bill.

The Dutch firm helps businesses:

• accept a huge variety of payment methods
• use the resulting data to better understand their customers’ needs
• cut fraud while minimising the number of blocked transactions

Uber, McDonald’s, Microsoft and eBay are among its larger clients.

Baillie Gifford first took a stake in 2019 and is now one of Adyen’s largest institutional investors. What’s bolstered confidence, Paice says, is our access to the firm’s leadership.

“I was recently in the privileged position to meet and spend a whole afternoon with these guys, including Pieter van der Does, the co-founder and co-chief executive, and Tom Adams, its new chief technology officer,” Paice says.

“It’s only when you own a company for a number of years that you start to really understand its culture. And there’s definitely something unique and very special about the way Adyen operates.”

Semiconductors and luxury

Semiconductors is another sector commonly associated with US and Asian companies. But, again, Europe plays an outsized role in certain specialisms.

Paice mentions two Dutch holdings as examples. ASML and ASM International make high-precision equipment that pushes physics to its limits to let clients manufacture the world’s most advanced chips for the likes of NVIDIA and Apple.

“Leading-edge semiconductors couldn’t exist without ASML’s lithography tools, which effectively pattern complex transistor circuitry on silicon,” Paice explains. “And ASM International, in essence, deposits a layer of material on top of these semiconductors at an atomic layer, allowing them to become more complex and 3D-like. These companies are incredibly important for anything related to AI and they’re almost monopolies.”

Decades of research reinforce both companies’ lead. In contrast, Europe’s luxury goods sector arguably enjoys an even more formidable advantage: heritage and provenance dating back centuries.

“Even if tariffs come in, even if there’s raw material inflation, these companies can put their prices up five, 10 per cent, and their high-net-worth customers won’t bat an eyelid,” Paice says.

Baillie Gifford’s exposure includes two luxury groups: LVMH – whose maisons include Louis Vuitton, Christian Dior and Moët & Chandon – and Richemont – home to Cartier, Montblanc and Buccellati.

“By having multiple brands, they are in a much better place to negotiate rent with shopping malls,” Paice says. “The same is true for buying real estate, whether on Paris’s Champs-Élysées or New York’s Fifth Avenue. They also have better marketing tools across their businesses and better data. So there are many reasons why they’re becoming ever more powerful.”

Industrial technologies, decarbonisation and serial acquirers are among other categories that Paice and his colleagues have found promising companies to invest in. And his key takeaway is that, from unique brands to hidden champions, the region remains promising to the picky and patient investor.

“Europe has amazing companies which seem to be trading at very low valuations,” Paice concludes. “To take advantage of that, you need to be long-term and to put up with some volatility. If you do, times like these are sometimes the best to invest in.”

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