Ensemble Capital recently published its 2022 Q2 investor letter, a copy of which can be downloaded here. The fund lost nearly a third of its value this year and trails the S&P 500 Index. However, it posted positive annualized returns of 7% and 10% respectively over the last 3 and 5 years.
One of the main reasons of Ensemble’s poor 2022 performance is the disappointing performance of high growth stocks this year like Illumina (ILMN). The group of high growth stocks in Ensemble’s portfolio declined an average of 51% this year and contributed 14 percentage points of the fund’s -33% return this year. They don’t think they are overestimating ILMN’s and other growth stocks’ future growth rates. Ensemble Capital believes that “during periods of fear about the future, other investors may suddenly start to ignore the long-term opportunity and focus instead on the very near term”.
Here is what the fund specifically said about Illumina Inc (ILMN):
Illumina has 90% market share in the key technology platform know as gene sequencing that enables a wide range of genetic research and clinical applications. You can learn more about our full thesis on the company here. The company sells some of their equipment into China, where COVID related shutdowns is temporarily impacting sales. However, we don’t believe that China, or any country around the globe, has any intention of backing away from the long-term opportunity to use genetic research and applications to radically improve human health. For instance, the novel MRNA vaccines developed for COVID (the virus was sequenced on Illumina equipment) have demonstrated a broad new class of vaccines for development while at the same time major strides are being made in combatting cancer using genetic testing.
Illumina did lose a court battle this year related to some of their patents, but we do not think their competitive advantages and growth opportunity rests primarily on a couple patents. In a recent interview, a former executive of the company, now working for a different life sciences company said, “It’s going to make business for Illumina a little bit more difficult. But there’s such a big, big installed base of Illumina’s NovaSeqs across a lot of these companies that it’s going to take a while to have anybody kind of displace what’s there.”
Meanwhile Illumina announced back in January that they would be launching a new series of breakthrough products to reduce costs and enhance output, about which the former employee said, “The company has known that their patents are expiring for a while, so you know they’re sitting on something, right? Just waiting
for the right time. But the NovaSeq has such a huge installed base with a lot of big labs that I don’t see anybody switching those out anytime soon because the switching costs are just so flipping high.”So, while Illumina does face some headwinds, we believe that investors are radically overreacting in selling the stock down to such low levels. Relative to the amount of revenue they generate, the stock is now the cheapest it has been since 2013, prior to the company’s emergence as the dominant incumbent. If you separate Illumina’s core business from the early-stage cancer detection business called GRAIL that they acquired last year you’ll find that relative to earnings, Illumina has never been so cheap. In fact, the last time Illumina traded at today’s share price was in 2017, when its revenue was more than 40% lower, and it did not own the cancer detecting GRAIL business whose purchase price now make up over a quarter of Illumina’s market value.
Our calculations show that Illumina (ILMN) fell short and didn’t make it on our list of the 30 Most Popular Stocks Among Hedge Funds. Illumina Inc (ILMN) was in 54 hedge fund portfolios at the end of the first quarter of 2022, compared to 53 funds in the previous quarter. ILMN shares lost 59% of their value over the last 52 weeks.
Recently we published another article and shared Baron Funds’ views on Illumina. You can find other investor letters from hedge funds and prominent investors on our hedge fund investor letters 2022 Q2 page.
Disclosure: None. This article is originally published at Insider Monkey.
