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TCI Trumpets Investment in Japan Tobacco

Oscar Veldhuijzen of TCI Fund Management kicked off today’s Active-Passive Investor Summit in Manhattan with a discussion of the London-based firm’s investment in Japan Tobacco . TCI, which manages more than $9 billion, invested in the tobacco company in summer 2011. It has since more than doubled.

“It is one of our most successful investments in recent years, a turnaround investment,” said Veldhuijzen, a partner and analyst at the roughly 50-person firm. In the beginning there were “virtually no believers.”

Japan Tobacco is one of the top three international tobacco companies in the world and includes flagship brands Benson & Hedges, Camel and Silk Cut, he said. Two-thirds of its profits are generated in Japan and Russia.

In the three years prior to TCI’s investment, Japan Tobacco had delivered poor shareholder returns, when compared to British American Tobacco and Philip Morris international, which returned 70% and 120% respectively to shareholders over that period, Veldhuijzen said. Yet Japan Tobacco had low levels of debt, a free cash flow yield and a low cost of borrowing that made share buybacks extremely accretive.

“We love the tobacco sector because it has very strong pricing power,” he said.

When TCI began its investment, the government held more than 50% of Japan Tobacco’s shares. It aligned with the government and pushed for more corporate governance and shareholder returns.

TCI “demanded” Japan Tobacco replace its chief executive, set clear profit targets and add independent board members in order to narrow the discount versus its global peers.

Veldhuijzen initially said Japan Tobacco’s share price would at least double if management increased its shareholder returns in line with global peers. He said the firm expects profits to increase by double digits in an industry that has shrunk volumes.

Separately, Veldhuijzen discussed his firm’s investment in Coal India , the largest coal miner in the world. He said he expects it to grow 20% in coming years, especially since coal is sold at a “massive” discount.

The firm “often invests in unconventional and unloved stocks…that trade at low multiples,” he said. “We have a bias for out of favor investments.”

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