Urbem's 'Wonderful Business' Series: KONE
Riding in an elevator used to be dangerous business until the invention of the so-called "safety elevator," a device that could prevent a passenger elevator from falling if its rope broke. This technology debuted more than 160 years ago in Manhattan, and it has become one of the most enduring products in the world. Today, many of the world's oldest safety elevators are still up running.
Based on the Lindy Effect, which states that the future life expectancy of non-perishable things is proportional to their current age and every additional period they survive, it would be worthwhile for investors to take a look at the elevator business in search of economic moats. Finland-based KONE Oyj (OHEL:KNEBV) is a pure-play in the four-company oligopoly of the elevator/escalator industry. In case you are curious, "kone" means "device" in Finnish.
KONE has a market cap of approximately 24 billion Euros ($27 billion). Founded in 1910, the company is a century-long survivor itself with significant family ownership in the 4th generation as of the present day. Antti Herlin, the richest person in Finland and the great-great-grandson of the founder, is the current Chairman of the company and controls (directly or indirectly) 62% of the voting rights and 22% of the total shares outstanding.
In fiscal 2019, KONE generated 53% of its revenue from new equipment, which is the main long-term growth driver. The remaining 47% came from maintenance and modernization (offering repeatable, reliable cash streams). Geography-wise, the company's sales are distributed across EMEA (40.5%), Asia-Pacific (39%) and the Americas (20.5%), with a total presence across more than 100 countries and a total customer base of over 500,000.
According to the management, KONE has an installed base of more than 1.3 million units in service, which, in aggregate, move over 1 billion people and receive approximately 70,000 maintenance visits in a typical day. Hence, the business benefits from highly-frequent activities with predictability, which long-term investors should value.
As is indicated below, KONE, alongside its pure-play peer Schindler Holding (XSWX:SCHN), earned super-normal returns on invested capital consistently for the past 15 years, reflecting superior capital allocation and durable competitive advantages.
In our opinion, KONE digs itself a wide moat through its reputation in a mission-critical domain, the global scale (consisting of own operations, agents and distributors) and an ultra-high switching cost. The brand has a top market share in China in terms of both new equipment and maintenance. Meanwhile, when it comes to the rest of Asia-Pacific, it has a No. 1 market position in new equipment and a No. 2 position in maintenance. We think that this is quite significant, as the Asia-Pacific region represents more than two-thirds of the global new equipment market and over 40% of the worldwide maintenance market.
The long-term growth in some emerging markets is looking promising thanks to the ongoing megatrend of urbanization. Per the management's estimate, China now accounts for 63% of the new equipment market, compared to 19% in EMEA and 8% in Southeast Asia, India and Australia combined. The company managed to increase its market share in the country from 10% in 2009 to 20% in 2018. At the same time, more mature markets may continue to play the role of "bond proxy" by contributing to the service revenue. More than 50% of elevators/escalators in EMEA and North America are over 20 years old, according to the management.
Disclosure: The mention of any security in this article does not constitute an investment recommendation. Investors should always conduct careful analysis themselves or consult with their investment advisors before acting in the stock market. We do not own any security mentioned in the article.
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This article first appeared on GuruFocus.
