Which stocks hold up well in a recession? Try ‘Mission Critical’ productivity boosting companies

In the current climate of rising inflation, potential recession and general uncertainty, investors could be forgiven for not knowing where to turn. Some top performing companies in the US market are now having a tough time. These days the best bets may be companies that offer products and services which significantly increase the productivity of other companies. The offerings of such companies can become ‘Mission Critical’ to their clients, especially during periods of high inflation or recession, but in the long-term as well.

These “enablers” often do not grab the headlines as they operate behind the scenes, but their products and services are incredibly important for increasing the efficiency of other companies. Good examples are Avery Dennison, JB Hunt and Eli Lilly.

Avery Dennison is a California-based materials science company specialising in adhesive labels, packaging materials and in tracking merchandise through a store with radio frequency tags (RFID). JB Hunt is an Arkansas-based logistics and transportation company that uses its online “360” platform to connect shippers with carriers, which not only streamlines logistics and makes transport cheaper, but also opens up new and innovative solutions for their clients. Eli Lilly is a pharmaceutical company which offers a novel anti-obesity drug called Mounjaro that can reduce the weight of obese patients by as much as 22 per cent. It could be a potential solution to the global obesity epidemic and allow global healthcare systems to devote more resources elsewhere.

Break on inflation

Such products and services act as a natural deflationary force on the economy at large, as they significantly reduce costs for the companies that use them. A firm leveraging JB Hunt’s intermodal travel network could save 30-40 per cent of the cost of road travel. A business tracking its in-store merchandise with Avery Dennison’s RFID tags should save valuable employee time and reduce the costs associated with inventory obsolescence. Obesity is  responsible for as much as 14 per cent of the US’s total health expenditure: Eli Lilly’s drug could generate significant savings and free up extra time for global healthcare systems.

These offerings are not only good for the short term but, in our view, are sound investments for the long term. With the US facing a demographic crunch due to an ageing workforce and a switch to green energy that could raise prices, we believe more and more companies – and US states – will come to rely on products and services that boost their efficiency and cut costs. This becomes even more attractive to companies if it can make them more sustainable at the same time, as in the case of JB Hunt’s intermodal network which emits up to 60 per cent less CO2 in addition to saving costs.

Potential pitfalls

This is not to say that there are no risks involved in investing in such US ‘Mission Critical’ companies. One key risk is that these companies might be tempted to engage in rent-seeking, which would inevitably draw in competition and threaten their structural advantages. However, Avery Dennison, JB Hunt and Eli Lilly are focused on large and lightly penetrated markets, which do not typically lend themselves to this kind of behaviour.

Another potential risk is the ever-increasing prevalence of technological disruptions, which could challenge the advantages of companies focused on enhancing productivity. A well-funded and efficient R&D and innovation pipeline is critical to allow this kind of company to maintain its advantage.

Avery Dennison is developing next-generation RFID tags that power themselves wirelessly via energy from cellular, WiFi and Bluetooth; J.B. Hunt is working with Alphabet-owned Waymo on self-driving truck technology; and Lilly spends 25 per cent of its revenues on R&D, which has given it a pipeline of six anti-obesity drugs to potentially succeed Mounjaro. These innovations should mitigate the risk of competitors developing new offerings that displace their strong market positions, which could serve them well for long-term quality growth.

While these productivity-boosting companies will not be completely unaffected by a recession, they should be less sensitive to the economic situation than many others due to their economic importance. This means US ‘Mission Critical’ companies are ideally positioned to outperform in all types of economic weather, giving them a strong long-term earnings growth profile, which in our view makes them a good opportunity for quality growth investors.

Louis Citroën is portfolio manager of the Comgest US Equities strategy