Quality first: Focused on the fundamentals amid the AI rally
December 2025
In the 30 years since the launch of the Scottish Oriental Smaller Companies Trust (the “Trust”) in 1995, Asia has been transformed. The region has navigated currency crises, banking collapses and pandemics; it has also urbanised at scale, opened its capital markets and nurtured a generation of world-class companies. Throughout this period, the Trust has remained focused on finding well-managed smaller companies with durable franchises and the ability to grow into larger businesses over time.
Today, investors are living through another era of rapid change, as the rise of artificial intelligence (AI) technology reshapes the corporate landscape. A narrow group of chipmakers, cloud computing giants and other AI-related firms is currently driving a disproportionate share of Asia’s equity returns. At the end of November 2025, the four biggest constituents of the MSCI AC Asia-Pacific ex-Japan Index – Taiwan Semiconductor Manufacturing (TSMC), Tencent, Alibaba and Samsung Electronics, all considered to be beneficiaries of AI – accounted for 23% of the index’s total weight and the majority of returns.1
Such market concentration brings both challenges and opportunities. Rather than trying to predict which AI champion will achieve the next algorithmic breakthrough, we are seeking to understand how technological advances, evolving supply-chains and shifting regulation will affect the opportunity set for smaller companies across Asia. We then select only those that are best placed to deliver sustainable returns over the longer term.
Meanwhile, we have also been busy identifying firms in non-tech sectors that are being overlooked amid the AI excitement – and are therefore available at reasonable valuations. In a region as vast and diverse as Asia, there is certainly no shortage of excellent businesses. In the Scottish Oriental Trust, we recently invested in a chemicals firm in South Korea, a retailer in Vietnam, a hotel operator in China and a credit-rating agency in India, among others.
In this letter, we explore some of those opportunities in depth. We also review the key drivers of the Trust’s performance in 2025 and provide our outlook for the year ahead.
Performance review: AI strength…
The Trust’s relative performance has lagged the broader market index in 2025, partly as we have little exposure to South Korea and Taiwan where most of the companies considered to be AI “winners” are located. At the same time, several markets where we see attractive long-term opportunities – such as consumer sectors in Southeast Asia and India – have not performed.
We have a nuanced view on AI. While growth across parts of the AI value chain has been strong, much of it depends on exceptionally high capital expenditure (capex) commitments among global technology firms. Because of the rapid pace of development, hardware standards can change quickly and visibility on the ultimate economic return is limited. Despite the significant uncertainty – particularly for smaller companies supplying components for AI hardware – many of these companies are priced for sustained growth and high returns on capital. For this reason, we are sceptical of such high valuations in many parts of the AI ecosystem.
That’s not to say we do not own any beneficiaries of the AI theme. In 2025, the top contributor to Scottish Oriental’s performance was Chinese online music platform NetEase Cloud Music. Forming part of a duopoly with market leader Tencent Music, the company wields strong pricing power and has been adding increasing numbers of paid subscribers, resulting in a rise in net profit this year.
History shows that in times of technological change – such as the advent of containerisation in the shipping industry – it was often the firms that took advantage of new advances to improve processes, distribution models and products that reaped the biggest rewards.2 Cloud Music is actively using new technology in this way: it is improving engagement among listeners with an algorithmic DJ that makes personalised song recommendations and allows users to create their own music using an AI-enabled “X Studio” tool.
Our conviction on the company is bolstered by our alignment with its impressive management team. As with Cloud Music’s parent, gaming giant NetEase, CEO William Ding’s leadership is based on a clear long-term strategy. Instead of aggressive mergers and acquisitions (M&A), his focus is on organic growth, and he is committed to returning capital to shareholders. This, then, is the kind of AI-related company we prefer to invest in – one that uses technology to strengthen its business model rather than relying on extraordinary capex spending to drive speculative growth.
…and consumer weakness
As benchmark-agnostic investors, we fully expect our performance to diverge at times from the broader market. Missing out on some of the gains when markets are rising steeply is a consequence of focusing on company fundamentals rather than index composition.
Our general sense is that this period is similar to 2020/21, when the Trust had a similar period of underperformance due to the sharp market rebound post-Covid. In 2022, we preserved capital during a difficult period; and the Trust’s performance recovered. Subsequently, the market refocused on earnings quality, which led to better performance of our holdings.
More disappointing is the Trust’s negative absolute performance in 2025. A key detractor over the period was Colgate-Palmolive India, the country’s leading oral care franchise. After a period of exceptional earnings in 2023 and 2024, the company’s results have underwhelmed this year as it grappled with weak consumer spending and greater competition.
Despite these challenges, we believe the longer-term case for Colgate remains firmly intact. The company has a solid franchise with high barriers to entry, and it is currently reformulating key products, such as Colgate Strong Teeth toothpaste, to improve efficacy and taste. This should support sales growth, and the recent cut in India’s Goods & Services Tax (GST) should make its product range more affordable. As the leading oral care brand in India, Colgate’s growth is well supported by the rising penetration of toothpaste and oral health products.
Philippine Seven, the exclusive franchise operator of the 7-Eleven convenience store chain in the Philippines, was another detractor this year. The government’s crackdown on Philippine offshore gaming operators (POGOs) – gambling firms that had been significant employers in urban hubs – led to lower footfall in 7-Eleven stores in Metro Manila, which affected the company’s earnings.
Nevertheless, we take comfort in Philippine Seven’s strong track record of overcoming difficulties in the past, notably during Covid-19 lockdowns, when management responded decisively to support franchisees and control costs. With convenience-store penetration in the Philippines still far below that of other Asian markets – just one store per 100,000 people, compared with 15 in Indonesia and 31 in Thailand3 – we believe the company has a long runway for future growth.
Trip notes: Corporate reform in South Korea
Despite the concentration of market returns in Asia, we remain encouraged by the breadth of opportunities emerging across the region. As always, the best place to find new ideas is on the ground, and we have undertaken a number of in-country visits this year. As well as the chance to gauge the quality of management teams through face-to-face meetings, such trips allow us to take the pulse of the economies and societies in which these companies are embedded.
Our research trip to South Korea in September, for example, offered a timely reminder of the important structural changes taking place in the country, even if they seem less exciting than the AI-driven boom. One important development is the gathering momentum behind shareholder-friendly reforms, collectively known as the “Corporate Value-Up Program”.
Concerns about corporate governance in Korea are longstanding: as far back as 2001, the Trust’s annual report was bemoaning the slow pace of reforms among the chaebol, the country’s family-controlled conglomerates. But our recent visit gave us cause for optimism.
First introduced by President Yoon Suk Yeol, the reforms are now being taken forward by Lee Jae Myung’s Democratic Party administration, which has launched a commission to improve market valuation metrics like price-to-book and return on equity (ROE). A major catalyst for this cross-party consensus on corporate reform is the surge in retail participation in Korea’s equity market. This has brought the interests of politicians, citizens and foreign shareholders into closer alignment.
Around 80% of the companies we met on our trip indicated that they are working on improving shareholder return in line with the Value-Up objectives. And while progress remains incremental, we are more confident that Korean companies will start to enact beneficial reforms over the coming years, from clearer dividend policies to explicit ROE targets and more-accountable boards.
Among the companies we met, Hansol Chemical stood out. Having launched in 1980 as a producer of hydrogen peroxide for paper and textile applications, the company has, since 2010, repositioned itself as a key supplier of speciality chemicals for the semiconductor industry. It is also incubating new businesses in niche areas such as binding materials and adhesive tapes used in battery manufacturing.
We were impressed by the company’s culture and the openness of the leadership team, who were happy to engage with our questions about shareholder alignment. There is a broad employee share ownership plan – a rarity in Korea – and the company has a track record of consistently returning cash to shareholders through dividends and buybacks, with a target payout ratio of around 20%. Combined with the firm’s strong profitability and attractive valuation, these factors led us to initiate a position in Hansol. As reforms continue, we expect to find further opportunities in Korea for the Trust.
A growth story in Vietnam
Though Vietnam has a very different economy compared to South Korea, we believe it is one of the more compelling long-term success stories in Asia. While the country’s exporters have faced an uncertain environment this year due to US trade tariffs, its longer-term prospects look favourable.
Rising incomes, rapid urbanisation and supportive demographics – including an unusually high rate of female participation in the workforce – are expanding the country’s consumer base. Meanwhile, similar to neighbouring China, the government has continued to pursue market-based reforms. Cultural attitudes have played a role in this: as Rainer Zitelmann observes in his recent book How Nations Escape Poverty, surveys suggest that Vietnamese citizens are supportive of entrepreneurial risk-taking and private wealth creation.4
When Scottish Oriental launched in 1995, this entrepreneurial spirit was being stifled by bureaucracy and a lack of access to capital as Vietnam’s equity market was closed to foreign investors. It was not until 2016 that we made our first direct investment in the country, when we took a stake in FPT, a conglomerate that provides IT services to major clients in Japan and other global markets. It remains a key holding today.
This year, we added a second Vietnamese company to the portfolio: Mobile World Group (MWG). Founded in 2004 as an online mobile-phone retailer, MWG expanded into consumer electronics and appliances, with a bricks-and-mortar retail chain that has become the sector leader. It now has 50% market share in its core categories, largely due to its strong customer-focused culture.
MWG’s management has demonstrated disciplined capital allocation, often pausing on its expansion plans to re-evaluate its approach. It has even closed failing ventures – as it recently did with its unprofitable sports and fashion retail businesses – in order to redouble its focus on better opportunities. Its current priority is growing its Bách Hóa Xanh grocery chain, which launched in 2015. Grocery in Vietnam offers an attractive long-term opportunity: a US$50bn market, it is still dominated by small shops and wet markets, with modern supermarket penetration at only 12% – far below the 50% figure in comparable Asian economies such as Malaysia and Thailand.
Thus far, grocery has proven more challenging for MWG than electronics, partly due to the logistical difficulties involved in managing fresh-food supply chains. Nevertheless, Bách Hóa Xanh has reached breakeven point, with unit economics set to become more attractive as the business scales. We are confident MWG’s management team will be able to capitalise on the long-term opportunity in this area, and we are delighted that the Trust will be accompanying the firm on the next stage of its growth.
New investments in China and India
Perhaps the most striking shift in Asia over the life of the Trust has been the rise of China as an economic and technological powerhouse. Even as the country enters a more mature phase of development, we continue to find high-quality businesses that are devising innovative ways to stand out amid slowing growth and fierce competition across industries.
One example is Atour Lifestyle. Atour is one of China’s leading hotel brands, with a model based on asset-light expansion: the company works with franchisees to source new properties, then deploys experienced hotel managers to oversee the development and deliver training. Atour has built a membership programme to create a lower-cost distribution channel, passing on the savings to both hotel guests and franchisees (in the form of lower booking fees). This fosters greater loyalty to the Atour brand.
Where Atour has been particularly innovative is in what it calls “scenario-based retail”. Drawing on insights gleaned from guest feedback, the company has collaborated with textile engineers to create a range of bedding products – such as memory-foam pillows and temperature-regulating blankets – that can be enjoyed in its hotels and then purchased on the Atour app. Customer data is then used to iterate and improve its product designs. We believe this integration of service, insight and product development means Atour is well positioned to benefit from China’s long-term consumption upgrade as travellers demand better experiences and premium products.
We also see opportunities in another of Asia’s economic giants, India, despite consumer sentiment softening in recent months. For example, over the last decade Indian households have accumulated almost US$10tn in wealth, and this has coincided with the advent of mobile-first investment platforms and a nationwide push for financial education.5 Taken together, these factors are accelerating the financialisation of household savings, shifting capital from traditional stores of value such as gold and property towards mutual funds, insurance products and pensions.
This trend is positive for companies across the financial-services ecosystem, including our new holding Crisil, the country’s largest credit-rating agency (and a subsidiary of S&P Global). The firm’s impressive management has built the business over two decades through astute M&A activity as well as organic expansion into new segments. Crisil should be a long-term beneficiary of India’s deepening capital markets: as more households buy investment products and more companies tap bond-market financing, demand for its ratings, data and research is likely to rise, putting it at the centre of a growth story that has many years to run.
Outlook
Taking a broader view on the outlook for Asian markets, we believe it is unlikely that the discrepancy between AI and the real economy can persist indefinitely. If the expected growth and productivity benefits fail to materialise across industries, this will bring into question the massive investments being made and the substantial growth projections across the AI value chain.
Meanwhile, as highlighted in this letter, we continue to find opportunities. While enthusiasm for a narrow group of AI-related firms has driven valuations higher, there are still relatively attractive valuations in other parts of the market that are not seen as direct beneficiaries of the trend. The impact of trade tariffs, along with the “K”-shaped recovery that has occurred in parts of Asia since 2020, has weighed on growth in some of these sectors, but the exciting structural opportunity remains. Across the region, we see plenty of smaller companies operating in under-penetrated categories and building strong competitive advantages.
As has been the case throughout the last 30 years, the Trust is focused on market-leading businesses, run by owners and managers who have established track records of navigating various economic cycles. These companies have come through difficult times in the past and emerged stronger. Their balance sheets are robust, and they have tended to be proactive in using technological change to their advantage, typically gaining market share during downturns. We are seeing the pattern repeat today, and this provides a solid foundation for steady growth among Scottish Oriental’s holdings over the coming years.
References
1 MSCI, FactSet, data as at November 28, 2025. See also “Beyond the AI rally”, FSSA, November 2025.
2 “On AI: The age of extremes”, FSSA, October 2025.
3 Jefferies Research, April 2024.
4 Rainer Zitelmann, “How Nations Escape Poverty”, Encounter Books, May 2024.
5 “The US$10tn positive wealth shock”, Morgan Stanley, November 2024.
Source: All company data herein retrieved from company annual reports or other such investor reports. Financial metrics and valuations are from FactSet and Bloomberg. As at 30 November 2025 or otherwise noted.
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Capital at risk. The value of investments and any income from them may go down as well as up and are not guaranteed. Investors may get back significantly less than the original amount invested.
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