January 2022

Dear Fellow Investor,
This is the twelfth annual letter to owners of the Fundsmith Equity
Fund (‘Fund’).
The table below shows performance figures for the last calendar year
and the cumulative and annualised performance since inception on
1st November 2010 and various comparators.
% Total Return

Fundsmith Equity Fund1
Equities2
UK Bonds3
Cash4

1st Jan to
31st Dec 2021

+22.1
+22.9
-4.5
+0.1

Inception to 31st Dec 2021 Sharpe
Cumulative
Annualised ratio5+570.7+287.1
+40.9
+6.4

+18.6
+12.9
+3.1
+0.6

1.31
0.78
n/a
n/a

Sortinoratio5

1.25
0.74
n/a
n/a

The Fund is not managed with reference to any benchmark, the above comparators are provided for information
purposes only.
1
T Class Accumulation shares, net of fees, priced at noon UK time, source: Bloomberg
2
MSCI World Index, £ net, priced at US market close, source: Bloomberg
3
Bloomberg/Barclays Bond Indices UK Gov. 5–10 year, source: Bloomberg
4£ Interest Rate, source: Bloomberg
5
Sharpe & Sortino ratios are since inception to 31.12.21, 1.5% risk free rate, source: Financial Express Analytics

The table shows the performance of the T Class Accumulation
shares, the most commonly held share class and one in which I am
invested, which rose by +22.1% in 2021 and compares with a rise of+22.9% for the MSCI World Index in sterling with dividends
reinvested. The Fund therefore marginally underperformed thiscomparator in 2021 but is still the best performer since its inception
in November 2010 in the Investment Association Global sector witha return 357 percentage points above the sector average which hasdelivered just +213.9% over the same timeframe.
1However, I realise that many or indeed most of our investors do not
use these as natural comparators for their investments. Those of you
who are based in the UK may look to the FTSE 100 Index (‘FTSE100’) as the yardstick for measuring your investments and may holdfunds which are benchmarked to this index and often hug it. The
FTSE 100 delivered a total return of +18.4% in 2021 so our Fund
outperformed this by a margin of 3.7 percentage points.
Whilst a period of underperformance against the MSCI World Index
is never welcome it is nonetheless inevitable. No investment strategy
will outperform in every reporting period and every type of market
condition. So, as much as we may not like it, we can expect someperiods of underperformance.
This is particularly so when we have a period like 2020–21 which was
obviously heavily influenced by the pandemic. Our Fund
outperformed the market by 6% in 2020 when the economic effectsof the pandemic were at their height and most of the businesses weare invested in proved to be highly resilient. However, last year was
more of a year of recovery and our companies had relatively little torecover from.
We find it difficult to outperform in particularly bullish periods where
the market has a strong rise — 22.9% in 2021 — as a rising tide
floats all ships, including some which might otherwise have remained
stranded and that we would not wish to own.
In investment, as in life, you cannot have your cake and eat it, so it
is difficult if not impossible to find companies which are resilient in a
downturn but which also benefit fully from the subsequent recovery.
Of course, you could try to trade out of the former and into the latterat an appropriate time but it is not what we seek to do as the vast
majority of the returns which our Fund generates come from theability of the companies we own to invest their retained earnings at ahigh rate of return because they own businesses with good returns
and growth opportunities. In our view it would be a mistake to sellsome of these good businesses in order to invest temporarily incompanies which are much worse but which have greater recovery
potential.
For the year the top five contributors to the Fund’s performance were:Microsoft
IntuitNovo Nordisk
Estée Lauder
IDEXX

+3.9%
+3.1%
+2.3%
+2.0%
+1.9%
2

Microsoft makes its seventh appearance on this list, IDEXX its fourth,Intuit its third, Novo Nordisk and Estée Lauder their second.
Someone once said that no one ever got poor by taking profits. Thismay be true but I doubt they got very rich by this approach either, as
I’ve observed before. We continue to pursue a policy of trying to run
our winners.
The bottom five were:
PayPalAmadeus
Kone
UnileverBrown-Forman

-0.7%
-0.2%
-0.2%
-0.2%
-0.1%

PayPal’s performance last year was a clear exception to the benefitsof running winners. The shares performed poorly amid concerns thatits ambitions to construct a ‘super app’ to drive users to its payment
systems might involve some value destruction, brought home by its
apparent interest in acquiring social media operator Pinterest. We
may be wrong but we would prefer if PayPal stuck to its knitting.
Amadeus is clearly still suffering from the effects of the pandemic on
travel which is hardly surprising given that airline reservations are its
largest business segment. However, we remain convinced that
Amadeus will both survive this downturn and emerge in a stronger
market position.
Kone was affected by the travails of the Chinese construction sector
which represents its largest market.
Unilever seems to be labouring under the weight of a management
which is obsessed with publicly displaying sustainability credentials
at the expense of focusing on the fundamentals of the business. The
most obvious manifestation of this is the public spat it has become
embroiled in over the refusal to supply Ben & Jerry’s ice cream in theWest Bank. However, we think there are far more ludicrous examples
which illustrate the problem. A company which feels it has to define
the purpose of Hellmann’s mayonnaise has in our view clearly lostthe plot. The Hellmann’s brand has existed since 1913 so we would
guess that by now consumers have figured out its purpose (spoiler
alert — salads and sandwiches). Although Unilever had by far the
worst performance of our consumer staples stocks during the
pandemic we continue to hold the shares because we think that its
strong brands and distribution will triumph in the end.
Brown-Forman struggled under the twin impacts of the on trade
shutdowns caused by the pandemic and EU tariffs on American3sprits which gave us the opportunity to increase our stake. We expect
both these headwinds to dissipate.
We sold our stakes in Intertek, Sage, Becton Dickinson,
InterContinental Hotels and purchased a stake in Amazon and an as
yet undisclosed position during the year.
As three of our sales were companies which are listed in the UK I am
sure some will see this as some clue that we are selling out of theUK, or that we have some view on the prospects for the FTSE 100
versus the S&P 500 Index (S&P 500) or some other market or macro
view. This is not the case. We invest in companies not indices orcountries and in our view the country where a company is listed islargely irrelevant, if of course it has a well regulated stock market,
and certainly does not provide a good guide to where the company
generates its revenues. For example, InterContinental Hotels is listed
in the UK but its largest market is the United States, hence why itreports in US dollars.
I don’t intend to go into the reasoning on every sale and purchasetransaction but the purchase of Amazon has attracted a lot of
attention as we had previously declined to purchase its shares.
Rather than give a lengthy rationale I would rather summarise it witha quote from the economist (and successful fund manager) John
Maynard Keynes who said, ‘When the facts change, I change mymind.’ Although it could be explained by the simpler aphorism ‘Better
late than never’ or at least it will be if our purchase delivers theperformance we expect.
We continue to apply a simple three step investment strategy:•••

Buy good companies
Don’t overpay
Do nothing

I will review how we are doing against each of those in turn.
As usual we seek to give some insight into the first and mostimportant of these — whether we own good companies — by giving
you the following table which shows what Fundsmith would be like if
instead of being a fund it was a company and accounted for the
stakes which it owns in the portfolio on a ‘look-through’ basis, andcompares this with the market, in this case the FTSE 100 and the
S&P 500. This shows you how the portfolio compares with the major
indices and how it has evolved over time.

4Fundsmith Equity Fund Portfolio

S&P
500

FTSE
100

Year ended

2014

2015

2016

2017

2018

2019

2020

2021

2021

2021

ROCE
Gross margin
Operating margin
Cash conversion
Interest cover

29%
60%
25%
102%
15x

26%
61%
25%
98%
16x

27%
62%
26%
99%
17x

28%
63%
26%
102%
17x

29%
65%
28%
95%
17x

29%
66%
27%
97%
16x

25%
65%
23%
101%
16x

28%
64%
26%
95%
23x

16%
45%
17%
106%
9x

14%
45%
15%
124%
8x

Source: Fundsmith LLP/Bloomberg. ROCE, Gross Margin, Operating Profit Margin and Cash Conversion are the weighted mean of theunderlying companies invested in by the Fundsmith Equity Fund and mean for the FTSE 100 and S&P 500 Indices. The FTSE 100 and S&P
500 numbers exclude financial stocks. Interest Cover is median. 2013-2019 ratios are based on last reported fiscal year accounts as at 31st
December and for 2020-21 are Trailing Twelve Months and as defined by Bloomberg. Cash Conversion compares Free Cash Flow per
Share with Net Income per Share. Percentage change is not calculated if the TTM period contains a net loss.

Returns on capital and profit margins were higher in the portfolio
companies in 2021 recovering from the downturn in 2020.
As a group our stocks still have excellent returns, profit margins andcash generation even in poor economic conditions. As you can see
the same cannot be said for the major indices — with the exceptionof their current cash conversion which I suspect is a temporary
phenomenon — if you can’t get the stock you need because of supply
chain problems, cash tied up in working capital is likely to be low. It’s
also worth remembering that the index numbers have the benefit ofincluding our good companies.
The average year of foundation of our portfolio companies at the
year-end was 1926. They are just under a century old collectively.
Consistently high returns on capital are one sign we look for whenseeking companies to invest in. Another is a source of growth — highreturns are not much use if the business is not able to grow anddeploy more capital at these high rates. So how did our companies
fare in that respect in 2021? The weighted average free cash flow(the cash the companies generate after paying for everything except
the dividend, and our preferred measure) grew by 20% in 2021.
This leads onto the question of valuation. The weighted average free
cash flow (‘FCF’) yield (the free cash flow generated as a percentageof the market value) of the portfolio at the outset of the year was 2.8%
and ended it at 2.7%.
The year-end median FCF yield on the S&P 500 was 3.6%. The yearend median FCF yield on the FTSE 100 was 5.4%.
Our portfolio consists of companies that are fundamentally a lot
better than the average of those in either index and are valued higher
than the average S&P 500 company and much higher than the
average FTSE 100 company. However, it is wise to bear in mind that
despite the rather sloppy shorthand used by many commentators,
5highly rated does not equate to expensive any more than lowly rated
equates to cheap.
The bar chart below may help to illustrate this point. It shows the‘Justified P/Es’ of a number of stocks of the kind we invest in. Whatit shows is the Price/Earnings ratio (P/E) you could have paid forthese stocks in 1973 and achieved a 7% compound annual growthrate (CAGR) over the next 46 years (to 2019), versus the 6.2% CAGR
the MSCI World Index (USD) returned over the same period. In otherwords, you could have paid these prices for the stocks and beaten
the index — something the perfect markets theorists would maintainyou can’t do.
Justified P/E’s

Source: Ash Park Capital and Refinitiv Datastream, excludes dividends, in USD.

You could have paid a P/E of 281x for L’Oréal, 174x for BrownForman, 100x for PepsiCo, 44x for Procter & Gamble and a mere 31x
for Unilever.
I am not suggesting we will pay those multiples but it puts the sloppy
shorthand of high P/Es equating to expensive stocks into
perspective.
Turning to the third leg of our strategy, which we succinctly describe
as ‘Do nothing’, minimising portfolio turnover remains one of our
objectives and this was again achieved with a portfolio turnover of
5.6% during the period. It is perhaps more helpful to know that we
spent a total of just 0.009% (just under one basis point) of the Fund’s
average value over the year on voluntary dealing (which excludes
dealing costs associated with subscriptions and redemptions asthese are involuntary). We have held seven of our portfolio
companies since inception in 2010.
Why is this important? It helps to minimise costs and minimising thecosts of investment is a vital contribution to achieving a satisfactory
outcome as an investor. Too often investors, commentators and6advisers focus on, or in some cases obsess about, the Annual
Management Charge (‘AMC’) or the Ongoing Charges Figure(‘OCF’), which includes some costs over and above the AMC, which
are charged to the Fund. The OCF for 2021 for the T Class
Accumulation shares was 1.04%. The trouble is that the OCF does
not include an important element of costs — the costs of dealing.
When a fund manager deals by buying or selling, the fund typically
incurs the cost of commission paid to a broker, the bid-offer spreadon the stocks dealt in and, in some cases, transaction taxes such as
stamp duty in the UK. This can add significantly to the costs of a fund,
yet it is not included in the OCF.
We provide our own version of this total cost including dealing costs,
which we have termed the Total Cost of Investment (‘TCI’). For the T
Class Accumulation shares in 2021 this amounted to a TCI of 1.05%,
including all costs of dealing for flows into and out of the Fund, notjust our voluntary dealing. We are pleased that our TCI is just 0.01%(1 basis point) above our OCF when transaction costs are taken into
account. However, we would again caution against becoming
obsessed with charges to such an extent that you lose focus on theperformance of funds. Some commentators state that an investor’s
primary focus should be on fees. To quote Charlie Munger (albeit inanother context) this is ‘Twaddle’. It is worth pointing out that theperformance of our Fund tabled at the beginning of this letter is after
charging all fees which should surely be the main focus.
Turning to the themes which dominated 2021, you may have heard
a lot talked about the so-called ‘rotation’ from quality stocks of thesort we seek to own to so-called value stocks, which in many cases
is simply taken as equating to lowly rated companies. Somewhat
related to this there was periodic excitement over so-called
reopening stocks which could be expected to benefit as and when
we emerge from the pandemic — airlines and the hospitality industry,for example.
There are multiple problems with an approach which involves
pursuing an investment in these stocks. Timing is obviously an issue.
Another is that their share prices may already over anticipate thebenefits of the so-called reopening. As Jim Chanos, the renowned
short seller, observed ‘The worst thing that can happen to reopening
stocks is that we reopen.’ It is often better to travel hopefully than toarrive.
In our view, the biggest problem with any investment in low quality
businesses is that on the whole the return characteristics ofbusinesses persist. Good sectors and businesses remain good andpoor return businesses also have persistently poor returns as thecharts below show:
7Persistence in Profitability

Source: GMO. The 1000 largest companies in the U.S. were sorted for each point in the graph into quartiles
based on return on equity (ROE). Past Low Profits consists of those companies in the quartile with the lowest
ROE. Past High Profits consists of those companies in the quartile with the greatest ROE.

Median and annual ROIC, excluding goodwill %These return characteristics persist because good businesses findways to fend off the competition — what Warren Buffett calls ‘The
Moat’ — strong brands; control of distribution; high spend on product8

development, innovation, marketing and promotion; patents andinstalled bases of equipment and/or software which are troublesome
to change for example.
Poor returns also persist because companies which have many
competitors, no control over pricing and/or input costs, and an ability
for consumers to prolong the life of the product in a downturn (likecars) cannot suddenly throw off these poor characteristics justbecause they are lowly rated and/or benefit from an economic
recovery.
Contrary to the mantra that every fund has to recite, past returns ofcompanies are a good guide to future returns.
Even if you manage to identify a truly cheap value or reopening stockand time the rotation into that stock correctly so as to make a profit,
this will not transform it into a good long term investment. You needto sell it at a good moment — presumably when some of your fellow
punters investors will also be doing so because its cheapness will nottransform it into a good business and in the long run it is the qualityof the business that you invest in which determines your returns.
The chart below shows the excess returns — the amount by which itbeats the index — of the MSCI World Quality Index (which I am taking
as a surrogate for our strategy). Over the last 25 years there has
never been a rolling 120 month (ten year) period when quality has
not performed as well as or better than the MSCI World Index.

Source: MSCI

I know 10 years is a long time and well beyond the time horizon ofmost investors, but we are long term investors and aim to capture
this inevitable outperformance by good companies. If this investment
time horizon is too long for you then you may be invested in the wrong
fund. Moreover, if anything this chart flatters the outcome of investingin low quality, cyclical, value or recovery stocks as the index withwhich the quality stocks are being compared includes those quality

9

stocks. If they were taken out of the index, the relative
outperformance would be even more pronounced.
You may have heard a lot about inflation over the past year and I
suspect you will continue to hear more about it in 2022.
In some respects, we needn’t discuss whether or not we haveinflation — German wholesale prices were up 16.6% year on year in
November but were easily trumped by Spain whose producer priceindex (PPI) rose 33.1% in the same period. However, that eyecatching statistic is far from the whole story.
It is not difficult to see potential causes of inflation. The expansion ofcentral bank balance sheets with Quantitative Easing after the Credit
Crisis has been followed by huge monetary and fiscal stimuli put inplace to counter the economic effects of the pandemic. One mightreason that given the growth in the money supply has vastly
outstripped the increases in production of goods and services theprice of those goods and services was sure to be bid up and ipso
facto inflation must follow.
However, this omits another important element of the equation — thevelocity of circulation of money. Are people more inclined to save theadditional money or to spend it? The savings ratio leapt after theCredit Crisis and again during the pandemic partly no doubt due tocaution but also because there were fewer opportunities to spend,
for example on travel and vacations. However, it is now on its way
back to pre-crisis levels so maybe we have all the ingredients for
inflation to take hold.
You might well be confused at this point (I know I am) particularly
considering that the ‘authorities’ spent most of the decade post theCredit Crisis trying to generate inflation in order to negate thedeflationary effects of the Credit Crisis and its causes. The trouble isthat with inflation, as with so much else, you need to be careful what
you wish for. It is a bit like trying to light a bonfire or a traditional BBQ
on a damp day. If you put an accelerant like gasoline on it you cango from no fire to a loud ‘Whoosh!’ and find that you have also set
fire to the garden fence. When inflation takes hold, it too may exceed
your expectations.
In terms of how to react, if at all, there are also other factors toconsider. Inflation in the cost of commodities does not necessarily
equate to retail price inflation or asset inflation. The chart below
attempts to correlate the price increases or decreases in a numberof commodities with the Consumer Price Index over time.

10Correlation of Long Term Commodity Prices With Inflation

Source: Federal Reserve Economic Research. 100% = perfect positive correlation, 0% = no correlation, -100%= perfect negative correlation.

As you can see, there is no correlation. One of the reasons for this isthat consumers do not buy commodities. They are bought bycompanies which make them into the goods which consumers buy.
Interestingly, the eye-popping Spanish PPI rise of 33.1% in the year
to November included an 88% increase in energy prices, 48% forbasic metals and 16% for paper products but only 8.3% for food.
Consumers don’t buy basic metals.
So the initial impact of input cost inflation is not on consumer prices
but on company profits. All companies are not equal in this regard.
The higher a company’s gross margin — the difference between its
sales revenues and cost of goods sold — the better its profitability isprotected from inflation.
The table below shows the impact of input cost inflation on two
companies in the consumer sector — L’Oréal which we own andCampbell’s Soup, which we do not own. L’Oréal has gross margins
of 73% and Campbell’s has 35%. A 5% rise in input cost inflation
would cut L’Oréal’s profits by 7% if it took no other action, whereas
Campbell’s profits would fall by 22%.

11

Impact of 5% Inflation

Source: Fundsmith Research

You will recall from the look-through table earlier that our portfolio
companies have gross margins of over 60%, versus about 40% for
the average company in the index. So, from a fundamental respect
our companies are likely to be better able to weather inflation.
However, inflation also affects valuations. Rises in inflation andinterest rates also do not affect the valuation of all companies
equally. In the bond market, the longer the maturity of a bond, themore sensitive its valuation is to rate changes. A short-dated bondsoon matures and the proceeds can be reinvested at whatever the
new rate is. The same is not true of a 10 or 30 year bond.
The equivalent to the duration of a bond in terms of equities is thevaluation multiple whether it is expressed in terms of earnings or, as
we would prefer, cash flows. The higher rated a company’s sharesare, the more it will be affected by changes in inflation or interest
rates. This is one reason why the shares of the new wave of
unprofitable tech companies have performed so poorly latterly. As
they are loss-making more than 100% of their expected value is in
the future (there are probably other reasons like the growing
realisation that you are often being invited to invest in a business planrather than a business).
So in brief, if inflation is seen to have taken hold rather more thansome people, including the Federal Reserve Bank expects, then weare probably in for an uncomfortably bumpy ride in terms ofvaluations but we can be relatively sanguine in terms of the effect on
the fundamental performance of our portfolio businesses which is ourprimary focus.
The good news is that we do not invest on the basis of our ability toforecast inflation or any other macroeconomic factor. We invest incompanies not countries, indices or macroeconomic forecasts.
12

I would like to leave you with this thought: our Fund has prospered
during the pandemic. The companies it invests in have enduredmuch more — the Great Depression, World War II, the Great Inflationof 1965–82, the Dotcom meltdown and the Credit Crisis. They willprobably survive whatever comes next and so will we if we stick to
our principles and we have every intention of doing so.
Finally, may I wish you a happy New Year and thank you for yourcontinued support for our Fund.
Yours sincerely,

Terry SmithCEO
Fundsmith LLP
Disclaimer: A Key Investor Information Document and an English language prospectus
for the Fundsmith Equity Fund are available via the Fundsmith website or on request andinvestors should consult these documents before purchasing shares in the fund. Past
performance is not necessarily a guide to future performance. The value of investments
and the income from them may fall as well as rise and be affected by changes in exchange
rates, and you may not get back the amount of your original investment. Fundsmith LLP
does not offer investment advice or make any recommendations regarding the suitabilityof its product. This document is communicated by Fundsmith LLP which is authorised andregulated by the Financial Conduct Authority.
Sources: Fundsmith LLP & Bloomberg unless otherwise stated.
Portfolio turnover has been calculated in accordance with the methodology laid down by
the FCA. This compares the total share purchases and sales less total creations andliquidations with the average net asset value of the Fund.
PE ratios and Free Cash Flow Yields are based on trailing twelve month data and as at
31st December 2021 unless otherwise stated.
MSCI World Index is the exclusive property of MSCI Inc. MSCI makes no express or
implied warranties or representations and shall have no liability whatsoever with respect
to any MSCI data contained herein. The MSCI data may not be further redistributed orused as a basis for other indices or any securities or final products. This report is not
approved, reviewed or produced by MSCI. The Global Industry Classification Standard(GICS) was developed by and is the exclusive property of MSCI and Standard & Poor’sand ‘GICS®’ is a service mark of MSCI and Standard & Poor’s.

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