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Strategic Equity Capital - Medica bid underpins strategyEJF Investments - Mark-to-market losses impact March NAV; Sentiment improvingThomasLloyd Energy Impact - Temporary share suspension announcedHICL Infrastructure - Partial disposal of Northwest Parkway
SEC EJFI HICL NH2
Strategic Equity Capital - Note: Best buy for UK small cap exposureHipgnosis Songs Fund / Round Hill Music Royalty Fund - Read-across from RIAA 2022 US figures
SEC SONG RHILF
Strategic Equity Capital is a high-conviction strategy with 80% of NAV attributable to the top 10 holdings. We make three key points on the investment case: 1) UK small-cap stocks are deeply discounted, particularly in the £100m-£300m band SEC focuses on; 2) overall Gresham House stakes in key SEC holdings have increased significantly in the past year (17% held on average in top 3), increasing the capacity for engagement and securing good value for shareholders in the event of PE approaches; and 3) SEC is a strong diversifier given its low market correlation and peer-group overlap. We re-initiate with a BUY recommendation (TP 390p).
Strategic Equity Capital plc
BioPharma Credit - Sale of Global Blood Therapeutics nets $42.9m in profitsStrategic Equity Capital - PE activity a key theme in FY22Macau Property Opportunities - Challenging environment leads to low occupancy rates and a 8.3% LfL decline in portfolio value
In a vote held on 23 March 2022, Strategic Equity Capital’s (SEC) shareholders have overwhelmingly approved proposals to address the trust’s discount and provide liquidity to those shareholders that need it. We believe that the focus should now switch to the trust’s much-improved track record under manager Ken Wotton at Gresham House Asset Management (GHAM). SEC’s investment approach emphasises qualities such as balance sheet strength, free cashflow and structural growth. As we explore in this note, that should ensure that the overall portfolio is relatively resilient in the face of the current market turmoil associated with high inflation, rising interest rates and Russia’s invasion of Ukraine.
Strategic Equity Capital - Proposals aimed at enhancing shareholder value Civitas Social Housing - 5.7% 2021 NAV TR Real Estate Credit Investments - Strong pipeline of potential transactions NB Private Equity - Quoted portfolio drives January NAV decline LXI REIT - Upsized £250m capital raise
SEC CSH RECI NBPU
Strategic Equity Capital - Note: Small-cap growth with distinct strategySupermarket Income REIT - Note: Champagne SUPRnovaFair Oaks Income - Strong quarterly cash flows HgCapital Trust - 11.6% NAV return in Q3Urban Logistics REIT - Proposed £200m capital raiseTufton Oceanic Assets - $39m tap issue
SEC SUPR FA17
Strategic Equity Capital takes a PE-style approach to asset selection and valuation to make influential investments in undervalued listed UK small cap companies operating in attractive sectors. Value is then built through constructive engagement with the companies, with access provided to Gresham House’s wide network. UK small caps remain attractively valued and SEC’s shares are trading at the widest discount in the peer group. Given the manager’s strong track record, we regard the 14% discount as a compelling entry point.
At the end of September 2020, Ken Wotton became the lead manager of Strategic Equity Capital (SEC) and, during the ten months since, SEC has provided NAV and share price returns that are significantly ahead of the MSCI UK Smaller Companies and even the broader MSCI UK Index (see pages 17 and 18). Despite this, and a comprehensive plan to reduce the discount (see pages 4 and 5), which now includes potential tender offers in both 2022 and 2024 (subject to certain triggers – see page 4), the discount to net asset value has reduced but is still material.
At the end of September 2020, Ken Wotton became the lead manager of Strategic Equity Capital (SEC) and, during the ten months since, SEC has provided NAV and share price returns that are significantly ahead of the MSCI UK Smaller Companies and even the broader MSCI UK Index (see pages 16 and 17). Despite this, and a comprehensive discount reduction plan (see pages 3 and 4), which now includes contingent tender offers in both 2022 and 2024, the discount has reduced but is still material.
Investec view: Strategic Equity Capital has released interims, which incorporate a detailed explanation of the philosophy, process and portfolio construction. We have summarised this below. Ken Wootton has been appointed Lead Manager and Gresham House has undertaken a detailed review of the portfolio. While there have been some changes to the portfolio, there has been no fundamental restatement of the investment strategy, although in order to better leverage the resources of the manager and maximise engagement opportunities, future investments will be focused on companies with a market cap between £100m and £300m. The past few years have been highly challenging for UK investors as Brexit has acted as a dragging anchor on performance and valuations, and with many global investors seemingly regarding the UK as a pariah. Meanwhile, the domestic focus of many smallcaps has been an additional millstone. However, Brexit is done and in recent months, we have seen tentative signs of inflows, attracted by historically wide valuation gaps relative to global equities, and we note an uptick in M&A activity. Additionally, a successful vaccination program has been a catalyst for investors to begin finally to look across to the other side of the valley and a potential 4-5% GDP rebound in both 2021 and 2022. After suffering strong headwinds for many years, this may be a fertile environment for Strategic Equity Capital. We believe that the inefficiencies of the UK smallcap market provides significant opportunities for active investment managers. Ken Wotton can demonstrate an outstanding long-term track record and the challenge now is to re-invigorate the fortunes of the company. If successful, we would expect superior NAV gains to be enhanced by a narrowing in the current wide discount, which contrasts starkly with the weighted average equity investment company discount, which is at historically narrow levels. An annual continuation vote should ensure that the discount is not embedded. New Portfolio Manager: Following on from Gresham House’s appointment in May 2020, Ken Wotton was appointed Lead Manager in September to work alongside Adam Khanbhai. The new lead manager can demonstrate a highly impressive track record of investing in UK-listed smaller companies. Over 10 years, the LF Gresham House UK Micro Cap Fund is ranked 4th out of 52 open-ended funds in the IA UK Smaller Companies sector, notably is the only fund to deliver an absolute NAV total return each year, and is beaten by just one investment company over this period. Continued overleaf
Since May 2020, Strategic Equity Capital (SEC) has been managed by the public equity team at Gresham House Asset Management. The head of that team, Ken Wotton, became lead-manager of the trust in September, working alongside Adam Khanbhai. The chair of SEC’s investment committee is now Tony Dalwood, SEC’s lead manager when it was launched in 2005 and Gresham House Plc’s chief executive. Under its new leadership, SEC is gradually refocusing its portfolio on smaller companies where it can take more material stakes and exercise a greater degree of influence. Whilst the core investment strategy is unchanged, we think that this reflects a return to the original ethos of the trust. Over the last three months of 2020, three full exits were achieved and two new investments made. Five of the stocks in the portfolio are ones where funds managed or advised by the manager have a significant stake. The manager believes that there is now a clear path towards improved performance for SEC and a narrowing of its discount.
Since May 2020, Strategic Equity Capital (SEC) has been managed by the public equity team at Gresham House Asset Management. The head of that team, Ken Wotton, became lead-manager of the trust in September, working alongside Adam Khanbhai. The chair of SEC’s investment committee is now Tony Dalwood, SEC’s lead manager when it was launched in 2005 and Gresham House Plc’s CEO. Under its new leadership, SEC is gradually refocusing its portfolio on smaller companies where it can take more material stakes and exercise a greater degree of influence. Whilst the core investment strategy is unchanged, we think that this reflects a return to the original ethos of the trust. Over Q4 2020, three full exits were achieved, two new investments made and five of the stocks in the portfolio are ones where the manager has a significant stake. The manager believes that there is now a clear path towards improved performance and a narrowing of the discount.
Background: Following on from the appointment of Gresham House Asset Management (GHAM) as the company’s investment manager in March (see here), earlier this week, SEC announced that Ken Wotton, Managing Director and head of the GHAM Public Equity investment team has been appointed lead fund manager and will work alongside current fund manager, Adam Khanbhai. Ken is also a member of the GHAM Investment Committee. Jeff Harris will be leaving the business to pursue other opportunities. Investec view: Ken Wootton has a wealth of experience and an impressive long-term track record of investing in UK smaller companies. The LF Gresham House UK Micro Cap Fund (launched in May 2009) is ranked in the top quartile of the IA UK Smaller Companies Sector over 3, 5 and 10 years and has delivered a total return of 359.2% over 10 years, ahead of the 191.8% return from the IA UK Smaller Companies sector. The LF Gresham House UK Multi Cap Income Fund (launched in June 2017) is also ranked in the top quartile of IA UK Equity Income Funds over 1, 2 and 3 years. The company will continue to benefit from the experience and challenge provided by the Investment Committee. The IC is chaired by Tony Dalwood and other members include Bruce Carnegie-Brown, Tom Teichman, Graham Bird and Richard Staveley. The investment team will also benefit from a wide network of industry contacts which will aid idea generation, investment evaluation, due diligence and risk management. We are supportive of the changes and believe that depth of resource of the Gresham House Public Equity team alongside the wider private equity team and the extensive experience provided by the Investment Committee should generate shareholder value over the long-term and help to reinvigorate the performance record of the company. The manager will continue to run a high conviction and concentrated portfolio of UK smaller companies. We like the strategy of applying private equity investment processes to public markets in order to drive strategic, operational or management initiatives and identifying attractive investments. We believe that this will be enhanced by a focus on taking larger and more influential equity stakes in smaller companies. A discount of 19% provides a wide margin of safety for investors and we remain comfortable with our Buy recommendation.
Just a couple of months ago, Strategic Equity Capital (SEC)’s net asset value (NAV) and share price were at all-time highs. However, since then, the covid-19- related sell-off in markets has led to a flight to safety. NAVs of smaller companies funds have fallen and discounts have widened. Against this backdrop, SEC has proved relatively resilient, however.
Just a couple of months ago, Strategic Equity Capital (SEC)’s NAV and share price were at an all-time high. However, since then the covid-19-related sell-off in markets has led to a flight to safety, to the detriment of smaller companies funds’ NAVs, and a widening of discounts. SEC has proved relatively resilient, however.
Investec view: Following a detailed review of the company’s management arrangements, the board has taken decisive action and appointed Gresham House with Aberdeen Standard Investments in its proposed joint venture as its new investment manager and AIFM. We are supportive of this change and believe that the increased resource and complementary skills of Gresham House and Aberdeen Standard should help generate shareholder value over the long-term and reinvigorate the fortunes of the company. We are also encouraged by the commitment of both managers to use reasonable endeavours to acquire a significant number of shares in the secondary market. We reiterate our Buy recommendation. New manager appointed: The Board has entered into heads of terms to appoint Gresham House Asset Management as its new investment manager and AIFM with the intention that the proposed joint venture with Aberdeen Standard Investment (Aberdeen Standard Gresham House) will assume these roles once in receipt of regulatory approval (expected to become effective in Q2 2020). Whilst ASI and Gresham House complete the joint venture, Gresham House will act as investment manager and AIFM of the company. The incumbent managers, Jeff Harris and Adam Khanbhai have both accepted offers to join the new investment manager. The Board served protective notice to its investment manager, GVQ IM in Q4 2019. Following this, the Board undertook a review of its management arrangements and considered alternative management proposals from a select number of managers. Benefits from new management arrangements: Gresham House has an established pedigree of investing in strategic public equity (SPE). The team-based capability is led by Tony Dalwood (Head of Gresham House Strategic Equity team). Tony has over 20 years of investment experience with the strategy, including the period of time during which he led SVG Investment Managers, the original investment manager of SEC when it was launched in 2005. SEC will also benefit from the strong investment company sales and marketing capabilities of ASI. ASI manages 24 investment companies with AUM of over £10bn (at end-February). These companies all benefit from dedicated investment company sales and marketing resources.
Against a challenging backdrop, the company delivered NAV and shareholder total returns of 2.2% and 4.8% respectively, materially ahead of the -8.6% total return from the FTSE Small Cap ex Investment Trusts. The longer term record is equally impressive; over five years, the company has delivered a NAV total return of 55.0%, some 24.7% ahead of the benchmark. Notably, this outperformance has been achieved without gearing. Key positive contributors during the year were IFG Group and 4imprint. IFG was subject to a takeover approach in March 2019, at a 46% premium and this contributed 3.9% to performance. 4imprint performed strongly and contributed 3.5%; organic growth and cash generation was strong across both core businesses; earnings estimates were upgraded and the shares re-rated. Other contributors included Ergomed, a new investment made in April 2018 (2.3%), EMIS (1.9%) and Clinigen (1.0%). The major detractor over the year was Proactis which contributed -4.6%. Problems with growth and retention in the acquired Perfect Commerce business led to a profits warning in February 2019 and a severe de-rating. The shares fell from 113p to a low of 29p following the news, although they have since recovered to 50p/share. Tyman (-1.8%), Wilmington (-1.3%), Tribal (-1.1%) and Equiniti (-1.0%) were also detractors from performance. Over the year, the average cash balance was 7.5% of net assets. The investment manager does not employ gearing and aims to retain sufficient cash to be able to participate in liquidity events without being a forced seller of existing holdings. At the period end, the cash balance was 8.4% of net assets. The portfolio is concentrated, and at the period end, comprised 22 holdings, with the top ten accounting for 65% of NAV. Key sector weightings include healthcare (22.5%), technology (16.8%), financials (11.2%) and support services (19.2%). The company’s average P/E (15.0x) is in line with the benchmark, however the balance sheets of the portfolio constituents are less geared (portfolio net debt/EBITDA of 0.1x vs. 1.9x), whilst forecast earnings growth of 11.4% for the next financial year is ahead of the index (7.0%). The Board has pursued an active buyback policy during the year and acquired 3.2m shares at an average discount of 15.9% and for an aggregate consideration of £6.9m. The Board has said it will keep monitoring the discount at which the shares trade. Continued overleaf
Jeff Harris and Adam Khanbhai have been managing Strategic Equity Capital’s (SEC’s) portfolio jointly since February 2017. Since this time, NAV growth has been solid (a total return of 14.3%, which is broadly in line with the MSCI UK Small Cap Index’s return of 14.1%) but SEC has strongly outperformed during the last year, returning 2.3%, while the index fell 5.8%. Despite this, its discount has remained stubbornly wide.
Jeff Harris and Adam Khanbhai have been managing Strategic Equity Capital’s (SEC’s) portfolio jointly since February 2017. Since this time, NAV growth has been solid (a total return of 14.3%, which is broadly in line with the MSCI UK Small Cap Index’s return of 14.1%) but SEC has strongly outperformed during the last year, returning 2.3%, while the index fell 5.8%. Despite this, SEC’s discount to NAV has remained stubbornly wide.
After a strong period of performance in 2017, when Strategic Equity Capital (SEC) beat a strong small cap index by 6%, 2018 has proved problematic. Short-term performance has been impacted by stock specific price weakness within SEC’s concentrated portfolio. SEC’s managers are longterm investors, however. They have confidence in their portfolio, based on 3-to-5-year investment theses, and bought shares throughout Q2 2018, now owning around 4% of the trust. SEC’s discount is towards the bottom end of its trading range; this could represent an opportunity. The board has authorised share repurchases to stabilise the discount. In the past, investors’ patience has been well rewarded.
After a strong period of performance in 2017, when Strategic Equity Capital (SEC) beat a strong small cap index by 6%, 2018 has proved problematic. Short-term performance has been impacted by stock specific price weakness within SEC’s concentrated portfolio (see pages 5-6). SEC’s managers are long-term investors, however. They have confidence in their portfolio, based on 3-to-5- year investment theses, and bought shares in the trust throughout Q2 2018, now owning around 4% of it. SEC’s discount is towards the bottom end of its trading range; and the managers believe that this could represent an opportunity. The board has authorised share repurchases to stabilise the discount.
Investing predominantly in small cap UK equities, Strategic Equity Capital (SEC) is not constrained by market indices and aims to maximise returns for investors over the medium term. Run by Jeff Harris and Adam Khanbhai since the start of 2017, the trust is extremely concentrated (18 stocks), focusing on undervalued growth companies. Prior to this, Stuart Widdowson headed the team, with Jeff Harris as his deputy. Stuart ran the portfolio since 2014, but left to form a new fund management business backed by investment trust veteran Christopher Mills. During his tenure at the helm, Stuart was successful in utilising private equity techniques to invest in smaller companies, delivering returns of 40.6% - almost double the return of the FTSE Small Cap (01.01.14 – 31.12.16). 2018 has brought a more challenging period for the trust, with the UK market remaining out of favour and concerns over a normalisation of monetary policy, not to mention the prospect of a trade war. Since the start of the year, the trust has underperformed the benchmark by 3.4%, with NAV losses of -2.4%. Nevertheless, the managers remain optimistic and believe that the reporting from their companies and the derating of the broader UK market supports their investment thesis. Pessimism towards the UK, as well as possibly uncertainty about the new lead manager arrangements, has meant the trust has gone from trading on a premium of around 10% three years ago to a discount as wide as 20% this year. Currently, on a discount of 16.3% the trust is close to double the average discount in the UK Smaller companies sector, and is trading at the 4th widest discount of the 21 trusts.
Strategic Equity Capital (SEC’s) managers believe the current portfolio consists of very high quality smaller companies. The high cash balances that built up in 2016, on the back of events such as the e2v technologies takeover, have, largely, been redeployed. Cash drag and the fund’s focus have held back returns over the past year (see page 12). However, investment activity (detailed on page 10) has generated encouraging initial returns. Longer term, the detailed private equity derived process, focus on high quality small companies and positioning of holdings in long term structural growth areas provide the managers with confidence for the future. The team acquired a significant number of shares earlier in the year and a programme of share buybacks, operating since April 2017, appears to have stabilised the discount.
Strategic Equity Capital (SEC) announced Stuart Widdowson’s departure from GVQ Investment Management on 7 February 2017. GVQ stress that it is “business as usual” and say Stuart’s absence has no impact on the investment philosophy behind SEC, GVQ’s investment approach or SEC’s portfolio. Jeff Harris has stepped up to become lead portfolio manager and Adam Khanbhai becomes the new deputy manager. The management team is enthused about the prospects for SEC’s future performance as they say that former “problem children” within the portfolio are showing positive initial signs of recovery and they expect the market will recognise the latent value within the portfolio.
Strategic Equity Capital (SEC)’s managers believe that we are now in a late-mid-stage bull market. Reflecting this, they are maintaining a preference for companies exposed to structural growth, are aiming to operate with higher levels of cash in the portfolio (10- 15% up from 5-10%) and the focus is on “reasonably priced growth” and “self-help” opportunities.
