News Column

STRATEGIC EQUITY CAPITAL PLC - Interim Management Statement

May 18, 2014

STRATEGIC EQUITY CAPITAL PLC ("The Company") This interim management statement, issued in accordance with the UK Listing Authority's disclosure and transparency rules, relates to the period from 1 January to 31 March 2014. Investment Highlights * Net asset value ("NAV") per share increased by 9.0%, exceeding the FTSE Smaller Companies ex Investment Trusts index which rose by 2.1% over the same period. * Performance was driven by strong share price performances across the Company's portfolio and despite average cash balances of 15% over the quarter. * Portfolio companies appear reasonably priced given their continued double digit earnings growth forecasts and strong cash flows and remain ungeared in aggregate. * Portfolio remains invested in genuine smaller companies: 94% of the portfolio by value is invested in FTSE Small Cap and FTSE AIM companies. Financial Highlights * The Company's NAV increased from 162.0p per share to 176.6p per share, ending the period at £105.2m. * Rolling 3 and 5 year NAV Total Return has exceeded the FTSE Small Cap ex Investment Trusts index by 3.4% per annum and 7.9% per annum respectively. * Cash weighting at the end of the period was 11.7%, towards the higher end of the Manager's current target range of 5-15%. Investment Manager's Review The following report is provided by the Company's Investment Manager, GVO Investment Management Limited ("GVOIM" or "the Manager"). The first quarter of 2014 witnessed a mixed period for equities. The broad UK market fell by 0.6%, although mid and small sized companies fared better, with their indices rising by 2.7% and 2.1% respectively. Russia's incursion into the Crimea was a stark reminder that geopolitical risks are omnipresent, if not always visible. The UK economy continued to surprise on the upside and retail data was better than anticipated given the adverse weather conditions in January and February. Sterling was broadly unchanged against the US dollar, as policy makers in both areas continued with their loose monetary strategies. Profit warnings seemed to be more prevalent than for some time among UK quoted companies. There were notable warnings among perceived stable FTSE100 companies, as well as mid and small sized companies where their forward earnings growth estimates had become too optimistic. As a result, the forward earnings growth of all indices eased. Most notably, the aggregate earnings recovery for UK smaller companies has been deferred again. Inflows into UK equity funds appear to have brushed off this bad news, leading to modest returns, and a further re-rating of equities. These inflows have also helped stimulate the primary equity markets, with many IPOs of all sizes and types of companies taking place over the period. A number of these have come to the stock market with highly ambitious growth plans allied with ratings which assume flawless execution. The excitement surrounding new issues and a rush by institutional investors to participate in IPOs has presented us with some interesting investment opportunities. We have found instances where existing quoted companies, exhibiting both quality and growth characteristics, have been overlooked by the market and are trading below what we believe to be fair value. Performance Review The Company's NAV rose by 9.0% over the period, compared to a 2.1% rise in the FTSE Small Cap ex Investment Companies Index ("FTSE Small Cap ex IT"). Underlying portfolio companies continued to trade well over the period, with results and trading statements typically in line or ahead of estimates, and a number of trading-driven upgrades. The few downgrades among portfolio companies tended to be driven by foreign exchange, which is unsurprising given the international nature of many investee companies. The Company entered 2014 with a 9.6% cash balance, as well as 4.6% of the NAV invested in Andor Technology, which was as good as equivalent to cash given the agreed bid from Oxford Instruments. The average cash balance over the period was 15%, indicating that the return from the invested portfolio exceeded 10%. Portfolio Review The key positive contributors to performance were Tyman, Goals Soccer, Servelec, Allocate and Lavendon. Tyman's final results showed, as anticipated, that end markets in North America had strengthened during 2013, and that the management team had successfully integrated the recent acquisition of Truth. Cash flow was also ahead of expectations. We highlighted in the Q4 2013 presentation that the company appeared attractively valued given the growth prospects. Although the shares have re-rated since then, they remain reasonably priced given the cash flow and growth prospects over the medium term. Tyman is one of the few UK quoted industrial companies neither trading at peak margins nor peak sales and remains under-owned among the UK investment community. Goals Soccer Centres, the leading UK operator of 5 a side football pitches, released final results, which showed that the core UK business had returned to like-for-like sales growth. The company's profitability has been held back recently by overdue growth investment. With this investment now completed, further sales growth has the potential to deliver exciting earnings growth. With a clearer growth strategy for North America, a lower capital cost of rolling out new sites using its modular buildings and the impending launch of an app to facilitate team management, the medium and long term growth prospects appear better than for some time. The company raised £11.4m in a placing to reduce gearing and help fund the development of a number of new sites. We invested £1m into this placing. Servelec released its maiden full year results following its IPO in November 2013. These results were in line with expectations. It has won a higher proportion of renewals on its RiO electronic patient record software than anticipated to date, and there is a good chance that its medium term profit estimates will end up proving to be conservative. Allocate released in-line interim results in January. The company also stated that trading had been strong in the first few weeks of the second half year, which will help underpin the full year forecasts. The shares re-rated to reflect this news. Lavendon reversed its disappointing 2013 and re-rated during the period. This was driven by in line final results and investors anticipating that the UK recovery would lead into exciting earnings upgrades during 2014. Only three holdings delivered negative returns over the period - Gooch & Housego, Northbridge and Wilmington. Gooch & Housego delivered an in line trading update at the AGM. On a short term view the shares are relatively fully valued given the market forecasts. However, over the medium to long term, we continue to believe that there is scope for these forecast sales and earnings to be exceeded. Northbridge also delivered an in line trading update, although earnings forecasts were cut marginally due to adverse currency movements anticipated in 2014. After delivering a 100% return in 2013, the shares fell 4.8% in the period. We continue to believe that the shares are undervalued given the quality and growth prospects of the company. Wilmington released in line interim results. The shares fell marginally over the period, but were volatile, peaking in early February. Portfolio turnover during the period was 33% on an annualised basis. The main changes were the sale of the Andor Technologies due to its takeover, and an investment of just over £6m (just less than 6% of NAV at cost at the time of purchase) in a market purchase of EMIS. EMIS is a provider of electronic patient records and associated software to GPs, hospitals, pharmacies and secondary care providers in the UK. It has a growing 53% share in the GP market, and high earnings visibility across the group; c.77% of sales are recurring. There is a modest overlap between its activities and those of Servelec's healthcare business. EMIS' shares had de-rated significantly over the past year, partially due to uncertainty surrounding the periodical renegotiation of the framework contract to supply GP systems - known as GPSoC. This contract was re-signed at the end of March and we believe has led to a much more benign outcome than the market had feared. Funds managed by GVOIM purchased c.3% of the issued share capital of EMIS at the end of the quarter. We regard the entry price as highly attractive given the quality of the business and its growth potential. We met for the first time with Stephen Blair, the new CEO of E2V Technologies, at the end of the period. Although he has spent limited time in the business to date, it is clear he sees scope to improve the performance of the business. The shares appear to be priced for no growth, nor improvement in margins. We continue to believe that this scenario is unlikely and that the company has the potential to deliver improved returns to shareholders over the medium to long term. The more favourable investment environment for equities has led to the portfolio holdings re-rating over the past year. At the end of the period, the aggregate portfolio valuation had increased to 9.6% GVOIM cash flow yield.* The 12 month forward earnings growth remains good at 11.0% and appears to have been more resilient than that of the FTSE Small Cap ex IT index which now stands at only 8.2% (both began 2014 with 12 month forward earnings growth of more than 13%). *GVOIM cash flow yield = (EBITDA - maintenance capital expenditure)/Enterprise Value. Outlook We continue to believe that the outlook for equities remains positive for the medium to long term. New equity issuance through IPOs and secondary fundraisings appears to have tempered the pace of the market's re-rating. However, many stocks continue to price in earnings growth and recovery which have yet to be delivered. In aggregate, markets appear to be fairly valued. Yet, as we have commented on before, there appear to be significant valuation anomalies within the market, with seemingly little rating differential between lower and higher quality companies with similar growth prospects. In this environment, deep analysis and patience is required to reduce the risk of overpaying for investments. We continue to seek out those higher quality smaller companies, which offer good medium to long term growth prospects, but are attractively rated and generating strong cash flow. The aggregated 12 month forward portfolio earnings growth of 11% and cash returns (2.2% dividend yield as well as estimated degearing of 3%) implies a return excluding any M&A or re-rating of mid teens, which is in line with our return targets across the cycle. Portfolio balance sheets are strong (the portfolio in aggregate has a net cash balance) and a significant number of portfolio companies have high earnings visibility. Many of the Company's portfolio companies are overcapitalised, and therefore have potential to fund small bolt on acquisitions out of existing resources. Alternatively, their growth and cash flow characteristics make them attractive to trade or financial buyers, willing to run the companies with more aggressively geared balance sheets and/or who can bring cost and potentially sales synergies. Therefore, we anticipate M&A to continue to be a driver of returns for the Company's NAV throughout 2014. Rating change over the short term for the portfolio and the market remains difficult to forecast. On the positive side, equities remain attractively rated compared with other asset classes, many large asset allocators remain underweight equities in a recovering global economy and retail investors are becoming more confident in the markets. As a result, we plan new investments on the basis of no further significant re-rating, but are aware that this may prove conservative if equities continue to be perceived as the preferred investment class in a recovering economic climate. The Company's portfolio holdings, taken in aggregate, benefit from superior company balance sheets, earnings growth, and cash flow prospects compared with the market. The pipeline for new investments has become more active over the past few weeks, and we are optimistic about making at least one new investment for the Company in the second quarter. It is likely that we will continue to run with a modest net cash balance sheet to facilitate block investments without the necessity to be a forced seller of any holdings. In the event of a pull back in markets, it will both cushion the impact on the NAV as well as allowing us to be nimble in deploying capital into mispriced companies and selective secondary fundraisings. In summary, we believe that the prospects for continued medium and long term NAV progress remain good. Summary (all as at 31 March 2014) Net assets £105.2m NAV per share 176.6p Net cash % 11.7% Top 10 Investments Company name % of NAV Tyman 12.0 E2V Technologies 10.0 Servelec Group 9.1 4imprint Group 8.1 Wilmington Group 8.0 Goals Soccer Centres 6.4 Allocate Software 6.2 EMIS Group 6.2 Gooch and Housego 5.5 RPC Group 3.7 Sector analysis % of NAV Software & Computer Services 21.5 Electronics 18.2 General Industrials 16.3 Business Services 14.3 Consumer Services 8.3 Media 8.0 Unlisted 1.6 Health Care 0.1 Net cash 11.7 Size analysis % of NAV (market cap) Less than £100 million 10.1 £100 - £300 million 39.3 £300 - £500 million 21.4 Greater than £500 million 17.5 Net cash 11.7 The unconstrained, long term philosophy and concentrated portfolios resulting from GVOIM's investment style can lead to periods of significant short term variances of performance relative to comparative indices. GVOIM believes that evaluating performance over rolling periods of no less than three years, as well as assessing risk taken to generate these returns, is most appropriate given the investment style and horizon. Properly executed, GVOIM believes that this investment style can generate attractive long term risk adjusted returns. Material Events The Board was pleased to announce the appointment of Richard Hills as a non-executive Director and Chairman designate of the Company with effect from 5 March 2014. Mr Hills will take up the Chairmanship at the Company's September Board Meeting, Mr Hodson will step down from the Board at the Company's Annual General Meeting in November 2014. On 1 May 2014 the Board was advised by the Manager that Adam Steiner, chief executive officer of GVOIM and an investment manager to the Company, and Jonathan Morgan, chairman of GVOIM, had resigned from GVOIM with immediate effect. Stuart Widdowson became an executive director of GVOIM (subject to regulatory approval) and will continue to act as an investment manager to the Company. Following the news of the above changes in personnel at the Manager and the proximity to the closure of the tender offer announced by the Company on 3 April 2014 ("the Tender"), the Board considered that it would be appropriate to cancel the Tender. It is the Board's current intention to re-introduce a tender on substantially the same terms shortly. The Board will make a further announcement in due course. The Directors are not aware of any significant events or transactions which have occurred between 31 March 2014 and the date of publication of this statement which have had a material impact on the financial position of the Company. For further information please contact: Stuart WiddowsonGVO Investment Management Limited Telephone: +44 (0)20 3691 6100 Company website: www.strategicequitycapital.comCanaccord Genuity Limited (corporate broker) Andrew Zychowski / Robbie Robertson / Lucy Lewis 020 7523 8000 Capita Sinclair Henderson Limited (company secretary) Jonathan Carslake / Daniel Roach 01392 477 500 Neither the contents of the Company's website nor the contents of any website accessible from hyperlinks on the Company's website (or any other website) is incorporated into, or forms part of, this announcement.




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Source: PR Newswire (UK Disclosure)


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