Annual Financial Report

KEYSTONE INVESTMENT TRUST PLC

ANNUAL FINANCIAL REPORT ANNOUNCEMENT
FOR THE YEAR ENDED 30 SEPTEMBER 2015

FINANCIAL INFORMATION AND PERFORMANCE STATISTICS

Performance Statistics

		2015 % CHANGE	2014 % CHANGE
Total Return Statistics(1)
(capital growth with income reinvested)
Net asset value (NAV) per share:
– debt at par		+6.7	+11.7
– debt at fair value		+6.4	+12.5
Share price		+7.3	+7.4
FTSE All-Share Index		–2.3	+6.1
		AT 30 SEPTEMBER 2015	AT 30 SEPTEMBER 2014	% CHANGE
Capital Statistics
Net assets (£’000)		259,625	250,267	+3.7
NAV per share:
– debt at par		1920.5p	1851.3p	+3.7
– debt at fair value		1867.1p	1806.2p	+3.4
Share price(1)		1776.0p	1709.0p	+3.9
FTSE All-Share Index(1)		3335.9	3533.9	–5.6
Discount of share price to net asset value per share:
– debt at par		7.5%	7.7%
– debt at fair value		4.9%	5.4%
Gearing from borrowings
	– gross	12.3%	12.8%
	– net	4.4%	5.7%
		FOR THE YEAR TO 30 SEPTEMBER
		2015	2014
Revenue Statistics
Net revenue available for ordinary shareholders (£’000)		8,659	8,013
Revenue return per ordinary share		64.1p	59.3p	+8.1
Dividends per ordinary share – first interim		18.0p	18.0p
– second interim		33.0p	32.5p
		51.0p	50.5p	+1.0
– special		12.3p	8.0p
– total		63.3p	58.5p	+8.2
Ongoing charges:
Excluding performance fee		0.71%	0.87%
Performance fee		1.00%	0.40%

 ⁽¹⁾         Source: Thomson Reuters Datastream

.

CHAIRMAN’S STATEMENT

Performance

I am pleased to report that the Company had another good year. The total return to shareholders was 7.3%, based on the share price with dividends reinvested, compared to the Company’s benchmark, the FTSE All-Share Index, total return of -2.3%. The total return on underlying net asset value per share was 6.7% with debt at par value and 6.4% with debt at market value (all figures sourced from Thomson Reuters Datastream).

The Company’s long term performance also continued to be exceptional with three, five and ten year share price total returns of 48.9%, 81.6% and 170.4% respectively, compared with total returns of 23.3%, 38.2% and 72.3% for the FTSE All-Share Index. The net asset value per share (with debt at par value) total returns over the same periods were 54.3%, 87.6% and 153.5%.

The price at which the Company’s ordinary shares traded relative to their underlying net asset value was more volatile over the past year than it was in the previous year. However, the average discount over the course of the year was not excessive, at 3.8%. The share price stood at a discount of 4.9% relative to the net asset value (debt at fair value) at the year end.

Revenue and Dividends

Income in the year increased from £9,507,000 last year to £10,071,000, giving a revenue return after tax of 64.1p per ordinary share (2014: 59.3p). The Board has declared a second interim dividend, in lieu of a final, of 33p per share (2014: 32.5p), giving a total ordinary dividend for the year of 51p per share (2014: 50.5p). The dividend will be paid on 30 December 2015 to shareholders on the register on 11 December 2015.

The Company has continued to benefit from special dividends received from investee companies. These dividends totalled £1,671,000, the equivalent of 12.36p, this year (2014: £1,118,000; 8.27p) and the Board has decided again to pass the greater part of this on to shareholders as a special dividend of 12.3p (2014: 8p). The special dividend will be paid at the same time as the second interim dividend.

Investment Policy

Following a review of the Company’s investment policy the Board has decided that the pecuniary limit for unquoted investments, which has been unchanged for a number of years, should be updated in light of the increasing size of the Company. Consequently, the Board has determined that a limit expressed as a percentage of the portfolio value at the time of investment be adopted instead to increase the Manager’s flexibility. The Board considers 5% to be an appropriate value for this percentage and the relevant investment policy limit set out on page 6 has been modified accordingly.

Viability Statement

Under the provisions of the 2014 UK Corporate Governance Code your directors are now required to report to shareholders on the viability of the Company beyond the twelve month period that is covered by the going concern statement (page 54). I assure shareholders that the Board has no concerns about the viability of the Company. The new statement can be found on page 10.

Gearing

The Board takes responsibility for the Company’s gearing strategy and sets parameters within which the portfolio manager operates. The Company’s borrowings, in the form of long-term debentures, amount to £32 million. The net gearing of the Company is determined by the extent to which these borrowings are invested. The Board has remained cautious throughout the past year and has required that the Manager must make no net purchases which would take equity exposure above 105% of net assets, and must make sales if, as a result of market movements, equity exposure goes higher than 115% of net assets. It is up to the portfolio manager to decide on exposure subject to these limits. When held, corporate bonds are not treated as equity exposure for the purposes of the gearing limits. The Company held no bonds at the year end.

Foreign Exchange

The Company has some non-sterling denominated investments and is therefore subject to foreign exchange risk. The Board monitors foreign currency exposure and takes a view, from time to time, on whether foreign currency exposure should be hedged. For the present, the Board has prescribed that all currency exposure should be hedged other than US dollar and Swiss franc. At the year end 7.0% of the portfolio was exposed to US dollars and 4.5% to Swiss francs, neither of which were hedged.

Outlook

Volatility in UK markets and world economies has provided a challenging backdrop over the past year. However, the Company’s performance, as illustrated earlier in my statement, demonstrates the ability of Mark Barnett and his team to deliver in these conditions. The Board remains highly confident that Mr Barnett and his team’s investment approach will continue to generate worthwhile returns and enable the Company to fulfil its investment objective to provide shareholders with long-term growth of capital. Although we understand income is important to shareholders we do not anticipate the recent level of special dividends is likely to continue and therefore income received is likely to return to more normal levels in coming years.

Annual General Meeting

The Notice of the Annual General Meeting of the Company, which is to be held on 21 January 2016, is on pages 58 to 61 and a summary of the resolutions is set out in the Directors’ Report on pages 56 and 57.

Beatrice Hollond

Chairman

30 November 2015

.

STRATEGIC REPORT

FOR THE YEAR ENDED 30 SEPTEMBER 2015

BUSINESS REVIEW

Keystone Investment Trust plc is an investment company holding investments with a market value in excess of £270 million and its investment objective is set out below. The strategy the Board follows to achieve that objective is to set investment policy and risk guidelines, together with investment limits, and to monitor how they are applied. These are also set out below.

The business model adopted by the Company to achieve its objective has been to contract the services of Invesco Fund Managers Limited (the ‘Manager’) to manage the portfolio in accordance with the Board’s strategy and under its oversight. The Manager also provides company secretarial, marketing and general administration services. The portfolio manager responsible for the day-to-day management of the portfolio is Mark Barnett.

All administrative support is provided by third parties. In addition to the management and administrative functions of the Manager, the Company has contractual arrangements with Capita Asset Services as registrar and with BNY Mellon Trust & Depositary (UK) Limited as depositary. The depositary has delegated safekeeping of the Company’s investments to The Bank of New York Mellon (London Branch) who acts as custodian under this authority.

Investment Objective and Policy

Investment Objective

The Company’s objective is to provide shareholders with long-term growth of capital, mainly from UK investments.

Investment Policy and Risk

The portfolio is invested by the Manager so as to maximise exposure to the most attractive sectors and stocks within the UK stock market and, within the limits set out below, internationally. The Manager does not set out to manage the risk characteristics of the portfolio relative to the benchmark index and the investment process will result in potentially very significant over or underweight positions in individual sectors versus the benchmark.

The Manager controls stock-specific and sector risk by ensuring that the portfolio is always appropriately diversified. In depth, continual analysis of the fundamentals of investee companies allows the portfolio manager to assess the financial risks associated with any particular stock. The portfolio is typically made up of 50 to 80 stocks. If a stock is not considered to be a good investment, then the Company will not own it, irrespective of its weight in the index.

Investment limits

The Board has prescribed the following limits on the investment policy, all of which are at time of investment unless otherwise stated:

–          no single equity investment in a UK listed company may exceed 12.5% of gross assets;

–          the Company will not invest more than 15% of its assets in other listed investment companies;

–          the Company will not invest more than £12 million in bonds, with a maximum of £1.5 million in any issue;

–          the Company will normally not invest more than 5% of gross assets in unquoted investments (this limit has been updated; it previously stated that the Company would normally not invest more than £5 million in unquoted investments, at the time of investment, and £10 million at market value);

–          the Company will not normally invest more than 15% of its equity investments in companies that are not UK listed and incorporated; and

–          borrowing may be used by the Company to create gearing within limits determined by the Board.

Gearing Policy

The Board carefully considers the Company’s policy in respect of the level of equity exposure. The Board takes responsibility for the Company’s gearing strategy and sets guidelines to control it, which it may change from time to time. At the year end these guidelines required that the Manager must make no net purchases if equity exposure was more than 105% of net assets, and must make sales if, as a result of market movements, equity exposure was to exceed 115% of net assets. When held, corporate bonds are not treated as equity exposure for the purposes of the gearing limits.

Performance

Delivery of shareholder value is achieved through outperformance of the relevant benchmark.

The Board reviews performance by reference to a number of Key Performance Indicators that include the following:

•          net asset value (NAV) and share price total return compared with benchmark and peer group performance;

•          share price premium/discount relative to the net asset value;

•          dividends; and

•          ongoing charges.

The Company’s performance in the year was good, reflecting continued successful implementation of the business strategy by the Manager, who, as a consequence, is entitled to a performance-related fee (based on the last three years’ performance) of £2,544,000. The NAV (debt at par) and share price total return of 6.7% and 7.3%, respectively, both beat the FTSE All-Share total return of –2.3%. The Manager’s Report on pages 12 and 13 provides a commentary on how this performance was achieved. A table of the returns for the last ten years, together with a graph, can be found on page 3.

Peer group performance is monitored by comparing the Company with the 13 investment companies making up the UK All Companies sector of the approximately 300 investment companies in the UK. As at 30 September 2015, in NAV total return terms, the Company was ranked 6th in its sector over one year and five years, and 7th over three years (source: JPMorgan Cazenove).

During the year the Company’s shares traded at a premium or discount relative to NAV (with debt at fair value) as shown in the following graph. The discount at the year end was 4.9%.

Although there is no specific target discount range a small discount or a premium would imply that there was strong demand for the shares. In order to ensure that the demand for and supply of the Company’s shares are roughly in balance, the Board asks shareholders to approve resolutions every year which allow for the repurchase of shares (for cancellation or to be held as treasury shares) and also their issuance. This may assist in the management of the discount. The Company has not issued any ordinary shares in the year and no shares were repurchased.

Dividends form a key component of the total return to shareholders. The income from the portfolio and potential level of dividend payable is reviewed at every board meeting. A first interim dividend of 18p (2014:18p) per share was paid on 30 June 2015 and a second interim dividend of 33p (2014: 32.5p) per share has been declared, which is payable on 30 December 2015 to shareholders on the register at 11 December 2015. These give a total ordinary dividend for the year of 51p compared with 50.5p for the previous year. The Board has also declared a special dividend of 12.3p (2014: 8p) to be paid at the same time as the second interim dividend. The dividend history of the Company over the last ten years is shown in the table on page 3.

Ongoing charges is the industry measure of costs as a percentage of net asset value. The expenses of the Company are reviewed at every board meeting, with the aim of managing costs incurred and their impact on performance. The ongoing charges figure for the past year, which excludes the performance fee, was 0.71%, compared with 0.87% for the year to 30 September 2014. The principal reason for the improvement is the reduction in the basic management fee rate from 0.8% to 0.6% following the Board’s renegotiation last year. The ten year record of ongoing charges is shown on page 3.

Financial Position

At 30 September 2015, the Company’s net assets were valued at £260 million (2014: £250 million). These comprised a portfolio of mainly equity investments and net current assets. The Company has an uncommitted short-term overdraft facility with the custodian for settlement and liquidity purposes.

Due to the readily realisable nature of the Company’s assets, cash flow does not have the same significance as for an industrial or commercial business. The Company’s principal cash flows arise from the purchase and sales of investments and the income from investments against which must be set the costs of borrowing and management expenses.

At 30 September 2014 and 30 September 2015, the Company’s ordinary shares were geared by borrowings in the form of two issues of long-term debentures, totalling £32 million nominal. Their weighted average interest rate was 6.77% for both years. The Company also had £0.25 million of 5% cumulative preference shares in issue.

Outlook and Future Trends

The main trends and factors likely to affect the future development, performance and position of the Company’s business can be found in the following Manager’s Report section of this Strategic Report. Further details as to the risks affecting the Company are set out below under ‘Principal Risks and Uncertainties’.

Principal Risks and Uncertainties

The following are considered to be the most significant risks to shareholders in relation to their investment in the Company. Further details of risks and risk management policies as they relate to the financial assets and liabilities of the Company are detailed in note 17 to the financial statements.

Investment Objective

There is no guarantee that the Company’s strategy and business model will be successful in achieving its investment objective.

The Board monitors the performance of the Company and has established guidelines to ensure that the investment policy that has been approved is pursued by the Manager.

Market Risk

The majority of the Company’s investments are traded on the London Stock Exchange. The principal risk for investors in the Company is of a significant fall in stock markets and/or a prolonged period of decline in the markets relative to other forms of investment. The value of investments held within the portfolio is influenced by many factors including the general health of the economy in the UK, interest rates, inflation, government policies, industry conditions, political events, tax laws, environmental laws and investor sentiment. The portfolio manager has summarised in the Manager’s Report section of this Strategic Report particular factors affecting the performance of markets in the year and his view of those most pertinent to the outlook for the portfolio. Such factors are out of the control of the Board and the Manager and may give rise to high levels of volatility in the prices of investments held by the Company, although the use or elimination of gearing may modify the impact on shareholder return.

Investment Risk

An inherent risk of investment is that the stocks selected for the portfolio do not perform well.

The investment process employed by the Manager combines top down assessment of economic and market conditions with stock selection. Fundamental analysis forms the basis of the Company’s stock selection process, with an emphasis on sound balance sheets, good cash flows, the ability to pay and sustain dividends, good asset bases and market conditions. The process is complemented by constant assessment of market valuations. It is important to have a sense of a company’s realistic valuation which, to some extent, will be independent of the price at which it trades in the market. Overall, the investment process is aiming to achieve absolute returns through a genuinely active fund management approach. This can therefore result in a portfolio which looks substantially different from the benchmark index.

Risk management is an integral part of the investment management process. The Manager effectively controls risk by ensuring that the Company’s portfolio is always appropriately diversified. Continual analysis of all holdings gives the Manager a full understanding of financial risks associated with them.

The portfolio of investments held at 30 September 2015 is set out on pages 14 and 15.

Past performance of the Company is not necessarily indicative of future performance.

Shares

Shareholders are exposed to certain risks in addition to risks applying to the Company itself.

The ordinary shares of the Company may trade at a premium or discount to its NAV. The Board monitors the price of the Company’s shares in relation to their NAV and the premium/discount at which they trade.

The value of an investment in the Company and the income derived from that investment may go down as well as up and an investor may not get back the amount invested.

While it is the intention of the Directors to pay dividends to ordinary shareholders twice a year, the ability to do so will depend upon the level of income received from securities and the timing of receipt of such income by the Company. Accordingly, the amount of the dividends paid to ordinary shareholders may fluctuate. Any change in the tax or accounting treatment of dividends or other investment income received by the Company may also affect the level of dividend paid.

The Directors seek powers to issue and buy back the Company’s shares each year, which can be used to help manage the level of discount. The Board also monitors the level of revenue available for distribution at each Board meeting.

Gearing

Gearing levels may change from time to time in accordance with the Manager’s and the Board’s assessment of risk and reward. Whilst the use of borrowings by the Company should enhance total return where the return on the Company’s underlying securities is rising and exceeds the cost of borrowing, it will have the opposite effect where the underlying return is falling. As at 30 September 2015, net gearing from borrowings stood at 4.4%. The Board and the Manager regularly review gearing and will continue to monitor the level closely over the year ahead.

Reliance on the Manager and Other Service Providers

The Company has no employees and the Directors have all been appointed on a non-executive basis. The Company is reliant upon the performance of third party service providers for it to function. In particular, the Manager performs services that are integral to the operation of the Company. Failure by any service provider to carry out its obligations to the Company in accordance with the terms of its appointment or compromise of their systems could have a materially detrimental impact on the operation of the Company and could affect the ability of the Company to successfully pursue its investment policy.

The Manager may be exposed to reputational risks. In particular, the Manager may be exposed to the risk that litigation, misconduct, operational failures, negative publicity and press speculation, whether or not it is valid, will harm its reputation. Any damage to the reputation of the Manager could result in potential counterparties and third parties being unwilling to deal with the Manager and by extension the Company. This could have an adverse impact on the ability of the Company to pursue its investment policy successfully. The Company’s main service providers are listed on page 63.

The Board monitors the services provided to the Company, informally at every Board meeting and formally at least annually.

Regulatory

The Company is subject to various laws and regulations by virtue of its status as a public limited company, as an investment trust and as an alternative investment fund. A loss of investment trust status could lead to the Company being subject to capital gains tax on the profits arising from the sale of its investments. A serious breach of other regulatory rules might lead to suspension from the Stock Exchange. Other control failures, either by the Manager or another of the Company’s service providers, might result in operational or reputational problems, erroneous disclosures or loss of assets through fraud, as well as breaches of regulations.

The Manager reviews the level of compliance with tax and other regulatory financial requirements on a daily basis. All transactions, income and expenditure are reported to the Board. The Board regularly considers all risks, the measures in place to control them and the possibility of any other risks that could arise. The Board ensures that satisfactory assurances are received from service providers. The Manager’s Compliance Officer produces regular reports for review by the Company’s Audit Committee.

Viability Statement

An investment company operating as an investment trust such as this Company, is a collective investment vehicle rather than a commercial business venture and is designed and managed for long term investment. Long term for this purpose is considered to be at least five years and so the Directors have assessed the Company’s viability over that period. However, the life of the Company is not intended to be limited to that or any other period.

The main risk to the Company’s continuation is shareholder dissatisfaction through failure to meet the Company’s investment objective, through poor investment performance or through the investment policy not being appropriate in prevailing market conditions. Accordingly, failure to meet the Company’s investment objective, and contributory market and investment risks, are listed on pages 8 and 9 as principal risks to the Company. The Board has given these particular consideration when assessing the longer term viability of the Company.

The Company’s performance has been very strong for many years and through different market cycles, as shown by the ten year total return performance graph on page 3, and by comparison with its peer group, as set out on page 7. Whilst past performance may not be indicative of performance in the future, it should be noted that the Company’s current Manager has been in place throughout that ten years and there has been no material change in the investment policy. The investment policy is kept under review and the Board considers it to be appropriate. This is confirmed by contact with major shareholders and demonstrated by demand for the Company’s shares, as evidenced by the narrow discount to net asset value at which the shares trade (see page 7).

Performance and demand for the Company’s shares are not things that can be forecast, but there are no current indications that either or both of these may falter materially over the next five years so as to affect the Company’s viability.

Save for the limited value ascribed to the unquoted investments, the Company’s portfolio is readily realisable and many times the value of its short term liabilities and annual operating costs. The Company also has long term debt obligations comprising two debentures. The smaller debenture, £7 million, falls due in 2020 and the larger, £25 million, in 2023. In aggregate this long term debt amounts to approximately 11% of total assets, so the principal is more than nine times covered and the risk that interest obligations will not be met is negligible. It follows that there is little to no prospect of the Company not being able to meet both its short and long term obligations as they fall due in the next five years. Accordingly, failure to do so is not a principal risk of the Company. Whether the Company replaces the debt as it matures is subject to future consideration of the Board, but there is no current indication that the Company would be unable to do so on acceptable terms.

Based on the foregoing analysis, the Directors have a reasonable expectation that the Company will be able to continue in operation and meet its liabilities as they fall due over the five-year period of their assessment.

Board Diversity

The Company’s policy on diversity is set out on page 51. The Nomination Committee considers diversity, including the balance of skills, knowledge, gender and experience, amongst other factors, when reviewing the composition of the Board and appointing new directors but does not consider it appropriate to establish targets or quotas in this regard. The Board comprises five non-executive directors of whom one, the Chairman, is a woman thereby constituting 20% female representation. Summary biographical details of the Directors are set out on page 16. The Company has no employees.

Social and Environmental Matters

As an investment company operating as an investment trust, with no employees, property or activities outside investment, environmental policy has limited application. The Manager considers various factors when evaluating potential investments. While a company’s policy towards the environment and social responsibility, including with regard to human rights, is considered as part of the overall assessment of risk and suitability for the portfolio, the Manager does not necessarily decide to, or not to, make an investment on environmental and social grounds alone. The Manager applies the United Nations Principles for Responsible Investment.

Stewardship

The Board considers that the Company has a responsibility as a shareholder towards ensuring that high standards of corporate governance are maintained by the companies in which it invests. The Company’s stewardship functions have been delegated to the Manager, who exercises the Company’s voting rights and reports back to the Board. The Manager has adopted a clear and considered policy towards its responsibility as a shareholder on behalf of the Company. As part of this policy, the Manager takes steps to satisfy itself about the extent to which the companies in which it invests look after shareholders’ value and comply with local recommendations and practices, such as the UK Corporate Governance Code. A copy of the Manager’s Policy on Corporate Governance and Stewardship can be found at www.invescoperpetual.co.uk.

.

MANAGER’S REPORT

Market Review

The 12 month period under review saw the UK stock market, as measured by the FTSE All-Share index, fall by 2.3% (total return). However, this return masked significant disparity of performance at the individual stock level, which enabled us to perform well relative to the index.

During the first half of the financial year, the index was boosted by the introduction of quantitative easing in the Eurozone, alongside further stimulus from Japan, as well as a buoyant domestic economy on the back of falling energy and food prices, resilient employment growth and continued strength in the housing market. At the half year stage, the index had risen by 5.3% (total return), subsequently hitting a new all-time high in April.

The UK General Election result further boosted sentiment in May although the market’s rally proved short-lived as concerns over the global economic outlook became more influential and dominated the movements in the markets over the summer months. The specific areas of concern were the interplay between a slowing Chinese economy and the future direction of US monetary policy, which has remained unchanged since 2008.

The performance of the market over the year showed significant disparity at the sub index level. In aggregate, small and medium sized companies performed substantially better than large companies - due to a higher proportion of domestically focused companies in the former and the significant weighting towards resource industries in the latter. This was exemplified by the returns from the FTSE Small Cap (ex Investment Companies) and FTSE 250 indices which rose by 9.0% and 11.4% respectively over the last year, contrasting with the FTSE 100 index, which declined by 5.1% (total return).

Portfolio Strategy & Review

The Company’s net asset value, including reinvested dividends, rose by 6.7% during the 12 months to the end of September 2015, compared to a decline in the benchmark of 2.3% (total returns). Net gearing at the period end was 4.4%, enhancing returns for the Company, amid falls in the broader UK market.

The key contributors to performance over the period at the stock level, were tobacco companies, and in particular the holdings in Reynolds American and Imperial Tobacco. During the course of the Company’s financial year, Reynolds American saw a share price total return of over 60% as the company’s proposed acquisition of US tobacco company Lorillard met with final approval from the Federal Trade Commission. This saw Reynolds acquire the dominant menthol cigarette brand Newport, which strengthens its position in the US market. Meanwhile, Imperial Tobacco, as part of the deal, acquired some US brands from Reynolds (including Winston), as well as Lorillard’s US based salesforce. Dividend growth and profit margins remain healthy across the tobacco sector, in spite of a continuing decline in global cigarette sales by volume, as product innovation, tobacco quality improvements and cost rationalisation have helped enhance pricing power in many territories.

The other key contributors to performance over the last year were in the ‘other financials’ sector. Provident Financial has been a long-term holding in the portfolio. It specialises in the non-standard lending market in the UK and has two main lending divisions – Vanquis, a non-standard credit card business and CCD, its consumer credit division - the latter has improved the profitability of its home collected credit business in recent years, by being more stringent on credit quality and through technology-derived efficiency gains. The company has expanded into complementary areas of credit, both organically through the creation of Satsuma Loans, its online short-term loan business and by acquisition, with the purchase of Moneybarn, a company specialising in car finance. The core of future profit growth is expected to come from Vanquis, Satsuma and Moneybarn as they build on existing synergies and exploit economies of scale. Provident Financial has been quick to adapt its business model to advances in technology and changes in customer borrowing habits. Profit margins are high and stable while default rates remain low and within the management team’s expected range. The company’s share price rose by over 50% in the year ending 30 September.

Having been a beneficiary of consolidation within the insurance sector earlier in the year with the acquisition of Friends Life by Aviva, the Company’s holding in Amlin, a Lloyds insurance market investment vehicle, received a takeover approach from Japanese company Mitsui towards the period end, resulting in a significant uplift to its share price. We were fully supportive of this acquisition proposal as the price paid reflected a full valuation for the business. The share prices of Beazley and Hiscox, also in the non-life insurance sector, both rose during the period on the back of positive half-year results, and amid growing takeover speculation.

Whilst a high weighting was maintained in the ‘other financials’ sector, the portfolio continues to have no exposure to banks, due mainly to uncertainty on the future direction of dividends as a result of regulatory restrictions. Equally the portfolio continues to have no investments in mining companies. Indeed it was in part having no exposure to these sectors that helped drive the Company’s outperformance of its benchmark during the year.

Among the detractors to performance over the period were BP, Drax and Rolls-Royce. A decline in global energy prices was in part responsible for falls in the share prices of BP and Drax. BP announced an increased dividend with its second quarter results and gave further details around the substantial restructuring agenda and opportunities within the business, with chief executive Bob Dudley also predicting that oil prices would stay ‘lower for longer’. The continued fall in wholesale electricity prices weighed on Drax and its share price declined further on news in the Chancellor’s summer budget statement, that the UK government would cut its renewable energy tax break by removing an exemption that hitherto had allowed companies like Drax to pay less tax. The fear is that providers of capital will be reluctant to finance future renewable projects making government emissions targets harder to achieve.

Rolls-Royce continued to disappoint, in share price performance terms, during 2015. The appointment of Warren East as chief executive in July saw him make a further downward revision of the expected full-year pre-tax profits and cancel the share buyback in order to protect ‘dwindling cash reserves’. Headwinds for its marine business, a slowing production line for the Airbus A330, lower-than-expected demand for engines to power business jets, and a softening in the spares and replacement market for regional planes in 2016 and beyond, weighed on the company’s share price. However, Mr East was keen to emphasise his belief in the long term prospects for the business as a whole, citing ‘exceptional technology and outstanding long-term prospects’.

In terms of portfolio activity during the year, the holding in GlaxoSmithKline was sold, while exposure to Rolls-Royce was reduced in order to take advantage of more attractive long term investment opportunities elsewhere. New investments were made in Easyjet, BCA Market Place, Motif Bio and Silence Therapeutics.

Outlook

The near term outlook for the UK stock market appears subdued. A number of important external factors have converged over the last few months to mean that it is unlikely that we will witness a repeat of the benign conditions in the equity market seen over the last few years.

In our view the market’s performance is challenged first by the fact that the five year returns of the FTSE All-Share index have been very positive set against a longer term context. Second, the valuation of the market no longer represents a cheap asset class – the strong re-rating of equities in recent years has run its course. Third, the underlying level of earnings growth in the market remains too weak to justify further increases in the level of the index. Fourth, the declining growth rate of the Chinese economy has revealed the full extent of the forces of disinflation and how widespread their impact is felt around the world. This will clearly have an effect on the ability of companies to increase prices, the willingness of companies to invest in new capacity, and ultimately the capacity for economies to grow sustainably into the future.

These factors have combined to make the UK stock market a more volatile place to invest. However, this is also an environment which favours active portfolio management. In the near term the outlook may indeed be more challenging as profit warnings and dividend cuts become a recurring feature of the landscape. The successful manager will need to tread carefully in this environment in order to avoid these pitfalls. This is a time to be highly selective in portfolio construction – the onus rests even more on prudence and capital preservation. Overall, returns from the markets are likely to be more modest in the foreseeable future, and income is likely to comprise a higher proportion of total return than in the recent past. The portfolio is well positioned for this environment.

Mark Barnett, Portfolio Manager

The Strategic Report was approved by the Board of Directors on 30 November 2015.

Invesco Asset Management Limited

Company Secretary

.

INVESTMENTS IN ORDER OF VALUATION

AT 30 SEPTEMBER 2015

UK listed ordinary shares unless stated otherwise

Equity Investments ISSUER	SECTOR	MARKET VALUE £’000	% OF PORTFOLIO
Reynolds American – US common stock	Tobacco	15,312	5.6
British American Tobacco	Tobacco	12,364	4.5
Imperial Tobacco	Tobacco	12,352	4.5
AstraZeneca	Pharmaceuticals & Biotechnology	10,435	3.8
BT Group	Fixed Line Telecommunications	10,030	3.6
Roche – Swiss common stock	Pharmaceuticals & Biotechnology	8,536	3.1
Provident Financial	Financial Services	8,286	3.0
BAE Systems	Aerospace & Defence	8,187	3.0
BP	Oil & Gas Producers	7,163	2.6
Capita	Support Services	6,919	2.5
Top Ten Investments		99,584	36.2
Beazley	Non-life Insurance	6,642	2.4
Amlin	Non-life Insurance	6,586	2.4
Legal & General	Life Insurance	6,256	2.3
RELX (formerly Reed Elsevier)	Media	5,811	2.1
Derwent London	Real Estate Investment Trusts	5,373	1.9
Shaftesbury	Real Estate Investment Trusts	5,218	1.9
Rentokil Initial	Support Services	5,214	1.9
London Stock Exchange	Financial Services	5,171	1.9
Hiscox	Non-life Insurance	5,153	1.9
Babcock International	Support Services	5,050	1.8
Top Twenty Investments		156,058	56.7
BTG	Pharmaceuticals & Biotechnology	5,038	1.8
Bunzl	Support Services	5,034	1.8
Compass	Travel & Leisure	4,866	1.8
NewRiver Retail	Real Estate Investment Trusts	4,671	1.7
SSE	Electricity	4,272	1.5
Reckitt Benckiser	Household Goods & Home Construction	4,067	1.5
Centrica	Gas, Water & Multiutilities	3,907	1.4
Novartis – Swiss common stock	Pharmaceuticals & Biotechnology	3,765	1.4
Thomas Cook	Travel & Leisure	3,617	1.3
A J Bell UQ	Financial Services	3,600	1.3
Top Thirty Investments		198,895	72.2
GAME Digital	General Retailers	3,419	1.2
KCOM	Fixed Line Telecommunications	3,365	1.2
Lancashire	Non-life Insurance	3,333	1.2
TalkTalk Telecom	Fixed Line Telecommunications	3,303	1.2
G4S	Support Services	3,116	1.1
Rolls-Royce	Aerospace & Defence	3,103	1.1
Harworth	Real Estate Investment & Services	3,066	1.1
easyJet	Travel & Leisure	2,993	1.1
IP Group	Financial Services	2,985	1.1
HomeServe	Support Services	2,909	1.1
Top Forty Investments		230,487	83.6

ISSUER	SECTOR	MARKET VALUE £’000	% OF PORTFOLIO
Workspace	Real Estate Investment Trusts	2,864	1.0
Oxford Sciences InnovationUQ	Financial Services	2,700	1.0
P2P Global Investments	Equity Investment Instruments	2,620	0.9
Imperial Innovations	Financial Services	2,387	0.9
Vectura	Pharmaceuticals & Biotechnology	2,355	0.9
N Brown	General Retailers	2,263	0.8
Motif Bio	Pharmaceuticals & Biotechnology	2,260	0.8
CLS	Real Estate Investment & Services	2,182	0.8
Drax	Electricity	2,152	0.8
BCA Marketplace	Financial Services	2,036	0.7
Top Fifty Investments		254,306	92.2
Smith & Nephew	Health Care Equipment & Services	1,967	0.7
Silence TherapeuticS	Pharmaceuticals & Biotechnology	1,904	0.7
Macau Property Opportunities Fund	Real Estate Investment & Services	1,551	0.6
Napo Pharmaceuticals – US common stockUQ	Pharmaceuticals & Biotechnology	1,470	0.5
Doric Nimrod Air Two – Preference Shares	Equity Investment Instruments	1,443	0.5
MayAir	Industrial Engineering	1,415	0.5
Doric Nimrod Air Three –   Preference Shares	Equity Investment Instruments	1,408	0.5
Nimrod Sea Assets	Equity Investment Instruments	1,396	0.5
Sherborne Investors Guernsey B –  A Shares	Financial Services	1,316	0.5
VPC Specialty Lending Investments – C Shares	Financial Services	1,300	0.5
Top Sixty Investments		269,476	97.7
Ladbrokes	Travel & Leisure	1,269	0.5
Horizon Discovery	Pharmaceuticals & Biotechnology	1,194	0.4
Lombard Medical –   US common stock	Health Care Equipment & Services	1,052	0.4
Damille Investments II	Equity Investment Instruments	932	0.3
Nexeon – B SharesUQ Nexeon – Preference C SharesUQ Nexeon – Ordinary sharesUQ	Electronic & Electrical Equipment	497  400  4	0.3
PuriCore	Health Care Equipment & Services	517	0.2
HaloSource	Chemicals	277	0.1
XTL Biopharmaceuticals – ADR	Pharmaceuticals & Biotechnology	25	—
Mirada	Media	2	—
Total Equity Investments (71)		275,645	99.9

Other Investments   ISSUER AND ISSUE	SECTOR	MOODY/ S&P RATING	MARKET VALUE £’000	% OF PORTFOLIO
Barclays Bank – Nuclear Power	Electricity	NR/NR	145	0.1
Notes 28 Feb 2019
Total Investments (72)			275,790	100.0

NR is non-rated.

UQ is unquoted.

.

STATEMENT OF DIRECTORS’ RESPONSIBILITIES

IN RESPECT OF THE PREPARATION OF FINANCIAL STATEMENTS

The Directors are responsible for ensuring that the annual financial report is prepared in accordance with applicable law and regulations.

Company law requires the Directors to prepare financial statements for each financial year. Under that law the Directors have elected to prepare financial statements in accordance with United Kingdom Generally Accepted Accounting Practice (United Kingdom Accounting Standards) and applicable law. Under company law, the Directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Company and of the net return of the Company for that period.

In preparing these financial statements, the Directors are required to:

-           select suitable accounting policies and then apply them consistently;

-           make judgments and accounting estimates that are reasonable and prudent;

-           state whether applicable UK Accounting Standards have been followed, subject to any material departures disclosed and explained in the financial statements; and

-           prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Company will continue in business.

The Directors are responsible for keeping adequate accounting records which are sufficient to show and explain the Company’s transactions and disclose with reasonable accuracy at any time the financial position of the Company and which enable them to ensure that the financial statements comply with company law. They are also responsible for safeguarding the assets of the Company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities.

Under applicable law and regulations, the Directors are also responsible for preparing a Strategic Report, a Corporate Governance Statement, a Directors’ Remuneration Report and a Directors’ Report that comply with that law and those regulations.

The Directors of the Company, whose names are shown on page 16 of this Report, each confirm to the best of their knowledge that:

- the financial statements, which have been prepared in accordance with United Kingdom accounting standards on a going concern basis, give a true and fair view of the assets, liabilities, financial position and net return of the Company;

- the annual financial report includes a fair review of the development and performance of the business and the position of the Company, together with a description of the principal risks and uncertainties that it faces; and

- they consider that the annual financial report, taken as a whole, is fair, balanced and understandable and provides the information necessary for shareholders to assess the Company’s position and performance, business model and strategy.

Beatrice Hollond

Chairman

Signed on behalf of the Board of Directors

30 November 2015

.

INCOME STATEMENT

FOR THE YEAR ENDED 30 SEPTEMBER

		2015			2014
	NOTES	REVENUE £’000	CAPITAL £’000	TOTAL £’000	REVENUE £’000	CAPITAL £’000	TOTAL £’000
Gains on investments	9	—	13,884	13,884	—	22,105	22,105
Foreign exchange losses		—	(10)	(10)	—	(11)	(11)
Income	2	10,071	—	10,071	9,507	280	9,787
Investment management and performance-related fees	3	(365)	(3,637)	(4,002)	(433)	(2,252)	(2,685)
Other expenses	4	(350)	—	(350)	(344)	—	(344)
Net return before finance costs and taxation		9,356	10,237	19,593	8,730	20,122	28,852
Finance costs	5	(560)	(1,645)	(2,205)	(560)	(1,643)	(2,203)
Return on ordinary activities before taxation		8,796	8,592	17,388	8,170	18,479	26,649
Tax on ordinary activities	6	(137)	—	(137)	(157)	—	(157)
Net return on ordinary activities after tax for the financial year		8,659	8,592	17,251	8,013	18,479	26,492
Return per ordinary share Basic	8	64.1p	63.5p	127.6p	59.3p	136.7p	196.0p

The total column of this statement represents the Company’s profit and loss account, prepared in accordance with the accounting policies detailed in note 1 to the financial statements. The supplementary revenue and capital columns are presented for information purposes in accordance with the Statement of Recommended Practice issued by the Association of Investment Companies. All items in the above statement derive from continuing operations and the Company has no other gains or losses. Therefore no statement of total recognised gains or losses is presented. No operations were acquired or discontinued in the year.

.

RECONCILIATION OF MOVEMENTS IN SHAREHOLDERS’ FUNDS

FOR THE YEAR ENDED 30 SEPTEMBER

	CALLED UP SHARE CAPITAL £’000	SHARE PREMIUM £’000	CAPITAL REDEMPTION RESERVE £’000	CAPITAL RESERVE £’000	REVENUE RESERVE £’000	TOTAL £’000
Balance at 30 September 2013	6,760	3,449	466	211,079	9,726	231,480
Dividends paid – note 7	—	—	—	—	(7,705)	(7,705)
Net return on ordinary activities	—	—	—	18,479	8,013	26,492
Balance at 30 September 2014	6,760	3,449	466	229,558	10,034	250,267
Dividends paid – note 7	—	—	—	—	(7,893)	(7,893)
Net return on ordinary activities	—	—	—	8,592	8,659	17,251
Balance at 30 September 2015	6,760	3,449	466	238,150	10,800	259,625

The accompanying notes are an integral part of these statements.

.

BALANCE SHEET

AT 30 SEPTEMBER

	NOTES	2015 £’000	2014 £’000
Fixed assets
Investments held at fair value through profit or loss	9	275,790	263,999
Current assets
Debtors	10	642	2,727
Cash and cash funds		20,398	17,578
		21,040	20,305
Creditors: amounts falling due within one year	11	(5,263)	(2,122)
Net current assets		15,777	18,183
Total assets less current liabilities		291,567	282,182
Creditors: amounts falling due after more than one year	12	(31,942)	(31,915)
Net assets		259,625	250,267
Capital and reserves
Called up share capital	13	6,760	6,760
Share premium	14	3,449	3,449
Capital redemption reserve	14	466	466
Capital reserve	14	238,150	229,558
Revenue reserve	14	10,800	10,034
Shareholders’ funds		259,625	250,267
Net asset value per ordinary share
Basic	15	1920.5p	1851.3p

The financial statements, on pages 32 to 49, were approved and authorised for issue by the Board of Directors on 30 November 2015.

Signed on behalf of the Board of Directors

Beatrice Hollond

Chairman

The accompanying notes are an integral part of this statement.

.

CASH FLOW STATEMENT

FOR THE YEAR ENDED 30 SEPTEMBER

	NOTES	2015 £’000	2014 £’000
Cash inflow from operating activities	16(a)	7,365	6,038
Servicing of finance	16(b)	(2,178)	(2,177)
Capital expenditure and financial investment	16(b)	5,526	11,613
Net equity dividends paid	7	(7,893)	(7,705)
Net cash inflow before management of liquid resources and financing		2,820	7,769
Management of liquid resources	16(b)	(2,203)	(5,700)
Increase in cash		617	2,069
Reconciliation of net cash flow to movement in net debt
Increase in cash		617	2,069
Cash flow from movement in liquid resources		2,203	5,700
Debenture stock non-cash movement		(27)	(26)
Movement in net debt in the year		2,793	7,743
Net debt at beginning of the year		(14,337)	(22,080)
Net debt at end of the year	16(c)	(11,544)	(14,337)

NOTES TO THE FINANCIAL STATEMENTS

1.         Accounting Policies

Accounting policies describe the Company’s approach to recognising and measuring transactions during the year and the position of the Company at the year end.

A summary of the principal accounting policies adopted by the Company, all of which have been applied consistently throughout the year and the preceding year, is set out below.

(a)        Basis of Preparation

(i)    Accounting Standards applied

The financial statements have been prepared under the historical cost convention, modified to include the revaluation of certain fixed assets, in accordance with applicable United Kingdom Generally Accepted Accounting Practice and with the Statement of Recommended Practice (‘SORP’) ‘Financial Statements of Investment Trust Companies and Venture Capital Trusts’, issued by the Association of Investment Companies in January 2009. The financial statements are also prepared on a going concern basis.

(ii)   Functional and presentation currency

The financial statements are presented in Sterling, which is the Company’s functional and presentation currency and the currency in which the Company’s share capital and expenses, as well as a majority of its assets and liabilities, are denominated.

(b)        Financial Instruments

(i)    Recognition of financial assets and financial liabilities

The Company recognises financial assets and financial liabilities when the Company becomes a party to the contractual provisions of the instrument. The Company will offset financial assets and financial liabilities if the Company has a legally enforceable right to set off the recognised amounts and interests and intends to settle on a net basis.

(ii)   Derecognition of financial assets

The Company derecognises a financial asset when the contractual rights to the cash flows from the asset expire or it transfers the rights to receive the contractual cash flows on the financial asset in a transaction in which substantially all the risks and rewards of ownership of the financial asset are transferred. Any interest in the transferred financial asset that is created or retained by the Company is recognised as an asset.

(iii)Derecognition of financial liabilities

The Company derecognises financial liabilities when its obligations are discharged, cancelled or expired.

(iv)Trade date accounting

Purchases and sales of financial assets are recognised on trade date, being the date on which the Company commits to purchase or sell the assets.

(v)   Classification and measurement of financial assets and financial liabilities

Financial assets

The Company’s investments are classified as held at fair value through profit or loss as the investments are managed and their performance evaluated on a fair value basis in accordance with a documented investment strategy, and this is also the basis on which investment information is provided internally to the Board.

Financial assets held at fair value through profit or loss are initially recognised at fair value, which is taken to be their cost, with transaction costs expensed in the income statement, and are subsequently valued at fair value.

Fair value for investments that are actively traded in organised financial markets is determined by reference to stock exchange quoted bid prices at the balance sheet date. For investments that are not actively traded or where active stock exchange quoted bid prices are not available, fair value is determined by reference to a variety of valuation techniques including broker quotes and price modelling. Where there is no active market, unlisted/illiquid investments are valued by the Directors at fair value based on recommendations from Invesco’s Pricing Committee, which in turn is guided by the International Private Equity and Venture Capital Valuation Guidelines issued in 2012, using valuation techniques such as earnings multiples, recent arm’s length transactions and net assets.

Financial liabilities

Financial liabilities, including borrowings, are initially measured at fair value, net of transaction costs and are subsequently measured at amortised cost using the effective interest method.

(c)        Accounting for Capital Reserves

Realised gains and losses on sales of investments (note 9(b)) and certificates of deposit; realised gains or losses on derivatives (including any related foreign exchange gains and losses); realised gains and losses on foreign currency; management fees and finance costs allocated to capital; and any other capital charges, are included in the income statement and dealt with in the capital reserve. Unrealised increases and decreases in the valuation of investments and certificates of deposit and any derivatives held at the year end (including the related foreign exchange gains and losses), are also included in the income statement and dealt with in the capital reserve.

(d)        Income

Dividend income arises from equity investments held and is recognised on the date investments are marked ‘ex-dividend’. Where the Company elects to receive dividends in the form of additional shares rather than cash, the equivalent to the cash dividend is recognised as income in the revenue account and any excess in the value of the shares received over the amount of the cash dividend is recognised in capital reserve. Special dividends are taken to income unless they arise from a return of capital, when they are allocated to capital in the income statement. Interest income arising from fixed income securities and cash is recognised in the income statement using the effective interest method. Deposit interest and underwriting commission receivable are taken into account on an accruals basis.

(e)        Management and Performance-related fees

Investment management fees are recognised on an accruals basis and are charged 75% to capital and 25% to revenue. This is in line with the Board’s expected long-term split of returns, in the form of capital gains and income respectively, from the investment portfolio of the Company.

Performance-related fees are calculated as detailed in the Directors’ Report and are charged wholly to capital as they arise mainly from capital returns on the portfolio.

(f)         Expenses and Finance costs

Expenses are recognised on an accruals basis and finance costs are recognised using the effective interest method, with the debentures being held at amortised cost. The finance costs of debt are allocated 75% to capital and 25% to revenue for the reasons outlined in (e) above. The 5% cumulative preference shares are classified as a liability and therefore the dividends payable on these shares are classified as finance costs and charged to the revenue column of the income statement.

(g)        Hedging and Derivatives

Forward currency contracts entered into for hedging purposes are valued at the appropriate forward exchange rate ruling at the balance sheet date. Profits or losses on the closure or revaluation of positions are included in capital. Futures contracts may be entered into for hedging purposes and any profits and losses on the closure or revaluation of positions are included in capital.

Derivative instruments are valued at fair value in the balance sheet and are classified as held at fair value through profit or loss. Derivative instruments may be capital or revenue in nature and, accordingly, changes in their fair value are recognised in revenue or capital in the income statement as appropriate.

(h)        Foreign Currency Translation

Transactions in foreign currency, whether of a revenue or capital nature, are translated to Sterling at the rates of exchange ruling on the dates of such transactions. Foreign currency assets and liabilities are translated to Sterling at the rates of exchange ruling at the balance sheet date. Any gains or losses, whether realised or unrealised, are taken to capital or to revenue, depending on whether the gain or loss is of a capital or revenue nature. All gains and losses are recognised in the income statement.

(i)         Taxation

Foreign dividends that suffer withholding tax at source are shown gross, with the corresponding tax charge in the income statement.

Deferred taxation is provided using the liability method on all timing differences to the extent that they are expected to reverse in the future without being replaced, calculated at the rate at which it is anticipated the timing differences will reverse.

(j)         Dividends Payable

Dividends are not recognised in the financial statements unless there is an obligation to pay at the balance sheet date. Proposed final dividends are recognised in the period in which they are approved by shareholders.

2.         Income

This note shows the income generated from the portfolio (investment assets) of the Company and income received from any other source.

	2015 £’000	2014 £’000
Income from investments
UK dividends
– Ordinary dividends	6,443	6,644
– Special dividends	1,124	487
Overseas dividends
– Ordinary dividends	1,609	1,641
– Special dividends	547	631
Scrip dividends	237	88
Unfranked investment income	95	—
	10,055	9,491
Other income
Deposit interest	16	16
Total income	10,071	9,507

No special dividends (2014: £280,000) have been recognised in capital.

3.         Investment Management and Performance-related Fees

This note shows the fees paid to the Manager. These are made up of the management fee payable per annum and a performance-related fee calculated annually. The latter is only payable when the portfolio outperforms the benchmark index plus 1.25%.

	2015			2014
	REVENUE £’000	CAPITAL £’000	TOTAL £’000	REVENUE £’000	CAPITAL £’000	TOTAL £’000
Investment management fee	365	1,093	1,458	433	1,300	1,733
Performance-related fee	—	2,544	2,544	—	952	952
	365	3,637	4,002	433	2,252	2,685

Details of the management agreement are disclosed in the Directors’ Report.

The performance-related fee is due if the Company’s annualised total return over the previous three years is greater than the annualised return of the FTSE All-Share (Total Return) Index over the same period, plus the hurdle.

At 30 September 2015, an investment management fee of £359,000 (2014: £346,000) has been accrued. In addition a performance-related fee of £2,544,000 (2014: £952,000) has been accrued; all is payable with none carried forward to future years.

4.         Other Expenses

The other expenses of the Company are presented below.

	2015 £’000	2014 £’000
Directors’ fees	110	108
Fees payable to the Company’s auditor in relation to:
– the statutory audit of the financial statements	25	25
Other expenses	215	211
	350	344

The Directors’ Remuneration Report provides further information on Directors’ fees.

Fees payable to the Company’s auditor are shown excluding VAT which is included in other expenses.

Other expenses includes £6,000 (2014: £6,000) of employer’s National Insurance paid on Directors’ fees. As at 30 September 2015, the amount outstanding on Directors’ fees and employer’s National Insurance was £6,400 (2014: £6,500).

5.         Finance Costs

Finance costs arise on any borrowing that the Company has, with the main borrowing being the £32 million Debenture stocks (see note 12).

	2015			2014
	REVENUE £’000	CAPITAL £’000	TOTAL £’000	REVENUE £’000	CAPITAL £’000	TOTAL £’000
Interest payable on borrowings repayable not by instalment:
Debenture stock repayable after 5 years	548	1,645	2,193	548	1,643	2,191
	548	1,645	2,193	548	1,643	2,191
Dividends on 5% cumulative preference shares	12	—	12	12	—	12
	560	1,645	2,205	560	1,643	2,203

6.         Tax on ordinary activities

As an investment trust, the Company pays no tax on capital gains and as the Company principally invests in UK assets, it has little overseas tax. This note shows details of the tax charge and why no deferred tax is required to provide for tax that is expected to arise in the future due to differences in accounting and tax bases.

(a)        Current Tax Charge

	2015 REVENUE £’000	2014 REVENUE £’000
Overseas tax	137	157

(b)        Reconciliation of Current Tax Charge

	2015 £’000	2014 £’000
Total return on ordinary activities before taxation	17,388	26,649
UK Corporation Tax effective rate of 20.50% (2014: 22%)	3,565	5,863
Effect of:
– Gains on investments	(2,846)	(4,863)
– Loss on foreign exchange movements	2	2
– UK dividends which are not taxable	(1,494)	(1,499)
– Non-taxable overseas dividends	(430)	(488)
– Non-taxable overseas dividends received in capital	—	(62)
– Overseas tax	137	157
– Non-taxable scrip dividends	(49)	(19)
– Disallowed expenses	4	4
– Excess of management expenses over taxable income	1,248	1,062
Current tax charge for the year	137	157

(c)        Factors that may Affect Future Tax Changes

The Company has excess expenses of £65,378,000 (2014: £59,267,000) that are available to offset future taxable revenue. A deferred tax asset, of £13,076,000 measured at the standard corporation tax rate of 20% (2014: £11,853,000 at 20%), has not been recognised in respect of these expenses since the Directors believe that there will be no taxable profits in the future against which the deferred tax asset can be offset.

7.         Dividends

Dividends represent the return of income less expenses to shareholders. Dividends are paid as an amount per ordinary share held.

	2015 £’000	2014 £’000
Dividends on equity shares paid and recognised in the year:
Second interim dividend for 2014 of 32.5p (2013: 32p)	4,394	4,326
Special dividend for 2014 of 8p (2013: 7p)	1,082	946
First interim dividend for 2015 of 18p (2014: 18p)	2,433	2,433
	7,909	7,705
Return of unclaimed dividends from previous years	(16)	—
	7,893	7,705
	2015 £’000	2014 £’000
Dividends on equity shares payable in respect of the year:
First interim paid 18p per ordinary share (2014: 18p)	2,433	2,433
Second interim dividend of 33p per ordinary share (2014: 32.5p)	4,461	4,393
	6,894	6,826
Special dividend of 12.3p per ordinary share (2014: 8p)	1,663	1,082
	8,557	7,908

Investment trusts must ensure that no more than 15% of total income is retained each year after providing for dividends payable.

8.         Return per Ordinary Share

Basic return per share is the amount of gain generated for the financial year divided by the number of ordinary shares in issue. The calculation is based on the weighted average number of shares in issue during the year.

Basic revenue, capital and total returns per ordinary share are based on each of the respective returns on ordinary activities after taxation and on 13,518,799 (2014: 13,518,799) shares being the weighted average number of ordinary shares in issue throughout the year.

9.         Investments

The portfolio is made up primarily of investments which are listed, i.e. traded on a regulated stock exchange, and some unlisted investments. Gains and losses are either:

–          realised, usually arising when investments are sold; or

–          unrealised, being the difference from cost on those investments still held at the year end.

(a)        Analysis of Investments by Listing Status

	2015 £’000	2014 £’000
Investments listed on a recognised stock exchange	267,119	255,162
Unlisted investments	8,671	8,837
	275,790	263,999

(b)        Analysis of Investment Gains and Losses

	2015		2014
	LISTED £’000	UNLISTED £’000	TOTAL £’000	TOTAL £’000
Opening valuation	255,162	8,837	263,999	254,279
Movements in year:
Purchases at cost	30,418	2,700	33,118	49,094
Sales – proceeds	(35,211)	—	(35,211)	(61,479)
Sales – net realised gains	9,110	—	9,110	19,469
Movement in investment holding
gains/(losses)	7,640	(2,866)	4,774	2,636
Closing valuation	267,119	8,671	275,790	263,999
Closing book cost	192,245	8,573	200,818	193,801
Closing investment holding gains	74,874	98	74,972	70,198
Closing valuation	267,119	8,671	275,790	263,999
Net realised gains based on historical cost	9,110	—	9,110	19,469
Movement in investment holding gains/(losses) in year	7,640	(2,866)	4,774	2,636
Gains/(losses) on investments	16,750	(2,866)	13,884	22,105

(c)        Transaction Costs

Transaction costs on purchases of £129,000 (2014: £248,000) and on sales of £53,000 (2014: £80,000) are included within gains and losses on investments in the income statement.

10.       Debtors

Debtors are amounts which are due to the Company, such as income which has been earned (accrued) but not yet received and monies receivable from brokers for investments sold.

	2015 £’000	2014 £’000
Amounts due from brokers	—	1,629
Prepayments and accrued income	341	741
Overseas withholding tax recoverable	282	350
Income tax recoverable	19	7
	642	2,727

11.       Creditors: amounts falling due within one year

Creditors are amounts which must be paid by the Company, and include any amounts due to brokers for the purchase of investments or amounts owed to suppliers, such as the Manager and auditor.

	2015 £’000	2014 £’000
Amounts due to brokers	1,567	—
Accruals	1,152	1,170
Performance-related fee	2,544	952
	5,263	2,122

Details of the performance-related fee are given in note 3.

12.       Creditors: amounts falling due after more than one year

Long term creditors consist solely of the £32 million debentures and a small issue of preference shares. These form the principal borrowings of the Company and the fixed interest that the Company pays is reported under note 5 ‘Finance Costs’.

	2015 £’000	2014 £’000
Debenture Stock:
7.75% redeemable 1 October 2020	7,000	7,000
6.5% redeemable 27 April 2023	24,968	24,968
	31,968	31,968
Discount and issue expenses on debenture stock	(276)	(303)
	31,692	31,665
5% cumulative preference shares of £1 each	250	250
	31,942	31,915

The debentures rank pari passu with each other, and ahead of shareholders, and are secured by floating charge over the assets of the Company.

The debenture stocks both pay interest twice a year; the 7.75% Debenture Stock 2020 for the six months ended 31 March and 30 September, and the 6.5% Debenture Stock 2023 for the six months to 27 April and 27 October. Both debenture stocks generally make the payments in April and October. The preference shares dividend is paid bi-annually in March and September.

13.       Called up share capital

Ordinary share capital represents the total number of shares in issue, for which dividends accrue.

	2015		2014
	NUMBER	£’000	NUMBER	£’000
Allotted, called-up and fully paid:
Ordinary shares of 50p each	13,518,799	6,760	13,518,799	6,760

The ordinary shares are fully participating and on a poll carry one vote per £1 nominal held.

No shares were issued or bought back during the year (2014: nil).

14.       Reserves

This note explains the different reserves that have arisen over the years. The aggregate of the reserves and share capital (see previous note) make up total shareholders’ funds.

The capital redemption reserve maintains the equity share capital arising from the buy back and cancellation of shares; it, and the share premium account, are non-distributable.

The capital reserve includes the investment holding gains/(losses), being the difference between cost and market value at the balance sheet date, totalling a gain of £74,972,000 (2014: £70,198,000). It also includes cumulative realised gains/(losses).

The revenue and capital reserves are distributable by way of dividend. Share buy backs can be funded from the capital reserve.

15.       Net Asset Value per Ordinary Share

The Company’s total net assets (total assets less total liabilities) are often termed shareholders’ funds and are converted into net asset value per share by dividing by the number of shares in issue.

The net asset value per ordinary share and the net assets attributable at the year end were as follows:

	NET ASSET VALUE PER SHARE		NET ASSETS ATTRIBUTABLE
	2015 PENCE	2014 PENCE	2015 £’000	2014 £’000
Ordinary shares – Basic	1920.5	1851.3	259,625	250,267

Net asset value per ordinary share is based on net assets at the year end and on 13,518,799 (2014: 13,518,799) ordinary shares, being the number of ordinary shares in issue at the year end.

16.       Notes to the Cash Flow Statement

The cash flow statement shows the cash flows of the Company from its operating, investing and financing activities. The main cash flows arise from the purchase and sale of investments, with other main flows being any amounts borrowed or repayment of borrowings in the year.

(a)        Reconciliation of Operating Profit to Operating Cash Flows

	2015 £’000	2014 £’000
Total return before finance costs and taxation	19,593	28,852
Adjustment for gains on investments	(13,884)	(22,105)
Adjustment for movement in forward currency contracts	—	1
Scrip dividends	(237)	(88)
Decrease/(increase) in debtors	456	(320)
Increase/(decrease) in creditors	1,574	(145)
Tax on overseas dividends	(137)	(157)
Net cash inflow from operating activities	7,365	6,038

(b)        Analysis of Cash Flow for Headings Netted in the Cash Flow Statement

	2015 £’000	2014 £’000
Servicing of finance
Preference dividends paid	(12)	(12)
Interest paid on debenture stocks	(2,166)	(2,165)
Net cash outflow from servicing of finance	(2,178)	(2,177)
Capital expenditure and financial investment
Purchase of investments (excludes scrip dividends received
as income)	(31,314)	(49,011)
Sale of investments	36,840	60,624
Net cash inflow from capital expenditure and financial investment	5,526	11,613
Management of liquid resources
Cash movement on cash funds and short term deposits	(2,203)	(5,700)
Net cash outflow from management of liquid resources	(2,203)	(5,700)

(c)        Analysis of changes in net debt

	1 OCTOBER 2014 £’000	CASH FLOW £’000	DEBENTURE STOCK NON-CASH MOVEMENT £’000	30 SEPTEMBER 2015 £’000
Cash	2,598	617	—	3,215
Cash funds and short term deposits	14,980	2,203	—	17,183
Debentures 5% Cumulative	(31,665)	—	(27)	(31,692)
preference shares	(250)	—	—	(250)
Net debt	(14,337)	2,820	(27)	(11,544)

17.       Financial Instruments

Financial instruments comprise the Company’s investment portfolio as well as its cash, borrowings, debtors and creditors. Derivative financial instruments are financial instruments that are used to manage the risk associated with fluctuations in the value of certain assets and liabilities. In accordance with Board approved policies, the Company can use derivatives to manage its exposure to fluctuations in foreign exchange rates.

The Company’s financial instruments comprise its investment portfolio (as shown on pages 14 and 15), derivatives, cash, borrowings, debtors and creditors that arise directly from its operations such as sales and purchases awaiting settlement and accrued income. The accounting policies in note 1 include criteria for the recognition and the basis of measurement applied for financial instruments. Note 1 also includes the basis on which income and expenses arising from financial assets and liabilities are recognised and measured.

The principal risks that an investment company faces in its portfolio management activities are set out below:

Market risk – arising from fluctuations in the fair value or future cash flows of a financial instrument because of changes in market prices. Market risk comprises three types of risk: currency risk, interest rate risk and other price risk:

Currency risk – arising from fluctuations in the fair value or future cash flows of a financial instrument because of changes in foreign exchange rates;

Interest rate risk – arising from fluctuations in the fair value or future cash flows of a financial instrument because of changes in market interest rates; and

Other price risk – arising from fluctuations in the fair value or future cash flows of a financial instrument for reasons other than changes in foreign exchange rates or market interest rates.

Liquidity risk – arising from any difficulty in meeting obligations associated with financial liabilities.

Credit risk – arising from financial loss for a company where the other party to a financial instrument fails to discharge an obligation.

Risk Management Policies and Procedures

The Directors have delegated to the Manager the responsibility for the day-to-day investment activities of the Company as more fully described in the Directors’ Report.

An investment company invests in equities and other investments for the long term so as to meet its investment objective and policies. In pursuing its investment objective, the Company is exposed to a variety of risks that could result in either a reduction in the Company’s net assets or a reduction of the profits available for distribution by way of dividends.

The risks applicable to the Company and the policies the Company used to manage these risks for the two years under review follow.

Market risk

The Company’s Manager assesses the Company's exposure when making each investment decision, and monitors the overall level of market risk on the whole of the investment portfolio on an ongoing basis. The Board meets at least quarterly to assess risk and review investment performance, as disclosed on page 52. No derivatives or hedging instruments are utilised to manage market risk. Borrowings are used to enhance returns, however, this will also increase the Company's exposure to market risk and volatility.

Currency risk

The majority of the Company’s assets, liabilities and income are denominated in Sterling. There is some exposure to US dollars and Swiss francs.

Management of the currency risk

The Manager monitors the Company’s exposure to foreign currencies daily and reports to the Board on a regular basis.

Forward currency contracts can be used to limit the Company’s exposure to anticipated future changes in exchange rates which are also used to achieve the portfolio characteristics that assist the Company in meeting its investment objective and policies. All contracts are limited to currencies and amounts commensurate with asset exposure to those currencies.

Income denominated in foreign currencies is converted to Sterling on receipt. The Company does not use financial instruments to mitigate the currency exposure in the period between the time that income is included in the financial statements and its receipt.

Currency exposure

The fair values of the Company’s monetary items that have currency exposure at 30 September are shown below. Where the Company’s equity investments (which are not monetary items) are priced in a foreign currency, they have been included separately in the analysis so as to show the overall level of exposure.

	30 SEPTEMBER 2015		30 SEPTEMBER 2014
	US DOLLAR £’000	SWISS FRANC £’000	US DOLLAR £’000	SWISS FRANC £’000
Debtors (due from brokers, dividends)	107	84	102	240
Foreign currency exposure on net monetary items	107	84	102	240
Investments at fair value through profit or loss that are equities	19,255	12,301	18,842	15,947
Total net foreign currency exposure	19,362	12,385	18,944	16,187

The above amounts may not be representative of the exposure to risk during the year, because the levels of foreign currency exposure may change significantly throughout each year.

Currency sensitivity

The table below illustrates the sensitivity of net assets and of net return after taxation for the year using the exchange rates shown below. It is based on the Company’s monetary foreign currency financial instruments held at each balance sheet date and takes account of forward foreign exchange contracts that offset the effects of changes in currency exchange rate.

	2015	2014
£/US dollar	±2.2%	±1.9%
£/Swiss franc	±3.5%	±1.8%

The above percentages have been determined based on the market volatility in the year, using the standard deviation of Sterling’s daily fluctuation to the US dollar and Swiss franc against the mean during the year.

If Sterling had strengthened against the US dollar and Swiss franc to this extent, this would have had the following effect:

	30 SEPTEMBER 2015		30 SEPTEMBER 2014
	US DOLLAR £’000	SWISS FRANC £’000	US DOLLAR £’000	SWISS FRANC £’000
Income statement – return after taxation
Revenue return	(11)	(18)	(9)	(14)
Capital return	(424)	(431)	(360)	(291)
Total return after taxation for the year	(435)	(449)	(369)	(305)
Effect on net asset value	(0.2%)	(0.2%)	(0.1%)	(0.1%)

If Sterling had weakened against the US dollar and Swiss franc to this extent, the effect would have been the exact opposite.

In the opinion of the Directors, the above sensitivity analysis is not representative of the year as a whole, since the level of exposure may change frequently as part of the currency risk management process of the Company.

Interest rate risk

Interest rate movements may affect the level of income receivable on cash deposits and the interest payable on the variable rate borrowings. When the Company has cash balances, they are held on variable rate bank accounts yielding rates of interest dependent on the base rate of the custodian. The Company has an uncommitted bank overdraft facility which it uses for settlement purposes, on which interest is payable at a variable rate. Use of this facility has been minimal over the two years being reported on. At the year end there was none drawn down (2014: nil).

At the balance sheet date the Company had structural debt comprising £32 million of debenture stock and £250,000 of 5% cumulative preference shares. The interest rates on the debenture stocks and preference shares are fixed and details are shown in notes 5 and 12.

The Company’s portfolio is substantially invested in equities which are not directly exposed to interest rate risk.

Other price risk

Other price risk (i.e. changes in market prices other than those arising from interest rate risk or currency risk) may affect the value of the equity investments, and it is the business of the Manager to manage the portfolio to achieve the best returns.

Management of other price risk

The Directors manage the market price risks inherent in the investment portfolio by meeting regularly to monitor on a formal basis the Manager’s compliance with the Company’s stated objectives and policies and to review investment performance.

The Company’s portfolio is the result of the Manager’s investment process and as a result is not correlated with the Company's benchmark or the market in which the Company invests. The value of the portfolio will not move in line with the market but will move as a result of the performance of the company shares within the portfolio.

Based on the equity portfolio value of £275,790,000 (2014: £263,999,000), if the value of the portfolio rose or fell by 10% at the balance sheet date, the net return after tax for the year and net assets would increase or decrease by £27.6 million (2014: £26.4 million) respectively; in calculating these amounts no adjustment has been made for other variables including management fees.

Liquidity risk

Liquidity risk is minimised as the majority of the Company’s investments are readily realisable securities which can be sold to meet funding commitments if necessary. In addition, the bank overdraft facility provides for additional funding flexibility. No special arrangements have been made in connection with the liquidity of any of the Company’s assets.

Liquidity risk exposure

The contractual maturities of the financial liabilities at the year end, based on the earliest date on which payment can be required, are as follows:

	2015				2014
	LESS THAN THREE MONTHS £’000	THREE TO TWELVE MONTHS £’000	MORE THAN ONE YEAR £’000	TOTAL £’000	LESS THAN THREE MONTHS £’000	THREE TO TWELVE MONTHS £’000	MORE THAN ONE YEAR £’000	TOTAL £’000
Debenture stocks	—	—	31,968	31,968	—	—	31,968	31,968
Interest on debenture stocks	811	1,354	13,531	15,696	811	1,354	15,696	17,861
Amounts due to brokers	1,567	—	—	1,567	—	—	—	—
Accruals and deferred income	449	—	—	449	467	—	—	467
Performance fee accrued	2,544	—	—	2,544	952	—	—	952
	5,371	1,354	45,499	52,224	2,230	1,354	47,664	51,248

The 5% cumulative preference shares do not have a fixed repayment date and are, as a result, not shown in the above table. Details are shown in note 12 of the financial statements.

Credit risk

Credit risk encompasses the failure by counterparties to deliver securities which the Company has paid for, or to pay for securities which the Company has delivered. This risk is mitigated by using only approved and appropriately regulated counterparties. Cash balances are limited to a maximum of either £10 or £15 million with any one depositary and only depositaries approved by the Board are used.

The portfolio may be adversely affected if the custodian of the Company’s assets suffers insolvency or other financial difficulties. The risk associated with failure of the custodian is mitigated by the appointment in 2014 of a depositary. The depositary is ultimately responsible for safekeeping of the Company’s assets and is strictly liable for the recovery of financial instruments in the event of loss. As part of the Board’s risk management and control monitoring, the Board reviews the custodian’s annual control report and the Manager’s management of the relationship with the custodian.

Fair Values of Financial Assets and Financial Liabilities

The fair values of the financial assets and financial liabilities, other than debentures and preference shares, are either carried in the balance sheet at their fair value (investments), or the balance sheet amount is a reasonable approximation of fair value (due from brokers, dividends receivable, accrued income, due to brokers, accruals, cash at bank and overdraft). The book cost and fair value of the debentures and the preference shares based on the offer value at the balance sheet date follow.

	BOOK VALUE 2015 £’000	FAIR VALUE 2015 £’000	BOOK VALUE 2014 £’000	FAIR VALUE 2014 £’000
Debentures repayable in more than 5 years:
7.75% Debenture Stock 2020	7,000	8,505	7,000	8,505
6.5% Debenture Stock 2023	24,968	30,445	24,968	29,293
Discount on issue of debentures	(276)	—	(303)	—
	31,692	38,950	31,665	37,798
5% Cumulative preference shares of £1 each	250	213	250	213
	31,942	39,163	31,915	38,011

Fair Value Hierarchy Disclosures

Nearly all of the Company’s portfolio of investments are in the Level 1 category as defined in FRS 29 ‘Financial Instruments: Disclosures’. The three levels set out in FRS 29 are:

Level 1 â€“ fair value based on quoted prices in active markets for identical assets.

Level 2 â€“ fair values based on valuation techniques using observable inputs other than quoted prices within Level 1.

Level 3 â€“ fair values based on valuation techniques using inputs that are not based on observable market data.

Categorisation within the hierarchy is determined on the basis of the lowest level input that is significant to the fair value measurement of each relevant asset/liability. The valuation techniques used by the Company are explained in the accounting policies note.

	2015				2014
	LEVEL 1 £’000	LEVEL 2 £’000	LEVEL 3 £’000	TOTAL £’000	LEVEL 1 £’000	LEVEL 2 £’000	LEVEL 3 £’000	TOTAL £’000
Financial assets designated at fair value through profit or loss:
Quoted investments:
Equities	266,974	—	—	266,974	254,980	—	—	254,980
Other securities	—	145	—	145	—	182	—	182
Unquoted investments:
Equities	—	—	8,671	8,671	—	—	8,837	8,837
Total for financial assets	266,974	145	8,671	275,790	254,980	182	8,837	263,999

A reconciliation of the fair value movements in Level 3 is set out below:

	2015 £’000	2014 £’000
Opening fair value of Level 3	8,837	8,268
Purchases at cost	2,700	—
Investments redeemed, sold or written off	—	(175)
Movement in holding (gains)/losses on assets held at the year end	(2,866)	744
Closing fair value of Level 3	8,671	8,837

Capital Management

The Company’s capital, or equity, is represented by its net assets which are managed to achieve the Company’s investment objective set out on page 6.

The Company’s total capital employed at 30 September 2015 was £291,567,000 (2014: £282,182,000) comprising borrowings of £31,942,000 (2014: £31,915,000) and equity share capital and other reserves of £259,625,000 (2014: £250,267,000).

The Company’s total capital employed is managed to achieve the Company’s investment objective and policy as set out on page 6, including that borrowings may be used to raise equity exposure. At the balance sheet date, net gearing was 4.4% (2014: 5.7%). The Company’s policies and processes for managing capital are unchanged from the preceding year.

The main risks to the Company’s investments are shown in the Strategic Report under the ‘Principal Risks and Uncertainties’ section on pages 8 to 10. These also explain that the Company is able to gear and that gearing will amplify the effect on equity of changes in the value of the portfolio.

The Board can also manage the capital structure directly since it has taken the powers, which it is seeking to renew, to issue and buy back shares and it also determines dividend payments.

The Company is subject to externally imposed capital requirements with respect to the obligation and ability to pay dividends by section 1159 Corporation Tax Act 2010 and by the Companies Act 2006, respectively, and with respect to the availability of the overdraft facility, by the terms imposed by the custodian. The Board regularly monitors, and has complied with, the externally imposed capital requirements. This is unchanged from the prior year.

Borrowings comprise debenture stocks and preference shares, details of which are contained in note 12.

18.  Contingencies, Guarantees and Financial Commitments

Contingencies or guarantees that the Company will or has given would be disclosed in this note if any existed. Likewise any commitments, being those amounts that the Company is contractually required to pay in the future as long as the other party meets their obligations.

There were no other contingencies, guarantees or financial commitments of the Company at the year end (2014: £nil).

19.  Related Party Transactions and Transactions with the Manager

A related party is a company or individual who has direct or indirect control or influence over the Company. Under accounting standards, the Manager is not a related party.

Under UK GAAP, the Company has identified the Directors as related parties. The Directors’ remuneration and interests have been disclosed on pages 23 and 24 with additional disclosure in note 4. No other related parties have been identified.

Invesco Fund Managers Limited and Invesco Asset Management Limited, both of which are wholly owned subsidiaries of Invesco Limited, provided investment management and administration services to the Company. Details of the services and fees are disclosed in the Directors’ Report and management fees payable are shown in note 3.

.

.

The financial information set out above does not constitute the Company’s statutory accounts for the year ended 30 September 2015.  The financial information for the year ended 30 September 2014 is derived from the statutory accounts for 2014, which have been delivered to the Registrar of Companies.  The 2014 accounts were audited and the audit report was unqualified, did not include a reference to any matters to which the auditor drew attention by way of emphasis without qualifying the report and did not contain a statement under section 498 of the Companies Act 2006.  The statutory accounts for the year ended 30 September 2015 have been finalised and audited but have not yet been delivered to the Registrar of Companies.

The audited annual financial report will be available to shareholders shortly.  Copies may be obtained during normal business hours from the Company’s administration office, 6th Floor, 125 London wall, London EC2Y 5AS and are available via the Company’s section of the Manager’s website at www.invescoperpetual.co.uk/keystone .

The Annual General Meeting will be held on 21 January 2016 at 11.00am at 43-45 Portman Square, London, W1H 6LY.

By order of the Board

Invesco Asset Management Limited

30 November 2015

Contact:

Nira Mistry              0203 753 1000