Annual Financial Report

RNS Number : 8944A

Montanaro UK Smlr Cos Inv Tst PLC

13 June 2016

 

MONTANARO UK SMALLER COMPANIES INVESTMENT TRUST PLC ("MUSCIT" or the "Company")

ANNUAL REPORT AND ACCOUNTS 2016

The full Annual Report and Accounts for the year ended 31 March 2016 ("full Annual Report and Accounts") can be found on the Company's website: www.montanarouksmaller.co.uk. Please note that this will be changing to www.montanaro.co.uk/muscit during the financial year.

INVestment Objective

MUSCIT's investment objective is capital appreciation through investing in small quoted companies listed on the London Stock Exchange or traded on the Alternative Investment Market ("AIM") and to achieve relative outperformance of its benchmark, the Numis Smaller Companies Index (excluding investment companies) ("NSCI").

No unquoted investments are permitted.

HIGHLIGHTS FOR THE YEAR ENDED 31 MARCH 2016

Results

	As at    31 March    2016	As at     31 March     2015	% change
Ordinary share price	461.0p	463.0p	-0.4
Net Asset Value ("NAV") per Ordinary share	570.6p	564.7p	1.1
NAV (excluding current period revenue) per Ordinary share	558.4p	554.4p	0.7
Discount to NAV (excluding current period revenue)	17.4%	16.5%
NSCI*	6,674.2	6,578.9	1.4

* Capital only

	Year to  31 March  2016	Year to  31 March  2015	% change
Revenue return per Ordinary share	12.1p	10.3p	17.5
Dividend per Ordinary share	10.0p	8.9p	12.4
Gross assets	£219.6m	£207.7m	5.7
Net assets	£191.0m	£189.0m	1.1
Market capitalisation	£154.3m	£155.0m	-0.4
Net gearing employed*	9.9%	5.4%
Ongoing charges	1.2%	1.2%
Portfolio turnover**	16.5%	19.3%

*   Borrowing net of cash.

** Calculated using average transactions as a percentage of the average total investments at fair value during the year.

Performance

Capital Return	1 year	3 year	5 year	10 year	Since launch
Share price	-0.4	5.5	29.9	73.6	385.3
NAV (excluding current period revenue)	0.7	6.9	34.8	84.1	466.3
Benchmark*	1.4	20.4	45.1	9.2	125.0

Total Return	1 year	3 year	5 year	10 year	Since launch
Share price**	1.2†	10.8†	41.7†	108.2†	459.0
NAV**	2.5†	12.5†	45.6†	114.5†	549.9
Benchmark*	4.2	31.0	67.6	47.3	314.8

* The Benchmark is a composite index comprising the FTSE SmallCap Index (excluding investment companies) until 31 March 2013 and the NSCI from 1 April 2013 onwards.

** Returns have been adjusted for dividends paid.

† Source: The Association of Investment Companies ("AIC").

STRATEGIC REPORT

CHAIRMAN'S STATEMENT

Background

I am pleased to present the twenty-first annual report of MUSCIT, which was launched in March 1995. In 1996, the initial investment of £25 million was increased in size through a £30 million "C" share issue. Net assets now stand at £191 million.

In spite of all the recent economic and political uncertainty, we continue to believe that our Investment Trust offers a very attractive investment opportunity. The closed-ended structure is ideal for shareholders to invest in quoted UK "smaller" companies which are less well-researched and more illiquid than larger, blue chip companies, without having to be concerned about the impact of cash flows that affect open-ended funds.

Results

In the year to 31 March 2016, the NAV of MUSCIT (excluding current period revenue) rose by 0.7% to 558.4p in comparison with a gain of 1.4% by the NSCI. During the same period, the Company's share price fell by 0.4% to 461.0p reflecting the widening of the discount, which was seen across most investment trusts last year.

Discount

As previously mentioned, the discount of MUSCIT's share price to NAV widened to 17.4% on 31 March 2016, reflecting investors' uncertainty over the future of the UK and the robustness of the economic recovery.

Share Buy Backs

The Board is responsible for the implementation of the share buy-back programme which is undertaken at arms' length from Montanaro Asset Management Limited ("Montanaro" or the "Manager"). No shares were bought back during the year.

As at 31 March 2016, no shares were held in Treasury.

Gearing

The Board, in discussion with the Manager, regularly reviews the gearing strategy of the Company and approves the arrangement of any gearing facility to support the strategy. This is a key feature of investment trusts that we believe offers a strong competitive advantage over alternative open-ended investment funds. The ability to gear can significantly enhance investment returns to shareholders and as such the Board strongly encourages active use of the gearing facility by the Manager.

During the course of year, the three-year revolving credit facility with ING Bank, maturing in February 2017 was increased from £10 million to £15 million.

At 31 March 2016, net gearing was 9.9%.

Dividend

MUSCIT's primary aim is to deliver capital growth to its shareholders rather than dividend income. However, the high quality of the companies in which we have been invested has allowed us to maintain a consistent dividend policy. The Board proposes a final dividend of 10.0p per Ordinary share, which represents an increase of 12.4% compared to last year.

Auditor

During the year, as part of good governance, the Audit and Management Engagement Committee undertook an audit tender process. The Committee recommended the appointment of Ernst & Young LLP ("EY") as Auditor. The recommendation was accepted by the Board and the appointment of EY in place of KPMG LLP ("KPMG") will be proposed at the forthcoming Annual General Meeting ("AGM"). The Board would like to thank KPMG for its service over the past 20 years.

Directors

After ten years on the Board, Michael Moule stepped down as a Director on 31 July 2015. The Board would like to thank Michael Moule for his invaluable contribution and contagious enthusiasm during his tenure. He is much missed.

Given the importance and increasing responsibilities of the role of a Chairman of an investment trust and my other commitments, many of which are also in the financial services sector, I have decided to step down as Chairman at the next AGM on 22 July 2016. I will remain on the Board as a Non-Executive Director.

I am delighted that Roger Cuming will be replacing me as Chairman with effect from 22 July 2016. Roger, a Director of the Company since 2009, has a wealth of experience in the investment industry and in investment trusts in particular. Following Roger's appointment as Chairman, Kate Bolsover will replace him as Senior Independent Director.

Outlook

The economic outlook for the UK remains encouraging, supported by record low interest rates, weaker Sterling and a benign inflation outlook. Historically, such a backdrop has proven to be positive for smaller companies, which tend to derive a greater portion of their profits from the domestic economy than larger companies.

However, much of the stock market's attention over the coming months will be drawn to the "Brexit" debate in the runup to the 23 June referendum. The odds of the "Remain" or "Exit" choices remain too close to call: emotions will play an important part in the outcome of what is a complex question. Regardless of the result, we are hoping that the referendum will bring some welcome clarity to the UK's future within the European Union.

It is important that politics do not divert SmallCap investors' attention away from making long-term investment decisions. It is interesting to note that over the past 60 years, during which the UK has experienced periods of political upheaval and economic hardship, quoted smaller companies have outperformed larger companies by 3.5% per annum on average.

The UK SmallCap market remains less well-researched and is becoming increasingly so as competition and new regulations such as MiFID II cause brokers to withdraw from the market. We remain confident that current conditions will continue to offer investment opportunities for those in a position to complete the in-house research and due diligence required. With one of the largest specialist SmallCap teams in Europe, we believe that the Manager is well placed to seize the attractive opportunities that often emerge during periods of political uncertainty.

KATHRYN mATTHEWS

Chairman

10 June 2016

MANAGER'S REPORT

Breakdown by Market Cap (Ex Cash)

£0-£250m	3%
£250m-£500m	13%
£500m-£1bn	30%
£1bn-£1.5bn	40%
> £1.5bn	14%

Breakdown by Index (Ex Cash)

FTSE 100	0%
FTSE 250*	33%
NSCI	67%
UK AIM	0%

* Represents those holdings that are in the FTSE 250 and are above the threshold for the NSCI.

Montanaro

Montanaro was established in 1991. We have one of the largest and most experienced specialist teams in the UK dedicated exclusively to researching and investing in quoted European small companies. We have a team of 29, which gives us the benefit of local contacts and knowledge that is so essential.

At 31 March 2016, Montanaro's assets under management were over £2 billion.

Investment Philosophy and Approach 

Montanaro specialises in quoted UK small companies with a particular focus on those with a stock market value below £1 billion at the time of investment.

Investment ideas typically are generated internally, rather than through brokers, and are researched in detail in-house. With around 2,000 UK companies within our universe, we are spoilt for choice. There is never a shortage of exciting new ideas. Before conducting detailed research on an individual company, we gather and carefully review extensive trade and industry data to help us to understand the sector in which a company operates and its growth drivers.

Investments are focused exclusively on companies that are profitable. We are mindful of our 'circle of competence' - complicated, blue-sky companies are not for us. We focus on companies we can understand, typically niche franchises with good and experienced management, sound finances, simple business models, good order visibility, high barriers to entry, a strong, normally dominant market position and a competitive advantage that ensures pricing power. If there is a choice of more than one company in a specific sector, we would normally invest in the market leader. We prefer companies that can demonstrate self-funded organic growth rather than those on the acquisition treadmill.

We believe that "you get what you pay for in life" - it is worth paying more for a higher quality company. We like cash-generative companies with high operating profit margins, an indicator that they are providing goods or services of value to their clients, which are better able to withstand a downturn. We carefully assess potential catalysts for share price performance such as positive news flow. We never lose sight of our primary goal, which is to make money for shareholders through sound investment based on our own rigorous, fundamental analysis. We take a conservative approach. We also believe that it is right and proper to align our interests with those of our investors - we invest in our own funds.

To ensure that we remain well informed, we regularly visit the companies in which we invest. This is the fun part of the job and where we feel we can add the most value. We place great emphasis on management and seek to gain an understanding of their goals and aspirations by seeing them operate in their own environment. It is a privilege to meet them. The track record of executives is examined in detail along with board structure, the level of insider ownership and the emphasis placed by management on sound corporate governance. Good communication and regular dialogue with management are an important part of our investment process. We are more interested in where an industry and a specific company will be in 5-10 years than its next set of figures. We are genuine long-term investors, seemingly an increasing rarity these days.

We believe that the major risk of investing in quoted UK small companies is stock specific. Having a high level of in-house resources and a disciplined investment process means that we are well-equipped to manage this risk. In addition, we have a number of risk disciplines aimed at limiting our exposure to a particular sector or company. For example, if a stock reaches a 4% weighting in the portfolio, we will consider reducing our exposure even if we believe the outlook is still positive - no company is immune to external shocks or unexpected surprises.

In summary, we invest in well managed, high quality companies in growth markets at sensible valuations. We are long-term investors and keep turnover and transaction costs low. We follow the companies in which we invest very closely over many years, measured more in decades than the short-termism of others. We would rather pay more for a higher quality, more predictable company that can be valued with greater certainty. We like to sleep at night.

The Portfolio

The portfolio at 31 March 2016 consisted of 45 companies of which the top ten holdings represented 35.5%.

At 31 March 2016, the Company held no investments in companies traded on AIM.

Sector distribution within the portfolio is driven by stock selection. Although weightings relative to the market are monitored, overweight and underweight positions are held based on where the greatest value and upside are perceived to be.

Review

UK SmallCap eked out a positive return in the fiscal year to 31 March 2016 with the NSCI returning 1.4%. By comparison, the Company's NAV (excluding current period revenue) rose by 0.7%. It was reassuring to have protected our investors' capital in a challenging and volatile market environment which saw the FTSE All-Share Index decline by 7.3%.

During the first nine months of the fiscal year the Company performed well, returning 8.1% and outperforming the benchmark index by more than 5%. In this period, UK SmallCap acquired something of a "safe haven" status. The asset class was rewarded for its domestic focus on concerns over the outlook for the global economy. Meanwhile, the portfolio also benefited from its low exposure to weak commodity markets.

The final three months of the review period proved in sharp contrast to this. Investor enthusiasm for UK SmallCap was dampened by market volatility emanating from China and concerns closer to home in the form of "Brexit". It was no surprise that the "risk-off" attributes of gold proved popular. In addition, relative performance was impacted by a rebound in low quality energy and materials stocks to which we have little exposure, while the cyclical rally was given further fuel by the announcement of yet more quantitative easing in Europe.

Gearing

The Alternative Investment Fund Manager ("AIFM"), in consultation with the Board, is responsible for determining the gearing levels of the Company. In 2015, the Company started the financial year with a modest level of gearing at 5.4%. Gearing rose after the weak summer months, reaching 9.9% by the end of the financial year.

Outlook

Mark Twain, the American author, once quipped that "History doesn't repeat itself but it often rhymes". Whilst he was not thinking of UK SmallCap when he said this, the behaviour of the asset class follows his observation with remarkable precision. Research we conducted in 2009 (using data going back to the 1950s) showed that SmallCap outperformed LargeCap during bull markets by an average of 8% per annum. As we updated our analysis to include the current bull market that began in March 2009, we found that SmallCap had outperformed by no less than 8.3% per annum during this period. With such forecasting skills, Mark Twain could have made quite a career as a SmallCap investor.

The primary reason for this outperformance has been the relative strength of the UK economy since the financial crisis. Real GDP growth over the last six years has averaged 2% per annum, broadly in line with the United States and comfortably ahead of Germany (1.6%), France (1%) and Japan (0.7%). Alongside this, employment and consumer confidence, the twin drivers of household consumption, have rebounded. Looking ahead, we expect low interest rates and cheap fuel costs, combined with a positive wealth effect from rising home prices, to continue to support consumers' purchasing power.

In light of this, it is natural to ask where SmallCap is headed from here. According to Professors Dimson and Marsh, at the end of March 2016 the NSCI was trading on a trailing P/E of 13.8x, which compared to a multiple of 17.3x for the FTSE All-Share Index. The last six years of outperformance have therefore not eroded the attractiveness of SmallCap on valuation grounds. A 20% discount is significant and can be attributed, at least in part, to the more robust earnings momentum within the SmallCap market. Reassuringly, it is also a sign that investor exuberance is not yet upon us. The bull market may well have further to run.

Furthermore, small company balance sheets are in good shape: in many respects, balance sheets and cash positions are stronger than ever. Indeed, SmallCap dividends appear safer than those of larger companies, with the dividend cover on the FTSE 250 at 2.2x compared to 0.9x for the FTSE 100 (Source: Financial Times). Rarely have we seen such a flurry of LargeCap dividend cuts than over the past twelve months.

Although markets ended the fiscal year in "risk-off" mode, there are two reasons for cautious optimism. The first is that the recent reporting season suggests that investors are again focusing on company fundamentals, rewarding businesses that deliver and punishing those that underachieve. Secondly, any market weakness in the run-up to the EU referendum on 23 June may lead to an attractive entry point for UK SmallCap investors.

As we enter a new fiscal year, we are encouraged by the greater dispersion of returns within the UK market, coupled with valuations that are more attractive compared to this time last year. As always, we will remain highly selective in our investment approach, focusing exclusively on those smaller companies that meet our stringent quality and growth standards. We look forward to the future with confidence.

MONTANARO ASSET MANAGEMENT LIMITED

10 June 2016

THE COMPANY

MUSCIT is a closed-ended investment trust and its shares are premium listed on the London Stock Exchange with registration number 3004101. It has been granted approval from HM Revenue & Customs ("HMRC") as an investment trust under s1158/1159 of the Corporation Tax Act 2010 ("s1158/1159"), subject to there being no serious breaches of the conditions for approval.

Rules introduced by HMRC removed the maximum holding in any one investment of 15% and replaced this with a risk diversification approach. The Board has considered this and agreed that the Company's Investment Policy offers suitable risk diversification.

MUSCIT is also an investment company as defined in Section 833 of the Companies Act 2006 ("Act"). The current portfolio of MUSCIT is such that its shares are eligible for inclusion in ISAs up to the maximum annual subscription limit and the Directors expect this eligibility to be maintained.

INVESTMENT OBJECTIVE

MUSCIT's investment objective is capital appreciation through investing in small quoted companies listed on the London Stock Exchange or traded on AIM and to achieve relative outperformance of its benchmark, the NSCI.

No unquoted investments are permitted.

The Attractions of Quoted Small Companies ("SmallCap")

The key attraction of investing in SmallCap is that investors have the opportunity to make higher returns than from investing in LargeCap. It is easier for small companies to grow faster than it is for large companies; hence they offer investors the potential for higher earnings growth. In the UK, research shows that, since 1954, SmallCap equities have outperformed LargeCap by an average of 3.5% per annum ("the SmallCap Effect"). As a result, investors have received seven times higher returns.

The SmallCap market gives investors access to global market-leading companies managed by dynamic entrepreneurs operating in attractive niche markets that are growing. However, due to a lack of broker research and the illiquidity of their shares, it takes time to get to know and understand these companies. This requires a level of in-house resources beyond the scope of most institutional investors. This is why many institutions are attracted to the asset class and equally why they will often outsource the day-to-day investment decisions to dedicated specialists such as Montanaro.

INVESTMENT POLICY

The Company seeks to achieve its objective and to manage risk by investing in a diversified portfolio of quoted UK small companies. At the time of initial investment, a potential investee company must be profitable and no bigger than the largest constituent of the NSCI, which represents the smallest 10% of the UK Stock Market by value. At the start of 2016, this was any company below £1.3 billion in size. The Manager focuses on the smaller end of this Index.

In order to manage risk, the Manager limits any one holding to a maximum of 4% of the Company's investments at the time of initial investment. The portfolio weighting of each investment is closely monitored to reflect the underlying liquidity of the particular company. The Company's AIM exposure is also closely monitored by the Board and is limited to 30% of total investments, with Board approval required for exposure above 25%. The Company currently has a small exposure to investments in companies traded on AIM.

The Manager is focused on identifying high-quality, niche companies operating in growth markets. This typically leads the Manager to invest in companies that enjoy high barriers to entry, pricing power, a sustainable competitive advantage and strong management teams. The portfolio is therefore constructed on a "bottom up" basis.

The AIFM in consultation with the Board, is responsible for determining the gearing levels of the Company and has determined that the Company's borrowings should be limited to 25% of shareholders' funds. Gearing is used to enhance returns when the timing is considered appropriate. The Company currently has credit facilities of £30 million with ING Bank, of which £28 million was drawn down at 31 March 2016 (amounting to net gearing of 9.9%).

COMPANY INFORMATION

Holding Shares in Treasury

Since December 2003, investment trusts have had the right to buy back shares and hold them in Treasury for re-issue at a later date. This has the benefit of improving liquidity as well as retaining the opportunity to enhance the NAV.

The Board has actively and carefully considered the use of Treasury shares and had been among the industry's pioneers. Our policy is to ensure that shareholders receive a tangible benefit above and beyond an enhanced ability to manage the liquidity of the shares of MUSCIT. Shares held in Treasury will only be re-issued at a lower weighted average discount than when they were originally purchased and to produce a positive absolute return.

At 31 March 2016, no shares were held in Treasury.

Benchmark

Following a review to assess the most appropriate benchmark against which its performance should be measured, the Company adopted the NSCI on 1 April 2013. Prior to this date, the benchmark was the FTSE SmallCap Index. Both benchmarks excluded investment companies.

Dividends

The results for the year are shown in the Income Statement below. The Directors recommend that a final dividend of 10.0p (2015: final 8.9p) per Ordinary share, amounting to £3,348,000 (2015: £2,979,000) be paid on 10 August 2016 to shareholders on the share register at the close of business on 1 July 2016.

Directors

After ten years on the Board, Michael Moule retired on 31 July 2015.

The Board strives to maintain a diversity of age, skills, gender and experience. At 31 March 2016, the Board comprised two female and two male Directors.

Corporate Governance

The Directors have reviewed the recommendations of the AIC Code of Corporate Governance (the "AIC Code"). MUSCIT has complied with the AIC Code throughout the year except where compliance would be inappropriate given the size and nature of the Company. Full disclosure of MUSCIT's compliance with the AIC Code is included in the Directors' Report in the full Annual Report and Accounts.

AIFMD

The Alternative Investment Fund Managers' Directive ("AIFMD") relates to European legislation that creates a European-wide framework for regulating managers of alternative investment funds ("AIFs"). Closed-ended investment companies fall within the remit of these regulations, which came fully into force on 22 July 2014.

In order to comply with the AIFMD, the Company appointed Montanaro as its AIFM and Bank of New York ("BONY") as Depositary and Custodian.

ANALYSIS OF PERFORMANCE USING KEY PERFORMANCE INDICATORS ("KPIs")

The Board reviews performance by reference to a number of KPIs and considers that the most relevant KPIs are those that communicate the financial performance and strength of the Company as a whole.

The Board and the Manager monitor the following KPIs:

The NAV

The NAV per Ordinary share (excluding current period revenue), at 31 March 2016 was 558.4p. Over the previous ten years and since launch, the NAV has increased by 84.1% and 466.3% respectively. In comparison, the benchmark has increased by 9.2% over the previous ten years and 125.0% since launch.

The Level of Discount

The discount of MUSCIT's share price to NAV (excluding current period revenue) stood at 17.4% on 31 March 2016 in comparison with a weighted sector average of 12.8%.

The Ongoing Charges

	2016	2015
Ongoing charges	1.2%	1.2%
Finance costs	0.4%	0.4%
Total ongoing charges plus performance fees and finance costs	1.6%	1.6%

Further KPIs are those which show the Company's position in relation to the investment trust tests which it is required to meet and to maintain its investment trust status.

ENVIRONMENTAL, HUMAN RIGHTS, EMPLOYEE, SOCIAL AND COMMUNITY ISSUES

The Board recognises the requirement under Section 414C of the Act to detail information about environmental matters, human rights, social and community issues, including information about any policies it has in relation to these matters and the effectiveness of these policies. These requirements do not apply to the Company as it has no employees, all the Directors are non-executive and it has outsourced its functions to third party service providers. Therefore, the Company has not reported further in respect of these provisions.

Socially Responsible Investment

Day-to-day management of the Company's business is undertaken by Montanaro.

The Manager has signed up to the Stewardship Code and has published its voting records on its website.

Montanaro receives independent third party corporate governance research and will usually vote in line with International Corporate Governance Network policies. Where possible, Montanaro engages with management teams of investee companies before an AGM or General Meeting prior to any decision to abstain or vote against a board's recommendation.

The Company aims to conduct itself responsibly, ethically and fairly.

DESCRIPTION OF PRINCIPAL RISKS ASSOCIATED WITH MUSCIT

The Board carefully considers the principal risks for MUSCIT and seeks to manage these risks through continual and regular review, policy setting, compliance with and enforcement of contractual obligations and active communication with the Manager, the Administrator and shareholders.

The Board applies the principles detailed in the recommendations of the AIC Code as described above. The Board has carried out a robust assessment of the principal risks facing the Company, including those that would threaten its business model, future performance, solvency or liquidity. A summary of the Company's risk management and internal control processes can be found in the Corporate Governance statement in the full Annual Report and Accounts. Details of MUSCIT's principal risks and how these are mitigated are set out below. The principal financial risks are summarised in note 20 to the financial statements.

Liquidity and Discount Management: The Company's share price performance lags NAV performance due to poor performance, or because SmallCap is out of favour. The Company may become vulnerable to arbitrageurs or a sale from a sizeable shareholder.

The Board regularly reviews the relative level of discount against the sector, the Company's investment performance relative to the competition and the benchmark, and the underlying liquidity of the investments and shareholder register.

Share buybacks cause the size of the Company to become too small to be viable in terms of ongoing charges or for thresholds of institutional investors.

When the Board considers Share Buybacks it will take into consideration the impact on the size, liquidity and ongoing viability of the Company.

Corporate Ownership and Management Structure of Montanaro: A change in ownership and/or management structure of Montanaro.

The Board has no control over Montanaro's corporate future and any uncertainty that may occur from any changes in it. The Board could change the Manager under the terms of the contract if it was not happy with the new ownership structure. The Board is in regular contact with the senior management of Montanaro.

Poor Investment Performance: Underperformance of benchmark and/or peer group.

A review is undertaken at each Board meeting with the Manager to compare and review the performance of the portfolio with the benchmark and the peer group. In addition, the Board seeks to understand the reasons for any underperformance as well as seeking comfort over consistency of investment approach and style.

Ultimately, the Board can terminate the Investment Management Agreement if unsatisfactory performance is considered irreversible and the causes cannot be rectified.

Risk Oversight: The Manager is taking too much risk in the portfolio leading to unacceptable volatility in performance or there is excessive portfolio turnover.

Risk oversight is primarily the responsibility of the AIFM, but the Board provides additional oversight in its portfolio reviews at each Board meeting. Portfolio turnover is reviewed at each Board meeting.

Key Man Risk: A change in key investment management personnel who are involved in the management of the MUSCIT portfolio could impact on future investment performance and lead to loss of investor confidence.

Montanaro operates a team approach in the management of the portfolio which mitigates against the impact of the departure of any one member of the investment team. There is an identified lead manager within Montanaro offering continuity of communication with MUSCIT's shareholders. The Board is in regular contact with Montanaro and its designated manager and will be asked for their approval to any proposed change in the lead manager.

Operational Risk: Key operational risks include transactions not subject to best execution, counterparty risk, errors in settlement, title and corporate actions, misstatement of NAV and breach of the Investment Policy.

The Board monitors operational issues regularly and reviews them in detail at each Board meeting. The internal control reports of each service provider are reviewed annually.

Breach of Regulation: Failure to comply with the Companies Act 2006, Stock Exchange rules, Financial Conduct Authority ("FCA") Listing Rules and Disclosure & Transparency Rules, Anti-Money Laundering procedures or other applicable regulations.

Shareholder reports and results announcements are reviewed by the Board prior to publication. Annual results are audited prior to release of the document to shareholders. Control reports from the Manager and Administrator are provided to monitor controls over ensuring compliance with applicable laws and regulations.

On behalf of the Board

KATHRYN MATTHEWS

Chairman

10 June 2016

TEN LARGEST HOLDINGS 

as at 31 March 2016 (35.5% of the portfolio)

Consort Medical - Health Care, Equipment and Services

Medical device technologies for drug delivery.

£8.9m	4.2%	£528m
Value	Portfolio	Market cap

Marshalls - Construction and Materials

The UK's leading provider of landscaping products.

£8.0m	3.8%	£710m
Value	Portfolio	Market cap

Dechra Pharmaceuticals - Pharmaceuticals and Biotechnology

An international veterinary pharmaceutical business.

£7.8m	3.7%	£1,118m
Value	Portfolio	Market cap

Big Yellow Group - Real Estate/Real Estate Investment Trusts ("REIT")

A REIT focused on the self-storage market.

£7.7m	3.7%	£1,219m
Value	Portfolio	Market cap

NCC Group - Software and Computer Services

Software business specialising in escrow and cyber security.

£7.7m	3.7%	£691m
Value	Portfolio	Market cap

Dignity - General Retailers

The UK's largest provider of funeral-related services.

£7.5m	3.6%	£1,230m
Value	Portfolio	Market cap

Cineworld Group - Travel and Leisure

A leading cinema operator in the UK.

£7.3m	3.5%	£1,426m
Value	Portfolio	Market cap

Domino's Pizza Group - Travel and Leisure

The largest pizza delivery company in the UK. 

£6.9m	3.3%	£1,670m
Value	Portfolio	Market cap

Shaftesbury - Real Estate/Real Estate Investment Trusts

A specialist REIT operating in the heart of London's tourist district (Carnaby St, Chinatown, Covent Garden).

£6.3m	3.0%	£2,537m
Value	Portfolio	Market cap

Bovis Homes Group - Household Goods and Home Construction

A house builder operating primarily in the south of England.

£6.3m	3.0%	£1,252m
Value	Portfolio	Market cap

INVESTMENT PORTFOLIO

as at 31 March 2016

Holding	Sector	Value £'000	Market cap £m	% of portfolio 31 March 2016	% of portfolio 31 March 2015
Consort Medical	Health Care, Equipment and Services	8,869	528	4.2	3.6
Marshalls	Construction and Materials	8,010	710	3.8	3.5
Dechra Pharmaceuticals	Pharmaceuticals and Biotechnology	7,844	1,118	3.7	3.0
Big Yellow Group	Real Estate/Real Estate Investment Trusts	7,745	1,219	3.7	3.3
NCC Group	Software and Computer Services	7,734	691	3.7	3.1
Dignity	General Retailers	7,454	1,230	3.6	3.2
Cineworld Group	Travel and Leisure	7,256	1,426	3.5	3.6
Domino's Pizza Group	Travel and Leisure	6,864	1,670	3.3	-
Shaftesbury	Real Estate/Real Estate Investment Trusts	6,328	2,537	3.0	2.9
Bovis Homes Group	Household Goods and Home Construction	6,315	1,252	3.0	3.2
Cranswick	Food Producers	6,137	1,061	2.9	2.0
Victrex	Chemicals	6,015	1,409	2.9	2.4
Rathbone Brothers	Financial Services	5,908	1,016	2.8	2.5
McCarthy and Stone	Household Goods and Home Construction	5,753	1,365	2.8	-
Hilton Food Group	Food Producers	5,710	367	2.7	2.5
Jupiter Fund Management	Financial Services	4,993	1,873	2.4	2.5
Clarkson	Industrial Transportation	4,810	671	2.3	2.9
James Fisher and Sons	Industrial Transportation	4,617	662	2.2	2.3
Diploma	Support Services	4,607	841	2.2	2.0
Berendsen	Support Services	4,451	2,076	2.1	2.1
Twenty Largest Holdings		127,420		60.8
Entertainment One	Media	4,321	648	2.1	3.0
Halma	Electronic and Electrical Equipment	4,284	3,452	2.1	1.6
Mears Group	Support Services	4,242	427	2.0	2.2
Wilmington Group	Media	4,173	224	2.0	1.2
Helical Bar	Real Estate/Real Estate Investment Trusts	4,053	456	1.9	2.1
Arrow Global Group	Financial Services	4,004	437	1.9	1.6
Ricardo	Support Services	3,976	442	1.9	-
Ted Baker	Personal Goods	3,932	1,197	1.9	2.3
AG Barr	Beverages	3,869	619	1.9	2.2
St. Modwen Properties	Real Estate/Real Estate Investment Trusts	3,845	671	1.8	2.0
Workspace Group	Real Estate/Real Estate Investment Trusts	3,746	1,272	1.8	-
Restaurant Group	Travel and Leisure	3,671	789	1.8	2.6
Renishaw	Electronic and Electrical Equipment	3,670	1,336	1.8	2.1
AVEVA Group	Software and Computer Services	3,648	1,007	1.7	1.7
RPS Group	Support Services	3,320	462	1.6	1.8
Galliford Try	Household Goods and Home Construction	3,200	1,188	1.5	1.6
Ascential	Media	2,974	921	1.4	-
SuperGroup	Personal Goods	2,794	1,154	1.3	1.4
Dialight	Electronic and Electrical Equipment	2,565	185	1.2	1.7
Dunelm Group	General Retailers	2,257	1,852	1.1	1.6
Senior	Aerospace and Defence	2,178	957	1.0	2.2
Paypoint	Support Services	2,057	509	1.0	1.1
Card Factory	General Retailers	1,962	1,114	0.9	-
Brewin Dolphin Holdings	Financial Services	1,945	734	0.9	2.0
ITE Group	Media	1,396	378	0.7	0.9
Total Portfolio		209,502		100.0

ANALYSIS OF INVESTMENT PORTFOLIO BY INDUSTRIAL OR COMMERCIAL SECTOR

as at 31 March 2016

Sector	% of portfolio	% of NSCI
Oil and Gas Producers	-	2.8
Oil Equipment, Services and Distribution	-	0.9
Oil and Gas	-	3.7
Chemicals	2.9	1.9
Industrial Metals	-	0.9
Mining	-	4.1
Basic Materials	2.9	6.9
Construction and Materials	3.8	3.6
Aerospace and Defence	1.0	1.0
General Industrials	-	1.1
Electronic and Electrical Equipment	5.1	1.8
Industrial Engineering	-	2.3
Industrial Transportation	4.5	1.9
Support Services	10.8	11.8
Industrials	25.2	23.5
Beverages	1.9	0.6
Food Producers	5.6	3.0
Household Goods and Home Construction	7.3	1.9
Leisure Goods	-	0.6
Personal Goods	3.2	2.0
Consumer Goods	18.0	8.1
Health Care, Equipment and Services	4.2	2.7
Pharmaceuticals and Biotechnology	3.7	2.9
Health Care	7.9	5.6
Food and Drug Retailers	-	0.9
General Retailers	5.6	8.1
Media	6.2	3.6
Travel and Leisure	8.6	7.3
Consumer Services	20.4	19.9
Fixed Line Telecommunications	-	0.9
Telecommunications	-	0.9
Electricity	-	0.9
Utilities	-	0.9
Banks	-	1.6
Life and Non-life Insurance	-	4.1
Real Estate/Real Estate Investment Trusts	12.2	10.4
Financial Services	8.0	7.7
Financials	20.2	23.8
Software and Computer Services	5.4	4.8
Technology Hardware and Equipment	-	1.9
Technology	5.4	6.7
Total	100.0	100.0

The investment portfolio comprises 45 listed UK equity holdings.

BOARD OF DIRECTORS

Kathryn Matthews - Board Chairman and Nomination Committee Chairman

Kate Bolsover - Remuneration Committee Chairman

Roger Cuming - Senior Independent Director

James Robinson - Audit and Management Engagement Committee Chairman

EXTRACTS FROM THE DIRECTORS' REPORT

SHARE CAPITAL

There are currently 33,475,958 Ordinary 10p shares in issue (2015: 33,475,958), none of which are held in Treasury (2015: nil). Holders of Ordinary shares have unrestricted voting rights of one vote per share at all general meetings of the Company.

GOING CONCERN

The Company’s Articles of Association (“Articles”) contain a requirement for shareholders to vote on the continuation of the Company at regular intervals. At the Company’s AGM held on 26 July 2013, shareholders voted to remove the obligation to convene a General Meeting during 2014 for the purpose of voluntarily winding up the Company.

The Board intends to propose a resolution at the AGM in 2017 to remove the obligation to convene a General Meeting during 2018 for the purpose of voluntarily winding up the Company.

The Directors, after due consideration of the Company’s cash balances, the liquidity of the Company’s investment portfolio and the cost base of the Company, are of the opinion that it is appropriate to presume that the Company will continue in business for the foreseeable future. Accordingly, the financial statements have been prepared on a going concern basis, consistent with previous years. 

VIABILITY STATEMENT

In accordance with the UK Corporate Governance Code, the Directors have assessed the prospects of the Company over a longer period than the twelve months required by the ‘Going Concern’ provision. The Board asked the Audit and Management Engagement Committee (the “Committee”) to review this new requirement over a three-year period ending 31 March 2019. In the absence of any adverse change to the regulatory environment and to the treatment of UK investment trusts, a rolling three-year period represents the horizon over which the Directors do not expect there to be any significant change to the Company's principal risks or their mitigation and they believe they can form a reasonable expectation of the Company’s prospects.

In its review, the Committee took into account the Company’s current financial position, its ability to meet liabilities as they fall due and the principal risks as set out in the Strategic Report. The Board concluded that it had a reasonable expectation that the Company would be able to continue in operation during the period under review.

To provide this assessment, the Committee has considered the Company’s financial position as described above and its ability to liquidate its portfolio and meet its expenses as they fall due:

• the portfolio comprises solely of cash balances and equity securities traded on the London Stock Exchange. The current portfolio could be liquidated to the extent of 70% within five trading days and there is no expectation that the nature of the investments held within the portfolio will be materially different in future;

• the portfolio currently has a small exposure to investments traded on AIM;

• the expenses and interest payments of the Company are predictable and modest in comparison with the assets;

• there are no expected capital outlays; and

• the Company has no employees, with only non-executive Directors and consequently does not have potential employment related liabilities.

The Committee, as well as considering the principal risks described earlier in this document and the financial position of the Company as set out above, has also taken account of the following assumptions in considering the Company’s longer-term viability:

• the Board and the Manager will continue to adopt a long-term view when making investments, and anticipated holding periods can be at least five years;

• it is reasonable to believe that the Company will extend the loan facilities currently provided by ING Bank when they expire in December 2016 and February 2017 respectively;

• the Company invests principally in the securities of quoted UK smaller companies to which investors will wish to continue to have exposure;

• the Company has a large margin of safety over the covenants on its debt;

• there will continue to be demand for investment trusts;

• regulation will not increase to a level that makes the running of the Company uneconomical; and

• the performance of the Company will continue to be satisfactory.

Based on the results of this 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 three-year period of their detailed assessment. 

The full Annual Report and Accounts contain the following statements regarding responsibility for the financial statements.

STATEMENT OF DIRECTORS' RESPONSIBILITIES

in respect of the Annual Report and the Financial Statements for the year ended 31 March 2016

The Directors are responsible for preparing the Annual Report and the financial statements in accordance with applicable law and regulations.

Company law requires the Directors to prepare financial statements for each financial year. Under that law they have elected to prepare the financial statements in accordance with UK Accounting Standards and applicable law (UK Generally Accepted Accounting Practice).

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 profit or loss 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 judgements and 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 that 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 enable them to ensure that the financial statements comply with the Companies Act 2006. They have general responsibility for taking such steps as are reasonably open to them to safeguard the assets of the Company and to prevent and detect fraud and other irregularities.

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

The Directors are responsible for the maintenance and integrity of the corporate and financial information included on the Company's website. Legislation in the UK governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions.

The Directors confirm to the best of their knowledge:

• the financial statements, prepared in accordacne with UK Accounting Standards, give a true and fair view of the assets, liabilities, financial position and return of the Company; and

• the Strategic Report and the Directors' Report include 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.

In the opinion of the Board, the Annual Report and financial statements, taken as a whole, are fair, balanced and understandable and provide the information necessary for shareholders to assess the Company's position and performance, business model and strategy.

On behalf of the Board

KATHRYN MATTHEWS

Chairman

10 June 2016

NON-STATUTORY ACCOUNTS

The financial information set out below does not constitute the Company's statutory accounts for the years ended 31 March 2016 or 31 March 2015 but is derived from those accounts. Statutory accounts for the year ended 31 March 2015 have been delivered to the Registrar of Companies and statutory accounts for the year ended 31 March 2016 will be delivered to the Registrar of Companies in due course. The Auditor has reported on those accounts; their reports were (i) unqualified, (ii) did not include a reference to any matters to which the Auditor drew attention by way of emphasis without qualifying their report and (iii) did not contain a statement under Section 498 (2) or (3) of the Companies Act 2006. The text of the Auditor's reports can be found in the Company's full Annual Report and Accounts.

INCOME STATEMENT

for the year to 31 March 2016

Notes		Year to 31 March 2016			Year to 31 March 2015
		Revenue  £'000	Capital  £'000	Total  £'000	Revenue  £'000	Capital   £'000	Total   £'000
Gains/(losses) on investments at fair value through profit or loss	10	-	2,779	2,779	-	(7,753)	(7,753)
Dividends	2	5,249	-	5,249	5,162	260	5,422
Management fee	3	(480)	(1,439)	(1,919)	(879)	(879)	(1,758)
Other expenses	4	(515)	-	(515)	(479)	-	(479)
Movement in fair value of derivative financial instruments	15	-	123	123	-	(81)	(81)
Net return/(loss) before finance costs and taxation		4,254	1,463	5,717	3,804	(8,453)	(4,649)
Interest payable and similar charges	6	(187)	(562)	(749)	(363)	(363)	(726)
Net return/(loss) before taxation		4,067	901	4,968	3,441	(8,816)	(5,375)
Taxation	7	(3)	-	(3)	(3)	-	(3)
Net return/(loss) after taxation		4,064	901	4,965	3,438	(8,816)	(5,378)
Return/(loss) per Ordinary share	9	12.1p	2.7p	14.8p	10.3p	(26.4)p	(16.1)p

The total column of this statement is the Statement of Total Comprehensive Income of the Company prepared in accordance with Financial Reporting Standards ("FRS 102"). The supplementary revenue return and capital return columns are prepared in accordance with the Statement of Recommended Practice issued in November 2014 by the AIC ("AIC SORP").

All revenue and capital items in the above statement derive from continuing operations.

No Statement of Total Recognised Gains and Losses has been prepared as all such gains and losses are shown in the Income Statement.

No operations were acquired or discontinued in the year.

The notes below form part of these financial statements.

STATEMENT OF CHANGES IN EQUITY

for the year to 31 March 2016

		Called-up share capital £'000	Share premium account £'000	Capital redemption reserve £'000	Special  reserve* £'000	Capital   reserve*  £'000	Distributable   revenue   reserve*  £'000	Total equity  shareholders'  funds  £'000
Year to 31 March 2016	Notes
As at 31 March 2015		3,348	19,307	1,362	4,642	154,842	5,522	189,023
Fair value movement of investments	10	-	-	-	-	2,779	-	2,779
Costs allocated to capital		-	-	-	-	(2,001)	-	(2,001)
Dividends paid in the year	8	-	-	-	-	-	(2,979)	(2,979)
Movement in fair value of derivative financial instruments	15	-	-	-	-	123	-	123
Net revenue for the year		-	-	-	-	-	4,064	4,064
As at 31 March 2016		3,348	19,307	1,362	4,642	155,743	6,607	191,009
		Called-up share capital £'000	Share premium account £'000	Capital redemption reserve £'000	Special  reserve* £'000	Capital   reserve*  £'000	Distributable   revenue   reserve*  £'000	Total equity  shareholders'  funds  £'000
Year to 31 March 2015	Notes
As at 31 March 2014		3,348	19,307	1,362	4,642	163,658	4,595	196,912
Fair value movement of investments	10	-	-	-	-	(7,753)	-	(7,753)
Capital dividend received	2	-	-	-	-	260	-	260
Costs allocated to capital		-	-	-	-	(1,242)	-	(1,242)
Dividends paid in the year	8	-	-	-	-	-	(2,511)	(2,511)
Movement in fair value of derivative financial instruments	15	-	-	-	-	(81)	-	(81)
Net revenue for the year		-	-	-	-	-	3,438	3,438
As at 31 March 2015		3,348	19,307	1,362	4,642	154,842	5,522	189,023

* These reserves are distributable, excluding any unrealised capital reserve. The special reserve can be used for the repurchase of the Company's own shares.

The notes below form part of these financial statements.

BALANCE SHEET

as at 31 March 2016

	Notes	31 March 2016		31 March 2015
		£'000	£'000	£'000	£'000
Fixed assets
Investments at fair value	10		209,502		198,575
Current assets
Debtors	12	988		1,281
Cash at bank		9,061		7,847
		10,049		9,128
Creditors: amounts falling due within one year
Other creditors	13	(401)		(416)
Revolving credit facility	14	(28,000)		(18,000)
Interest rate swap	15	(141)		-
		(28,542)		(18,416)
Net current liabilities			(18,493)		(9,288)
Total assets less current liabilities			191,009		189,287
Creditors: amounts falling due after more than one year Interest rate swap	15		-		(264)
Net assets			191,009		189,023
Share capital and reserves
Called-up share capital	16		3,348		3,348
Share premium account			19,307		19,307
Capital redemption reserve			1,362		1,362
Special reserve			4,642		4,642
Capital reserve			155,743		154,842
Distributable revenue reserve			6,607		5,522
Total equity shareholders' funds			191,009		189,023
Net asset value per Ordinary share	19		570.6p		564.7p

These financial statements were approved by the Board of Directors on 10 June 2016.

KATHRYN MATTHEWS

Chairman

Company Registered Number: 3004101

The notes below form part of these financial statements.

NOTES TO THE FINANCIAL STATEMENTS

at 31 March 2016

1 Accounting Policies

ACCOUNTING CONVENTION

The financial statements are prepared on a going concern basis under the historical cost convention as modified by the revaluation of fixed asset investments and in accordance with UK applicable accounting standards and the Statement of Recommended Practice regarding the Financial Statements of Investment Trust Companies and Venture Capital Trusts ("SORP") issued in November 2014. The financial statements have been prepared under FRS 102 'The Financial Reporting Standard applicable in the UK and Republic of Ireland'. There are no significant changes to the Company's accounting policies as a result of the adoption of FRS 102 which became mandatory for companies with a financial year beginning 1 January 2015. The Company has early adopted the amendments made in FRS 102 issued in March 2016, revising the fair value hierarchy disclosure requirements. Following the adoption of FRS 102, the Company has elected not to present the statement of cash flows. The principal accounting policies adopted in the preparation of these financial statements are set out below. These policies have been consistently applied throughout the year and the preceding year.

INCOME RECOGNITION

Dividend income is included in the financial statements when the investments concerned are quoted ex-dividend and shown net of any associated tax credit where applicable.

Deposit interest and underwriting commissions receivable are included on an accruals basis.

MANAGEMENT EXPENSES AND FINANCE COSTS

All expenses are accounted for on an accruals basis. With effect from 1 April 2015, management fees and finance costs were allocated 75% to the capital reserve and 25% to the revenue reserve. During the previous periods, the management fees and finance costs were allocated 50% to the capital reserve and 50% to the revenue reserve. This was changed in line with the expectations of long-term returns from the investment portfolio of the Company.

Costs arising on early settlement of debt are allocated 100% to capital, in accordance with the requirements of the SORP.

All other expenses are allocated in full to the revenue account.

INVESTMENTS

Investments are recognised and derecognised on the trade date where a purchase or sale is under a contract whose terms require delivery within the timeframe established by the market concerned and are initially measured at fair value.

All investments held by the Company are classified as at "fair value through profit or loss". Investments are initially recognised at cost, being the fair value of the consideration given. After initial recognition, investments are measured at fair value, with unrealised gains and losses on investments and impairment of investments recognised in the Income Statement and allocated to capital.

For investments actively traded in organised financial markets, fair value is generally determined by reference to quoted market bid prices or closing prices for SETS (London Stock Exchange's electronic trading service) stocks sourced from the London Stock Exchange on the Balance Sheet date, without adjustment for transaction costs necessary to realise the asset.

TREASURY SHARES

The consideration paid for shares held in Treasury is presented as a deduction from equity shareholders' funds in accordance with FRS 102. Any profit on the sale of shares out of Treasury is credited to the share premium account in full.

TAXATION

The charge for taxation is based on the net revenue for the year. Deferred taxation is provided in accordance with FRS 102 on all timing differences that have originated but not reversed by the Balance Sheet date. Deferred taxation assets are only being recognised to the extent that they are regarded as recoverable.

DIVIDENDS PAYABLE TO SHAREHOLDERS

In accordance with FRS 102, dividends to shareholders are recognised as a liability in the period in which they have been declared. Therefore, any interim dividends are not accounted for until paid and final dividends are accounted for when approved by shareholders at an AGM.

BANK LOANS AND BORROWINGS

All bank loans and borrowings are initially recognised at cost, being the fair value of the consideration received less issue costs where applicable. After initial recognition, all interest bearing loans and borrowings are subsequently measured at amortised cost. Any differences between cost and redemption value are recognised in the Income Statement over the period of the borrowings on an effective interest basis.

DERIVATIVE FINANCIAL INSTRUMENTS

It is the Company's policy not to trade in derivative financial instruments. However, the Company has utilised an interest rate swap to mitigate its exposure to interest rate changes on its bank loan which is subject to a variable rate of interest. Details can be found in note 15.

Derivatives are recognised at fair value. Movement in the fair value of the derivatives are recognised in the Income Statement and allocated to capital.

RESERVES

Capital reserve

The following are accounted for in this reserve:

·      gains and losses on the realisation of investments;

·      net movement arising from changes in the fair value of investments that can be readily converted to cash without accepting adverse terms;

·      net movement from changes in the fair value of derivative financial instruments; and

·      expenses, together with related taxation effect, charged to this account in accordance with the above policies.

Special reserve

The special reserve was created by a reduction in the share premium account by order of the High Court in August 1998. It can be used for the repurchase of the Company's Ordinary shares.

In accordance with the SORP, the consideration paid for shares bought into and held in Treasury is shown as a deduction from the special reserve.

Capital redemption reserve

The capital redemption reserve accounts for amounts by which the issued capital is diminished through the repurchase of the Company's own shares.

2 Income

	Year to 31 March 2016 £’000	Year to 31 March 2015 £’000
Income from investments	5,249	5,422
UK dividend income	5,228	5,079
UK capital dividend income*	-	260
Overseas dividend income	21	83
Total income	5,249	5,422
Total income comprises
Dividends from financial assets at fair value	5,249	5,422
Dividends	5,249	5,422

* Capital dividends have been allocated to the capital reserve.

3 Management Fee

	Year to 31 March 2016			Year to 31 March 2015
	Revenue £'000	Capital £'000	Total £'000	Revenue £'000	Capital £'000	Total £'000
Management fee	467	1,402	1,869	849	849	1,698
AIFMD fee*	13	37	50	30	30	60
	480	1,439	1,919	879	879	1,758

The Manager received a monthly fee equivalent to 1/12 of 0.85% of the gross assets of the Company valued at the close of business on the last business day of each month.

At 31 March 2016, £160,000 (2015: £151,000) was due for payment to the Manager.

* Montanaro receives an ongoing fee of £50,000 per annum to act as the Company's AIFM. The 2015 fee has been pro-rated from 22 July 2014 and includes a one-off set up fee of £25,000.

4 Other Expenses

	Year to 31 March 2016 £'000	Year to 31 March 2015 £'000
Administration and company secretarial fees	113	108
Directors' fees (see note 5)	100	102
Depositary fee	71	50
Registrar fee	29	24
Auditor's remuneration for:
- audit	22	22
Custody and other bank charges	21	19
Legal fees	8	15
Other expenses (including VAT)	151	139
	515	479

5 Directors' Remuneration

	Year to 31 March 2016 £'000	Year to 31 March 2015 £'000
Total fees	100	102

A breakdown of the Directors' remuneration is set out in the Directors' Remuneration Report in the full Annual Report and Accounts.

The Company has no employees.

6 Interest Payable and Similar Charges

	Year to 31 March 2016			Year to 31 March 2015
Financial liabilities not at fair value through profit or loss	Revenue £'000	Capital £'000	Total £'000	Revenue £'000	Capital £'000	Total £'000
Interest payable on loan	176	530	706	349	349	698
Loan commitment fee	11	32	43	14	14	28
	187	562	749	363	363	726

7 Taxation

Analysis of charge in year

	Year to 31 March 2016			Year to 31 March 2015
	Revenue £'000	Capital £'000	Total £'000	Revenue £'000	Capital £'000	Total £'000
Current tax:
Overseas tax suffered	3	-	3	3	-	3
	3	-	3	3	-	3

	Year to 31 March 2016			Year to 31 March 2015
	Revenue  £'000	Capital  £'000	Total  £'000	Revenue  £'000	Capital  £'000	Total  £'000
Return on ordinary activities before taxation	4,067	901	4,968	3,441	(8,816)	(5,375)
Theoretical corporation tax at 20% (2015: 21%)	814	180	994	722	(1,851)	(1,129)
Effects of:
- capital (gains)/losses that are not taxable	-	(580)	(580)	-	1,645	1,645
- overseas dividend income not liable to corporation tax	(4)	-	(4)	(17)	-	(17)
- UK dividend income not liable to corporation tax	(1,001)	-	(1,001)	(1,027)	(55)	(1,082)
- overseas tax suffered	3	-	3	3	-	3
- excess management expenses	191	400	591	322	261	583
	3	-	3	3	-	3

At 31 March 2016, the Company had no unprovided deferred tax liabilities (2015: £nil). At that date, based on current estimates and including the accumulation of net allowable losses, the Company had unrelieved losses of £38,848,047 (2015: £35,886,762) that are available to offset future taxable revenue. A deferred tax asset of £7,769,609 has not been recognised because the Company is not expected to generate sufficient taxable income in future periods in excess of the available deductible expenses and accordingly, the Company is unlikely to be able to reduce future tax liabilities through the use of existing surplus losses.

Deferred tax is not provided on capital gains and losses arising on the revaluation or disposal of investments because the Trust meets (and intends to continue for the foreseeable future to meet) the conditions for approval as an Investment Trust company.

8 Dividends

	Year to 31 March 2016 £'000	Year to 31 March 2015 £'000
Paid
2015 Final dividend of 8.90p (2014: 7.50p) per Ordinary share	2,979	2,511
Proposed
2016 Final dividend of 10.00p (2015: 8.90p) per Ordinary share	3,348	2,979

9 Return per Ordinary Share

	Year to 31 March 2016			Year to 31 March 2015
	Revenue	Capital	Total	Revenue	Capital	Total
Ordinary share	12.1p	2.7p	14.8p	10.3p	(26.4)p	(16.1)p

Revenue return per Ordinary share is based on the net revenue after taxation of £4,064,000 (2015: £3,438,000) and 33,475,958 (2015: 33,475,958) Ordinary shares, being the weighted average number of Ordinary shares, excluding any shares held in Treasury.

Capital return per Ordinary share is based on net capital gains for the year of £901,000 (2015: £8,816,000 loss), and on 33,475,958 (2015: 33,475,958) Ordinary shares, being the weighted average number of Ordinary shares, excluding any shares held in Treasury.

Normal and diluted return per share are the same as there are no dilutive elements on share capital.

10 Investments

	Year to 31 March 2016 £'000	Year to 31 March 2015 £'000
Total investments at fair value	209,502	198,575

The investment portfolio comprises 45 listed UK equity holdings.

	Year to  31 March 2016  £'000	Year to   31 March 2015  £'000
Opening book cost	150,527	152,875
Opening investment holding gains	48,048	56,536
Opening valuation	198,575	209,411
Movements in the year
Purchases at cost	38,531	36,124
Sales - proceeds	(30,383)	(39,207)
Sales - realised (losses)/gains on sales	(1,048)	735
Increase/decrease in investment holding gains	3,827	(8,488)
Closing valuation	209,502	198,575
Closing book cost	157,627	150,527
Closing investment holding gains	51,875	48,048
	209,502	198,575

fair value hierarcHy

In accordance with FRS 102, the Company must disclose the fair value hierarchy of financial instruments.

The fair value hierarchy consists of the following three levels:

• level 1 – The unadjusted quoted price in an active market for identical assets or liabilities that the entity can access at the measurement date;

• level 2 – Inputs other than quoted prices included within level 1 that are observable (i.e. developed using market data) for the asset or liability, either directly (i.e. as prices) or indirectly (i.e. derived from prices); and

• level 3 – Inputs are unobservable (i.e. for which market data is unavailable) for the asset or liability.

For financial instruments (within the scope of FRS 102), which are measured at fair value in the Balance Sheet, an entity shall disclose the following for each class of financial instruments:

• the level in the fair value hierarchy into which the fair value measurements are categorised in their entirety;

• any significant transfers between level 1 and level 2 of the fair value hierarchy and the reasons for those transfers; and

• for fair value measurements in level 3 of the hierarchy, a reconciliation from the opening balances to the closing balances. As well as highlighting purchases, sales and gains and losses, this reconciliation will identify transfers into or out of level 3 and the reasons for those transfers.

The table below sets out fair value measurements of financial assets in accordance with the FRS 102 fair value hierarchy system:

	31 March 2016			31 March 2015
	Level 1 £'000	Level 2 £'000	Total £'000	Level 1 £'000	Level 2 £'000	Total £'000
Equity investments	209,502	-	209,502	198,575	-	198,575
	209,502	-	209,502	198,575	-	198,575

The table below sets out fair value measurements of financial liabilities in accordance with the FRS 102 fair value hierarchy system:

	31 March 2016			31 March 2015
	Level 1 £'000	Level 2 £'000	Total £'000	Level 1 £'000	Level 2 £'000	Total £'000
Revolving Credit Loan Facility	-	28,000	28,000	-	18,000	18,000
Derivative financial instruments	-	141	141	-	264	264
	-	28,141	28,141	-	18,264	18,264

Details of the Revolving Credit Loan Facility are provided in note 14.

There were no level 3 investments.

TRANSACTION COSTS

During the year, the Company incurred transaction costs of £192,000 (2015: £182,000) and £24,000 (2015: £39,000) on purchases and sales of investments respectively. These amounts are deducted in determining gains/(losses) on investments at fair value as disclosed in the Income Statement.

	Year to  31 March 2016  £'000	Year to  31 March 2015  £'000
Net gains/(losses) on investments at fair value
(losses)/gains on sales	(1,048)	735
Changes in fair value	3,827	(8,488)
	2,779	(7,753)

A list of the investments by market value and an analysis of the investment portfolio by industrial or commercial sector are set out above.

11 Significant Holdings

The Company has no holdings of 3% or more of the voting rights attached to shares that is material in the context of the financial statements.

12 Debtors

	Year to 31 March 2016 £'000	Year to 31 March 2015 £'000
Prepayments and accrued income	31	57
Due from brokers	-	520
Dividends receivable	930	679
Taxation recoverable	27	25
	988	1,281

The carrying amount for prepayments, accrued income and dividends receivable disclosed above reasonably approximates to its fair value at the year end and is expected to be realised within a year from the Balance Sheet date.

13 Other Creditors

	Year to 31 March 2016 £'000	Year to 31 March 2015 £'000
Accruals	401	416
	401	416

The carrying amount for accruals disclosed above reasonably approximates to its fair value at the year end and is expected to be paid within a year from the Balance Sheet date.

14 Revolving Credit Loan Facility

	Year to 31 March 2016 £'000	Year to 31 March 2015 £'000
Falling due within one year	28,000	18,000
	28,000	18,000

On 19 December 2011, the Company agreed a £15,000,000 Floating Rate Revolving Credit Loan Facility with ING Bank N.V. At the same time, the Company entered into a £15,000,000 Interest Rate Swap with ING Bank N.V.

This facility is available for a five-year term from 19 December 2011 to 19 December 2016. The loan was drawn down until 20 June 2016 and will be rolled over on a short-term basis. Interest is payable at LIBOR plus a margin and mandatory costs.

The Interest Rate Swap was originally entered into with the intention of hedging the £15,000,000 Floating Rate Revolving Credit Facility with ING Bank N.V. to a fixed rate.

On 10 February 2014, the Company agreed an additional £10,000,000 Floating Rate Revolving Credit Loan Facility with ING Bank N.V. This facility is available for a three-year term from 24 February 2014 to 24 February 2017. On 25 November 2015 the Company increased the Floating Rate Revolving Credit Loan Facility to £15,000,000. The loan was drawn down until 29 April 2016 and will be rolled over on a short-term basis. Interest is payable at LIBOR plus a margin and mandatory costs.

Interest is payable on each advance at LIBOR plus a margin and mandatory costs. A commitment fee is payable at the rate of 0.4% if the average utilisation is less than 50% of the facility during the quarter, or 0.35% if the average utilisation is 50% or more of the facility during the quarter.

The facilities contain covenants which require that total borrowings will not at any time exceed 30% of the adjusted net asset value, which itself shall not fall below £39,000,000 in respect of the original £15,000,000 facility, and £80,000,000 in respect of the additional £15,000,000 facility.

15 Derivative Financial Instruments

An interest rate swap is an agreement between two parties to exchange fixed and floating rate interest payments based upon interest rates defined in the contract without the exchange of the underlying principal amounts.

The Company entered into an agreement on 19 December 2011 which swapped its obligation to pay variable rates of interest on its £15,000,000 facility for a fixed rate until 19 December 2016.

The fair value of the derivative financial instrument is shown below:

	Year to  31 March 2016  £'000	Year to  31 March 2015  £'000
Opening valuation	(264)	(183)
Movement in fair value	123	(81)
Closing valuation	(141)	(264)

16 Share Capital

	31 March 2016 £'000	31 March 2015 £'000
Allotted, called-up and fully paid:
33,475,958 (2015: 33,475,958) Ordinary shares of 10p each	3,348	3,348

Voting rights

Ordinary shareholders have unrestricted voting rights at all general meetings of the Company.

At the AGM on 31 July 2015, the Company was granted the authority to purchase 5,018,046 Ordinary shares. This authority is due to expire at the conclusion of the next AGM.

During the year, no shares were purchased for cancellation.

The Company does not have any externally imposed capital requirements. The capital of the Company is managed in accordance with its Investment Policy in pursuit of its Investment Objective, both of which are detailed above.

17 Duration of the Company

The Articles prescribe that shareholders should have the opportunity to consider the future of the Company at regular intervals. At the AGM held on 26 July 2013, shareholders voted to remove the obligation to convene a General Meeting during 2014 for the purpose of voluntarily winding up the Company. The Board intends to propose a resolution at the AGM in 2017 to remove the obligation to convene a General Meeting during 2018 for the purpose of voluntarily winding up the Company.

18 Own Shares Held in Treasury

The Company has previously taken advantage of the regulations which came into force on 1 December 2003 to allow companies, including investment trusts, to buy their own shares and hold them in Treasury for re-issue at a later date. There were no shares held in Treasury at any time during the year.

19 Net Asset Value per Ordinary Share

Net asset value per Ordinary share is based on net assets of £191,009,000 (2015: £189,023,000) and on 33,475,958 (2015: 33,475,958) Ordinary shares, being the number of Ordinary shares in issue at the year-end.

20 Analysis of Financial Assets and Liabilities

As required by FRS 102, an analysis of financial assets and liabilities, which identifies the risk to the Company of holding such items, is given below.

BACKGROUND

The Company's financial instruments comprise securities, cash balances, debtors and creditors that arise from its operations, for example, in respect of sales and purchases awaiting settlement and debtors for accrued income.

The risk management policies and procedures outlined in this note have not changed substantially from the previous accounting period.

The Company has little or no exposure to cash flow or foreign currency risk.

The principal risks the Company faces in its portfolio management activities are:

● credit risk;

● market price risk, i.e. movements in the value of investment holdings caused by factors other than interest rate or currency movement;

● interest rate risk;

● liquidity risk, i.e. the risk that the Company has difficulty in realising assets or otherwise raising funds to meet commitments associated with financial instruments;

● gearing; and

● use of derivatives.

(i) Credit Risk

Credit risk is the risk of financial loss to the Company if the contractual party to a financial instrument fails to meet its contractual obligations.

The carrying amounts of financial assets best represent the maximum credit risk exposure at the Balance Sheet date.

The Company's listed investments are held on its behalf by BONY, the Company's Custodian. Bankruptcy or insolvency of the Custodian may cause the Company's rights with respect to securities held by the Custodian to be delayed. The Board monitors the Company's risk by reviewing the Custodian's internal controls reports.

Investment transactions are carried out with a large number of brokers whose creditworthiness is reviewed by the Manager.

Transactions are ordinarily undertaken on a delivery versus payment basis within CREST, thereby the transaction will only settle if the Company and counterparty details are matching.

The banks at which cash is held are under regular review.

The maximum exposure to credit risk at 31 March 2016 was:

	31 March 2016	31 March 2015
	£'000	£'000
Cash at bank	9,061	7,847
Debtors and prepayments	988	1,281
	10,049	9,128

None of the Company's assets are past due or impaired.

(ii) Market Price Risk

Market price risk arises mainly from uncertainty about future prices of financial instruments. The value of shares and the income from them may fall as well as rise and shareholders may not get back the full amount invested. The Manager continues to monitor the prices of financial instruments held by the Company on a real time basis. Adherence to the Company's Investment Policy shown above mitigates the risk of excessive exposure to one issuer or sector.

The Board manages the market price risks inherent in the investment portfolio by ensuring full and timely access to relevant information from the Manager. The Board meets regularly and at each meeting reviews the investment performance, the investment portfolio and the rationale for the current investment positioning to ensure consistency with the Company's objectives and Investment Policy. The portfolio does not seek to reproduce the index, investments are selected based upon the merit of individual companies and therefore the portfolio may well diverge from the short-term fluctuations of the benchmark.

Fixed asset investments are valued at fair value as detailed in note 1. A list of the Company's equity investments, an analysis of the investment portfolio by broad industrial and commercial sector, an analysis of the portfolio by market capitalisation of holdings and a description of the 10 largest equity investments are set out above.

The maximum exposure to market price risk is the fair value of investments of £209,502,000 (2015: £198,575,000).

If the investment portfolio valuation fell by 1% from the amount detailed in the financial statements as at 31 March 2016, it would have the effect, with all other variables held constant, of reducing the net capital return before taxation by £2,095,000 (2015: £1,986,000). An increase of 1% in the investment portfolio valuation would have an equal and opposite effect on the net capital return before taxation.

(iii) Interest Rate Risk

Changes in interest rates may cause fluctuations in the income and expenses of the Company. The Revolving Credit Loan Facilities with ING Bank N.V. are floating rate facilities (see note 14). The amount of such borrowings and the approved levels are monitored and reviewed regularly by the Board. The Company mitigates the risk by the use of an interest rate swap to fix the interest rate on £15,000,000 of its total borrowings of £28,000,000.

The Company did not receive any interest on cash deposits in the year (2015: nil).

The interest rate risk profile of the Company is given below.

If interest rates had reduced by 1% from those paid as at 31 March 2016, it would have the effect, with all other variables held constant, of increasing the net revenue return before taxation on an annualised basis by £150,000 (2015: £30,000). If there was an increase in interest rates of 1%, the net revenue return before taxation on an annualised basis would have decreased by £150,000 (2015: £30,000). The calculations are based on cash at bank, short-term deposits and the Revolving Credit Loan Facilities as at 31 March 2016 and these may not be representative of the year as a whole.

Due to the structure of the loan facilities, changes in interest rates would not have an effect on the fair value of the loans.

(iv) Liquidity Risk

Liquidity risk is the risk that the Company will encounter difficulty in meeting obligations associated with financial liabilities. The Manager does not invest in unlisted securities on behalf of the Company. However, the investments held by the Company consist of UK quoted small companies which are inherently less liquid than quoted large companies. The Manager reviews the portfolio liquidity on a regular basis. Short-term flexibility is achieved through the use of bank borrowings. Liquidity risk is mitigated by the fact that the Company has £10.0 million cash at bank and short-term debtors which can satisfy its creditors and that, as a closed-ended fund assets do not need to be liquidated to meet redemptions.

(v) Gearing

Gearing can have amplified effects on the net asset value of the Company. It can have a positive or negative effect depending on market conditions. It is the Company's policy to determine the adequate level of gearing appropriate to its own risk profile.

The AIFM, in consultation with the Board, is responsible for determining the gearing levels of the Company. The Directors receive financial information on a monthly basis which is used to identify and monitor risk.

(vi) Use of Derivatives

It is the Company's policy not to trade in derivative financial instruments. However, the Company has utilised an interest rate swap to mitigate its exposure to interest rate changes on £15,000,000 of its Revolving Credit Loan Facility.

FINANCIAL ASSETS

The Company's financial assets consist of listed equity shares, which neither pay interest nor have a maturity date, cash at bank and short-term debtors. No fixed interest assets were held at 31 March 2016 or at any time during the year. All financial assets are in sterling and disclosed at fair value through profit or loss.

FINANCIAL LIABILITIES

The Company finances its operations through equity, retained profits and bank borrowings (see note 14). The change in the fair value of financial liabilities during the year was not related to the credit risk profile. The interest rate risk profile of the financial liabilities of the Company as at 31 March 2016 is as follows:

	Total £'000	Weighted average interest rate %	Period until maturity Years
Amounts drawn down under Revolving Credit Loan Facilities	13,000	3.2	0.2
Amounts drawn down under the additional Revolving Credit Loan Facilities	15,000	1.9	0.1
Derivative financial instruments	141	1.0	0.7
Financial liabilities upon which no interest is paid	401	-	-

The interest rate risk profile of the financial liabilities of the Company as at 31 March 2015 was as follows:

	Total	Weighted average interest rate	Period until maturity
	£'000	%	Years
Amounts drawn down under Revolving Credit Loan Facility	15,000	3.3	0.2
Amounts drawn down under the additional Revolving Credit Loan Facilities	3,000	1.9	0.1
Derivative financial instruments	264	1.0	1.7
Financial liabilities upon which no interest is paid	416	-	-

The maturity profile of the Company's financial liabilities is as follows:

	31 March 2016 £'000	31 March 2015 £'000
In one year or less	28,542	18,416
In more than one year but not more than two years	-	264
	28,542	18,680

The Company had £2,000,000 undrawn under the floating rate Revolving Credit Loan Facility at 31 March 2016  (2015: fully drawn).

The Company had fully drawn down its facility under the additional floating rate Revolving Credit Loan Facility at 31 March 2016 (2015: £7,000,000).

The Company's Revolving Credit Loan Facilities are measured at cost and denominated in sterling. All other financial liabilities are in sterling and disclosed at fair value. It is considered that, because of the short-term nature of the facilities, cost approximates to fair value.

21 Capital Management Policies

The Investment Objective of the Company is to achieve capital appreciation through investing in small quoted companies listed on the London Stock Exchange or traded on AIM and to achieve relative outperformance of its benchmark, the NSCI. No unquoted investments are permitted. In pursuing this long-term objective, the Board has a responsibility for ensuring the Company's ability to continue as a going concern. It must therefore maintain an optimal capital structure through varying market conditions. This involves the ability to: issue and buy back share capital within limits set by the shareholders in general meeting; borrow monies in accordance with the Articles; and pay dividends to shareholders out of distributable reserves.

Details of the Ordinary share capital are set out in note 16. Dividend payments are set out in note 8.

	31 March 2016 £'000	31 March 2015 £'000
Called-up share capital	3,348	3,348
Share premium account	19,307	19,307
Capital redemption reserve	1,362	1,362
Special reserve	4,642	4,642
Capital reserve	155,743	154,842
Distributable revenue reserve	6,607	5,522
Total equity shareholders' funds	191,009	189,023

The Company's policies for managing capital are unchanged and have been complied with throughout the year.

22 Commitments and Contingent Liabilities

At 31 March 2016, there were no capital commitments or contingent liabilities (2015: nil).

23 Related Party Transactions

Under the Listing Rules, the Manager is regarded as a related party of the Company. The amounts paid to the Manager are disclosed in note 3. However, the existence of an independent Board of Directors demonstrates that the Company is free to pursue its own financial and operating policies, and therefore, in terms of FRS 102, the Manager is not considered a related party. The relationship between the Company, its Directors and the Manager is disclosed in the Directors' Report in the full Annual Report and Accounts.

Annual General Meeting

The Company's twenty-first AGM will be held at the offices of Montanaro Asset Management Limited, 53 Threadneedle Street, London EC2R 8AR on Friday, 22 July 2016 at 12 noon.

National Storage Mechanism

A copy of the 2016 Annual Report and Accounts will be submitted shortly to the National Storage Mechanism ("NSM") and will be available for inspection at the NSM, which is situated at: www.morningstar.co.uk/uk/NSM.  

ENDS

Neither the contents of the Company's website nor the contents of any website accessible from hyperlinks on this announcement (or any other website) is incorporated into, or forms part of, this announcement.

 

END

 

 

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