Annual Results and Notice of AGM

RNS Number : 8872O

Montanaro UK Smlr Cos Inv Tst PLC

15 June 2022

 

Montanaro UK Smaller Companies Investment Trust Plc

(Incorporated in England and Wales)

Company Number: 03004101 

ISIN: GB00BZ1H9L86 

LEI: 213800UDDXXTXIF29P85

('Montanaro UK Smaller Companies Investment Trust', or the 'Company')

15 June 2022

Montanaro Uk Smaller Companies Investment trust PLC

2022 ANNUAL RESULTS ANNOUNCEMENT

and

notice of annual general meeting

Montanaro UK Smaller Companies Investment Trust PLC announces its annual results for the year ended 31 March 2022 and the publication of its annual report and accounts for the same period, which includes the notice of its 2022 annual general meeting.

HIGHLIGHTS

For the year ended 31 March 2022

Performance

Total Returns	1 year	3 year	5 year	10 year	Since launch
Ordinary share price	(10.1%) *	34.4% *	48.8% *	139.4% *	969.3% †
Net Asset Value ("NAV")	(5.0%) *	18.1% *	27.2% *	98.8% *	925.7% †
Benchmark (Composite)	(1.1%) **	21.4% **	26.1% **	151.9% ***	553.0% ***

Sources:

* AIC

** Numis Smaller Companies Index (excluding investment companies) ("NSCI")

*** NSCI , Bloomberg

† Montanaro Asset Management

All returns are shown with dividends reinvested.

The Benchmark is a composite index with the NSCI used since 1 April 2013.

	2022	2021
For the year ended 31 March
Revenue return per Ordinary share	1.7p	1.2p
Dividend per Ordinary share	6.4p	5.5p
Ongoing charges1	0.8%	0.8%
Portfolio turnover1	23.3%	27.8%

As at 31 March
Ordinary share price	125.0p	145.0p
NAV per Ordinary share2	135.5p	148.6p
Discount to NAV1	7.8%	2.4%
Gross assets1	£246.8m	£268.7m
Net assets	£226.8m	£248.7m
Market capitalisation	£209.2m	£242.7m
Net gearing employed1	4.3%	4.1%

1 Details provided in Alternative Performance Measures on pages 61 to 62.

2 Details provided in the glossary on page 63.

ChairMAN's statement

I am pleased to present the twenty-seventh annual report of MUSCIT for the year ended 31 March 2022.

Results

In the year to 31 March 2022, the Net Asset Value ("NAV") of MUSCIT declined by 5.0% and the share price declined by 10.1% as a result of an increase in the discount of MUSCIT's share price to NAV. In comparison, the Numis Smaller Companies (excluding investment companies) Index fell by just over 1% (all figures on a total return basis).

Since inception in 1995, the Company has delivered a cumulative NAV total return of 969%, significantly outperforming the composite benchmark which delivered a cumulative return of 553%. Please refer to the Performance Review section in the Manager's Report on page 6 for further details.

Dividends

The Company's investment objective is to generate capital growth and this remains unchanged despite the dividend policy introduced in July 2018. Dividends are now paid each quarter equivalent to 1% of the Company's NAV on the last business day of the preceding financial quarter, being the end of March, June, September and December.

The Board and the Manager have worked hard to make MUSCIT more attractive to private clients, including a five for one share split in 2018, the new dividend policy, reducing costs and an increased focus on marketing. These initiatives continue to bear fruit as more and more retail investors are on the share register. Hopefully this will reduce discount volatility in the shares.

The Company holds substantial reserves which are available for distribution in future.

Discount

Over the last financial year, the discount of MUSCIT's share price to NAV, as shown in the graph on page 3, widened from 2% to 8% as financial markets experienced a challenging final quarter. Pleasingly, during the summer of 2021, MUSCIT's shares briefly traded at a premium to NAV. A more prolonged period of this rating would enable the Company to issue more shares.

Gearing

The Board, in consultation with the AIFM, regularly reviews the gearing strategy of the Company and approves the arrangement of any gearing facility. This is a key feature of investment trusts that we believe offers a strong competitive advantage over 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.

On 17 December 2021, the borrowing facilities with ING Bank were renewed for a period of three years. The interest rate on the £20 million Fixed Rate Term Loan was reduced by approximately 0.2% p.a., which represents a welcome saving for shareholders. Similarly, the £10 million Revolving Credit Facility was renewed with a lower commitment fee.

At 31 March 2022, net gearing was 4.3%, a level that the Board and the Manager considered to be appropriate in light of the considerable macroeconomic uncertainty and volatility in financial markets.

Share Buy Backs

The Board is responsible for the implementation of share buy-backs which are undertaken at arms' length from Montanaro. No shares were bought back during the period.

Board

The Board consists solely of independent Non-Executive Directors with a good balance of skills, experience, diversity and knowledge of the Company and its business.

There were no changes to the Board during the Financial Year.

ESG

The Board and Montanaro believe there is a strong correlation between how well a business fares on Environmental, Social and Corporate Governance grounds and the value it creates for its shareholders. This is why ESG considerations form an integral part of the Manager's assessment of a company's "Quality" and have been fully integrated into the investment process for many years.

The depth of Montanaro's commitment is perhaps best exemplified by the fact that it is one of the few UK asset managers to be a certified B Corporation - a certification Montanaro has held since 2019. Certified B Corporations are businesses that meet the highest standards of verified social and environmental performance, public transparency and legal accountability to balance profit and purpose. An expanded report on ESG is provided in the Manager's Report on page 5.

AGM

The Annual General Meeting will be held on 27 July 2022 at 12pm at the office of Montanaro Asset Management, 53 Threadneedle Street, London EC2R 8AR. Shareholders are encouraged to attend the Meeting where there will be an opportunity to meet and ask questions of the Board and the Manager over a coffee.

Continuation Vote

We are pleased to report that, at the AGM held on 12 August 2021, over 99% of shareholders voted in favour of the continuation of MUSCIT for a further five years. The next Continuation Vote is scheduled to be held in 2027 .

Outlook

As the world appears to be finally emerging from two exhausting years of a pandemic and lockdowns, we find ourselves wrestling with extraordinary macroeconomic and geopolitical uncertainty once again.

Fears of significant price and wage increases have resurfaced globally, including in the UK where inflation has recently climbed to a 40-year high. The tragic war in Ukraine is further amplifying the pressure on food, commodity and energy prices. Consumers are faced with the prospect of a significant increase in the cost of living, while businesses are doing their best to manage the pressure on margins from rising input costs and supply chain challenges. For the first time in over a decade, significant monetary tightening by the world's most important Central Banks looks likely. In equity markets, this has translated into a major rotation away from Quality and Growth companies in the first quarter of 2022 which had a negative impact on our relative performance during the past financial year.

As our shareholders know, the Montanaro team avoids trying to forecast macroeconomic developments, preferring instead to focus on the fundamentals of our investee companies most of which are Quality Growth. For example, high quality companies with pricing power are best placed to offset inflationary pressures in the coming months.

Previous periods of significant underperformance from Quality Growth companies have presented good buying opportunities for those with a long-term investment horizon. The Board is confident that Montanaro will continue to deliver the strong performance that we have enjoyed over the last 27 years.

ARTHUR COPPLE

Chairman

14 June 2022

Manager's Report

The Attractions of Quoted UK Smaller Companies ('SmallCap')

The key attraction of investing in quoted smaller companies is their long-term record of delivering higher returns to investors than large companies. In the UK, over the last 67 years, this has amounted to an average of 3.6% per annum ("the SmallCap Effect"). £1 invested in UK large companies in 1954 would now be worth £1,210 whereas the same £1 invested in UK smaller companies would now be worth £10,139 - almost nine times more.

The market for UK smaller companies is inefficient. While some large companies are analysed by more than 50 brokers, many smaller companies have little or no such coverage. Some have none at all. We believe that this makes it easier for those with a high level of internal resources to identify attractive, undervalued and overlooked investment opportunities. This in turn makes it possible to deliver long-term performance over and above that of the benchmark.

Montanaro

Montanaro was established in 1991 and we celebrated our 30th Anniversary last year. We have one of the largest and most experienced specialist teams in the UK dedicated exclusively to researching and investing in quoted smaller companies. Our team of thirty six includes ten nationalities, which gives us the breadth of resources and scope to conduct thorough in-house research.

At 31 March 2022, we were looking after more than £4 billion of assets.

Investment Philosophy and Approach

We specialise in researching and investing in quoted small companies.

We have a disciplined, two-stage investment process. Firstly, we identify "good businesses" within our investable universe. In the second stage, we determine the intrinsic value of each company to ensure they will make a "good investment" (the two are not always the same). When we consider that we have identified a good company, it must pass our stringent Quality and ESG Checklists and be approved by our Investment Committee before it can be added to the "Approved List". ESG has been integrated in our disciplined investment process for almost two decades. Only the most attractive companies make it on to the Approved List and it is from these that we construct your Portfolio.

We have an in-house team of twelve Analysts who are sector specialists. This is one of the largest such specialist teams in the country. Utilising their industry knowledge and a range of proprietary screens, they are continually searching for new ideas. With around 1,800 companies to choose from, we are spoiled for choice.

We look for high quality companies in markets that are growing. They must be profitable; have good and experienced management; deliver sustainably high returns on capital employed; enjoy high and ideally growing profit margins reflecting pricing power and a strong market position; and provide goods and services that are in demand and likely to remain so. We prefer focused companies that can deliver self-funded organic growth and remain focused on their core areas of expertise, rather than businesses that spend a lot of time on acquisitions.

Conversely, we avoid those with stretched balance sheets; poor free cash flow generation; incomprehensible or heavily adjusted accounts; unproven or unreliable management; or that face structurally challenged business models with stiff competition.

We believe that a deep understanding of a company's business model and the way it is managed are essential. In normal circumstances, we visit our investee companies on a regular basis, although this has not been possible during the pandemic. We are looking forward to these visits resuming as they have started to do. Nonetheless, company access during the pandemic has been excellent: you get a different perspective talking to a CEO while they sit at home rather than in the more formal setting of a board room.

Management's past track record is examined in detail as we seek to understand their goals and aspirations. In small companies, the decisions of the entrepreneurial management can make or break a company (which is why meeting them is so important). We look closely at the Board structure; the level of insider ownership; and carefully examine remuneration and corporate governance policies.

Once a company has been added to the Portfolio, our Analysts conduct ongoing reviews. We will sell a holding if we believe that the company's underlying quality is deteriorating or if there has been a fundamental change to the investment case or management. We will get things wrong and make mistakes, but we try to learn from them.

In summary, we invest in well managed, focused, high quality, growing companies bought at sensible valuations. We keep turnover and transaction costs low and follow our companies closely over many years. We would rather pay more for a higher quality, more predictable company that can be valued with greater certainty. Finally, we align ourselves with our investors by investing meaningful amounts of our own money alongside yours. We are significant shareholders in MUSCIT.

Environmental, Social and Governance ("ESG")

In March 2022, Montanaro won the Best Small & Mid-Cap Sustainable Investment Boutique award from Ethical Finance. This recognised Montanaro's continuing commitment to sustainable investing within its own business, across the investment industry and in our investment process.

Montanaro became a certified B Corporation in 2019, placing sustainability at its core. This was achieved by meeting verified standards of social and environmental performance, transparency and accountability. It is regarded as one of the toughest sustainability standards to achieve globally. Montanaro will recertify for "B Corp" status once again in 2022 and we expect to improve our score.

Montanaro continued to achieve industry leading standards over the last year, notably becoming a first-wave signatory to the revised UK Stewardship Code. The standards for the new code were significantly higher than for the previous iteration and one-third of asset managers failed to have their reports approved by the Financial Reporting Council.

In addition, during the year Montanaro played an active role in the development of sustainable investing in the wider investment industry. Having become a signatory to the Net Zero Asset Managers initiative, Montanaro was the only UK investment boutique to be invited to join the Glasgow Financial Alliance for Net Zero ("GFANZ") taskforce, chaired by former Bank of England Governor, Mark Carney. Our Head of Sustainable Investment sits on the Real Economy Transition Workstream, which is working to improve the guidance given to corporations on how the financial sector expects companies to report on the transition to net zero.

We were also invited to co-chair the B Corporation Investment & Working Group, a group of certified B Corporations in our industry working together on best practice initiatives. As part of this, we led a group of investment boutiques to the UN Climate Change Summit COP26, in Glasgow, to discuss the benefits of being a B Corporation in the financial sector.

These industry standards and our participation in collaborative initiatives allows us to stay abreast of an area of the investment world that is rapidly changing and ensure that our investment process evolves accordingly.

Montanaro has a long track record of sustainable investing, which has always been represented in the way the Portfolio has been managed. Ethical restrictions mean that we do not invest in companies that generate a significant proportion of sales from products with negative societal impact such as tobacco, gambling, armaments, alcohol, high-interest-rate lending and fossil fuels. Similarly, we do not invest in companies that conduct animal testing, unless it is required by law for healthcare or regulatory purposes.

The analysis of Environmental, Social and Governance (ESG) factors has long formed part of our definition of a company's "Quality". Over the last year, our Investment Team continued to develop our approach to ESG analysis by redeveloping our bespoke ESG Checklist, incorporating further data points that are provided to us by MSCI. The analysis of such information allows us to better understand the risks - and opportunities - that our companies may be exposed to, from factors such as climate change, supply chain risks and the structure of company boards. Where weaknesses are identified, we will always seek to use our influence to improve a company through active and long-term engagement.

During the year our Analysts were able to conduct a site visit to a Cranswick facility in Suffolk to discuss progress of the company's 'Second Nature' sustainability programme initiated in 2018. Pleasingly, Cranswick have announced targets for Net Zero, carbon neutrality, food waste, regenerative farming and waste. Other engagements included Bloomsbury, who approached us to participate in an ESG materiality analysis; Ideagen, with whom we discussed carbon reduction plans and the composition of their Audit Committee; and Treatt, in relation to the company's ESG footprint and their research into natural sugar substitutes.

We also engaged extensively with Marshalls about their carbon emission reduction plan during the year. The company has made impressive progress on that front: they are now using carbon dioxide from carbon capture projects to cure concrete bricks and have also issued a Solar Reflectivity Index (SRI) score for all their materials. This is intended to help combat urban heating which is exacerbated by the building materials used. In addition, Marshalls have implemented a new goal to achieve Net Zero by 2030 in line with a 1.5 degree scenario. This has been developed in line with the new guidance from the Science Based Targets initiative.

We are pleased that MUSCIT was awarded a 'AA' rating - the second best rating out of a possible seven - for its ESG credentials by MSCI.

With almost every asset manager dedicating more time and resource to ESG and sustainability, we believe that we remain ahead of the curve. This is due to our experience, the high level of in-house resource that we have at our disposal and our belief that embedding ESG factors into an investment process leads to better investment outcomes. We look forward to sharing further developments with you in the coming years.

How to invest

We have invested a great deal of time to make MUSCIT readily available to all investors. We have continued to grow our presence across the UK's investment platforms and are delighted to see a steady increase, year after year, in MUSCIT's retail following.

Together with the Board, we have appointed Marten & Co to provide sponsored research. The latest report published in April 2021 is available here: https://montanaro.co.uk/news-and-views/ which will be updated this year. For further details about how to invest, please refer to the website: https:// montanaro.co.uk/trust/montanaro-uk-smaller-companies-investment-trust/

The Portfolio

At 31 March 2022, the Portfolio consisted of 50 companies of which the top ten holdings represented 34%. MUSCIT held 21 companies traded on AIM, representing 35% of the Portfolio by value.

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.

Gearing

The Alternative Investment Fund Manager ("AIFM"), in consultation with the Board, is responsible for determining the net gearing level of the Company. At 31 March 2022 net gearing stood at 4.3%.

Performance Review

The NAV fell by 5% over the period, almost 4% more than the benchmark. The discount widened to 8% resulting in a share price decline of 10%.

It was a year of two halves: 31 March - 30 September 2021 saw strong outperformance of 9%. This was fully reversed due to the rotation away from Quality Growth companies in the first calendar quarter of 2022 and the appalling war in Ukraine (see chart below):

It has been the most volatile two-year period that I can recall in a career in investing spanning more than four decades. In 2020, we saw the shortest Bear Market in recent history caused by the Covid-19 pandemic that ended in March 2020 to be followed by one of the quickest recoveries. The largest ever rotation away from Quality Growth companies into Value started in November 2020 following the launch of the Pfizer vaccine. This financial year followed a similar pattern with a challenging start to 2022 when we suffered the worst quarter of relative performance for Quality Growth investors since the Brexit referendum in the second quarter of 2016.

Since its launch in March 1995, MUSCIT has delivered share price returns of over 9% p.a. and outperformed the benchmark by 2% p.a..

Performance Attribution

The largest positive contributors relative to the Benchmark over the period were:

Big Yellow , the market leader in the UK self-storage sector, enjoyed a 35% share price increase reflecting significant occupancy growth since the first lockdown in May 2020 and increased rental growth;

YouGov , the international on-line market research and data analytics company, confirmed strong growth well ahead of expectations, leading to a 37% gain in the share price;

Tracsis , which provides business critical software solutions primarily to Railways and the Event Traffic management sectors, enjoyed a strong recovery in events and announced an attractive acquisition in America of RailComm. The shares rose by more than 50% over the period.

There will always be some investments that do not go as expected. The largest negative contributors over the

period were:

Frontier Developments , the developer of software games such as Elite, Planet Coaster, Zurassic World and Planet Zoo, suffered from delays and disappointing reviews of new releases. The shares more than halved. We continue to have confidence in the legendary David Braben (who has a 32% stake) and his belief in the potential for future games such as Warhammer and Formula 1;

Avon Protection , one of the world's largest producers of military grade helmets, had a torrid year after a failure in bullet proof body armour led to the closure of the business and additionally delays in orders and supply chain issues. The holding has been sold;

Tristel , a supplier of disinfectant products based on chlorine dioxide to healthcare providers such as hospitals, announced the write down of discontinued parts of the business and delays in FDA approval of their products in the United States. The share price halved over the period. Following a site visit in November 2021 - the first for our healthcare Analyst since the pandemic - we continue to have high hopes for the company.

Review & Outlook

We have been through several such challenging periods before - after all, Montanaro celebrated its 30th anniversary last year. The macro-economic uncertainties have rarely been greater and some of the consequences of the tragic war in Ukraine are already evident.

However, over the past 40 years I have learned that forecasting the economic outlook is fraught with difficulty and we make no attempt to do so. Instead, we listen to the companies in which we invest and have known for many years. Broadly the message currently is a confident one and most earnings announcements are positive. At a time of rising inflation and supply chain challenges, high quality well-managed small companies with strong market positions and pricing power have been able to pass on additional costs.

We have also learned that markets always mean revert. Investors tend to get carried away and markets have a habit of proving as many people wrong as possible. Most have thrown in the towel on Quality Growth small companies in favour of Value, commodities and LargeCap. As a result, SmallCap valuations are now the most attractive in many years and the asset class is unloved. For the long-term investor such as us, this gives us considerable confidence and optimism for the future.

I would like to take this opportunity to welcome Guido Dacie-Lombardo as Back-up Manager to MUSCIT, with immediate effect. Some of you will be familiar with Guido already, as Co-Manager of the Montanaro UK Income Fund, one of the best-performing income funds in the market. Guido and I have been working closely together for the past 3 years and I look forward to extending our collaboration to MUSCIT. As announced by the Board in last year's Annual Report, I will remain the named Fund Manager until at least 2026.

Finally, I would like to thank you for your overwhelming support at the AGM last year at which over 99% of investors voted for MUSCIT to continue for at least another five years. I, supported by Guido and our team, will be working hard to justify your faith and support.

CHARLES MONTANARO
14 June 2022

Top 20 Holdings

Twenty Largest Holdings as at 31 March 2022

1.  Treatt

a leading manufacturer of fragrances and flavourings.

2.  Marshalls

the UK's leading provider of hard landscaping products.

3.  Big Yellow Group

a real estate investment trust focused on t he self-storage market.

4.  4imprint Group

a supplier of promotional merchandise.

5.  Clarkson

a leading shipping brokerage business.

6.  Kainos Group

a software developer headquartered in Belfast that specialises in digital transformation.

7.  discoverIE

a designer and manufacturer of components for electronic applications.

8.  Tracsis

a provider of software and consulting services to UK rail and transportation markets.

9.  Hilton Food Group

a leading food packing business.

10.  Yougov

an Internet-based market research and data analytics company.

11.  Ergomed

a global full-service contract research organisation (CRO) with a core focus on the US and EU.

12.  Ideagen

a supplier of Governance, Risk and Compliance software for highly regulated industries.

13.  Watches of Switzerland

a British retailer of Swiss watches, with 16 stores in the United Kingdom.

14.  Biffa

a UK waste management company.

15.  Porvair

a specialist in industrial filtration and environmental technology.

16.  Cranswick

the leading UK supplier of fresh pork meat products.

17.  Judges Scientific

a specialist in the acquisition and development of a portfolio of scientific instrument businesses.

18.  XP Power

a provider of power solutions.

19.  MP Evans

a producer of sustainable Indonesian palm oil.

20.  Liontrust Asset Management

a specialist asset manager launched in 1995.

Holding	Sector	Value £'000	Market cap £m	% of portfolio 31 March 2022	% of portfolio 31 March 2021
Treatt	Chemicals	9,080	680	3.8	3.6
Marshalls	Construction and Materials	8,513	1,362	3.6	3.5
Big Yellow Group	Real Estate Investment Trusts	8,448	2,826	3.6	3.0
4imprint Group	Media	8,430	789	3.6	3.3
Clarkson	Industrial Transportation	8,325	1,128	3.5	2.1
Kainos Group	Software and Computer Services	7,938	1,640	3.4	3.7
discoverIE Group	Electronic and Electrical Equipment	7,880	752	3.3	3.8
Tracsis	Software and Computer Services	7,840	289	3.3	1.8
Hilton Food Group	Food Producers	7,440	1,103	3.1	2.5
Yougov	Media	7,193	1,523	3.0	2.8
Ergomed	Pharmaceuticals and Biotechnology	7,114	668	3.0	-
Ideagen	Software and Computer Services	6,923	626	2.9	3.1
Watches Of Switzerland Group	Personal Goods	6,840	2,731	2.9	-
Biffa	Waste and Disposal Services	6,400	979	2.7	1.5
Porvair	Industrial Engineering	6,300	291	2.7	2.1
Cranswick	Food Producers	6,167	1,869	2.6	1.0
Judges Scientific	Electronic and Electrical Equipment	6,120	430	2.6	2.2
XP Power	Electronic and Electrical Equipment	6,064	681	2.6	3.6
M. P. Evans Group	Food Producers	5,775	574	2.4	1.6
Liontrust Asset Management	Financial Services	5,733	827	2.4	3.2
Twenty Largest Holdings		144,523		61.0

FURTHER INFORMATION

Montanaro UK Smaller Companies Investment Trust PLC's annual report and accounts for the year ended 31 March 2022 (which includes the notice of meeting for the Company's AGM) is available at http://www.rns-pdf.londonstockexchange.com/rns/8872O_1-2022-6-14.pdf and will be available today on https://montanaro.co.uk/trust/montanaro-uk-smaller-companies-investment-trust/

It has also been submitted in full unedited text to the Financial Conduct Authority's National Storage Mechanism and is available for inspection at data.fca.org.uk/#/nsm/nationalstoragemechanism in accordance with DTR 6.3.5(1A) of the Financial Conduct Authority's Disclosure Guidance and Transparency Rules.

 

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