Final Results

RNS Number : 6996L

SchroderJapan Growth Fund PLC

05 October 2016

 

5 October 2016

ANNUAL REPORT AND ACCOUNTS

Schroder Japan Growth Fund plc (the "Company") hereby submits its annual financial report for the year ended 31 July 2016 as required by the UK Listing Authority's Disclosure Guidance and Transparency Rule 4.1. 

The Company's Annual Report and Accounts for the year ended 31 July 2016 are also being published in hard copy format and an electronic copy will shortly be available to download from the Company's website http://www.schroderjapangrowthfund.com.  Please click on the following link to view the document: http://www.rns-pdf.londonstockexchange.com/rns/6996L_-2016-10-4.pdf

The Company has submitted its Annual Report and Accounts to the National Storage Mechanism and it will shortly be available for inspection at www.hemscott.com/nsm.do.

Enquiries:

Ria Vavakis

Schroder Investment Management Limited               

Tel: [phone]

Chairman's Statement

Performance

During the year ended 31 July 2016, the NAV produced a total return in sterling of 8.2% against the benchmark's total return of 15.7%. The year was dominated by the various impacts of the variation in exchange rates between sterling and the yen, with the yen rising by 42% during the year. The Japanese market was weak, declining by 18.6% in local currency terms, and the strength of the yen helped mitigate the weak market for sterling investors. In addition, the Company under-performed its benchmark, reversing its out-performance in the previous year, largely due to the negative impact of its gearing in what proved to be a poor market environment.

Further comment on performance and investment policy may be found in the Manager's Review.

Revenue and Dividends

As well as the significant impact on revenue from the strength of the yen, we have continued to see increased dividends from investments over the year. This has contributed to an increase in revenue return per share by 45.1% over the year ended 31 July 2016. The Directors have declared a final dividend of 2.8p per share for the year, an increase of 40% over the 2.0p per share paid in respect of the previous year. In view of the substantial impact on earnings for the year from the strength of the yen, the Board has decided to retain approximately 10% of these earnings in its revenue reserve. This dividend will be paid on 7 November 2016 to shareholders on the Register on 14 October 2016, subject to approval by shareholders at the Annual General Meeting on 2 November 2016.

Gearing

During the year, the Company reviewed its gearing arrangements and has shifted the bulk of its borrowing to a fixed term loan, with an additional revolving credit facility. The Company has entered into a yen 6 billion three year term loan and decreased its revolving credit facility of yen 7 billion to yen 1 billion and extended it for a further twelve months. The gearing level started the year at 12.5% and ended it at 12.1% but this level fluctuated significantly during the year due to the volatile market conditions. The Company's gearing continues to operate within pre-agreed limits so that net effective gearing does not represent more than 25% of shareholders' funds.

Purchase of Shares for Cancellation

The Directors did not use the authority given to them to purchase shares for cancellation during the financial year ended 31 July 2016. Nevertheless, as the ability to buy back shares is one of a number of tools that may be used to enhance shareholder value and to reduce the discount volatility, the Board will be seeking to renew the share buy-back authority granted at the Company's Annual General Meeting in November 2016 to purchase up to 14.99% of the Company's issued share capital for cancellation.

Board Refreshment

The Board continues to consider its composition, balance and diversity and has a long term refreshment policy in place. Mr Alan Gibbs was appointed as a Director of the Company on 1 February 2016, and will be proposed for election at the forthcoming AGM. Mr Gibbs's biographical details may be found in the Directors' Report on page 18 of the 2016 Annual Report.

Outlook

The Manager's Review discusses the extent to which the market has been dominated by macro-economic factors, and the impact this has had on the portfolio's performance. The point I would make is not just that it has, historically, been unusual for the portfolio to underperform the benchmark for a prolonged period, but more pervasively that the market is usually not this pre-occupied with top-down factors for long. Market attention has been almost entirely on how 'defensive' a share has been, to the exclusion of almost any other measure of value. A stable yen; a calmer international environment; investors getting used to a world of negative interest rates - any of these might return the market to a more normal environment where attention is paid to individual companies' growth prospects and their share prices' valuation. That is a world that will provide plenty of stock-picking opportunities for the Company.

Annual General Meeting

The Annual General Meeting will be held at 2.30 p.m. on Wednesday, 2 November 2016, and I hope as many of you as possible will be able to come along to participate. The meeting, as in previous years, will include a presentation by the portfolio manager on the prospects for the Japanese market and the Company's investment strategy.

Jonathan Taylor

Chairman

4 October 2016

Manager's Review

Market Background

The Company's NAV total return for the year of 8.2% underperformed the benchmark total return of 15.7% (source: Morningstar/Thompson Reuters).

The market peaked in August 2015 shortly after the Company's year end. Whilst there were short term rallies this level was never revisited over the 12 months, and the decline in local currency was 18.6%. The yen was generally firm over the period, especially following the Brexit vote, with the result that in sterling terms the market actually rose 15.7%.

The declines experienced in local currency initially were due to factors not specific to Japan, such as China's currency devaluation or worries about slower global growth, to which the Japanese market seemed to react in exaggerated fashion. Midway through the year the Bank of Japan introduced negative interest rates. This surprised markets and somewhat counterintuitively led to a stronger yen and contributed to further selling pressure. The market has recovered off lows recorded in February and July but generally traded in a narrower range, amidst nervousness about future macro developments, especially the central bank.

Sector trends were generally dominated by macroeconomic events (the introduction of negative interest rates and Brexit) and consequently increased risk aversion. This was reflected in domestic, defensive and stable growth shares (e.g. in the food, pharmaceutical and telecom sectors) being relatively strong. At the other end of the scale financials, adversely affected by negative interest rates, were prominently weak, as were cyclical sectors. This trend reversed abruptly during the final month of the year, and has continued to do so in the early months of the current year.

Portfolio Performance

The extent to which the market became so dominated by global events surprised us, and with hindsight the portfolio had too much gearing - generally in the low teens - for this environment. This was the main reason behind the underperformance of the index. Some of the same factors which contributed to the market weakness also led to risk aversion within the market and a favouring of domestic/steady growth stocks. Whilst the company had exposure to some of these areas such as telecommunications and retail, this was insufficient in aggregate. This more than offset positive individual stock contributions from holdings such as Nintendo and Sakata Inx.

Activity

Given the strength in the more defensive areas of the market and often stretched valuations, we unsurprisingly found better opportunities in more cyclical companies or those sold off on short term news flow. One example is Hitachi Credit (a consumer finance company with a significant UK business), which reacted badly in the run-up to the EU referendum and even worse in the aftermath. Our analysis suggested that the impact was likely to be muted and we started a position given the depressed valuations. Another example is Screen Holdings (a semiconductor equipment manufacturer). We are not especially optimistic on the semiconductor capital spending cycle but in Screen our analysis identified company-specific changes in the shape of new management, which led to a re-rating of the shares.

Some of the sales were companies bid up as part of the market focus on defensive earnings streams, such as Shimamura, a retailer which we sold out of. At the end of the year there was a sharp run up in Nintendo shares following the successful launch of a new augmented reality game and we substantially reduced the position.

Outlook

Market sentiment is still cautious and this is reflected in continued net selling by non-Japanese investors. Caution is, amongst other things, being driven by a fairly lacklustre economic backdrop, lack of clarity surrounding Bank of Japan policy and hence the exchange rate and the fact that a disproportionately large part of domestic buying seems to be coming from "official sources" such as Bank of Japan buying of Exchange Traded Futures as part of its quantitative easing programme.

At the macroeconomic level we take some encouragement from the fact that economic policy is now less dependent on monetary policy alone and looks more balanced, with the fiscal side also contributing. At the company level valuations are attractive and there is tangible evidence of corporate governance reforms of the Abenomics era bearing fruit in the form of improved shareholder returns and the unwinding of cross shareholdings (listed companies owning shares in each other). It is true that the structural reform element of Abenomics remains elusive, at least in terms of key areas such as labour market reform and measures to mitigate the long term adverse demographic headwinds. Even here though, recent elections have strengthened the Prime Minister's hand further and he ought to be well-placed to be more proactive if he chooses. At any rate market scepticism is rife in regard to the reform agenda and it may not take much to provide a positive surprise.

Investment Policy

Some of the divergence of performance between defensives and cyclicals has started to unwind, but opportunities are still more likely to be found in the latter, due to relative valuations. Profits have suffered from the strength of the yen leading to downward revisions in 2016. If the yen stabilises at the current level these revisions may exert a less negative impact over the coming months and we would expect investment opportunities to emerge here.

Net gearing was 12.1% at the end of July 2016, slightly lower than the previous year end. We believe that the current consensus on the market is too cautious and that the market will move higher.

Schroder Investment Management Limited

4 October 2016

Securities shown are for illustrative purposes only and should not be viewed as a recommendation to buy or sell.

Principal risks and uncertainties

The Board is responsible for the Company's system of risk management and internal control and for reviewing its effectiveness. The Board has adopted a detailed matrix of principal risks affecting the Company's business as an investment trust and has established associated policies and processes designed to manage and, where possible, mitigate those risks, which are monitored by the Audit Committee on an ongoing basis. This system assists the Board in determining the nature and extent of the risks it is willing to take in achieving its strategic objectives. Both the principal risks and the monitoring system are also subject to robust review at least annually. The last review took place in September 2016.

Although the Board believes that it has a robust framework of internal control in place this can provide only reasonable, and not absolute, assurance against material financial misstatement or loss and is designed to manage, not eliminate, risk.

A summary of the principal risks and uncertainties faced by the Company which have remained unchanged throughout the year, and actions taken by the Board and, where appropriate, its Committees, to manage and mitigate these risks and uncertainties, is set out below.

Risk	Mitigation and management
Strategic risk
The Company's investment objectives may become out of line with the requirements of investors, resulting in a wide discount of the share price to underlying net asset value.	Appropriateness of the Company's investment remit periodically reviewed and success of the Company in meeting its stated objectives is monitored. Share price relative to net asset value monitored. Marketing and distribution activity is actively reviewed.
Investment management risk
The Manager's investment strategy, if inappropriate, may result in the Company underperforming the market and/or peer group companies, leading to the Company and its objectives becoming unattractive to investors.	Review of the Manager's compliance with the agreed investment restrictions, investment performance and risk against investment objectives and strategy; relative performance; the portfolio's risk profile; and appropriate strategies employed to mitigate any negative impact of substantial changes in markets. Annual review of the ongoing suitability of the Manager.
Financial and currency risk
The Company is exposed to the effect of market and currency fluctuations due to the nature of its business. A significant fall in Japanese equity markets could have an adverse impact on the market value of the Company's underlying investments and, as the Company invests predominantly in underlying assets which are denominated in yen, its exposure to changes in the exchange rate between sterling and yen has the potential to have a significant impact on returns.	Risk profile of the portfolio considered and appropriate strategies to mitigate any negative impact of substantial changes in markets discussed with the Manager. Board considers overall hedging policy on a regular basis.
The Company's cost base could become uncompetitive, particularly in light of open ended alternatives.	Ongoing competitiveness of all service provider fees subject to periodic benchmarking against competitors. Annual consideration of management fee levels.
Custody risk
Safe custody of the Company's assets may be compromised through control failures by the Depositary, including cyber hacking.	Depositary reports on safe custody of the Company's assets, including cash, and portfolio holdings are independently reconciled with the Manager's records. Review of audited internal controls reports covering custodial arrangements. Annual report from the Depositary on its activities, including matters arising from custody operations.
Gearing and leverage risk
The Company utilises credit facilities. These arrangements increase the funds available for investment through borrowing. While this has the potential to enhance investment returns in rising markets, in falling markets the impact could be detrimental to performance.	Gearing is monitored and strict restrictions on borrowings imposed: gearing continues to operate within pre-agreed limits so as not to exceed 25% of shareholders' funds. The Company reviewed its gearing arrangements during the year and, to take advantage of the current low interest rate environment, entered into a three year fixed term loan of yen 6 billion and reduced its revolving credit facility from yen 7 billion to yen 1 billion.
Accounting, legal and regulatory risk
In order to continue to qualify as an investment trust, the Company must comply with the requirements of Section 1158 of the Corporation Tax Act 2010. Breaches of the UK Listing Rules, the Companies Act or other regulations with which the Company is required to comply, could lead to a number of detrimental outcomes.	Confirmation of compliance with relevant laws and regulations by key service providers. Shareholder documents and announcements, including the Company's published Annual Report, are subject to stringent review processes. Procedures have been established to safeguard against disclosure of inside information.
Service provider risk
The Company has no employees and has delegated certain functions to a number of service providers, principally the Manager, Depositary and Registrar. Failure of controls and poor performance of any service provider could lead to disruption, reputational damage or loss.	Service providers appointed subject to due diligence processes and with clearly-documented contractual arrangements detailing service expectations. Regular reporting by key service providers and monitoring of the quality of services provided. Review of annual audited internal controls reports from key service providers, including confirmation of business continuity arrangements.

Risk assessment and internal controls

Risk assessment includes consideration of the scope and quality of the systems of internal control operating within key service providers, and ensures regular communication of the results of monitoring by such providers to the Audit Committee, including the incidence of significant control failings or weaknesses that have been identified at any time and the extent to which they have resulted in unforeseen outcomes or contingencies that may have a material impact on the Company's performance or condition. No significant control failings or weaknesses were identified from the Audit Committee's ongoing risk assessment which has been in place throughout the financial year and up to the date of this Report.

A full analysis of the financial risks facing the Company is set out in note 20 on pages 44 to 49 of the 2016 Annual Report.

Going concern

Having assessed the principal risks and the other matters discussed in connection with the viability statement, and the "Guidance on Risk Management, Internal Control and Related Financial and Business Reporting" published by the Financial Reporting Council in 2014, the Directors consider it appropriate to adopt the going concern basis in preparing the accounts.

Statement of Directors' Responsibilities

The Directors are responsible for preparing the Annual Report, Strategic Report, the Report of the Directors, the Corporate Governance Statement, the Remuneration 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 the Directors have prepared the financial statements in accordance with United Kingdom Generally Accepted Accounting Practice (United Kingdom Accounting Standards, comprising Financial Reporting Standard (FRS) 102 "The Financial Reporting Standard applicable in the UK and Republic of Ireland" and applicable law). Under company law the Directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Company and of the return 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 judgments and accounting estimates that are reasonable and prudent;

•        state whether applicable UK Accounting Standards, comprising FRS 102, have been followed, subject to any material departures disclosed and explained in the financial statements;

•        notify the Company's shareholders in writing about the use of disclosure exemptions in FRS 102, used in the preparation of financial statements; and

•        prepare the financial statements on a 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 and the Remuneration Report comply with the Companies Act 2006. They are also responsible for safeguarding the assets of the Company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities.

The Manager is responsible for the maintenance and integrity of the Company's website. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions.

Each of the Directors, whose names and functions are listed on pages 17 and 18 of the 2016 Annual Report, confirm that to the best of their knowledge:

•        the financial statements, which have been prepared in accordance with United Kingdom Generally Accepted Accounting Practice (United Kingdom Accounting Standards and applicable law), give a true and fair view of the assets, liabilities, financial position and net return of the Company;

•        the Strategic Report contained in the Report and Accounts includes a fair review of the development and performance of the business and the position of the Company, together with a description of the principal risks and uncertainties that it faces; and

•        the Annual Report and Accounts, taken as a whole, is fair, balanced and understandable and provides the information necessary for shareholders to assess the Company's position and performance, business model and strategy.

Income Statement

for the year ended 31 July 2016

		2016			2015
		Revenue	Capital	Total	Revenue	Capital	Total
		£'000	£'000	£'000	£'000	£'000	£'000
Gains on investments held at fair value through profit or loss		-	25,692	25,692	-	36,671	36,671
Net foreign currency (losses)/gains		-	(11,102)	(11,102)	-	2,829	2,829
Income from investments		5,588	-	5,588	4,139	-	4,139
Other interest receivable and similar income		1	-	1	-	-	-
Gross return		5,589	14,590	20,179	4,139	39,500	43,639
Investment management fee		(514)	(1,198)	(1,712)	(489)	(1,142)	(1,631)
Administrative expenses		(531)	-	(531)	(476)	-	(476)
Net return before finance costs and taxation		4,544	13,392	17,936	3,174	38,358	41,532
Finance costs		(87)	(203)	(290)	(67)	(155)	(222)
Net return on ordinary activities before taxation		4,457	13,189	17,646	3,107	38,203	41,310
Taxation on ordinary activities		(559)	-	(559)	(414)	-	(414)
Net return on ordinary activities after taxation		3,898	13,189	17,087	2,693	38,203	40,896
Return per share		3.12p	10.55p	13.67p	2.15p	30.56p	32.71p

The "Total" column of this statement is the profit and loss account of the Company. The "Revenue" and "Capital" columns represent supplementary information prepared under guidance issued by The Association of Investment Companies. The Company has no recognised gains and losses other than those included in the Income Statement and Statement of Changes in Equity.

All revenue and capital items in the above statement derive from continuing operations. No operations were acquired or discontinued in the year.

Statement of Changes in Equity

for the year ended 31 July 2016

	Called-up		Warrant	Share
	share	Share	exercise	purchase	Capital	Revenue
	capital	premium	reserve	reserve	reserves	reserve	Total
	£'000	£'000	£'000	£'000	£'000	£'000	£'000
At 31 July 2014	12,501	7	3	97,205	63,293	446	173,455
Net return on ordinary activities	-	-	-	-	38,203	2,693	40,896
Dividend paid in the year	-	-	-	-	(1,804)	(446)	(2,250)
At 31 July 2015	12,501	7	3	97,205	99,692	2,693	212,101
Net return on ordinary activities	-	-	-	-	13,189	3,898	17,087
Dividend paid in the year	-	-	-	-	-	(2,500)	(2,500)
At 31 July 2016	12,501	7	3	97,205	112,881	4,091	226,688

Statement of Financial Position

at 31 July 2016

		2016	2015
		£'000	£'000
Fixed assets
Investments held at fair value through profit or loss		254,114	238,825
Current assets
Debtors		1,077	463
Cash at bank and in hand		16,565	4,614
		17,642	5,077
Current liabilities
Creditors: amounts falling due within one year		(973)	(31,801)
Net current assets/(liabilities)		16,669	(26,724)
Total assets less current liabilities		270,783	212,101
Creditors: amounts falling due after more than one year		(44,095)	-
Net assets		226,688	212,101
Capital and reserves
Called-up share capital		12,501	12,501
Share premium		7	7
Warrant exercise reserve		3	3
Share purchase reserve		97,205	97,205
Capital reserves		112,881	99,692
Revenue reserve		4,091	2,693
Total equity shareholders' funds		226,688	212,101
Net asset value per share		181.34p	169.67p

Notes to the Accounts

1. Accounting Policies

The accounts are prepared in accordance with the Companies Act 2006. United Kingdom Generally Accepted Accounting Practice ("UK GAAP") and with the Statement of Recommended Practice "Financial Statements of Investment Trust Companies and Venture Capital Trusts" ("the SORP") issued by the Association of Investment Companies in November 2014 and which superseded the SORP issued in January 2009. All of the Company's operations are of a continuing nature.

2. Dividends

	2016	2015
Dividend paid and proposed	£'000	£'000
2015 final dividend of 2.00p paid out of revenue profits (2014: 1.80p paid partly out of capital and partly out of revenue1)	2,500	2,250
2016 final dividend proposed of 2.80p (2015: 2.00p) to be paid out of revenue profits	3,500	2,500

¹ The 2014 dividend paid amounted to £2,250,000 and of this amount, £1,804,000 was paid out of capital and the balance of £446,000 was paid out of revenue, as this was the total amount available on the revenue reserve brought forward at 1 August 2013.

The proposed dividend amounting to £3,500,000 (2015: £2,500,000) is the amount used for the basis of determining whether the Company has satisfied the distribution requirements of Section 1158 of the Corporation Tax Act 2010. The revenue available for distribution by way of dividend for the year is £3,898,000 (2015: £2,693,000).

3. Return per share

	2016	2015
	£'000	£'000
Revenue return	3,898	2,693
Capital return	13,189	38,203
Total return	17,087	40,896
Weighted average number of ordinary shares in issue during the year	125,008,200	125,008,200
Revenue return per share	3.12p	2.15p
Capital return per share	10.55p	30.56p
Total return per share	13.67p	32.71p

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

	2016	2015
	£'000	£'000
Bank loan	44,095	-

The bank loan is a yen 6.0 billion three year term loan with Scotiabank, expiring on 18 January 2019, and carrying a fixed interest rate of 0.82% per annum. The loan is unsecured but is subject to certain undertakings and restrictions, all of which have been complied with.

The Directors consider that the carrying amount of the bank loan approximates to its fair value.

5. Called-up share capital

	2016	2015
	£'000	£'000
Ordinary shares allotted, called-up and fully paid:
125,008,200 ordinary shares of 10p each	12,501	12,501

6. Net asset value per share

	2016	2015
Net assets attributable to shareholders (£'000)	226,688	212,101
Shares in issue at the year end	125,008,200	125,008,200
Net asset value per share	181.34p	169.67p

7. Disclosures regarding financial instruments measured at fair value

The Company's financial instruments within the scope of FRS 102 that are held at fair value comprise its investment portfolio. The Company currently holds no derivative financial instruments.

FRS 102 requires financial instruments to be categorised into a hierarchy consisting of the three levels below. Note that the criteria used to categorise investments include an amendment to paragraph 34.22 of FRS 102, issued by the Financial Reporting Council in March 2016, and which the Company has early adopted.

Level 1 - valued using unadjusted quoted prices in active markets for identical assets.

Level 2 - valued using observable inputs other than quoted prices included within Level 1.

Level 3 - valued using inputs that are unobservable.

Details of the valuation techniques used by the Company are given in note 1(b) on page 37 of the 2016 Annual Report.

At 31 July 2016, all investments in the Company's portfolio are categorised as Level 1 (2015: same).

8. Status of announcement

2015 Financial Information

The figures and financial information for 2015 are extracted from the published Annual Report and Accounts for the year ended 31 July 2015 and do not constitute the statutory accounts for that year. The 2015 Annual Report and Accounts have been delivered to the Registrar of Companies and included the Report of the Independent Auditors which was unqualified and did not contain a statement under either section 498(2) or section 498(3) of the Companies Act 2006.

2016 Financial Information

The figures and financial information for 2016 are extracted from the Annual Report and Accounts for the year ended 31 July 2016 and do not constitute the statutory accounts for the year. The 2016 Annual Report and Accounts include the Report of the Independent Auditors which is unqualified and does not contain a statement under either section 498(2) or section 498(3) of the Companies Act 2006. The 2016 Annual Report and Accounts will be delivered to the Registrar of Companies in due course.

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

 

END

 

 

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