The £2.5bn global small and mid-cap specialist Smithson (LON: SSON) has just released its annual results for the year to the end of December. These show that the popular investment trust bounced back strongly after a difficult 2022, yet the Board has decided not to give shareholders the option of a continuation vote, despite being required to consider it.
In 2023 the fund achieved an impressive NAV total return of 13.3%, which was well ahead of the 9.1% recorded by its MSCI World SMID Cap index. This followed a loss of 31.7% the year before, when higher interest rates hit the valuations of the businesses that it invests in.
The manager believes that rising rates have been the “strongest negative force” against the relative performance of small and mid-cap equities. If he is right, the fact that the interest rate cycle is almost certainly at its peak should make this a good time to invest.
Strategy And Portfolio
Smithson provides exposure to a concentrated portfolio of 32 small and mid-cap companies with robust balance sheets and strong competitive positions that can sustainably generate high margins. It’s an approach that can be summarised as: buy good companies, don’t overpay and then do nothing.
At the end of January the holdings had a median market cap of £7.1bn and had typically been around for almost 60 years. The largest geographic exposure was the US at 43.7%, followed by the UK at 14.2%.
Since the launch in 2018 the main sector weighting had been Technology, but this changed last year when it was replaced by Industrials with an allocation of 35.5%, knocking tech into second place at 27.8%.
Buybacks But No Continuation Vote
The Board has said that they remain committed to buybacks, with the trust repurchasing £159m of its own shares in 2023 at an average discount of 10.8%. This was equivalent to 6.8% of the opening share capital.
However, they have decided not to offer a continuation vote, something they are obliged to consider if the discount is in excess of 10% in any given year. Although the figure is wider than they would like, they think it is a “market problem” rather than company specific and remain confident in the future prospects of the fund.
The broker Numis believes that it is best practice to put forward the resolution if the condition is triggered, as it can send a powerful message at a difficult time if shareholders give the fund a vote of confidence. Because of the decision not to do so, they think that it would be better to have an annual continuation vote with no discount trigger, which is quite common across the sector.
Outlook
Manager Simon Barnard spent 2023 taking advantage of low prices during weak market conditions to improve and diversify the portfolio, after which he said it was in “the best shape it has been since inception”. It makes you wonder why it took a period of poor performance to make him knuckle down and do what he is paid to do.
Despite the own goal by the Board not to call for the continuation vote, Numis continues to believe that Smithson offers a potentially attractive opportunity and have added it to their list of recommendations this year. They say that the manager was caught holding several stocks with high valuations, as well as others with small operational issues that should have acted as red flags, but they think that lessons have been learnt.
The broker says that the portfolio has sound fundamentals that put it in a strong position to outperform over the long run. They think that the shares offer value on a 12% discount, supported by buybacks, although they acknowledge that there might be some short-term volatility.
UPDATED: A continuation vote has been added to the AGM agenda. Read more here.