The FT published an interesting article on Friday about recent events at Scottish Mortgage Investment Trust (SMT) under the headline “Inside the boardroom bust-up that shook Scottish Mortgage”. It provided some explanation of why director Amar Bhide has left and chairperson Fiona McBain is departing.
SMT has a great long-term track record which it has achieved by investing up to 30% of its assets in unlisted companies – typically high-tech “unicorns” that had good prospects of listing in the future. This all went wrong when the enthusiasm for technology companies collapsed and the share price of SMT has halved in the past 18 months (and the shares are currently on a 19% discount to Net Asset Value).
With a policy that limits the level of investment in unlisted companies, which cannot be easily sold, this has limited the company’s ability to manoeuvre and certainly inhibited new investments as the share prices of listed holdings fell.
This comes back to the old question of how much the board of an investment trust should interfere in the management of the portfolio. Should they let the managers get on with it, or should they review and possibly veto individual investments rather than just set general policy? If they don’t like what the manager is doing should they intervene?
Or should they wait long enough to see whether the manager’s decisions are clearly right or wrong? If obviously wrong they can be fired of course but often that is way too late.
I recall this was a common problem in the early days of Venture Capital Trusts. New and often inexperienced fund managers in the small cap sector took them on and boards of directors would be made up of those with general experience and willing to turn up once a month for little pay to oversee matters, but often with no background in small cap investment management. There were several disasters as a result.
Boards that reviewed new investments and intervened in the management when necessary, proved to be the best. This was not a case of second-guessing the management or looking continually over their shoulder. Simply a way of getting a kind of “peer-review” of the decisions being made.
In the case of SMT should the board have reviewed and revised the management’s predilection to invest in unlisted shares when it started to lose performance? There is not a simple answer to that question. It should certainly have merited a review but whether it makes sense to change the strategy really depends on how long technology stocks might be out of favour.
There is certainly grounds for criticism that the board lacked directors with hands-on investment management experience and with too many academic professors plus a chair who had been there too long. These things can be easily fixed.
As a holder in SMT, I think it wise however for them to stick with the strategy of holding a significant proportion of unlisted shares. Companies in the technology sector are often reluctant nowadays to go for a stock market listing so if you ignore unlisted companies you can miss out on high growth opportunities. But valuing unlisted companies can be tricky. There is a big temptation to over-value their growth prospects as happened in new VCTs twenty years ago.
The board of SMT should be reviewing carefully the decisions of the investment manager until the company has stabilised, and not be afraid to intervene when necessary.
Roger Lawson (Twitter: https://twitter.com/RogerWLawson )
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Mr Bhide had two criticisms. Firstly he said the there was insufficient resources devoted to understanding the unlisted companies. I would say he was plainly wrong about this. His second complaint has not been addressed anywhere that I have seen, namely that he disagreed with how they were appointing two new directors. This is worthy of further review. Was it about cognitive diversity, mindless diversity, the old boy/girl Scottish mafia?