Abrdn UK Smaller Companies Trust and Property Companies

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I took the time to read the Annual Report of Abrdn UK Smaller Companies Trust (AUSC) today. It makes for interesting reading for those of us who invest in small companies. The performance last year (to the end of June 2022) was dire. NAV Total Return down 27% and the share price even worse. This wiped out all the gains in the previous year.

This is the main explanation given by the Manager: “The period was a challenging one for performance for the Company, particularly during the second half of the financial year, with our style being out of favour in the market as “top down” global macro factors have taken the lead over “bottom up” stock picking. Smaller companies markets have been difficult, seeing dramatic falls during 2022 after having been relatively stable in the second half of 2021”.

Their best performing holdings were Telecom Plus (TEP), Safestore (SAFE) and Alpha Financial Markets (AFM) and I hold the first two directly also. But they have both fallen back sharply recently.

This is what they say about those two which is a good exposition of their merits:

· Telecom Plus 118bps* (shares +72%): supportive end market conditions given the exit of low-priced competitors from the industry, and the strong position the nPower contract has in Utility Warehouse’s pricing offering. Sales force fully engaged again post Covid-19. Strong cash generation and dividends. An investment case study for Telecom Plus is included on page 42.

· Safestore 90bps* (+12%): solid demand in the selfstorage industry with the constant of the 3Ds (divorce, death, dislocation). Rate increases and strong utilisation have ensured consistent earnings and dividend growth”.

One of the biggest fallers in the year was GB Group – down 52% which has been the subject of a takeover bid subsequent to the year end. They exited a number of holdings and it’s worth reading the Annual Report for details of the portfolio changes.

The company has no plans to change its investment style and processes and I agree with that although the company is surely going to come under pressure if underperformance continues (the discount to NAV is currently 15.6%).

Safestore is of course a property company although it does not just rent out space so should ideally be valued in a somewhat different way. But it has participated in the rout of property company prices which continued today. Safestore is also held in some property trusts which has compounded the problem.

There is an interesting article in this weeks Investor’s Chronicle headline “The Sorry State of the London Office Market”. It explains how landlords are concealing a surplus of space and declining rents by offering rent-free periods and other incentives. However average lease lengths have been falling and are now less than 7 years which is far cry from when I was looking for office space 20 years ago. The additional flexibility is surely to be welcomed.

This perceived poor market for offices in London seems to be affecting all property companies when they frequently have a very different customer bases. It’s a typical bear market in essence – the good is sold off with the bad.

But the market seems to be reaching a point in my view when it will be worth picking up the big fallers in property and small cap companies soon. Those sectors are irrationally out of favour. For example some small cap companies have a large proportion of US$ earnings so will benefit from the falling pound in due course.

A falling pound should stop the lunacy of importing apples from New Zealand which Sainsburys just delivered to our house in the peak of the English apple season. Making imports more expensive does have some benefits!

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Property Trusts and Supermarket Income REIT

Commercial property investment trusts should be a good defence in a market downturn – at least that is what the investment pundits have been saying. As the market heads south I have been selling overvalued tech stocks and retail stocks vulnerable to a recession and reduced consumer spending. Property trusts should be less volatile as although the property market has been changing in some regards, property companies have longer term leases with their customers in general. So long as I avoided the London office market and retail shopping centres I expected to be OK.

I have therefore been holding on to several property REITs but that has not proved to be a great success. For example generalist trust TR Property (TRY) is down 34% since last September. Even companies such as Segro (SGRO) and Urban Logistics (SHED) who have been doing well by providing warehouses for internet delivery operations have fallen back substantially. They also provide buffers to supply chain disruptions which have become a big problem of late. But in a bear market, which we are definitely in, everything is sold off regardless of sector or performance.

Supermarket Income REIT (SUPR) published their final results this morning for the year ending June. Like other property companies their shares have been falling – down about 15% from last summer and I am losing money on a fairly recent purchase.

But the results were positive – EPRA earnings per share up 5%, assets per share up and dividends up – yield now over 5% on the current share price. One particular point to note in the announcement was that 81% of leases are inflation linked. As people have to eat and supermarkets are both retail stores and internet delivery operations now, this company should be a good defence against a prospective recession.

There are some interesting comments from Justin King in the SUPR  announcement – for example in response to a question on what supermarkets should do: “… you need to remember that in a recession the first change the customer will make is a shift away from expensive calories and the most expensive are those consumed out of the home in restaurants and takeaways. Rarely will a customer’s total calorie consumption change through the economic cycle, instead what you observe is a shift in the discretionary additional spend of their calorie consumption from eating out, to eating in. In a recession, that favours the supermarket. So, the net impact of a customer shifting towards perhaps lower margin value range is often offset via an increase in overall volumes across all price ranges”.

It’s worth reading to get an impression of what supermarket retailers are thinking at present. 

SUPR is still expanding by buying more properties but they acknowledge that rising interest rates on debt are having a negative impact. They have hedged their debt at an effective fixed rate of 2.6%

It was noticeable that the shares perked up this morning along with a number of other property trusts I hold. Dividend yields have been rising as share prices have fallen. Perhaps they are coming back into favour?

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Queueing Solutions and Queen Elizabeth’s Lying in State

I won’t be joining the queue to see the Queen’s coffin because, unlike most English people it seems, I have no urge to join a queue if I see one, but always walk away from them.

But it is allegedly the longest queue in the world and can take 24 hours to reach the end. This is badly organised. A company called Accesso (ACSO) has a product called Lo-Queue that eliminates physical queues by providing a virtual queue. It advises you when you have reached the end of the line and should turn up to access the venue.

Queues can also be managed by rationing. One way is simply to charge a fee for access, with busy times requiring a higher fee. A charge in this case could have been used to support the Queen’s favourite charities or to support the enormous heating bills of Buckingham Palace. Business opportunities have been missed!

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Dunelm Results and Pay at Safestore

Dunelm (DNLM) published their preliminary results this morning (14/9/2022) – I no longer hold them. They were surprisingly good bearing in mind they are a homeware retailer – sales up 16% and EPS up 30%. Clearly the anticipated vulnerability to rising inflation and consumers being hit by a recession has not yet come to pass although forecasts for next year are lower.

They say trading in the first ten weeks of the year has remained robust and they remain on track to deliver FY23 results in line with expectations. With increased market share and a strong balance sheet they should survive any recession. A company to keep an eye on I suggest.

There was an interesting article in last week’s Investors Chronicle on directors pay at Safestore (SAFE) – a self-storage company. It was headlined “Safestore’s incredible largesse” and explained how the CEO received £17 million last year. That’s one of the largest pay-outs for UK listed companies and is way more than forecast in 2017 when some nil-cost share options were introduced.

I commented negatively on pay at this company after attending the AGM in 2019 – see https://roliscon.blog/2019/03/20/safestore-and-fundsmith-agms/ . Even institutional shareholders revolted at the pay scheme and changes were promised. I have been voting against their Remuneration Report ever since as I still hold the shares – they still got 27.8% against it in March this year.

The company has been producing good returns for shareholders as have other self-storage companies. It’s a growing market as houses get smaller, more people are renting flats and people accumulate junk they are unwilling to dispose of. One cannot complain about the management for exploiting this market well but the rewards are simply too generous.

I hate nil-cost share options and LTIPs that pay out multiples of salary and always vote against them. I wish more people would do so. 

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Adjustments, Adjustments and Adjustments at Abcam, Oil+Gas Companies and FCA Decision on Woodford/Link.

Abcam (ABC) published their interim results yesterday (on 12/9/2022). I have commented negatively on this company and its Chairman before despite still holding the shares.

The same game continues – revenue up but reported operating profit down and cash flow from operations down. But adjusted operating profit up. What are the adjustments? These include:

£2.6 million relating to the Oracle Cloud ERP project (H1 2021: £2.0m); £6.0 million from acquisition, integration, and reorganisation charges (H1 2021: £3.5m); £9.0 million relating to the amortisation of acquired intangibles (H1 2021: £4.0m); and £13.0 million in charges for share-based payments (H1 2021: £6.7m).

The ERP project costs continue and I very much doubt that they are getting a justifiable return on the investment in that project now or in the future. Together with the acquisition, integration and reorganisation charges it just looks like a whole ragbag of costs are being capitalised when they should not be.

The company also announced there would be a webinar for investors on the day and a recording of it available on their web site later. Neither was available on their web site on the day or at the time of writing this. More simple incompetence!

The share price of Abcam has been rising of late which just tells you that most investors are unable to look through the headline figures and the sophistry of the directors.

As a change from investing in technology companies such as Abcam who of late are massaging their accounts, and not paying dividends, my focus has turned to commodity businesses. I have even been buying oil/gas companies such as Shell, BP, Woodside Energy and Serica Energy plus several alternative energy companies. There is clearly going to be a shortage of energy worldwide for some time while institutional investors have been reducing their holdings in some oil/gas companies simply from concerns about the negative environmental impacts and long-term prospects as Governments aim to reduce carbon emissions. But in reality the progress on carbon reduction is slow and I feel oil/gas companies will be making good profits for a least a few more years. Energy has to come from somewhere and these companies should do well and can adapt to the new environment easily. In the meantime, they will be paying high dividends and/or doing large share buy-backs.

I am generally not a big holder of commodity businesses as their profits can be volatile and unpredictable as they depend on commodity prices. These can be moved by Government actions or political disruptions such as the war in Ukraine. Will the war end soon? I have no idea. But even if it does there is likely to be a new “cold war” if Putin or other hard line Russian leaders remain in charge. I never try to predict geopolitical changes but just follow the trends in the stock market.  

The partially good news for Woodford investors is that the FCA has formed a provisional view that Link Fund Solutions may be liable for £306 million in redress payments to investors for misconduct rather than losses caused by fluctuations in the market value or price of investments. In other words, it may be nowhere near covering investors losses in the Woodford Equity Income Fund. They have announced this simply because Link is currently subject to a takeover bid which they have approved subject to a condition to commit to make funds available to meet any shortfall in the amount available to cover any redress payments. I suspect this is going to make gaining a full recover for investors somewhat problematic.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Queen Elizabeth, Energy Caps, Verici DX, Equals and Paypoint

The sad death of Queen Elizabeth reminds me of my own mother’s death at the age of 100. They looked similar in later life. Both managed to die in their own home which is the best place from which to leave. Will Charles III make a good king? We will have to wait and see but his name is not propitious bearing in mind the track record of the previous two. As I am not a monarchist I will say no more.

It was interesting to see an open coal fire in use in the photographs of Liz Truss with the Queen. Balmoral does not have central heating apparently while Buckingham Palace does have a CHP plant. But the bill to run the later was about half a million pounds per annum before the projected price increases. So King Charles might welcome Truss’s announcement to cap the maximum price of gas and electricity.

This is a cap on prices, not on overall cost so people with big houses with large gas consumption will still pay more. But at least it will replace the OFGEM price cap which was an irrational policy that would not encourage people to reduce energy consumption. Fracking is also being permitted to boost local gas production.

Truss did not give in to calls for this largess to be funded through a windfall tax. She said this would undermine the national interest by discouraging the very investment we need to secure home-grown energy supplies. You can’t tax your way to growth she said. So it will be funded by more Government debt in essence.

Is this wise? I believe it is the lesser of evils as it will help to bring inflation under control which is essential to keep the economy healthy and avoid a severe recession. These decisions by Truss and her new cabinet are positive in my view and should help the stock market.

But she is still committed to net zero by 2050 which is simply an unrealistic and unachievable objective.

I attended a couple of interesting results webinars this week. The first was from Verici DX (VRCI) who provide pre and post diagnostic technology for kidney transplants to avoid rejection. This is a subject in which I have a strong interest as a transplant patient and I do hold the shares which were acquired free as a scrip dividend when they spun off from EKF. The company is making progress but revenue is some way off and profits impossible to forecast so I would not purchase the shares at this time.

I did attend a two-hour seminar at Guys Hospital recently for pre-transplant patients as I need another. It was apparent that transplant procedures have not changed much in the last 25 years. Back then there was hope of xeno-transplantation but that faded away. More recently a bioartificial kidney has been developed (see  https://pharm.ucsf.edu/kidney ) but that could be years away from clinical use.

The other webinar I attended was that of Equals Group (EQLS) which I have held in the past. Financial figures are improving and a focus on the SME sector has clearly helped. It’s a complex payment business though and the webinar only helped in some degree to understand it. It might be another UK technology business vulnerable to being acquired by a trade buyer who understands the technology and regulatory environment. The company has been tipped recently by Simon Thompson in Investors Chronicle.

One company I do hold which is also looking cheap in the payments world is Paypoint (PAY) – probably because it operates in the retail sector and has been around a long time. There is a good write-up on the company in the latest Techinvest newsletter. But like Equals it is a complex business providing a number of different services. Both Equals and Paypoint could do with better communications on their business activities.

All of Verici DX, Equals and Paypoint have one advantage – they are not affected by the price of energy except very indirectly!

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Comments on Possible Offer for GB Group

Announcements late yesterday and this morning indicate that GB Group (GBG) may receive a cash offer for the business from private equity firm GTCR. I have held these shares since 2011 – first purchased at 42p, closed last night at 522p. It’s one of my larger holdings and needless to say I have been very happy with my investment as it has been one of the few AIM companies that has shown consistent growth in revenue and profits.

The share price touched over 900p in 2020 when I realised some profits but I bought back some more recently at near 400p. The current share price seemed fair to me – Stockopedia reports a prospective p/e of 25 – so I am in no rush to sell unless a significant premium is paid. As it is this would be another of my bigger holdings after Ideagen and EMIS that I might lose so I would end up with a big capital gains tax bill which I can do without.

There is a shortage of quality small cap stocks in which to invest and with cash paying so little in interest I would prefer the company was not taken over at this time. Let us hope the directors of GB hold out for a good offer and reject one that does not recognise the growth prospects for the company.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Truss Victory – But Do We Trust Her to Deliver?

Liz Truss has won the election for Conservative Party Leader and therefore will be our next Prime Minister. She won by the expected large majority although she would not have been my personal choice. Lacks charisma. Her acceptance speech was a lacklustre bunch of pedantic soundbites.

She has promised to cut taxes and tackle the energy crisis. But how is she going to control energy prices? It’s easy to impose price controls or subsidise consumption but who is going to pay for it and where is the money coming from are the key questions. She has promised quick answers to those questions but do we trust her to deliver?

Having a surname that is a homophone of trust should have helped her political career but now she faces real problems in the UK economy and social unrest over the cost of living. This will not be helped by the latest news that Russia has turned off the Nord Stream gas pipeline and has no intention of reopening it while sanctions persist. This will drive gas prices even higher.

It was a good morning to release negative news. Abrdn UK Smaller Companies Growth Trust (AUSC) which I hold announced that long-serving manager Harry Nimmo is to retire at the end of the year. This has long been expected and after 19 years of service is probably overdue. There comes a time when even the most respected managers need to be refreshed.

It’s bad news for staff of the FRC after the FT reported that a decision has been made to locate the new ARGA body which will take over their role in Birmingham. Well at least they might find cheaper housing and shorter commutes so they might view it as a positive move.

The new ARGA body is sorely required as the FT reports yet another “brazen $400mn accounting fraud” in a Chinese biotech company (China Medical Technologies). KPMG is being sued in a Hong Kong court for $830 million. The report says that four audit firm failed to ask “obvious” questions that would have “easily” exposed the fraud. These included not questioning a large related-party transaction by the group in 2006, when it acquired a Chinese diagnostics business worth $155,000 for $176mn, according to the liquidator.

These kinds of events are way too common all over the world including the UK. Implementing ARGA is taking way too long but I suspect that it will not be one of Truss’s priorities.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Useless Financial Ombudsman and FCA plus Defective Insolvency Regime

The stock markets are in turmoil now everyone is back from their holidays and facing up to the realisation that with high inflation and looming recessions the stock market may not be the best place to be for investors. I have moved more into cash and more defensive shares but cash is not the place to be for very long when inflation is eroding its value by more than 10% per annum. Stocks are getting cheaper as the short-term speculators and inexperienced investors exit so there will soon be bargains to be had while there are still few good alternatives when banks are paying less interest than inflation and fixed interest bonds are collapsing in capital values as interest rates rise.

I have written before about how useless the Financial Ombudsman is after I complained about the time it took to complete a transfer of a SIPP from one platform to another – see https://roliscon.blog/2022/04/28/the-financial-ombudsman-is-useless/ . It took over 5 months and I complained to the Financial Ombudsman about the delays in May 2021. After lengthy correspondence and an initial offer from the sending platform which I rejected as derisory, they have accepted that there was an unnecessary delay of 9 days at one stage in the transfer process. The Ombudsman has now proposed compensation of £350 for the inconvenience caused and £139.75 for the loss of investment return. This I have reluctantly accepted although my complaint about the receiving platform is still outstanding.

It has therefore taken 15 months to resolve the complaint which I do not consider reasonable. But the key problem is the Financial Conduct Authority (FCA) not laying down strict rules about the time to complete transfers of investment holdings as they do for bank accounts. Both the FCA and Financial Ombudsman are toothless in essence and do not provide reasonable protection to investors.

ShareSoc has just issued its latest Informer Newsletter to members and it makes for a good read. One good article is on 4D Pharma (DDDD) which recently went into administration. This company claimed to be “a world leader in biotherapeutics” but it was a typical jam tomorrow story company. I never held the shares so I cannot judge whether the claimed prospects were realistic or imaginary but it does appear to have been very badly managed such that it ran out of cash. Unfortunately shareholders have no recourse against incompetent or inept directors.

But the key point to highlight is the typical wildly excessive costs of the administration which has run up costs of over £580,000 in just a few weeks. Shareholders should never expect any return from an administration and this case is no different. There may be some assets (mainly IP) in the business but after the administration costs and settling debts, there may be nothing left.

The insolvency regime needs major reform. At present the big beneficiary of administrations are insolvency practitioners who to a large extent can do what they want and charge what they want. The insolvency regime seems to have been designed for the benefit of the insolvency profession. I suggest the regulations in this area should be totally reformed and administrations should be a court supervised process as per Chapter 11 in the USA.

Another article in the ShareSoc Newsletter is on Blancco Technology Group (BLTG) in which I did hold a few shares for a while. There was a complaint to the FCA about the accounts of this company which were grossly misleading and the auditors (KPMG) have been fined £3,500 with costs of £2,743. A derisory and disgraceful outcome and another example of how weak the financial regulators are in the UK.

Ultimately the cases of 4D Pharma and Blancco reinforce the point that you should never invest in a company unless you have absolute confidence in the prudence and ability of the directors.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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BHP and Woodside Energy Announcements

There were announcements this morning (30/8/2022) from BHP Group (BHP) and Woodside Energy (WDS). Many BHP shareholders will also hold Woodside following the merger of the BHP oil/gas operations into Woodside. I continue to hold both having decided that now was not the time to exit a major gas producer. Institutional investors who wanted out of the sector due to their focus on ESG will surely have been regretting it.

Woodside announced half-year results and their Underlying Net Profit After Tax was up 414% on the prior half year. Obviously there was a positive impact from the merger but the major impact was from higher realised prices for their products which more than doubled to $96.4 per barrel of oil equivalent. If your home heating bills are going up, you can see why! Worldwide gas prices have risen mainly due to the reduction in supplies from Russia after the invasion of Ukraine.

Some 70% of Woodside’s portfolio is in gas production and they continue to invest in new gas developments. But they are also now investing in hydrogen production and carbon capture and storage. You can see a presentation from their CEO on the results here: https://webcast.openbriefing.com/8864/player/?player_id=48929

The announcement from BHP was about three requisitioned resolutions that will be put to the Annual General Meeting. All three are advisory resolutions related to ESG aspects. Resolution 1 simply allows shareholders to express an opinion which is probably harmless.

Resolutions 2 and 3 are more problematic. Resolution 2 requests that the company proactively advocate for Australian policy settings that are consistent with the Paris Agreement objective of limiting global warming to 1.5 degrees C. Resolution 3 ensures reporting against the objective of Resolution 2.

I shall be voting against the latter 2 resolutions because there may be no direct connection between the company’s operations and the Paris Agreement to limit carbon emissions. Australia can limit carbon emissions by law if it considers it necessary to do so and in any case a substantial proportion of Woodside’s operations are outside Australia.

Resolution 2 attempts to impose an obligation on the company to interfere in what are political matters in Australia and hence I consider it as unreasonable. It is also unreasonable because more gas production might offset the use of coal for power generation and hence be beneficial in reducing carbon emissions. In reality these resolutions might be impossible to implement in any sensible way.

In summary these resolutions seem to be more about posturing on environmental commitments than practical objectives that the company could implement. They are attempting to force the management to make decisions on what may be best for the business.  

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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