Epidemic Over? Unable to Trade and Chrysalis VCT Wind-Up

The news that the Pfizer vaccine for Covid-19 appears to work (at least 90% of the time) and has no negative side effects gave stock markets a good dose of euphoria yesterday. It suggests that we might be able to return to a normal life in future, but exactly when is far from clear. Actually producing and distributing the vaccine is going to be a mammoth task and it is very clear that it will only be given to certain people in the short term – the elderly and medically vulnerable. Some people might not accept the vaccine and transmission of the virus may still take place. It is clearly going to be many months before we can cease social distancing and wearing face masks – at least that is the situation if people follow sensible guidance which they may not. Some countries may not be able to afford to immunize everybody so how this good news translates into reality is not clear. In summary, the epidemic is not over.

But the good news did propel big changes in some stocks such as airlines, aerospace industry companies and the hospitality sector which have been severely damaged by the epidemic. Rolls-Royce (RR.) share price was up 44% yesterday for example, although I wouldn’t be buying it until it can show it can make a profit which it has not done for years. In the opposite direction went all the highly rated Covid-19 diagnostic stocks such as Novacyt (NCYT) which I hold. There have probably been way too extreme movements both up and down in the affected stocks as sentiment was only one way.

The big problem faced by many investors though was that platforms such as Hargreaves Lansdown and AJ Bell Youinvest actually ceased to function. It is reported that their customers were unable to log in and trade. But this is not a new problem. See this report in December 2019 when there was a previous bout of euphoria that affected the same two brokers: https://roliscon.blog/2019/12/16/euphoria-all-around-but-platforms-not-keeping-up/ .

They clearly did not learn their lesson and should have done better “load testing”. Perhaps the moral is don’t put all your eggs in one basket by relying on one broker (I use 5 different ones and spread my holdings over them).

For those with an interest in Venture Capital Trusts (VCTs) it has been pointed out to me that Chrysalis VCT (CYS) is putting proposals to wind up the company to its shareholders. I used to hold the company, but sold out in 2018 at prices ranging from 62p to 66p – the current share price is 35p. I had big concerns then about the shrinking size of the company (NAV now only £14.9 million) as cash was returned to investors. The other major concern was the holdings in the company, particularly that in media company Coolabi and the valuation thereof (last filed accounts were to March 2019 and showed a loss of over £7 million).

VCTs that shrink too much, even if they are good at returning cash to shareholders, can get themselves into an unviable position as costs of running the VCTs sooner or later get out of proportion. As the announcement by the company makes clear, in such a situation a VCT has the following options: a) merge with another VCT; b) change the manager and raise new funds; c) sell the company or its portfolio; or d) wind it up.

But raising new funds under the tougher VCT rules that now apply might not be easy, while mergers with another company might be difficult. Who would want to acquire a portfolio where 29% of the current valuation is that of Coolabi – even if you believe that valuation!

The directors give numerous reasons why a wind-up is the best option after they got themselves into this difficult situation. They correctly point out that some investors will be prejudiced by this move as some original investors will have claimed capital gains roll-over relief. They will get their tax liability rolled back in after the wind-up and the ultimate cash cost might be more than what they obtain from the wind-up. Ouch is the word for that. But the directors are going to ignore those investors on the basis that a wind-up “best serves shareholders as a whole”.

The other problem is that a wind-up of a company with holdings of private equity stakes takes a long time and there is no certainty that the value they are held at in the accounts can actually be obtained. Investors in Woodford funds will have become well aware of that issue! Who would actually want to buy Coolabi for example, or some of the other holdings?

Another VCT I held in the past that got into the situation of returning cash to shareholders while finding no good new investments and not raising funds was Rensburg AIM VCT. They managed to escape from it after a lot of pushing from me by merging with Unicorn AIM VCT. But I fear Chrysalis VCT have left it too late and hence the choice of the worst option.

But if I still held the shares, I might vote against the wind-up and encourage the directors to take another path. It is possible to run VCTs on a shoestring if a big focus on costs in taken. In addition, the directors say that they did have some discussions about fund raising, possible mergers or the acquisition of the company but have rejected those for various reasons. But I think they need to look again, after a more realistic view of the values of the existing portfolio holdings has been obtained.

One change that should certainly be made if the company chooses not to wind-up is a change in the directors and fund managers who allowed the company to get itself into this unenviable situation. Regrettably there often appears to be a tendency for directors and fund managers to want to keep their jobs and their salaries long past when tough decisions should have been made.

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

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Oxford Tech VCT3 and other VCTs, and the Coronavirus Bandwagon

One of my shareholdings, Oxford Technology VCT3 (OTT), fell 44% this morning. Am I concerned? No because I have only ever held 10 shares in the company. I cannot even recall why I bought the shares back in 2014 but it was probably to keep an eye on their interest in unlisted Ixaris Group Holdings Ltd. That company was a major part of their portfolio and was still 65% of the net assets at the 29 February. It is also held by other VCTs. To quote from the ITT annual report, issued today, “For OT3 the initial Covid-19 pain has been most strongly felt by Ixaris, a travel payments company as a result of knock on impacts from Thomas Cook’s failure and a decline in Asian travel. Subsequent to our year end the downward pressure has increased on Ixaris with major airline disruption”. It also discloses that Ixaris received an offer during the financial year which would have meant a major exit at an uplifted price, but it collapsed at the last minute.

As a former director of Ixaris, and a very minor shareholder still, I was aware of this bad news. It looks like they are almost back at square one. That is the nature of early stage venture capital. Two steps forward and one step back, or vice versa in this case. I always took a sceptical view of the value put on Ixaris by OTT and other VCTs as I always considered it a highly risky investment.

OTT also wrote down Orthogem as it was sold for a nominal amount. This is what they said about that: “Although Orthogem had made significant technical progress with the launch of its putty product and appointment of international distributors, it was unable to raise sufficient funding to be able to continue to trade.  The OT VCTs were willing to continue supporting the company, especially given we believed the company was very close to commercial success, but the VCT rules governing the age of companies and the use to which any new funds can be applied prevented us from doing so”. VCT rules are now preventing some follow-on investments.

OTT also has a holding in listed Scancell (SCLP) which OTT says has had a moderate uplift after announcing the start of its research programme to develop a Covid-19 vaccine. They also say this: “Scancell is our third largest holding and had a disappointing year of regulatory and clinical delays in its flagship melanoma trial and its share price fell over the course of the year. Its planned Phase 2 combination trial with their initial product SCIB1 ran into difficulties with the US Food and Drug Administration (FDA) due to the delayed approval by the FDA of the upgraded delivery device from 3rd party Ichor. In the event, the trials started in the UK later than expected. Subsequently the required US approvals were received but a year has been lost and results will now be correspondingly delayed. Post period end the UK trial went on hold as a result of Covid-19 risks. Nevertheless good data from these trials could represent a significant value inflection point for Scancell and are eagerly awaited”.

There were big hopes for Scancell a few years ago but that has long since evaporated and revenue has remained at zero. It’s a typical story of early stage drug development companies which I avoid for that reason.

The Net Asset Value of OTT fell by 33% from the previous year-end, and hence the share price drop on what is a very illiquid share, like most VCTs. Normally VCTs are immune to general stock market fluctuations but not in the current recession. Some of my VCT holdings have fallen sharply no doubt because of downward valuations of some of their unlisted holdings but also because of sharp falls in many AIM shares which are a significant proportion of some VCT portfolios. This has also been compounded by the halt to share buy-backs in some VCTs – the result is just a few shareholders selling causing a sharp fall in their share prices.

Are their opportunities in VCT shares appearing, or should I be selling also? Perhaps is the answer, but VCT shares I consider to be very long-term holdings with a lot of the value coming from their tax-free dividends. I only tend to sell when I have lost confidence in the board or the investment manager.

As with the mention above of Scancell, almost all biotechnology companies are now trying to get into the coronavirus space by developing interests in vaccines, antibody tests and diagnostic products. Such an entry does wonders for the share prices. This ranges from the very largest companies such as Astrazeneca and Glaxosmithkline who are both gearing up for vaccine production to the smallest start-ups. One example announced today is that of Renalytix AI (RENX) who announced a joint venture with the Mount Sinai school of medicine to produce Covid-19 antibody test kits. RENX are focused on renal diseases which is why I picked up this news as I have an interest in this area but I do not hold the shares – historically no revenue to date. But RENX will only have a minority interest in the joint venture. I would not get too excited about this, particularly as it is possible that the epidemic will die out and there are lots of people producing test kits. But the company may be of interest otherwise as it does seem to be making some progress in renal diagnostics. There are 40-45,000 premature deaths in the UK every year due to kidney disease so you can see that it is comparable to the coronavirus epidemic and with still no effective treatments.

The coronavirus epidemic is clearly creating a bandwagon for companies to jump on. That can be a minefield for investors. Or to put it another way, an enormous amount of venture capital is being put into research of treatments and diagnostic production. It may produce results sooner or later, but a lot of the investment might produce nothing.

Lastly, it’s worth covering the dire economic gloom. Unemployment has reached record levels and Rolls-Royce (RR.) are making 9,000 employees redundant as new aero engine demand will clearly be non-existent for some time – maybe years.

To quote from the FT: “Rishi Sunak [Chancellor] has warned that the economy may not immediately bounce back from the corona-virus crisis and could suffer permanent scarring, as jobless claims soared at a record rate to more than 2 million. The chancellor struck a sombre note on a day that saw the biggest month-on-month increase in out of work benefits claims since records began in 1971. A further 10 million are now precariously relying on the state to pay their wages. He said ‘We are likely to face a severe recession, the likes of which we haven’t seen, and, of course, that will have an impact on employment’”.

Some of my readers may be facing redundancy or soon will be. Clearly we are living in exceptional times, but on a personal note it’s worth mentioning that I have been out of a job more than once in my past career. Recessions tend to only last a short time so the answer short-term is simply to take any job going. Longer term the answer is to ensure you can never be fired in future is to set up your own business. CEOs rarely fires themselves, and there is the possibility that a new business might make you rich. So that is what I did a few years later.

I don’t come from a family of entrepreneurs but from people who worked in big businesses. But it is easier than ever to start-up from scratch and redundancy pay can give you the initial capital required. Recessions don’t make it harder to start a new business but easier in some ways. As companies lay off full-time staff that gives opportunities for others, and any service or product that saves a company money can be immediately attractive. So redundancy just needs to be faced up to with some energy and initiative.

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

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Long Serving Directors and Kings Arms Yard VCT

I have commented in the past on my objections to long-serving directors on public company boards. That included comments on the directors of Baronsmead Venture Trust (BVT) only a few weeks ago – see https://tinyurl.com/talr69o , particularly the Chairman Peter Lawrence.

The UK Corporate Governance Code contains specific provisions that indicate that directors who serve for more than 9 years cannot be considered independent. Therefore companies should provide good explanations as to why they wish to ignore this provision. This is not just an issue of “box ticking”. It is about ensuring that directors do not serve for too long and become stale. In the case of investment trusts, including VCTs, this also ensures that the directors do not become too close to the fund manager which long relationships can tend to encourage.

But now we have another VCT that wants to ignore this principle – namely the Kings Arms Yard VCT (KAY) who have their AGM on the 15th June. Robin Field, the Chairman, was appointed in January 2009 – over 11 years ago, and Thomas Chambers was appointed as a director in October 2011. There are only 2 other directors so there is no majority of “independent” directors.

This is what it says in the Annual Report about Mr Field’s position: “The Board does not have a policy of limiting the tenure of any Director as the Board does not consider that a Director’s length of service reduces their ability to act independently of the Manager. As such Robin Field, who has been Chairman of the Company for more than nine years, is still considered to be an independent Director”.

I do not consider this reasonable and therefore I will be voting against the re-election of Mr Field and Mr Chambers and I suggest other shareholders do the same.

You may consider this a trivial matter when the world is suffering from the coronavirus epidemic and the IMF is forecasting that the recession will be the worst global economic contraction since the depression of the 1930s. But good corporate governance is even more essential in bad times.

Attendance at the KAY AGM in person is being strongly discouraged but there is an easy way to submit your proxy votes electronically if you are on the share register. Just go to www.investorcentre.co.uk/eproxy to do so. All you need are the reference numbers from your paper AGM notice. Registrar Computershare therefore makes it very easy to vote unlike other registrars. You don’t need to register or give away your email address.

Note the history of Kings Arms Yard VCT is that it was previously called the Spark VCT and prior to that the Quester VCT. It had a quite appalling record prior to Robin Field taking over although it took him some time to change the fund manager. It has done better since but last year was not great – a total return of only 1.8%. Poor performance in VCTs seems to be becoming more common in reports by VCTs for last year. Baronsmead Venture Trust actually had a negative return last year (to end September).

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

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Equals Trading, Bango Results, Finablr Suspension, Baronsmead VCT and Closing the Stock Market

As share prices of almost every share on the market collapses, should all trading be suspended? The argument for this is that as the impact of the coronavirus on the economy is not certain, although it looks more dire every day, shares cannot be valued with any certainty. Indeed there seems to be no hiding place as there never is in a bear market – almost all share prices have fallen. The editor of the FT thinks the market should not be closed and I agree with her. Closing the market is very prejudicial to private shareholders, particularly those who absolutely need to move into cash even if it means some sell into an unrealistic market – but that is their choice. If the market closes you have no choice. If there was to be a closure, it should only be for a few days as at the start of World War II.

I have been trend following in the market as I have mentioned before but it has proved difficult to keep up in the last few days. At least brokers’ systems seem to be robust this time around.

The major sectors affected by the virus, or soon will be, are hospitality businesses, hotels, pubs, entertainment venues and airlines. One symptom is that I just cancelled our holiday in June as I am supposed to be hibernating for 12 weeks according to the Prime Minister and I doubt the epidemic will have passed by June. But you can see that there will be many staff lay-offs in such businesses and airlines are already asking to be bailed out by the Government because if airplanes don’t fly they cannot cover their aircraft lease costs.

Meanwhile the virus is causing businesses to get their staff to work from home, including one of my brokers. Payment company Equals Group (EQLS) issued a statement this morning giving their response to the virus and a trading update. They say they have 50% of their staff working remotely in shifts and can move to 100% when required. As regards trading, group revenues to the end of February were up 33% but there has been a marked slowdown in travel cash and retail card revenues in the last week due to the adverse impact on travel. But corporate revenues are still robust so far and account for the majority of revenues. Clearly the business will be impacted to some extent so they are cutting costs to conserve cash. The share price had anticipated this and had already fallen a long way in previous days and weeks – it fell again today.

Another company in the payments sector is Finablr (FIN) which announced yesterday that the shares were suspended. The company suggests that problems with liquidity are making it difficult to manage the business. They have also discovered some cheques dating back to before their IPO which have been used as security for the benefit of third parties – a small matter of $100 million is involved! The CEO has resigned and the board is looking for a new one. This company was founded by B.R.Shetty who also founded NMC Health and whose accounting and financing arrangements are also under scrutiny. It looks like Finablr is yet another financial disaster I have managed to avoid to look on the bright side. I would not bet on shareholders recovering anything. Temporary suspensions very frequently turn into permanent ones.

Another company that operates in the mobile commerce and payment sector is Bango (BGO) who issued their final results today. Group revenue was up 41% and they say “Adjusted EBITDA” for the year was a positive £0.45 million. However cash declined because of the large expenditure on intangible assets and there was still an overall financial loss. They expect the “payments business to continue to grow exponentially” and they forecast the coronavirus to have a positive impact on End User Spend as from experience they see consumer spending rise during “stay-at-home” periods such as Ramadan and Christmas. The share price rose slightly today by the time of writing this note, but investors are still unsure about the future of the company it seems. Investors are either taking their money off the table altogether or moving out of businesses likely to be impacted by self-isolation and quarantining and this is having a very wide impact.

My portfolio is now over 25% in cash which is very unusual but I am picking up the odd few shares in companies where the panic seems overdone – in none of the sectors likely to be affected that are mentioned above though.

One of the few companies I hold whose share price rose in the last 2 days has been Ocado (OCDO) as the popularity of on-line ordering and delivery rises. Getting delivery slots with them is now difficult for customers and other supermarkets are having similar problems and when you do get a delivery a lot of items are missing. There is clearly some panic buying going on for certain items which may subside if logistics turns out not to be a major problem after all. But surely all the workers who pack and delivery from supermarkets are going to be affected if the virus becomes rampant, even if they are in the younger and healthier group.

I mentioned some issues at the Baronsmead Venture Trust (BVT) AGM in a previous blog post (see https://roliscon.blog/2020/02/27/venture-capital-trusts-the-baronsmead-vct-agm-and-political-turmoil/). I wrote to the Chairman of the company, Peter Lawrence, after the meeting and have received a response. He confirms that the chart of returns in the last ten years in the Annual Report on page 3 was wrong. It showed a decline in NAV Total Return in 2018 when there was in fact an increase and the 2019 point was also wrong– a corrected graphic is below.

Baronsmead Venture Trust Corrected Chart 2020--03-17

It always surprises me that there are so many errors in Annual Reports that shareholders find easy to spot when the directors have not. This seems to be a particular problem in VCTs – perhaps too many jobs and not enough time allocated to each role with some VCT board directors considering their directorship a sinecure that requires little thought or effort. I suspect those are the problems. Perhaps they need reminding to read the Annual Report in detail before approving it!

Mr Lawrence rejected my complaint about the lack of time allocated to public questions at the AGM Meeting (only 15 minutes) and also rejected my complaint about the length of time he has been on the board which is contrary to the UK Corporate Governance Code. I will send him a stiff reply. To my mind this looks like one of those VCTs where a revolution is long overdue. It needs a fresh board and a good examination of the investment policy, the fund manager and the fees paid to the manager.

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

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Venture Capital Trusts, the Baronsmead VCT AGM and Political Turmoil

Yesterday (26/2/2020) I attended the Annual General Meeting of the Baronsmead Venture Trust (BVT) held at Saddlers Hall in the City of London. It was reasonably well attended. I will just report on the major issues:

The Net Asset Value Total Return for last year I calculate to be -2.7% which is certainly disappointing. Note that it is annoying that they do not provide this figure in the Annual Report which is a key measure of the performance of any VCT and which I track for all my VCT holdings. I tried to get in a question on this issue but the Chairman (Peter Lawrence) only allowed 15 minutes for questions which is totally inadequate so I will be writing to him on that subject.

The company does give a chart on page 3 of the Annual Report showing the NAV Total Return for the last ten years. There was also a fall in 2018 according to that chart although I am not sure it is correct as my records show a 6.9% Total Return. I will query that as well.

The main reason for the decline in the return was a disappointing result from the listed company holdings – mainly AIM shares. However it was noted that there was an upturn after the year end and it is now up 17.2%. Major AIM company losses last year were in Crawshaw and Paragon Entertainment – both written off completely now – and a bigger loss in Staffline which was one of their major holdings. However they did realise some profits on Ideagen and Bioventix which were still their largest AIM holdings even so at the year end.

There was criticism from two shareholders about the collapse in Staffline with one asking why they did not exit from Staffline and Netcall (another loser) instead of following them down, i.e. they should have invoked a “stop-loss”. The answer from Ken Wotton who manages the listed portfolio was that there were prospects of recovery and they had sold some Staffline in the past so were still making 4 times the original cost. Comment: Losing money on an AIM portfolio in 2019 is not a great result – certainly my similar portfolio was considerably up last year. They seem to be selling the winners while holding onto the losers – not a sound approach. However it would certainly have been difficult to sell their large holding in Staffline after the company reported accounting/legal problems. Selling such a stake in an AIM company when there are no buyers due to uncertainty about the financial impact is simply impossible at any reasonable price.

One shareholder did question the poor returns from AIM companies when they might have made more from private equity deals. The certainly seem to have ended up with a rag-bag of AIM holdings which could do with rationalising in my opinion. The fact that the new VCT rules will impose more investment in early stage companies may affect the portfolio balance over time anyway.

Robin Goodfellow, who is a director of another VCT, asked why they are holding 20% in cash, and paying a management fee on it. Effectively asking why shareholders should be paying a fee on cash when the manager is paid to invest the cash in businesses. The Chairman’s response was basically to say that this is the deal and he did not provide a reasoned response. This is a typical approach of the Chairman to awkward questions at this company and I voted against his reappointment for that and other reasons. The Chairman is adept at providing casual put-downs to serious questions from shareholders as I have seen often in the past.

Another reason to vote against him was the fact that he has been a director of this company and its predecessor before the merger since 1999 (i.e. twenty-one years). Other directors are also very long serving with no obvious move to replace them. This is contrary to the UK Corporate Governance Code unless explained and likewise for the AIC Corporate Governance Code which says “Where a director has served for more than nine years, the board should state its reasons for believing that the individual remains independent in the annual report”. There is no proper justification given in the Baronsmead Annual Report for this arrangement.

I have complained to the Chairman in the past about them ignoring the UK Corporate Governance Code in this regard so that’s another item to put in a letter to him.

All resolutions were passed on a show of hands.

ShareSoc VCT Meeting

In the afternoon I attended a meeting organised by ShareSoc for VCT investors – they have a special interest group on the subject. VCTs have generally provided attractive and reasonably stable returns (after tax) since they were introduced over twenty years ago and I hold a number of them. In the early days there were a number of very poorly performing and mismanaged funds and I was involved in several shareholder actions to reform them by changes of directors and/or changes of fund managers. Since them the situation has generally improved as the management companies became more experienced but there are still a few “dogs” that need action.

Current campaigns promoted by ShareSoc on the Ventus and Edge VCTs were covered with some success, although they are still “works in progress” to some extent. But they did obtain a change to a proposed performance fee at the Albion VCT.

However there are still too many VCTs where the directors are long serving and seem to have a close relationship with the manager. Baronsmead is one example. It is often questionable whether the directors are acting in the interests of shareholders or themselves. There are also problems with having fund managers on the boards of directors, with unwise performance incentive fees and several other issues. I suggested that ShareSoc should develop some guidelines on these matters and others and there are many other minor issues that crop up with VCTs.

There also needs to be an active group of people pursuing the improvements to VCTs. Cliff Weight of ShareSoc is looking for assistance on this matter and would welcome volunteers – see https://www.sharesoc.org/campaigns/vct-investors-group/ for more information on the ShareSoc VCT group.

Political Turmoil Ongoing

Apart from the disruption to markets caused by the Covid-19 virus which is clearly now having a significant impact on supply chains and consumption of alcohol as reported by Diageo, another issue that might create economic chaos is the decision by Prime Minister Boris Johnson to ditch the political declaration which the Government previously agreed as part of the EU Withdrawal Agreement, i.e. that part which was not legally binding.

The Government has today published a 36 page document that outlines its approach to negotiations on a future trade deal and its ongoing relationship with the EU – see https://tinyurl.com/tlhr3pk . It’s worth a read but there are clearly going to be major conflicts with the EU position on many issues and not just over fish! Needless to say perhaps, but the Brexit Party leaders are happy.

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

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Euphoria All Around, But Platforms Not Keeping Up

The Conservative General Election Victory has generated large movements in stock prices with utility companies and banks some of the major beneficiaries. National Grid (NG.) rose 4% on Friday as the threat of nationalisation disappeared and Telecom Plus (TEP), which I hold, rose 11%. I sold the former some time ago as the business seemed challenged on a number of fronts and regulation of utilities in general in the UK and hence their likely return on capital seemed to becoming tougher. My view has not changed so although foreign investors might be mightily relieved, I am not rushing into buying utility companies today.

The euphoria seems to have spread to a very broad range of stocks. Even those you would think would be negatively affected by the rise in the pound, which will depress the value of dollar earnings, have risen. This may be because US markets have risen on the prospect of a US/China trade deal which was announced on December 13th.  This might roll back some of the imposed and proposed tariffs on Chinese products to the USA, and cause cancellation of retaliatory Chinese tariffs, but the details are yet to be settled. This may not be a long-term solution though as it will likely still leave the USA with a very large trade deficit with China.

One noticeable aspect of the euphoria infecting markets on Friday morning was the inability of some investment platforms to keep up. According to a report on Citywire, two of the largest operators were affected with AJ Bell suffering intermittent problems due to a four-fold rise in volumes and Hargreaves Lansdown also experiencing problems. Some of the issues apparently related to electronic prices not being quoted by market makers which was reported as a problem by Interactive Investor. This meant that trades had to be put through manually via dealers who became overloaded.

It is very disappointing to see that yet again a moderate rise in volumes caused an effective market meltdown. The Financial Conduct Authority (FCA) should surely be looking into this as it is their responsibility to ensure the markets and operators therein have robust systems in place. If there is a real market crash, as has happened in the past, retail investors could be severely prejudiced if platforms fail or market makers fail to quote prices.

Eurphoria also seems to have become prevalent in the market for VCT shares in the last couple of years with figures from HMRC showing that the number of new VCT investors claiming income tax relief reached a ten-year high in 2017-18, up 24% over the previous year. The amount invested increased by 33% and in 2018-19 the amount invested increased again by 1.6% to £716 million. The pension changes such as the reduction in the lifetime allowance and new pension freedoms are attributed as the causes. High earners have been flocking to VCTs to mitigate their tax bills it appears.

But the investment rules for VCTs have got a lot tougher so whether they will continue to achieve the high returns seen in the past remains to be seen.

The recently published HMRC report on VCT activity is present here: https://tinyurl.com/vuro5p8

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

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Santa Rally and Maven VCT Merger

After a very strong upward run in my overall portfolio valuation over the last three weeks, it’s down by 1% today. Does that mean the traditional “santa rally” is over? I do get the impression that the rally happens earlier every year. Are folks wising up to the phenomenon or perhaps they are simply getting paid their Christmas bonuses earlier?

Certainly the racy technology stocks were particularly bouyant of late, leading me to sell a few shares in some of my holdings (“top slicing” to keep them not too large a proportion of my overall portfolio). But selling one’s winners is a very dangerous game to play.

Or perhaps the market has been depressed by other bad news such as the fact that your life expectancy has just been cut by up to 3 years by the Office of National Statistics (ONS). It seems their previous estimates that 34% of newborn boys would reach 100, and 40% of newborn girls would reach that age were wildly optimistic. Or was it some other bad news that caused markets to fall? Both the S&P500 and the FTSE-100 are both down 0.8% at the time of writing so my portfolio is just mirroring national trends it seems. Perhaps the US/China trade battle is hotting up? Sometimes stock markets are just volatile for no great reason other than investors following other investors.

I received notice of a proposed merger between Maven Income & Growth VCT 4 (MAV4) and Maven Income & Growth VCT 6 (MIG6) today. I hold the former but not the latter.

I am usually in favour of VCT mergers as combining them usually means the overhead costs can be reduced as a percentage of the asset value. Administration and management costs are often high in VCTs so combining portfolios can spread the fixed costs over a bigger portfolio and the costs of a merger can be recovered in a few years. The costs of this merger are high at approximately £408,000 but they expect to recover that in 32 months.

MIG6 was previously named Talisman VCT and so far as I recall had a pretty dismal track record. It was effectively bailed out by Maven when they took over management I believe. It’s difficult to see the performance of it since then because it is not a subscriber to the AIC service.

The document received says that “both companies have investments in predominantly the same unlisted private companies (with only 2 exceptions as at the date of this document)….”. But looking at the individual holdings in the two companies in their last annual reports gives me some doubts. They have different year end dates and there is clearly some overlap but they don’t appear to be identical.

I can see why the merger might be in the interests of Maven as the manager, and in the interests of investors in MIG6, but I see little benefit for MAV4 shareholders so I will probably vote against it. But if other investors have any views on this merger, please let me know.

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

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Mello Event, ProVen and ShareSoc Seminars and Lots More News

It’s been a busy last two days for me with several events attended. The first was on Tuesday when I attended the Mello London event in Chiswick. It was clearly a popular event with attendance up on the previous year. I spoke on Business Perspective Investing and my talk was well attended with an interesting discussion on Burford Capital which I used as an example of a company that fails a lot of my check list rules and hence I have never invested in it. But clearly there are still some fans and defenders of its accounting treatment. It’s always good to get some debate at such presentations.

On Wednesday morning I attended a ProVen VCT shareholder event which turned out to be more interesting than I expected. ProVen manages two VCTs (PVN and PGOO), both of which I hold. It was reported that a lot of investment is going into Adtech, Edtech, Fintech, Cybersecurity and Sustainability driven by large private equity funding. Public markets are declining in terms of the number of listed companies. The ProVen VCTs have achieved returns over 5 years similar to other generalist VCTs but returns have been falling of late. This was attributed to the high investment costs (i.e. deal valuations have been rising for early stage companies) in comparison with a few years back. Basically it was suggested that there is too much VC funding available. Some companies seem to be raising funds just to get them to the next funding round rather than to reach profitability. ProVen prefers to invest in companies focused on the latter. Even from my limited experience in looking at some business angel investment propositions recently, the valuations being suggested for very early stage businesses seem way too high.

This does not bode well for future returns in VCTs of course. In addition the problem is compounded by the new VCT rules which are much tougher such as the fact that they need to be 80% invested and only companies that are less than 7 years old qualify – although there are some exceptions for follow-on investment. Asset backed investments and MBOs are no longer permitted. The changes will mean that VCTs are investing in more risky, small and early stage businesses – often technology focused ones. I suspect this will lean to larger portfolios of many smaller holdings, with more follow-on funding of the successful ones. I am getting wary of putting more money into VCTs until we see how all this works out despite the generous tax reliefs but ProVen might be more experienced than others in the new scenario.

There were very interesting presentations from three of their investee companies – Fnatic (esports business), Picasso Labs (video/image campaign analysis) and Festicket (festival ticketing and business support). All very interesting businesses with CEOs who presented well, but as usual rather short of financial information.

There was also a session on the VCT tax rules for investors which are always worth getting a refresher on as they are so complex. One point that was mentioned which may catch some unawares is that normally when you die all capital gains or losses on VCTs are ignored as they are capital gains tax exempt, and any past income tax reliefs are retained (i.e. the five-year rule for retention does not apply). If you pass the VCT holdings onto your spouse they can continue to receive the dividends tax free but only up to £200,000 worth of VCT holdings transferred as they are considered to be new investments in the tax year of receipt. I hope that I have explained that correctly, but VCTs are certainly an area where expert tax advice is quite essential if you have substantial holdings in them.

One of the speakers at this event criticised Woodford for the naming of the Woodford Equity Income Fund in the same way I have done. It was a very unusual profile of holdings for an equity income fund. Stockopedia have recently published a good analysis of the past holdings in the fund. The latest news from the fund liquidator is that investors in the fund are likely to lose 32% of the remaining value, and it could be as high as 42% in the worst scenario. Investors should call for an inquiry into how this debacle was allowed to happen with recommendations to ensure it does not happen again to unsuspecting and unsophisticated investors.

Later on Wednesday I attended a ShareSoc company presentation seminar with four companies presenting which I will cover very briefly:

Caledonia Mining (CMCL) – profitable gold mining operations in Zimbabwe with expansion plans. Gold mining is always a risky business in my experience and political risks particularly re foreign exchange controls in Zimbabwe make an investment only for the brave in my view. Incidentally big mining company BHP (BHP) announced on Tuesday the appointment of a new CEO, Mike Henry. His pay package is disclosed in detail – it’s a base salary of US$1.7 million, a cash and deferred share bonus (CDP) of up to 120% of base and an LTIP of up to 200% of base, i.e. an overall maximum which I calculate to be over $7 million plus pension. It’s this kind of package that horrifies the low paid and causes many to vote for socialist political parties. I find it quite unjustifiable also, but as I now hold shares in BHP I will be able to give the company my views directly on such over-generous bonus schemes.

Ilika (IKA) – a company now focused on developing solid state batteries. Such batteries have better characteristics than the commonly used Lithium-Ion batteries in many products. Ilika are now developing larger capacity batteries but it may be 2025 before they are price competitive. I have seen this company present before. Interesting technology but whether and when they can get to volumes sufficient to generate profits is anybody’s guess.

Fusion Antibodies (FAB) – a developer of antibodies for large pharma companies and diagnostic applications. This is a rapidly growing sector of the biotechnology industry and for medical applications supplying many new diagnostic and treatment options. I already hold Abcam (ABC) and Bioventix (BVXP) and even got treated recently with a monoclonal antibody (Prolia from Amgen) for osteopenia. One injection that lasts for six months which apparently adjusts a critical protein – or in longer terms “an antibody directed against the receptor activator of the nuclear factor–kappa B ligand (RANKL), which is a key mediator of the resorptive phase of bone remodeling. It decreases bone resorption by inhibiting osteoclast activity”. I am sure readers will understand that! Yes a lot of the science in this area does go over my head.

As regards Fusion Antibodies I did not like their historic focus on project related income and I am not clear what their “USP” is.

As I said in my talk on Tuesday, Abcam has been one of my more successful investments returning a compound total return per annum of 31% Per Annum since 2006. It’s those high consistent returns over many years that generates the high total returns and makes them the ten-baggers, and more. But you did not need to understand the science of antibodies to see why it would be a good investment. But I would need a lot longer than the 30 minutes allowed for my presentation on Tuesday to explain the reasons for my original investment in Abcam and other successful companies. I think I could talk for a whole day on Business Perspective Investing.

Abcam actually held their AGM yesterday so I missed it. But an RNS announcement suggests that although all resolutions were passed, there were significant votes against the re-election of Chairman Peter Allen. Exactly how many I have been unable to find out as their investor relations phone number is not being answered so I have sent them an email. The company suggests the vote was because of concerns about Allen’s other board time commitments but they don’t plan to do anything about it. I also voted against him though for not knowing his responsibility to answer questions from shareholders (see previous blog reports).

The last company presenting at the ShareSoc event was Supermarket Income REIT (SUPR). This is a property investment trust that invests in long leases (average 18 years) and generates a dividend yield of 5% with some capital growth. Typically the leases have RPI linked rent reviews which is fine so long as the Government does not redefine what RPI means. They convinced me that the supermarket sector is not quite such bad news as most retail property businesses as there is still some growth in the sector. Although internet ordering and home delivery is becoming more popular, they are mainly being serviced from existing local sites and nobody is making money from such deliveries (£15 cost). The Ocado business model of using a few large automated sites was suggested to be not viable except in big cities. SUPR may merit a bit more research (I don’t currently hold it).

Other news in the last couple of days of interest was:

It was announced that a Chinese firm was buying British Steel which the Government has been propping up since it went into administration. There is a good editorial in the Financial Times today headlined under “the UK needs to decide if British Steel is strategic”. This news may enable the Government to save the embarrassment of killing off the business with the loss of 4,000 direct jobs and many others indirectly. But we have yet to see what “sweeteners” have been offered to the buyer and there may be “state-aid” issues to be faced. This business has been consistently unprofitable and this comment from the BBC was amusing: “Some industry watchers are suggesting that Scunthorpe, and British Steel’s plant in Hayange in France would allow Jingye to import raw steel from China, finish it into higher value products and stick a “Made in UK” or “Made in France” badge on it”. Is this business really strategic? It is suggested that the ability to make railway track for Network Rail is important but is that not a low-tech rather than high-tech product? I am never happy to see strategically challenged business bailed out when other countries are both better placed to provide the products cheaper and are willing to subsidise the companies doing so.

Another example of the too prevalent problem of defective accounts was reported in the FT today – this time in Halfords (HFD) which I will add to an ever longer list of accounts one cannot trust. The FT reported that the company “has adjusted its accounts to remove £11.7 million of inventory costs from its balance sheet” after a review of its half-year figures by new auditor BDO. KPMG were the previous auditor and it is suggested there has been a “misapplication” of accounting rules where operational costs such as warehousing were treated as inventory. In essence another quite basic mistake not picked up by auditors!

That pro-Brexit supporter Tim Martin, CEO of JD Wetherspoon (JDW) has been pontificating on the iniquities of the UK Corporate Governance Code (or “guaranteed eventual destruction” as he renames it) in the company’s latest Trading Statement as the AGM is coming up soon. For example he says “There can be little doubt that the current system has directly led to the failure or chronic underperformance of many businesses, including banks, supermarkets, and pubs” and “It has also led to the creation of long and almost unreadable annual reports, full of jargon, clichés and platitudes – which confuse more than they enlighten”. I agree with him on the latter point but not about the limit on the length of service of non-executive directors which he opposes. I have seen too many non-execs who have “gone native”, fail to challenge the executives and should have been pensioned off earlier (not that non-execs get paid pensions normally of course. But Tim’s diatribe is well worth reading as he does make some good points – see here: https://tinyurl.com/yz3mso9d .

He has also come under attack for allowing pro-Brexit material to be printed on beer mats in his pubs when the shareholders have not authorised political donations. But that seems to me a very minor issue when so many FTSE CEOs were publicly criticising Brexit, i.e. interfering in politics and using groundless scare stories such as supermarkets running out of fresh produce. I do not hold JDW but it should make for an interesting AGM. A report from anyone who attends it would be welcomed.

Another company I mentioned in my talk on Tuesday was Accesso (ACSO). The business was put up for sale, but offers seemed to be insufficient to get board and shareholder support. The latest news issued by the company says there are “refreshed indications of interest” so discussions are continuing. I still hold a few shares but I think I’ll just wait and see what the outcome is. Trading on news is a good idea in general but trading on the vagaries of guesses, rumours or speculative share price movements, and as to what might happen, is not wise in my view.

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

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What Were the Real Returns from VCTs over 24 Years?

I wrote a previous blog article on the merits of Venture Capital Trusts (VCTs) but I thought it worthwhile to actually do some analysis of the capital and dividend returns from some of my historic holdings of such companies. This is not at all easy because most VCTs have been through restructuring or mergers over the years and actually identifying all the dividends received was not easy because I only started using Sharescope after some years which automatically records the dividends and gives the overall returns. But Stockopedia does provide historic dividends for all prior years and all past capital events and dividends were taken into account.

Due to this complexity and effort involved I have only managed to analyse Northern Venture Trust (NVT) which I first purchased in 1995 and British Smaller Companies VCT (BSV) first purchased in 1997. Note that there were later additions of shares in those companies also.

But it is interesting to note that the overall returns, including dividends, on those companies were 3.6% per annum and 2.6% per annum. That’s ignoring the zero tax on the dividend income and the initial income tax relief (and capital gains roll-over relief originally available but no longer). More on this later.

How have these companies performed in capital terms? Both quite badly, managing to both generate a capital loss of 28% and 26% respectively over the years. You can see from these numbers that the capital is effectively turned into dividends and that without the tax reliefs they would not have been good investments, particularly after taking account of inflation over the many years they were held.

However the capital losses are effectively wiped out by the income tax reliefs available. Assuming that was 30% (it was both higher and lower historically), the per annum total return increases to 5.5% for NVT and 3.9% for BSV. Those returns were less than that achieved by investing in the FTSE-100. The compound annual return of the FTSE 100 over the last 25 years was 6.4% with dividends reinvested. Again most of those returns came from dividends rather than capital appreciation.

But the VCT returns (which are mainly obtained via dividends) ignore the fact that the dividends for those are tax free whereas those from the FTSE-100 would be taxed at high rates. Currently that is 32.5% for Higher Rate taxpayers but the rates have varied in the last 25 years so it’s difficult to work out the exact impact. But one can estimate that the benefit of the VCT dividends being tax free probably raises the total return to be similar if not greater than that from investing in the FTSE-100.

Note that I have ignored the capital gains roll-over relief on VCTs that was available on my early investments. It was only a roll-over relief so it can come back and hit you later anyway.

These calculations show how important the tax reliefs on VCTs are to investors. Without the up-front income tax relief and the dividend tax relief, they would not be good investments. That is particularly so bearing in mind the risks of VCT investment – although they have diversified portfolios of smaller companies, some have performed quite badly in the past. The VCTs mentioned happen to be two of the more successful ones. Future Chancellors please note.

VCTs have been very successful at stimulating investment in smaller companies which has contributed to the vibrancy of the UK company in recent years so any withdrawal of reliefs would be very negative.

VCTs are a tricky area for investors in that corporate governance is not always good and management costs are high, particularly due to excessive performance fees. I feel the managers often do better than the investors in such trusts. But VCTs, at least the better ones, do have a place in the portfolios of higher rate taxpayers.

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

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Are VCTs Worth the Risks, and 40-Year Mortgages?

The FT Money supplement on Saturday ran a big article on Venture Capital Trusts which was headlined “Are VCTs worth the risks for higher earners?”. As a long-standing investor in such companies, having first invested in some in 1995 soon after they were launched, it made for interesting reading.

It seems that wealthy investors are flocking to these funds due to the generous tax breaks and now there are few other good alternatives so the amount invested in them reached near record levels in the last tax year. The article suggests that performance can be volatile but that’s not my experience – at least in terms of share prices. I now hold over 15 different VCTs. Some have certainly performed better than others over the years and in the early years of VCTs there were some absolute stinkers as fund managers seemed to lack experience of investing in early stage companies and investors focused primarily on the tax reliefs that were even more generous than now.

But in recent years, a portfolio of VCT shares would likely be less volatile than a portfolio of FTSE shares. This is for two reasons. First the managers of these trusts try to smooth out the dividend returns which are a big component of the returns from these trusts and secondly the valuations of unquoted companies in which they mainly invest are driven by trade prices of companies rather than stock market hysteria. When stock markets plunge on depresssion, or spike upwards on euphoria, as seen recently in the impact of Brexit politics, VCT share prices can remain very stable.

VCTs do have major tax benefits. They offer 30% tax relief on the amount invested and all dividends are tax free. Capital returns are also tax free after 5 years but the chance of much capital growth is low. In reality capital is often turned into dividends as such trusts can pay out the profits on realisations while ignoring the losses. In effect capital invested (at a 30% tax discount in real terms) is recycled into tax-free dividends so investors need to reinvest the income generated regularly into new share offerings. VCTs therefore do regular new share issues to meet that demand and maintain or grow their assets under management.

It’s not difficult for an investor who puts the maximum £200,000 a year into a VCT portfolio to after a few years be generating a tax-free income of over £30,000 a year based on the current dividend yields. Grossed up at 40% for higher-rate taxpayers that’s equivalent to an income of £50,000 per annum. However as the FT article suggests it might be unwise to hold more than 10% of your overall investment portfolio in VCTs.

What have been the real returns from such trusts? The AIC gives figures for most VCTs and they give the overall share price total return from “Generalist” VCTs over the last ten years as 157%. For example a couple of such better trusts I invested in 24 years ago and still hold returned 207% and 201% over the last ten years. But those figures grossly under-estimate the real returns achieved by investors because they ignore the tax reliefs.

There are risks of investing in such trusts the biggest being the chance that any future Government would change the tax reliefs, perhaps even retrospectively affecting current holdings. But VCTs have been very successful in developing a vibrant small company investment scene. Growing small companies is the key to developing employment in the UK economy. The other big risk is that the recent change in VCT rules mean they might be investing in more-risky earlier-stage companies rather than “asset-backed” or “management buy-out” ones. How that pans out remains to be seen and many VCTs have said that dividend returns might be more volatile in future. But what I have seen so far gives me hope that past mistakes will not be repeated.

How do you pick the best VCTs in which to invest? Certainly look at their track record by using the AIC web site. Don’t invest in any newcomers until they have proven their investment experience over more than 5 years, i.e. they have been through more than one investment cycle – there are plenty of established VCTs so why bother with newbies?

Secondly look at their management and overhead costs which can be very high in VCTs. They usually have management performance fees that can be both very generous and impossible to comprehend due to complexity. Particularly avoid those that are based on dividend payouts as dividends can be paid out by VCTs even when there are losses being made on their investments. In other words, managers can be paid a performance fee even though they are reporting overall losses!

Thirdly beware of glowing prospectuses covering past performance written by VCT managers, particularly where the company has been subject to restructuring in the past or a limited time period is selected for the performance figures. Some VCTs seem able to raise more equity even though they have poor performance records simply because of recommendations by IFAs and other promoters. Inexperienced investors in this sector tend to look at the tax reliefs and the “name” on the fund rather than the important factors. Those who bought into the Woodford funds will know the latter syndrome well.

40-Year Mortgages

In the same edition of FT Money there was another interesting article on the growth of 40-year mortgages. Over 50% of mortgage product offerings now offer such terms. As house prices have risen, buyers have apparently looked to reduce their mortgage costs by repaying the capital over a longer period. When mortgage interest rates are so low the focus is more on the capital repayments it seems.

This might make sense if there was any certainty over the future value of property and interest rates over the next 40 years but another article in the FT on Saturday tells you that is a dangerous assumption. People are obviously expecting to repay these long-term mortgages by selling their house and downsizing when they retire. But house prices do not always go up. They can stagnate over very long periods or drop sharply in the short-term. Hence the FT showed how house prices in Dublin fell by nearly 50% from their peak in 2012.

I suggest 40-year mortgages are positively dangerous and should come with a “health” warning. This looks like another “mis-selling” scandal unregulated by the FCA which will come home to roost in the future. When you borrow money, you should pay it off as soon as possible. A house you buy to live in should be considered to be just that – an operating cost not an investment, and cutting your operating costs should always be a priority.

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

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