The European Investment Trust, managed by Edinburgh Partners, has released its annual results for the year ended 30 September 2015. The board describe the period as a more challenging one for investing in European equities, during which, the NAV per share of the trust fell by 7.3% from 800.41p to 742.20p. After taking account of dividends paid in the year of 15.0p, the NAV total return was -5.5%. This compares with the total return of -1.8% from the FTSE All-World Europe ex UK Index, adjusted to sterling. The company cites much weaker markets in the final six months of its financial year, together with a currency headwind from a weaker euro. During the year, the Company’s share price decreased by 10.1% from 748.75p to 673.00p. The share price discount to NAV per share, which had been over 18% within the previous two years, rose in the year under review from 6.5% to 9.3%. The share price total return, taking account of the 15.0p dividend paid in the year, was -8.3%.
In terms of dividend, the Board is recommending a final dividend of 14.0p per share and a special dividend of 2.0p per share, a total of 16.0p per share. The proposed total dividend of 16.0p compares with the prior year total dividend of 15.0p. For the prior year, the final dividend was 14.0p and a special dividend of 1.0p was paid. The trust aims is to pay a final dividend which the board regard as likely to be sustainable and to distribute any further earnings by way of a special dividend.
In terms of portfolio activity, the most significant sector change, in the boards view, was in the consumer goods sector, where exposure was reduced from 15.9% to 6.6%. There was relatively little change in the country exposure of the portfolio. The most significant change was in Norway where, at the prior year-end, there was no exposure and there is now a 4.8% weighting, following the purchases of DNB and Petroleum Geo-Services. The Company remained almost fully invested throughout the year and cash and other net assets remained at low levels, marginally increasing from 0.9% to 1.3% of net assets during the year. There was a reduction in the number of investments held from 41 to 37.
In terms of outlook, the managers say that, in their view, in the current European stock market environment, a significant proportion of the market is trading at a valuation level which they feel is inconsistent with the profit growth these companies are able to sustain and they see this as an opportunity. The portfolio is being rotated towards companies where the managers feel expectations have become too depressed. They say this is usually due to a lack of visibility over the immediate future.
Heineken is a solid company in the manager’s view with a 60/40 sales exposure to developing/developed markets. The managers say that they think it can grow its sales at 4% per annum and that the company has been reporting the highest operating margins in its history. At the current PE ratio of 22x consensus earnings the managers think is too high and this is why they sold the shares earlier in the year. The disposals of BB Biotech, Danske Bank, GEA, Gerresheimer, Nutreco and Pirelli shared the same characteristics as the Heineken sale, namely a significant contribution to performance but the valuation had become too rich for the expected profit growth. As a consequence of these and other changes, health care sector exposure fell from 17.9% to 10.0% and consumer goods exposure from 15.9% to 6.6% during the year.
In October 2014, the company purchased the shares of Rocket Internet when it became a public company. The managers say that Rocket Internet gives the portfolio a diversified exposure to online consumer companies targeting the disruption of existing distribution channels. As many of its individual investments are at an early stage, they are still loss-making. This fact, combined with some poor communication and reporting to the stock market, contributed to a difficult year for the shares. However, the managers say that the constant throughout is that the underlying businesses grew considerably and thus became more valuable as the year progressed. By the year-end, the shares were sitting at over a 40% discount to what the managers consider to be a conservative asset value. They say they have bought shares throughout the year and consider that the market’s assessment of the Rocket’s value to be wrong.
A sector which has been out of favour but which the managers believe offers a very attractive risk/reward profile is oil and gas. The heart of the investment case in this sector is that a supply shortage of oil over the next few years looks to be possible. This could cause a sharp rise in the oil price and a rebound in the earnings of most companies operating in the sector. The reasons why they think this is probable include natural decline rates in oil wells, significant capital expenditure cuts, withdrawal of funding and the consequent reduction in productive capacity. Throughout the year the managers added to existing positions in the sector as well as buying two new oil-related positions, both in Norwegian companies. DNB is the largest bank in Norway and is a barometer of the health of the petro-dependent Norwegian economy. Petroleum Geo-Services provides marine seismic testing services for its clients. This is a cyclical service as customer spending depends on exploration activity. The managers say that, if the company can recover its margins back to normalised levels, it would be trading on a PE ratio of 4x potential recovered earnings. These positions will provide indirect and very direct exposure respectively to any recovery in the oil price and the Norwegian krone.
The managers say that they realised a significant loss on Volkswagen. The managers say that the implications for the company go far beyond unquantifiable litigation and regulatory fines in their view and that VW will have to increase its research and development spending, provide additional dealer support and augment capital in its financial services arm as well as face challenges with its diesel engine line-up and general brand perception. In the managers estimation, the combined effect of these issues will significantly lower the long-term profit potential of the group and this is why they sold the shares.
In terms of outlook, the managers say that, whilst there is still significant monetary stimulus in place around the world, as well as a significant debt overhang, they expect conditions to be favourable for growth and the eventual return of inflation. They believe that this should be positive for the performance of the portfolio, which has been positioned for the value opportunities currently available within European stock markets.
European Investment Trust has a difficult year : EUT