LIM Asia sets out its case against Atlantis Japan

 

LIM Asia Multi Strategy has published its reasons for requisitioning a meeting to restructure Atlantis Japan. We reproduce this in full below:

Proposal for the reconstruction and/or liquidation of Atlantis Japan Growth Fund Limited (“Atlantis Japan” or “the Fund”)

LIM Advisors has published a letter to shareholders of Atlantis Japan (“Shareholders”), detailing its concerns in relation to the Fund and the Atlantis Japan Board’s (the “Board”) lack of action to address those concerns.   The letter is in support of the special resolution to be proposed at an Extraordinary General Meeting of the Fund (the “EGM”) to reorganise Atlantis Japan so that Shareholders can exit at close to NAV with a possible roll-over opportunity into an open ended vehicle run on similar lines to a sister open ended fund.  The EGM will be held on 3rd May 2016 at Stephenson Harwood LLP, 1 Finsbury Circus, London EC2M 7SH.

LIM Advisors are concerned Shareholders in Atlantis Japan, and have been a supportive investor in the Fund for over five years.  LIM Advisors has published its letter in response to a letter to Shareholders from the Board dated 7 April 2016, which contains the notice of EGM (the “Circular”).   LIM Advisors believes the Board has omitted a lot of highly relevant details that LIM Advisors raised with the Board that LIM Advisors believes Shareholders should know before they decide how to vote.

In summary, LIM Advisors’ concerns are the following:

  • The Board has not tackled a number of key problems over the last few years concerning the investment advisory team, including: succession planning, an inadequate marketing profile and presence in the UK and weak Net Asset Value (“NAV”) performance of the Fund;
  • The performance of Atlantis Japan has been poor over the last 1, 3 and 5 years whereas a sister open ended fund Atlantis Japan Opportunities Fund (“AJOF”) has been a top performer;
  • Atlantis Japan has been an unviable size since April 2014 and the Board’s growth plans have not worked; and
  • The Fund’s discount controls have not worked and the Fund has consistently traded at an unacceptable discount to NAV.

LIM Advisors wrote to Noel Lamb, the Chairman of the Fund, raising these issues on 9 December 2015. Since then it has had two meetings and various correspondence with him and his advisers but unfortunately was dis-satisfied with the answers that it received and with the lack of action.

The Fund belongs to the Shareholders and they need to be fully informed before they vote at the EGM. LIM Advisors asks that Shareholders read its letter carefully to understand its concerns and recommends that Shareholders then vote FOR the resolution if they share its concerns. If Shareholders have already sent in a proxy vote for the EGM and change their mind after reading this letter, they are able to send in a revised proxy vote and LIM Advisors would urge them to do that.   

The solution is to reorganise Atlantis Japan so that Shareholders can exit at close to NAV perhaps in conjunction with a roll-over opportunity to move into an open ended vehicle run on similar lines to AJOF.  The resolution proposed by LIM Advisors would compel the Board to devise such proposals. This should create significantly better results for Shareholders than Atlantis Japan has delivered in recent years.”

They also included the full text of the letter to shareholders. we reproduce their arguments from this letter below:

18th April 2016

LIM Advisors is a Hong Kong based investment management company with approximately US$1.7bn of funds under management that are invested in Asian and Japanese bonds and equities including various closed end funds. Two of the investment funds that we manage own 14.90% in aggregate of the issued share capital of Atlantis Japan, having purchased these holdings in December 2010.

We have been a supportive investor in Atlantis Japan for over five years since we invested in December 2010. However, we have a number of problems with the Fund; including muddled strategy in terms of the Fund’s investment advisory team, its poor performance especially when compared to its sister fund, its unviable size and its failure to control the discount to NAV and these bring into question its future. We also do not believe that the Board has addressed these issues as proactively as it should have done. We wrote to Noel Lamb, the Chairman of the Fund, raising these issues on 9 December 2015. Since then we have had two meetings and various correspondence with him and his advisers but unfortunately we are dis-satisfied with the answers that we have received and with the lack of action. You need to know about these issues in more detail before you vote at the EGM as we do not believe that the Board’s recent announcements or the Circular address them satisfactorily. Looking at these issues in more detail:

  1. The Board has not tackled a number of key problems relating to the Fund’s investment advisory team. Specifically:

  • no proper succession planning;
  • they have an inadequate marketing profile and UK presence which has meant that they have trouble attracting interest in the Fund; and
  • the Net Asset Value (“NAV”) performance of the Fund has been weak in the last few years especially when compared to AJOF.

A sister open ended fund (“AJOF”) run by the Atlantis investment advisory team has also significantly outperformed the Fund. We are very concerned with the Board’s failure to address these issues over the last few years.

As the Board has helpfully highlighted in the Circular, Atlantis Japan has not been performing well for the last few years. Although it has performed similarly to the TOPIX index it has underperformed most of the other Investment Trusts in the Japanese Smaller Companies closed end fund sector. The Fund’s investment adviser in Tokyo has also run a far more successful open ended fund investing in the same sector as Atlantis Japan called Atlantis Japan Opportunities Fund. We have reproduced the Board’s performance table below and added the amount by which the Atlantis open ended fund and the other closed end Japan funds have outperformed Atlantis Japan. These figures show that Atlantis Japan has tracked the TOPIX index in Japan over 1 and 3 years but beaten it over 5 years and that the average performance of the Japanese Smaller Companies closed end funds has been better over the same 1, 3 and 5 years. However the open ended fund that Atlantis advises has consistently outperformed Atlantis Japan, TOPIX and the closed end funds by a substantial amount over the same period.

NAV total returns in GBP to 31 March 2016 (Source: Atlantis Japan’s Circular)

 

  1 year (%) 3 year (%) 5 year (%)
Atlantis Japan Opportunities Fund (“AJOF”) 25.4 77.9 169.9
Atlantis Japan Growth Fund (“AJG”) – YOUR FUND -2.0 23.8 74.6
Outperformance of AJG by AJOF 27.4 54.1 95.3
TOPIX index -1.7 22.1 41.5
AIC Japanese Smaller Companies sub-sector average 12.9 46.6 90.7
Outperformance of AJG by the average of the AIC Japanese Smaller Companies sub-sector 14.9 22.8 16.1

An investigation into Atlantis Japan’s performance seems to have only been launched by the Board after we had highlighted the figures to the Chairman in our letter to him of 9 December 2015. The Board’s initial formal response was to announce on 8 March 2016 that Ed Merner would stay as lead fund adviser of Atlantis Japan but that the top 10 stock selections from Ms Taeko Setaishi, the lead adviser of AJOF, would be held in the Fund too in order to give “… shareholders the best insights from the AIRC team”. We have the greatest respect for both of the Atlantis fund advisers but we did not like this compromise as it is not likely to deliver the best returns for Shareholders. We question whose interests were being served when the Board agreed to this weak compromise.

We also question why only the top 10 stocks of AJOF were to be included in this change when perhaps the entire portfolio construction and other stocks beyond the top 10 of AJOF may be the key to its significantly better performance. Alternatively, it may be that poor portfolio construction or the major holdings of Atlantis Japan explain its significant underperformance, and therefore there would need to be radical changes to its portfolio. So simply adding the top 10 stocks of AJOF to Atlantis Japan may not have addressed the real problem at all. In fact, if one simply adds the top 10 stocks of AJOF into Atlantis Japan’s portfolio in some simple mechanistic way, the combined portfolio might actually be the least optimal portfolio.

We are also of the view that the out-performance by AJOF which is an open ended fund shows that the Atlantis investment advisory team does not need a closed end structure to achieve excellent results. The Board has never been able to justify retaining the closed ended structure (particularly given the liquid nature of the underlying holdings) which has left all Shareholders with a persistent discount and poor illiquidity which would not be the case if the Fund were open ended. We have therefore suggested (as part of the proposal that we have asked the Board to put to Shareholders) that Atlantis Japan could be “open ended” and run on similar lines to AJOF. This should create significantly better results for Shareholders than Atlantis Japan has delivered in recent years.

The Board clearly did not like receiving the EGM requisition and on 7 April 2016 the Board changed its original proposal (which was less than 3 weeks old) by announcing that Ms Taeko Setaishi who has managed AJOF for many years will become lead fund adviser of Atlantis Japan on 1 May 2016. However, the Board did not explain in the Circular that they had only acted after one Shareholder had challenged them over the Fund’s performance nor why they opted for one compromise solution on 8 March 2016 but changed that considerably on 7 April 2016.

We believe that the Board should explain to Shareholders why it has not acted sooner in respect of the under-performance by Atlantis Japan over the last few years particularly as it has been getting steadily worse. Shareholders also have a right to know why they have been invested in a Fund that lost 2% of its NAV in the 12 months to 31 March 2016 whereas AJOF which is run by members of the same investment advisory team made a 25.4% return. Merely stating in the Circular that the lead fund adviser succession issue is settled is not enough, particularly as the Board is now incurring defence fees and expenses to pay a host of different advisers to frustrate proposals that they should have considered in any event. We expect more from the Board of any closed end fund as they are the guardians of shareholders’ interests. We intend to ask the Chairman about this at the EGM and we recommend that you attend the EGM if you want to know the answer too.

2. Another problem with Atlantis Japan is its inadequate size since April 2014 which has made it unattractive to new investors.

The change of lead fund adviser to Atlantis Japan does not address the other big problem of inadequate size that we raised in our letter to the Chairman. With a current market capitalisation of £54m the Fund is too small to attract new investors and as a result is destined to continue with poor liquidity in its shares, a discount around 10% and a high AIC ongoing charge ratio of 2.47% (the highest in the AIC Japanese Smaller Companies sub-sector).

The dramatic reduction in the size of the Fund is the result of the introduction of a redemption mechanism by the Board in late 2010. At the time, the Fund’s NAV was £160m but significant and ongoing redemptions meant that NAV had dropped to £50m by 30 April 2014. The Fund has struggled since then to stay viable and be attractive to new investors. Increasing restrictions have been placed by the Board on redemptions. In October 2014 the Board optimistically announced that it was seeking to double the size of the Fund over a five year period via a subscription rights programme. The first set of subscription rights matured in October 2015 with hardly any shares being issued and the second series is currently out of the money and it matures in October 2016. We are disappointed to see that the Board’s initiatives have not grown assets whereas the interests of all Shareholders have been harmed by a significant increase in the discount at which the shares trade to their NAV and a decrease in their liquidity on the secondary market.

We have discussed our concerns about this lack of success with the Chairman but the Board has told us that it plans to continue with it’s stated “growth strategy”. We do not support this growth strategy as we do not believe that it will achieve the growth in the Fund’s assets that is needed to bring in new investors. We therefore asked the Chairman to let us and any other Shareholders leave the Fund via a final or special redemption event, paying the original (not unreasonable) 2% redemption fee but he declined, stating that they could not afford to do that as this would then make the Fund even smaller and unviable.

We have a huge problem with this response and so should all Shareholders. We have been very supportive of the Fund for over 5 years but no longer wish to be invested in it due to its weak performance, unnecessary closed end structure and small unviable size. We do not, however, wish to sell our shares in the market at the current discount levels and we now wish to exit at a price close to NAV and ensure that the same opportunity is afforded to all Shareholders. We think that the Board should have asked all Shareholders what they think about the future of the Fund rather than making belated changes to the investment advisory team and process after being pressed by us but yet still failing to address the unviable size of the Fund.

 

We also have some other concerns about the operation of the Fund which are as follows:

Directors length of service on the Board

At the Fund’s AGM on 2 October 2015, several resolutions drew significant negative votes, including the re-election of Eric Boyle and Andrew Martin Smith as Directors. Only 53.9% voted FOR them. These votes did not come from us but we think that they were an expression of dis- satisfaction that these two out of five Directors had served on the Board for far more than nine years. Good Corporate Governance practice is to limit Director’s tenure to this period or reclassify them as non-independent and many Boards nowadays only have independent Directors, a position which we endorse. These recommendations are intended to stop otherwise independent Directors from becoming too close to the managers that they oversee. We think that this Board needs to be more independent. The two long serving Directors (Eric Boyle and Andrew Martin Smith) have now served for 15 and 13 years respectively. Andrew subsequently announced in December 2015, his intention to stand down from the Board at the next AGM in October 2016. A third Director, Takeshi Murakami also reaches his 9 year tenure in November 2016.

Similar negative votes related to Director’s tenure also occurred at the Fund’s 2012 AGM when, in addition to Eric and Andrew, the Chairman at the time also had been present on the Board for ten years.

We believe that closed end funds should comply with good corporate governance practices and that they should not have Directors who have served for more than nine years. It is our view that two of the Directors need to leave the Board immediately and a third by November 2016, and that the Board should appoint suitable replacements as soon as possible to bring the Board into line with good practice.

The Board’s Discount Controls

Although the Circular talks about the Fund’s “robust and effective discount control mechanism”, it only refers to the 10% discount threshold over a 90 day period beyond which the Fund would be obliged to propose a continuation vote.

The Board has conveniently forgotten to mention the share buyback programme which the Fund operated before the subscription right programme was introduced. However there have only been four instances of share buybacks since the subscription rights were approved, the last being in February 2015 even though the discount has widened since the subscription rights were introduced. We believe that the Board abandoned ongoing share buybacks in early 2015 without telling Shareholders as the Fund was too small to shrink any further. Share buybacks would have been in Shareholder’s interests as they would have sought to reduce the Fund’s discount.

The Board also states in the Circular that a commitment to enhanced marketing and investor communication will help to narrow the discount. We doubt whether this will be the case as Tiburon Partners LLP were appointed as investment adviser in London in February 2012 and Aravis Partners LLP were appointed as marketing agent in January 2015. Since these appointments were made the discount has widened and we do not have any confidence that this will now reverse.

We believe that share buybacks are in the interests of Shareholders as they help to contain or even reduce the discount and that they should have been undertaken.

Excessive Redemption charges

We object to the extraordinarily high redemption charges that Atlantis Japan now charges as a result of the Board’s announcement on 17 December 2014. Before the announced change, redemptions had borne a 2% redemption charge that was levied by the Fund. After the announcement, the redemption charge rose to 4% on each Shareholder’s basic entitlement under which they can redeem 5% of their holding and to a charge equalling the average 90 day discount on the shares (which is normally 8 to 10%) on any redemptions above that. Both redemption charges are now considerably more than the attributable costs to the Fund of any redemptions and the increases have never been justified by the Board.

The increases to the redemption charges were made by the Board just three months after it had issued a prospectus and gained voting support for their subscription rights programme at an Extraordinary General Meeting held on 22 October 2014. These redemption charge increases should have been communicated to Shareholders at the time of the Shareholder vote on the Subscription Rights as they would have significantly affected our willingness to support the Board’s proposals. Other Shareholders may feel poorly treated too. We do not believe that the level of the new redemption fees are justifiable or that they were fairly implemented and we perceive them to have been a factor in the increase in the discount at which the shares trade.

Conclusion

In conclusion, we are now proposing that Atlantis Japan should bring forward proposals (which may include a roll-over option into a new open ended fund) to provide Shareholders with an exit opportunity at or near NAV.

We believe that Atlantis Japan is now too small to attract significant investor interest and we do not see that situation changing. We therefore do not think that it is in Shareholders’ interests for this to continue. Many of the events and Board decisions in the last few years have not benefitted Shareholders and we do not think that the recent announcement of a change in the lead fund adviser will be sufficient to correct the effect of these decisions.

Our resolution proposes a reconstruction and/or liquidation of the Fund. Shareholders who wish to have their money managed by Ms Setaishi could, we suggest, be offered the opportunity to switch to a new or existing open ended fund without the discount and illiquidity which they currently suffer. As Ms Setaishi has demonstrated ample ability to create good returns within AJOF which is an open ended fund, we believe there will be no significant negative effects from such an open ending. Shareholders who wish to leave Atlantis Japan will be able to redeem their investment at an acceptable low cost at this point as the underlying investments are liquid rather than use the costly redemption route which is currently only available every six months. We recommend that you vote in favour of our resolution as we will be doing for our own client holdings. It is important that you vote because our resolution requires the support of 75% of those voting in order at the EGM in order for it to be passed.

If you would like to talk further about our concerns or our proposal please contact Nick Paris, Director, LIM Advisors (London) Limited by email using the address nick.paris@limadvisors.com or by telephone on 0207 031 8252. Alternatively you can contact us by calling Freephone number 0808 189 3179 (if you are calling from the UK) or 44 203 475 3418 (if you are calling from outside the UK). 

Yours sincerely, 

LIM Advisors Limited

Ruttonjee House, 11 Duddell Street, Central, Hong Kong

AJG : LIM Asia sets out its case against Atlantis Japan

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