SQN Secured Income Fund – strategic review “paying dividends” – The annual report for SQN Secured Income Fund (SSIF) for the 12 months to 30 June 2018 has been released.
The NAV and share price of the company (on a total return per share basis) rose by +5.4% and fell by -0.5% respectively. The foreign exchange exposure on non-Sterling assets (24.62% of NAV) was fully hedged. The managers believe that shares traded at a discount to NAV during the reporting period mostly for reasons external to SQN and beyond their control. The alternative lending sector is very diverse and other funds have had mixed performances leading to a trend for widening discounts across the board. Companies that are highly geared are seen as risky by shareholders and SSIF has made a point of maintained its policy of operating without a banking loan facility. However, this may change, as the company’s loan book grows.
Progress since its strategic review
SQN began management of the portfolio on 1 April 2017, after a strategic review. The managers report good progress in restructuring the portfolio away from platform investments into their own directly originated loans, implementation of a cost saving programme and have been able to confirm that dividend cover will be achieved within the time frame outlined by them when they took over management of the fund. They have done this without gearing, whilst maintaining the risk management of legacy positions and their own underwriting standards for direct loans.
Over the course of the year, the following developments have occurred:
- A covered dividend of 7p per Ordinary Share per annum, to be achieved by July 2018, in line with Board and investment manager guidance
- Half of the portfolio has now been reinvested into direct loans originated by SQN using our rigorous underwriting process
- Reduced exposure to platform investments, originally 100% of the portfolio, with an expectation that this exposure will fall to circa 30% of the portfolio by calendar year end 2018.Robust risk management of impairment reporting from platforms
- Timely implementation of IFRS 9 methodology, with the lowest loss provisions in the peer group
- Cost review and roll out of budgetary savings for 2018/19
- Successful final transition from the company’s previous sub-advisor
- New hires to the team at SQN have included relationship and origination staff
- All cash as it becomes available is committed in a timely fashion and we continue to see a healthy pipeline of new opportunities.
Investment outlook from Dawn Kendall, managing director of SQN Asset Management Limited
“As was noted last year, borrowers in the SME sector continued to seek alternative lenders as high street banks have withdrawn from the market. Our preferred investment size is in the £1 million to £20 million range but as the Fund remains small, we are mainly placing transactions of between £1 million and £5 million into the portfolio. Our preferred maturity of between three and five years is also attractive to these companies as it gives them breathing space to grow and to focus on their core activities.
In July, the Bank of England raised the base rate, for the first time since the global financial crisis started but this had very little impact on our market and we expect to maintain rate discipline on new underwriting. As the Brexit negotiations unfold, we are careful to assess this risk for new loan business and we will avoid sectors with significant exposure to a UK recession and sharp FX movements. We have been encouraged by new business generated in Europe and will continue to consider management buyout and acquisition finance deals as they are presented to us. Demographic and valuation multiples are still very attractive for debt financing of these companies. In the US, we observe a similar opportunity as baby boomer owned companies transition to the next generation. However, our appetite for US deals is dampened given the costs associated with USD hedging, arising from the dollar’s continued strength versus our base currency of Sterling.
As the peer to peer platform market matures with many deals reaching their first refinancing period, we expect to observe continued write downs from less disciplined competition. Consolidation in the sector has already begun and we have already observed significant developments that confirm this, having been offered mature loan books at significant discount to par. By rapidly reducing our exposure to this part of the market, we expect our loss provisions to be lower for longer. This will ensure SQN maintains a high degree of integrity for our Shareholders and deliver on our commitment to a 7p income and 8% total return from September 2018 for the long term.
We are confident that our investment strategy remains valid and stand by our decision to implement this approach. We look forward to engaging with our investors over the coming months and an appreciation of our share price closer to net asset value, which would lay the basis for us to increase the capital base of the Fund.”
SSIF : SQN Secured Income Fund – strategic review “paying dividends”