Invesco Perpetual UK Smaller Companies (IPU) has announced its annual results for the year ended 31 January 2020. During the year, IPU provided nav and share price total returns of 30.4% and 35.2%, outperforming its Benchmark Index, the Numis Smaller Companies Index (excluding Investment Companies), which returned +13.7%.
To give some context, the year under review was a positive one for global stock markets, having been softer the previous year. During the year, central banks resumed monetary easing, there were moves towards a resolution to the US-China trade dispute and, in the UK, a decisive election result provided some much needed clarity and gave rise to the “Boris bounce” in markets. The manger says that, while activity data for the UK economy remained weak, there was a distinct pick-up in a number of forward-looking indicators at the end of the period. The manger says that, during the year, positive contributions came from the Media, Support Services and Technology sectors, while the portfolio’s exposure to the Consumer Goods sector negatively affected performance.
Dividend and dividend policy – in the light of covid-19
In 2015, IPU’s board committed to pay out all income earned within the portfolio and to enhance it annually through the use of a small amount of realised capital profits. This significantly increased the annual dividend level to an initial yield target of 4% (based on the then prevailing share price) and from 2016 onwards, in normal circumstances, the 4% target yield has been calculated on the year end share price. However, since mid-February 2020 and as a result of COVID-19, the outlook for many UK smaller companies has changed from paying out excess cash by way of dividends to conserving cash in order to survive. In light of this, and the significant fall in IPU’s NAV and share price since the year end, the is proposing a final dividend of 7.35p to bring the total dividend paid for the year to 18.6p, keeping it in line with the total dividend paid out for the previous year. This represents all of the available revenue earned by the Company’s portfolio over the year, together with 8.47p from realised capital profits. This amount is lower than had the total dividend been calculated using the target yield based on the 31 January 2020 share price, but the Board believes this is prudent in the current circumstances.
Looking forward to the financial year ending 31 January 2021, the board says that it believes that targeting a dividend yield of 4% of the year end share price is no longer appropriate in these circumstances, since it might require a material distribution out of capital. It is therefore removing the 4% target yield but IPU will continue its policy to distribute all available revenue generated by the portfolio, together with an amount from realised capital profits. It says that, in aggregate this will not be less than 2% of the Company’s 31 January 2021 share price with the aim that the Company returns to delivering a higher yield than its UK Smaller Company investment trust peers once the impact of COVID-19 has abated.
Best performing stocks
The manager says that, at the individual stock level, the best performers included:
- Future (+186%), a publishing business which owns titles such as Tech Radar and What Hi-Fi, and is transitioning from printing magazines to a predominantly online business model. Management have significantly increased margins by generating new revenue streams from their content via online advertising and e-commerce.
- CVS (+179%), the leading veterinary services business, bounced back strongly following a poor performance last year. New management brought a renewed focus on operational efficiency, which has led to a margin recovery. IPU’s manager believes that CVS could be a takeover target.
- Ultra Electronics (+74%) is a defence business with a focus on marine and electronic warfare. IPU’s manager says that the business has performed well under new management and looks well placed to benefit from an increase in defence spending.
- 4imprint (+70%) which sells promotional products in the US, saw a larger than expected uplift in trading from its decision to increase TV marketing spend to improve brand recognition. The company is now the market leader in the US but still has significant room to take market share.
Worst performing stocks
- IPU’s manager says that the most significant disappointment of which was Staffline (–90%). The blue-collar recruitment agency was the subject of a whistleblowing letter on the eve of publishing its annual report. The report was delayed, resulting in a suspension of trading in the stock. IPU’s manager says that, although the allegations made by the whistle blower proved false, the uncertainty was off-putting for potential customers and led to a significant loss of revenue and profitability. The company has been refinanced and can hopefully prosper from here, but it is not yet out of the woods. IPU has retained a small position in the stock.
- IPU also lost money on Ted Baker (–72%) following a difficult period of trading. The manager bought the stock because it has a strong brand and a loyal customer base. However, the difficult consumer environment and increasing trend to shop online did not favour the business. The position has been sold in its entirety.
Outlook
IPU’s manager says that the previously downbeat prospects for the global economy are currently being compounded by stringent actions put in place to limit the spread of the Coronavirus. While the health impact will hopefully be limited, the disruption caused to economic activity and therefore company profitability will be severe. He says that, while IPU always aim to be invested in businesses with strong balance sheets and sustainable business models, even these companies will have to take drastic action to ensure they emerge from this crisis intact.
However dire the current predicament, there are already investment opportunities emerging. Company valuations are approaching historic lows and the massive monetary easing currently underway will ultimately provide a strong impetus to the equity market. Weaker companies will fail, thereby providing some growth opportunities in time for stronger businesses. He intends to be ready to invest in companies such as these when the time is right.
The manager has spoken to many of the businesses within the portfolio and assessed their ability to withstand a sustained period of weak trading. The manager’s policy of avoiding companies with weak balance sheets and fragile business models means that in the vast majority of cases the companies IPU owns should be in a solid financial position when we finally exit lockdown, in the manager’s view. He says that, where such businesses become financially stretched or have an opportunity to invest for growth, he will consider supplying them with the capital they need.