As we discussed in Friday’s news show, it has been a good week for private equity investors. Hg Capital said it had sold its investment in supply chain management software company Achilles at a 20% premium to its last valuation, adding 0.9% to NAV. Apax Global Alpha announced an 89% uplift in the value of its largest investment, following the IPO of Thoughtworks, a global software development and digital transformation consulting company. Finally, Schroder UK Public Private highlighted the upcoming IPO of Oxford Nanopore, which could have a significant impact on the company if all goes to plan. Oxford Nanopore is 21.8% of its NAV and some reports say that the company could be revalued from around £2.5bn to closer to £4bn.
Conservative (small c) valuations
As I have pointed out on many occasions, private equity managers tend to adopt a conservative approach to valuing their investments. The result is that exits can and often do result in substantial valuation uplifts.
If we accept that the NAVs are understated, particularly in times of rising markets, it should follow that they should trade close to NAV or at premiums. However, for unfathomable reasons that is not the case.
Discounts wider than they look
This week we published a new note on Standard Life Private Equity. The trust has produced returns for shareholders that average 16.9% a year over the past five years. That compares favourably with the best of the global listed equity trusts. However, Standard Life Private Equity is trading on a discount of around 13% while most of those top-performing global trusts are trading on low single digit discounts or premiums.
That state of affairs is all the more unjustified when you consider that Standard Life Private Equity’s NAV does not reflect the gains in markets since 31 March 2021. It bases its NAV on valuations supplied by the underlying funds that it is invested in. At 31 August, 99.6% of those valuations were based on end March figures. Between those dates, the MSCI World Index rose by 12.7% in sterling terms and it may be that the trust’s portfolio did even better. The implication from this is that Standard Life Private Equity may be trading on a 24% discount.
However, we can couple this with the conservative valuation stance that I discussed above. Over the year to the end of September 2020, the average uplift on exit was 22.3%. In fact, the manager says that, since 2010 the average uplift has been consistently higher than 20%.
Factoring this in, the 24% discount may actually be closer to 40%.
Undervalued assets attract undesirables
Does this matter though? Well back in February 2014, in the early days of QuotedData, we reported that Sherborne Investors (Guernsey) B had taken a 10.2% stake in Electra. Ahead of the announcement, the trust was trading on an apparent mid-teens discount. Sherborne tried to change Electra’s board that autumn but failed, so it kept buying shares. In November 2015, another attempt succeeded, the manager was put on notice in May 2016 and later that year the trust started to die a death of a thousand cuts – adopting a policy of selling off its portfolio and returning cash to shareholders.
Electra’s returns since February 2014 have been spectacular and the new management company has often implied that this can be attributed to it. The reality is that the portfolio was established under the previous managers and the asset-stripping exercise undertaken by Sherborne just crystallised the considerable hidden value within it.
Electra’s story is almost over – as we reported in August. The sector will soon lose what was one of the best generators of long-term returns. The engine of that growth – the Electra management team – was lost to the sector in 2017. That should never happen again.