Edinburgh Worldwide (EWI) has announced its annual results for the year to 31 October 2021, during which it provided NAV and share price total returns of 18.3% and 11.1% respectively, both significantly behind its comparative index, the S&P Global Small Cap Index, which provided a total return of 35.9% (all in sterling terms). However, EWI’s managers say that its approach requires patience, a long-term mindset and a recognition that progress in young companies rarely happens in a straight line. The solutions that EWI’s holdings are working towards are not designed to be transient or modestly incremental. Should they succeed, the managers say that the likelihood is that they will embed themselves as key drivers of their respective industries in the years that follow.
A number of the Company’s holdings contributed to the positive performance, notably: Tesla, an electric car, autonomous driving and solar energy company, Codexis, an industrial and pharmaceutical enzyme developer, Upwork, an online freelancing and recruitment services platform and unlisted PsiQuantum, a developer of commercial quantum computing. In addition, notable positive performances came from the formerly private company QuantumScape, a developer of solid state lithium metal batteries for electric cars, and Oxford Nanopore, a DNA sequencer, both of which listed during the year.
Increasing exposure to unquoteds
EWI’s portfolio has been managed with a focus on the opportunity set lower down the market capitalisation spectrum since the end of January 2014. The manager says that it is therefore pleasing to note the 280.7% growth in the NAV since then, which is significantly ahead of the 149.9% achieved by the comparative index. At the financial year end, EWI held twelve unlisted investments accounting for 10.8% of total assets (2020 – 5.8% of total assets in nine holdings). At this year’s AGM, shareholder authority is being sought to increase the permitted investment in unlisted investments from the current 15% to a proposed 25% of total assets, as measured at the time of initial investment.
Manager’s observations and Portfolio Update
“The past year has seen stock markets wrestle with a world trying to get back to normal and the oscillations from optimism to fear seem even more pronounced than usual. Second and third order effects related to the pandemic will likely persist but predicting these with conviction is difficult and can arguably be a distraction from our core task (although we are mindful of the opportunities they may create in markets prone to overreaction). In the near-term, we expect that supply-demand imbalances will persist, behaviours of consumers and businesses will be hard to predict and the overall level of uncertainty will remain elevated. Against such a backdrop we expect the narrative and typical time horizon in equity markets to remain skewed to a ‘here and now’ mindset.
“The second and third quarter reporting periods have been atypical in that companies were annualising the immediate impact of the pandemic. For some companies this presents as a recovery-type boost but for several of our companies, especially those that were natural beneficiaries of the pandemic (e.g. Telemedicine providers or ecommerce businesses) this period has been one where the comparator has been tough. As previously discussed, we are more intrigued by how the fortunes of such businesses have been transformed on a multi-year, perhaps even a multi-decade basis. Annualising an extreme base effect often excites stock markets but it tends to tell you very little of relevance to the real long-term progress of a business.
“For companies such as Teladoc, the stock market’s questioning relates to a modest near-term membership growth opportunity. Yet we think the evidence of the company going much deeper with existing members is much more reflective of the value being built. Likewise, with Ocado the shrinking basket size and limited near-term growth could be expected from a business that was running at well above optimal capacity a year ago. Much more relevant in our minds is the increasingly delighted noises emerging from its grocery partners as they go live with their Ocado-enabled facilities.
“A notable area of weakness in the portfolio has been our Chinese stocks. Referring to our holdings by geographic location always feels rather odd to us but is probably justified in this context, given the challenges that have emerged. We prefer to simplify the debate on China investing to two key axes. The first axis is a geopolitical one. The roots here extend well beyond the recent months but the ‘who lists where and why’ and ‘where do companies keep sensitive customer data’ arguments don’t feel like they will be resolved imminently. The second axis is arguably a bit easier for investors to have a considered view on, namely domestic Chinese companies where the accrued power and influence have begun to sit at odds with the more holistic, openly socialist approach of the governing party. Certain sectors have been singled out for intervention, most obviously those involved in aspects of lending, education and gaming. For some of our holdings such as Huya and Agora this has created headwinds, even if the impact on these businesses is much more indirect than direct.
“In actively looking for companies that are innovating and trying to move the world forward we believe we are concentrating on an opportunity set whose own actions will be the greatest determinant of their own success or failure. As observers along frontiers of innovation in a wide range of industries and applications, we continue to be excited by the opportunities that abound. Consequently, we feel that the current portfolio and investment approach is as relevant as it’s ever been. We think this is well illustrated by the eleven new purchases we reported on in the Interim Report to the end of April 2021 and is reinforced by the further five names (two listed businesses and three private) we purchased over the subsequent six months. We introduce these below:
“ITM Power is a UK company which designs and manufactures PEM electrolysers (proton exchange membrane). Electrolysers are devices that produce hydrogen gas using electricity and water as inputs (with oxygen gas as a side-product). The hydrogen gas can then be used as chemical feedstock or it can be consumed in a fuel cell to yield back energy and water. With the declining cost of renewable energy and mounting imperative across society and industry of net zero targets, we see the prospect of the much-heralded hydrogen economy being transformed over the coming decades. Green electrolyser-derived hydrogen is likely to be the most viable route for many heavy emitting industries to decarbonise. While batteries are a practical energy store in many applications, when the energy storage requirement is long term and the utilisation conditions are more demanding, the benefits of hydrogen come to the fore. ITM is among the major electrolyser producers that cater to this opportunity. It focuses uniquely on the more differentiated PEM type electrolysers and has the largest PEM manufacturing capacity.
“Shine Technologies (Illuminated Holdings) is a private nuclear technology company, with an initial focus on the production of medical radioisotopes for diagnostic and therapeutic procedures. The company’s approach offers several advantages here, being cleaner, safer and more affordable to operate than legacy infrastructure. It also addresses a growing gap between the supply and demand for these important products within healthcare systems around the world. Longer term, Shine has a path to leverage this technology and operating experience into larger and more transformational opportunities around nuclear waste recycling and the production of clean fusion energy.
“Snyk is a private IT security company focused on the growing opportunity in application development. It offers a toolkit for software developers that allows them to detect vulnerabilities and fix bugs themselves, embedding security functions at an early stage and significantly improving the pace at which the software can be signed off and released for use. We think such tools will become increasingly standard in the software application development cycle as Snyk has the synergistic advantage of appealing to both the developer community and those tasked to maintain the robustness of a company’s overall IT operations. As more code is tested against, and modified by, Snyk’s toolkit we think the company will be well positioned to create a valuable data advantage that will become increasingly hard for others to replicate.
“Angelalign is China’s leading domestic provider of invisible orthodontic products. The clear aligners market in China is relatively small but growing rapidly, underpinned by secular drivers like greater awareness of dental care and aesthetics associated with increasing disposable incomes. Angelalign effectively democratises access to such orthodontic treatments by empowering all dental professionals, not just the limited number of orthodontic specialists. We are encouraged by its success so far and with the founding management team still in place, we believe it can become the dominant player in this rapidly expanding market.
“Lightning Labs is a private San Francisco-based company which was founded to drive the adoption of, and to commercialise, the Bitcoin Lightning Network, an open source project which operates as a second layer built on top of Bitcoin. The Lightning Network substantially improves Bitcoin’s utility by enabling scalable, instantaneous and nearly free payments. The software designed and maintained by Lightning Labs is quickly gaining traction among developers seeking to build Lightning applications. It has the potential to establish itself as the go-to codebase not only for payment applications but for incipient higher-level protocols for programmatically routing any data/value over the Lightning Network. It does this instantly, privately and at exceptionally low cost. While early, we are intrigued by the potential for Lightning Labs to become a key infrastructure provider in the emerging Bitcoin ecosystem.
“We sold the position in Cloudera following a takeover offer from private equity. We also exited the holding in Yext. Our original investment hypothesis was that Yext was well-placed to carve out a highly differentiated position in the increasingly important area of corporate knowledge management. The product roadmap since has diverged from what we perceive to be Yext’s core skillset and competitive strength.”