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Strong results from BlackRock Throgmorton during year which saw it bumped up to FTSE 250

Baillie Gifford UK Growth BGUK

Strong results from BlackRock Throgmorton during year which saw it bumped up to FTSE 250 – BlackRock Throgmorton (THRG) has published its annual results for the year to 30 November 2021. During the period, its NAV increased by 37% while its share price was up 38.8%. This compares with a 24.6% return from its benchmark index. The 12 month period also saw the trust promoted to the FTSE 250 and 13.9m new shares raising £125m were issued.

The revenue return per share for the year amounted to 12.15 pence per share, compared with 6.57 pence per share for the previous year. This represents an impressive increase of 84.9% and results from increases in both ordinary and special dividends. The board has declared a proposed final dividend of 8.00 pence per share for the year ended 30 November 2021. This, together with the interim dividend of 2.50 pence per share paid on 27 August 2021, would give a total dividend for the year of 10.50 pence per share, increasing the total dividend distributed to shareholders in the prior financial year. This dividend will be paid on 31 March 2022, subject to shareholder approval.

Extract from the investment manager’s report

PERFORMANCE REVIEW
The Company has had another strong year and successfully navigated the challenging environment returning a total return of 37.0%. This is a significant outperformance of its Benchmark Index of +12.5% net of fees. While performance has predominantly been driven by the long book, it has been pleasing to see a positive contribution from the short book which is especially hard to achieve in a strongly positive market. We believe this result once again reflects the power of stock specifics in generating outperformance for our clients and ultimately stems from a rigorous investment approach based on core beliefs, and an approach which remains consistent over time despite swings in newsflow and short-term sentiment.

Once again the largest contributors to performance came from a broad range of companies across different industries, many of which have delivered for this Company for several years but still outperform against their financial objectives and in many cases upgrade their future year guidance for profits.

Watches of Switzerland was the top contributor during the year. This is a retailer that has provided multiple strong updates with upgrades to forward guidance as it continues to benefit from the secular demand for luxury watches in a supply-constrained industry. They have been able to achieve record sales and profits despite most of their stores being closed through their financial year. This was achieved in part due to the strength of the category, but also due to this management team who have successfully navigated a difficult retailing environment by enhancing its business model through digital “clientelling” – using software to enhance long-term relationships with their clients. We firmly believe Watches of Switzerland has emerged from COVID-19 with a significantly enhanced market position and strengthened its relationship with the luxury brands, which leaves the company well placed to pursue its international expansion ambitions.

Impax Asset Management continued to deliver impressive growth in assets under management and this growth looks well set to continue given the strength of its franchise, market leading investment performance and the structural growth/interest in sustainability which underpins the company’s investment philosophy. Electrocomponents has delivered strong results through the year, achieving double digit organic revenue growth from a combination of market share gains and end market recovery. Importantly, we believe Electrocomponents is another company that has strengthened its market position during COVID-19 and is well placed to accelerate market share gains in the coming years. Other notable contributors during the period included Tatton Asset Management, YouGov, Auction Technology Group, and IMIMobile, a leading player in communications software, which soared after the company agreed to a takeover approach from US listed IT giant Cisco Systems.

It is worth noting that despite running with far fewer shorts than we would under more normal market conditions, the short book continued to deliver stock specific alpha, particularly towards the end of the year. This is demonstrated by our short position in a UK listed CFD trading business which contributed positively when the shares fell after the company issued a profit warning driven by lower activity levels as customer trading behaviour normalises post the pandemic.

Detractors during the year have thankfully been limited and in many cases just reflect some mean reversion in share price performance after a particularly strong 2020, for instance Games Workshop. It is worth noting that we experienced two stock-specific disappointments during the year, namely US listed Chegg and the UK listed engineering business Avon Protection (formerly Avon Rubber). Chegg fell sharply after announcing that the current year sign-ups to its educational service had deteriorated and therefore profits would be considerably lower due to the operational gearing of the company. Many reasons for this sudden deterioration in trading have been provided, from lower than anticipated US college enrolments to changes in mix. This negative development certainly caught us (and management) off guard, and the position is currently under review as we assess whether this problem is transitory in nature. We discussed Avon Protection at length in the half-year report. The shares initially fell on the news that one of their products needed to be re-certified and then disappointed further when the company warned that a short-term slowdown in defence spending would impact sales. While disappointing, we initially continued to believe in the long-term attractions of the business, as there was no change in Avon’s competitive position and pricing power. We maintained the position; even though as an operationally geared business the impact on the shares was particularly negative. We changed our view in the final month of the year when the company announced that it was initiating a strategic review of its body armour business after the US Army contract was delayed again, following a failure in the testing process. At this point we became concerned that the long-term thesis for owning the shares had changed and as a result the position has been exited completely.

PORTFOLIO POSITIONING AND OUTLOOK
Whilst market volatility has increased recently due to rising COVID-19 infections and specific supply chain and cost challenges that have affected some companies, our overall view remains positive for the outlook of the portfolio. It is our belief that many of our investments can thrive despite these issues, as the last two years have proved. Ultimately, this relates to the strong underlying demand for the products and services that our portfolio companies produce and the pricing power they command. It also reflects strong financial structures and years of investment in their products, plants, and people, which have strengthened their core proposition and enhanced their market position.

We have long argued that stock and industry specific outcomes are the most important driver of returns for our investment philosophy and this Company, and we can think of no better evidence to support this than the achieved outperformance in 2020 and 2021. In summary, the current market dynamics are not something to be fearful of and should be viewed as an opportunity for this Company and its stated investment strategy in seeking out the differentiated from the average in the pack.

The net market exposure of the portfolio at around 118% remains comfortably above the long-term average but has come down a few percentage points in recent weeks as the Company enters more short positions. Despite our small positive gain in the short book in 2021, it has generally been an unrewarding experience for much of the last year as markets recovered and investors were more willing to look through disappointments. However, the rising tide of the stock market has lifted the valuations of many companies with unattractive business models that continue to face long-term structural pressures, and where more recently the twin headwinds of cost inflation and supply challenges create additional difficulties for such low margin ‘undifferentiated’ companies with limited pricing power. There is also a small, but growing, list of companies that “over-traded” through 2020 and we are now seeing a sharp reversal in trading patterns not currently reflected in analysts’ forecasts. This is another area exercising our attention and where we have focused some of our short exposure.

Ultimately, we believe this will herald a period for more dispersion in our investment universe between winners and losers driven by increased bifurcation in financial outcomes and in turn share price performance. To clarify, the Company’s overall net exposure of 118% should not be interpreted as a call on the stock market but, instead, a reflection of the conviction we have in our long book and the returns we consider our investments can generate. We simply believe that the opportunities ahead for well financed differentiated growth companies which continue to deliver on their long-term strategies and are exposed to attractive long-term secular trends are extremely attractive regardless of the wider stock market environment.

As mentioned in the half yearly report, we believe firmly that COVID-19 has driven an acceleration of profound seismic market share shifts intra-industry, which we think of as “Corporate Darwinism”. Well capitalised leaders benefit from a confluence of changing consumer and corporate behaviours as well as a structural withdrawal of capacity as weakened peers exit the market. We referred to notable beneficiaries of this earlier, such as Watches of Switzerland and Electrocomponents and there are many other examples encompassing a broad variety of industries including omni-channel retailers, and veterinary services.

We have also commented on our ongoing belief that COVID-19 has accelerated many long-term structural trends, most notably Digital Transformation as corporates continue to invest in their digital capabilities to drive demand and win market share, adapt to changes in customer behaviour, and remove costs and complexity from their operations. We have deliberately sought exposure to these trends in recent years and have increased our exposure recently, as in our view the growth outlook has improved, notably in digital payments, software-as-a-service, and cloud enabled audio and visual communications.

2022 has got off to a difficult start for equity markets. There have been some large moves in share prices in the ‘growth’ and ‘value’ categories and this has disproportionately impacted many of our growth-oriented UK listed mid-cap companies, some of which have fallen between 15 and 30%. Moves such as this, whilst painful, are alas not uncommon, and the severity of moves can be significantly exacerbated at times of lower liquidity (such as during the holiday season) or when there is a backdrop of limited corporate news flow. Indeed, where there has been corporate news we have generally found it to be very reassuring and for the most part it has confirmed our investment views; the companies themselves are often trading well with ongoing positive momentum in forecasts.

The reason for these large moves is due to market concerns of rising inflation and interest rates, which in some cases have the potential to erode corporate profitability.  We believe this risk is centred firmly on low margin businesses with limited pricing power and volume growth and where we have already seen evidence of pressure on profit forecasts. As discussed many times, these are businesses or industries we seek to avoid or short. Inflation can be accommodated more easily in businesses with high margins, volume growth and pricing power. These are exactly the companies we look to invest in, and while investors will inevitably worry about all companies for a while, we do expect our holdings to fare better in due course.

As to the impact of inflation on the interest rate curve, we acknowledge the relationship between interest rates and the discount rate, but this we believe is a much bigger problem for loss making, “jam-tomorrow” speculative companies. This has never been our area of focus but has indeed been the source of profitable shorts. The last few weeks have reaffirmed how indiscriminate the market can be at times, as there has been little distinction in the share price falls of ’jam-tomorrow’ loss making speculative investments and the fast growing, highly cash generative companies priced at what we believe to be attractive valuations.   Fortunately, this is the opportunity of equity markets.

Whilst we acknowledge the market’s immediate focus on inflation and its potential impact on interest rates, we think January is nothing more than a painful but temporary mark-to-market exercise in response to a more hawkish Fed rather than a permanent loss of capital for our clients. We are firm believers in our holdings and, whilst we acknowledge that in any given year we will make mistakes in individual holdings, and that not all our investments will deliver as planned, we also believe the majority will prosper. The valuations of many of our investments have fallen back in the last few weeks to levels we believe offer significant value, at a time when in many cases their market position and outlook has improved. Corporate results continue to reassure us and we think this bodes well for the months to come.

In summary, 2021 has been a successful year for the Company and our shareholders; the performance of the Company against the backdrop of multiple macro and political headwinds, most notably the market’s preference for “value” over “growth”, continues to demonstrate evidence for our belief that, over the long term, stock and industry specifics can triumph over macro factors. We thank shareholders for their ongoing support and enter 2022 with real optimism and conviction in the outlook for the Company.

THRG : Strong results from BlackRock Throgmorton during year which saw it bumped up to FTSE 250

 

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