Shires Income reports that for the year ended 31 March 2023, it generated an NAV total return of -2.2% and a share price return of -5.5% (as the shares moved from a 0.3% premium to a 3.1% discount), which compares with a +2.9% return for its benchmark. The dividend was upped by 2.9% to 14.2p, well behind the rate of inflation. The dividend was covered by earnings of 14.8p. Subject to unforeseen circumstances, it is proposed to continue during this financial year to pay three quarterly interim dividends of 3.2p and a larger final dividend.
The chairman says that the main detractors from performance were the preference share portfolio and the company’s holding in abrdn Smaller Companies Income Trust.
Future of abrdn Smaller Companies Income
On abrdn Smaller Companies Income, the statement says – “Shires, as a 13.6% shareholder in ASCIT, has been discussing for some time whether Shires’ smaller company exposure could be delivered more efficiently and with less volatility.
In October 2022, the board and its adviser, JPMorgan Cazenove, and after consultation with abrdn, put forward in their opinion what was a constructive and compelling proposal to the board of ASCIT and its advisers. This proposal envisaged consolidating the companies whilst maintaining small cap exposure and concentrating on providing above average income from a diversified portfolio of UK quoted securities, which is in line with Shires’ existing investment objective.
Following this approach, the board of ASCIT announced on 13 February 2023 that it was conducting a strategic review and we were pleased to note that the ASCIT discount partially narrowed following this announcement. We look forward to hearing the outcome of the review shortly and to a resolution of the current uncertainty surrounding that company, with an outcome that is favourable to all shareholders.”
Extract from the manager’s report
The under performance was concentrated in two areas: the preference share portfolio and the holding in abrdn Smaller Companies Income Trust (“ASCIT”). The preference shares declined in value by 10.2% and detracted 3.0% from performance – we discuss the reasons for this in more detail below. The ASCIT share price declined by almost 12% (in total return terms) over twelve months, even following the re-rating of its shares after its announcement of a strategic review, and contributed around 1% of the under performance.
This under performance should largely be expected in the investment environment we saw during the year. Rising interest rates benefit less growth-orientated investments and smaller companies as an asset class under-performed larger companies during the year. Furthermore, ASCIT follows a momentum strategy, which is disadvantaged in such an environment.
Within the core equity portfolio, there were a number of very strong performers. These included a number of recent purchases. Games Workshop Group (+58%) recovered well after our investment, as did Vistry Group (+35%), NatWest (+29%), Hiscox (+25%), Oxford Instruments (+19%) and Smith & Nephew (+14%). Energy stocks continued to be strong contributors to overall performance, with BP (+42%) and TotalEnergies (+31%) standing out. TotalEnergies was also an example of a European holding in the portfolio that performed well. Novo-Nordisk (+52%) continued to deliver upgrades to revenue as new product launches beat expectations, while Kone (+20%), Nordea (+18%), AXA (+18%) and Engie (+13%) all delivered positive returns. Another trend we benefited from (and which seems to be only increasing) was the rise in bids for UK listed companies, reflecting the discount many trade at compared to international peers. Euromoney Institutional Investor (+48%) and Wood Group (+24%) were subject to bids in the year.
Some other positions did not work out as well as we had hoped. The most concentrated under performance came in the Real Estate sector, with the impact of rising yields dragging down asset values and increasing interest costs. Sirius Real Estate (-41%), Urban Logistics (-29%), Supermarket Income REIT (-21%) and Assura (-17%) all under performed in share price terms although the underlying businessess continued to perform as expected.
The number of companies missing our expectations on underlying performance was small, although there were some notable disappointments. Marshalls (-52%) had two profit warnings after failing to offset the slow down in consumer demand for its products. Direct Line Insurance (-45%) was impacted by a high level of claims inflation in the winter months, putting its capital ratio under pressure and leading to a cut in the dividend. Close Brothers (-19%) disclosed a write down to the value of a recent acquisition. In each case we have retained the holding, and in the cases of Marshalls and Close Brothers increased the positions – we see these as strong long term businesses which will regain lost value over time. In the case of Direct Line Insurance, signs that the pricing cycle is improving cause us to hold on to the position for now.
Gearing and Preference Share Portfolio
As stated above, the preference shares declined in value in the year. This performance is very much as expected – during a period of rapidly rising interest rates we would expect the bond like characteristics of preference shares to mean they decline in value. Our view on the long term attractions of the preference shares has not changed. Firstly, it is unlikely that we will see a period of such rapid rises in interest rates repeated this cycle – indeed it is more likely that interest rates will eventually decline, acting as a tailwind for the valuations of the preference shares. Secondly, the attraction of these instruments is their high, dependable yield. This has not changed and the preference share portfolio offered a forward yield of almost 7.5% at the year end.
Gearing (net of cash) increased during the year, from 20.4% to 22.2%. The gearing is notionally invested in the preference share portfolio. At the year end these securities had a value of £20.9 million, exceeding the net indebtedness which stood at £17.8 million.
SHRS : Shires approach triggered the review at abrdn Smaller Companies Income