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Solid outperformance for DSM despite negative returns

Downing Strategic Micro-Cap Investment Trust (DSM) announced the company’s results for the year ended 28 February 2023. The company saw a 8.7% decrease in NAV per share and 9.7% decrease in the share price, compared to a 17.4% decrease in the FTSE AIM All-Share TR index over the 12 months to 28 February 2023, driven by increasing negative sentiment towards UK smaller companies given the macro-economic headwinds.

Despite the negative returns, the company added a considerable amount of relative performance over the benchmark. Constituents of its portfolio also remained largely strong and adequately financed with management noting that there has already been successful M&A activity within the portfolio since the year end.

Lead manager Judith MacKenzie commented on the results:

“Despite what we think will be volatile markets over the coming 12 months, we believe the catalysts put in place by management within this portfolio should provide non-index correlated returns, with value creation playing out in a maturing portfolio. More generally, we think the focus of the market is likely to play to DSM’s favour. Higher inflation isn’t great for larger monolithic companies but favours smaller companies that can grow faster than inflation. As the cost of capital increases, there will be investor focus on real assets and real earnings (cash) – which is a feature of the DSM portfolio where the majority of positions hold cash on the balance sheet. Capital allocation, buybacks and self-help are features of the DSM portfolio, as is the focus on organic growth versus M&A. We believe the market headwinds could in fact be DSM tailwinds once combined with the strategic catalysts playing out in the portfolio.”

Regarding the outlook, she continued:

“In terms of our outlook, we focus on where we are on the value creation journey with our portfolio. The table below highlights where we believe value creation is likely to be derived within our top 10 holdings over the course of the next 12-24 months.

“As you can see, there is a clear pathway to value realisation, or an identification of where the market has undervalued companies, across the portfolio.

Company % of NAV Comment
Real Good Food plc 10.5% Value sits in Loan Stock, with double digit accrued interest and redemption premium.  Capital is £3.28m, with interest accrued of £3.1m, of which c£2m is not reflected in the DSM NAV
Centaur Media plc 9.1% Delivery of commitment to £45m revenue and 23% EBITDA margin in ’23 will drive a 12% free cash flow yield. Rerating from EV/EBITDA of 7x towards sector multiple of 12.5x. Consensus at 78p which is below our SOTP assumption
Flowtech Fluidpower plc 8.5% Pathway to double digit margins is established, now needs strategic execution. Online can facilitate cross sell and wallet share growth. Re-rating to 10x+ and de-gearing opportunity over short-medium term
Hargreaves Services plc 8.5% Associate and renewables realisations could be £50+ million. Cleaner group without pension is easier to understand and value
Ramsdens Holdings plc 6.6% Return to pre-Covid earnings is on track, with improved efficiencies with online offering improving margin. Expansion into SE should provide enhanced ROI
Synectics plc 6.3% Return to pre-Covid trading in Asia.  Earnings forecasts underpinned by better margin on services and infrastructure contracts. FY’23 EBITDA of £4.3m, Net Cash of £4.3m and a double-digit free cash flow yield deserves a re-rating from 4.6x EV/EBITDA to c. 9/10x
National World plc 5.3% Digital progress offsetting print declines can transform the earnings profile and rating. Cash deployed on earnings accretive deals can prove the strategy. Rating recovery will be market/ sentiment dependent
Fireangel Safety Technology plc 5.0% Delay in earnings progression due to headwinds of supply chain in 2022 are lifting. 2023 key year for the Techem contract –not included in forecasts.  Currently 3xEV/EBITDA due to cynicism on delivery of earnings – as news flow improves this should change. Delivery is key
Inspecs Group plc 4.6% Earnings recovery to c$24m EBITDA in 2023 largely underwritten by cost savings and self-help, accompanied by a re-rating. Medium- and longer-term growth opportunities and delivery against strategy can regain a premium multiple
Digitalbox plc 4.5% M&A opportunities and organic growth can build a £2m EBITDA business. Requires media recovery for a fair rating

“Despite what we think will be volatile markets over the coming 12 months, we believe the catalysts put in place by management within this portfolio should provide non-index correlated returns, with value creation playing out in a maturing portfolio. More generally, we think the focus of the market is likely to play to DSM’s favour. Higher inflation isn’t great for larger monolithic companies but favours smaller companies that can grow faster than inflation. As the cost of capital increases, there will be investor focus on real assets and real earnings (cash) – which is a feature of the DSM portfolio where the majority of positions hold cash on the balance sheet. Capital allocation, buybacks and self-help are features of the DSM portfolio, as is the focus on organic growth versus M&A. We believe the market headwinds could in fact be DSM tailwinds once combined with the strategic catalysts playing out in the portfolio.”

DSM : Solid outperformance for DSM despite negative returns.

 

 

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