AVI Global Trust has announced its annual results for the year ended 30 September 2023, during which it has provided NAV and share price total returns of 15.3% and 14.8% respectively, both comfortably ahead of its comparator benchmarks, the MSCI All Country World Index and the MSCI All Country World ex-US Index, which returned 10.5% and 10.1% respectively (all in sterling terms). At the interim stage, AGT’s chairman, Graham Kitchen, said the manager was seeing a range of investment opportunities and he now says that, over the year, many of those opportunities bore fruit.
Revenue earnings and dividend – 6% y-o-y increase in ordinary dividend
Revenue earnings for the year were 4.19 pence per share. At the half year stage, AGT paid an interim dividend of 1.2 pence per share, which was the same as last year, and the board is now proposing a final dividend of 2.3 pence per share. The board says that this year’s income includes elements of revenue that it considers to be one off and so has decided to pay a special dividend of 0.2 pence per share (the one-off increase in revenue includes refunds of previously charged taxes and interest on cash). The total ordinary dividend for the year will therefore be 3.5 pence per share, an increase of 6% compared with the previous year’s total of 3.3 pence and the total including the special dividend will be 3.7 pence.
Borrowings
On 25 July 2023, AGT completed an agreement to issue Japanese Yen (JPY) 4.5bn fixed rate unsecured debt, for a term of ten years. The annual interest rate on the debt is 1.44%. The debt is denominated in JPY and was equivalent to approximately £25m when issued. In recent years, AGT has issued several tranches of debt at attractive interest rates and the manager uses this gearing flexibly to take advantage of investment opportunities. As at 30 September 2023 net gearing, with debt at fair value, was 7.4%.
Marketing efforts rewarded
AGT’s board says that the trust has a substantial marketing budget and the board works closely with the manager in seeking to generate demand for the trust’s shares. The manager is active in the media – both traditional and increasingly social media – and these efforts were rewarded with the accolade of “Best Report and Accounts” in its category in the AIC’s annual shareholder communications awards in September 2023.
Board active in tackling persistent discount
AGT’s shares continue to trade at a persistent discount which, at the end of September 2023, stood at 10.9%. The board continues to use share buybacks when the discount is unnaturally wide and when it believes that buying back shares is in the best interests of shareholders. At times when the market was volatile this has meant buying back shares on most days and, during the last financial year, 29 million shares were bought back, representing 6% of the shares in issue as at the start of the period. As well as benefiting shareholders by limiting the discount at which they could sell shares if they so wish, buying back shares at a discount also produced an uplift in value to the benefit of continuing shareholders, by approximately 0.6%.
Like many trusts, a victim of consumer duty
Despite AGT’s compelling performance and the board being active and repurchasing shares, AGT has, like many trusts, been caught by the unintended consequences on the investment trust industry of recent regulatory pronouncements relating to Consumer Duty. A number of online investment platforms are assessing the cost of investing in companies such as AGT’s by seeking to include the underlying charges of any funds held in their portfolios of investments in their assessment of the costs of investing in the company. AGT’s board considers this to be a misleading approach as it believes the costs included within the underlying investments are already factored into the assessment of the fair value of those investments [QD comment: we wholeheartedly agree with this assessment and believe the regulatory challenges run deeper than consumer duty – click here and here, and here to see some of our recent commentary on this topic]. The performance of the underlying assets is then fairly reflected in the performance of the investment trust, which is shown net of costs within the control of its board. AGT’s board and its manager are actively involved in discussions with the Treasury, the regulators and the AIC to ensure that investment trusts are considered on an equal basis to other forms of investments and so that investors are able to make a fair and balanced decision in deciding on which type of investment to make. It would also seem completely illogical that the interpretation of the new Consumer Duty regulations and the assessment of value should lead to a restriction in investors’ ability to invest in some investment trusts. [QD comment: any assessment of value should recognise that outperformance of an appropriate benchmark, after fees and other expenses, delivers value for investors. However, any policy that prevents investors from buying funds that have underperformed, and then reinstates those funds once they have outperformed, is merely forcing investors to sell at the bottom and buy at the top.]
Investment manager’s comments on the portfolio
Apollo
“US-listed alternative asset manager Apollo (APO) was our top contributor over the financial year, adding +275bps to NAV as its share price almost doubled (up +98% total return in USD vs +21% for the S&P 500). This was despite the company being swept up in the banking sell-off in March 2023 on misguided concerns that failed to recognise important differences between bank deposits and the annuity liabilities of Athene (Apollo’s wholly-owned life insurance arm). We took advantage of the market confusion to add to the position near the lows reached in March.
“Taking a step back to our original investment case for Apollo, we believed the business was poorly understood by the market when we first initiated a position back in April 2021 ahead of its announced merger with sister company Athene Insurance. AGT shareholders with long memories may recall that we had a very profitable investment in Athene from 2012 to 2017 when it was a private investment held by a listed Apollo-managed vehicle called AP Alternative Assets.
“Life insurance businesses are understandably often lowly rated by the market. But the reasons why they are so – unpredictable liabilities with tail risks (e.g. long-term care) and hard-to-hedge liabilities such as Variable Annuities – simply do not apply to Athene which has a highly focused business model predominantly centred on fixed annuities. As such, Athene can be looked at as effectively a spread-lending business, earning a spread between the rates paid on annuities and the yields earned on its investments. Its fixed income portfolio (95% of total assets) is 96% investment-grade, with Athene seeking to earn a return premium from complexity and illiquidity rather than from taking duration or additional credit risk, and its return-on-equity has averaged 16% over the last four years (in line with its target of mid-to-high-teens).
“Life insurance businesses are also correctly perceived as being capital intensive, and this was a source of some disquiet when the Apollo/Athene merger was announced. But capital intensity is not a bad thing if one is earning high returns on that capital; and, as we understood at the time, a material proportion of Athene’s growth was likely to be funded by third-party “sidecar” vehicles.
“The market seems to increasingly have come round to our more positive view on Apollo as evidenced by the strong share price performance over 2023 on the back of earnings upgrades. Higher rates have led to very strong demand for annuities (unsurprisingly, people prefer to earn higher rather than lower rates on their investments even if only in nominal terms) with retail inflows on track to surpass 2022’s record of $20bn. At 30 June 2023, Athene had already had $15bn of inflows for the year.
“To some extent, each of the listed alternative asset managers has made a different bet: Blackstone on real estate; Ares on subordinated debt; Brookfield on infrastructure, etc. Apollo have focused on investment grade private credit, a market that can be measured in the tens of trillions. It is becoming increasingly understood that Athene is integral to this push. As a life insurance business seeking to earn a return over and above that paid out on its annuities and other liabilities, Athene needs safe (investment grade) credit and – given its long-dated sticky liabilities – can invest in private assets to earn an illiquidity premium.
“This is where Apollo’s investments in origination platforms come into play. These are attractive investments in their own right that sit within the 5% of Athene’s balance sheet allocated to alternative investments. In the business of originating investment grade assets (aviation financing, mid-market lending, mortgages, supply chain finance, etc.) they find a natural home on Athene’s balance sheet and those of third-party insurance companies and other institutions who draw comfort in the alignment of interest from investing alongside Athene. In addition to one-off syndication fees, Apollo is increasingly earning ongoing management fees from many of these third parties establishing separately managed accounts.
“Athene is at the heart of this flywheel and provides Apollo a huge advantage over peers in what CEO Marc Rowan has termed the “Fixed Income Replacement Opportunity”, with the potential market for investment grade private credit estimated at as much as $40 trillion. Regulatory moves to increase capital requirements of the US banking sector are expected to accelerate this, with JPMorgan CEO Jamie Dimon suggesting that Apollo executives would be “dancing in the streets” due to the measures.
“Trading on just 11x 2024 expected earnings, we see considerable scope for continued further upside for Apollo shares with the company on track to hit its $1 trillion AUM target by 2026.”
FEMSA
“FEMSA added +258bps to returns during a period in which the company completed its strategic review and took structural steps to unlock value and reduce the wide discount at which the company trades. In this context, the shares returned +78% as a +50% increase in the NAV was boosted by a narrowing of the discount from 39% to 28%.
“As readers may remember, we initiated a position in FEMSA in 2021, with an investment case predicated on the highly attractive nature of FEMSA Comercio – which operates Oxxo-branded convenience stores, and other small-format retail stores, across Mexico and Latin America – and the unduly low valuation the market was awarding the business. In 2022 management announced a “comprehensive strategic review” of the group structure with a focus on reducing the sum-of-the-parts discount.
“In February 2023, FEMSA concluded its strategic review – announcing plans to simplify the group structure, monetise non-core assets and re-focus on its core business. Most importantly, the company announced plans to exit its stake in Heineken, which prior to the announcement was worth some $7.8bn, or c.28% of FEMSA’s market cap. Following two accelerated book builds in February and May, FEMSA has now fully exited Heineken (bar €500m of shares underlying an exchangeable bond). In addition, FEMSA announced the sale of Jetro Restaurant Depot (JRD) for $1.4bn and in August it was announced that Envoy Solutions would merge with BradyIFS, as a first step in FEMSA exiting the business, with a $1.7bn cash inflow and a 37% stake in the combined entity.
“Despite strong performance we believe the shares remain cheaply priced, with the underlying intrinsic value/NAV having compounded at a high rate. This speaks to the attraction of finding investments that exhibit both special situation-type catalysts and high-quality growth. It is this latter point which is particularly important to us – asset quality and the prospect for NAV growth are key to our style of investing. In this vein we believe that Oxxo has one of the most robust retail models we have come across, with a long growth runway, strong unit economics and high returns on capital. New store openings are now running above 1,000 on a trailing 12-month basis once again, and we believe the company can reach c.30,000 units in Mexico by the end of the decade (from just shy of 22,000 currently), with strong prospects for further potential growth in Brazil.
“At current prices, FEMSA trades at a 28% discount to our estimated NAV and with the stub* at an inordinately wide discount to closest-peer, Walmex (8.7 x vs. 11.9x). Pro-forma of the JRD and Envoy Solutions transactions, we estimate that FEMSA is now in a modest net cash position vs. management’s target of 2.0x net debt/EBITDA. This implies the company has “excess” capital of c.$7bn equating to c.18 % of its market cap. Investors, not entirely without reason, are cautious over how this will be deployed, and we have been encouraging management to use the proceeds for share buybacks.”
Schibsted B
“In the summer of 2022 we initiated a new position in Schibsted, the Norwegian holding company. Today Schibsted is AGT’s largest position and was one of the strongest contributors to your Company’s performance, adding +233bps to returns. Over the course of the year the shares increased +63%, as a +35% increase in the NAV was boosted by a narrowing of the discount from 45% to 34%.
“Whilst the origins of the company date back to a publishing business in the 1830s, from the turn of the millennium, Schibsted have built and bought a collection of online classified advertising businesses, which today account for the bulk of the value. This is spread across Schibsted’s unlisted Nordic assets (52% NAV), and a stake in Adevinta (49% NAV) which they listed in 2019 as a vehicle to house their international classified ads businesses and pursue sector consolidation (which it has done via the acquisition of eBay’s classified ads business for $9.2bn in 2020).
“Such businesses exhibit “winner-takes-most” dynamics, with strong network effects whereby listing inventory and user traffic mutually reinforce one another. The dominant #1 player in a category becomes the reference point for individuals or businesses looking to buy and sell in that vertical. This integral position translates into high levels of pricing power and excellent financial profiles, with healthy organic growth rates, EBITDA margins of 40-60% and high free cash flow conversion.
“Attune to these attractions we had monitored Schibsted from afar for a number of years. However, it took a more than 60% decline in the share price from the summer of 2021 to June 2022 to pique our interest. Both Schibsted and Adevinta had been caught in a perfect storm of earnings downgrades and multiple compression. On top of this, at the Schibsted holding company level investors had increasingly questioned capital allocation and the group structure.
“As such, we were able to build a position in the B shares at a c.45% discount to our estimated NAV and with the stub assets trading at an anomalously low implied c.6x forward EV/EBITDA. It was, and is, clear in our view that resolving the ownership stake in Adevinta (which accounts for ~two-thirds of Schibsted’s market cap) is key to unlocking the trapped value, with either an in-specie distribution or sale of Adevinta suitable outcomes to both re-rate the stub and help realise a fair value for the Adevinta stake.
“In September 2023 it was confirmed that Blackrock and Permira have made a non-binding proposal to take Adevinta private. This will see Schibsted crystalise a large portion of its value, whilst also retaining a stake in the private company. Of course, the devil will be in the detail, with the pertinent questions being around price and the size of the stake that Schibsted will maintain.
“The deal will allow Schibsted to garner a control premium (albeit an unknown one) and remove some of the friction of an in-specie distribution. Most importantly, it will go some way to simplifying the group structure, shining a light on the undervaluation of the stub assets.
“On the other hand, this raises the risk of capital (mis)allocation – something we will continue to discuss with Schibsted management. We are also frank about the low value the market will likely ascribe to Schibsted’s remaining unlisted stake in Adevinta. Indeed, it is our contention that the ideal scenario would be for Schibsted to wholly exit Adevinta – either via this transaction, or, failing that, through an in-specie distribution. However, we acknowledge that the return on the retained position has the potential to be highly attractive, with significant low hanging fruit from non-core asset sales (OLX Brazil plus Italy and maybe Spain); improving monetisation rates at Mobile and Leboncoin, which currently under-earn relative to global peers and the economic utility they provide; and improving margins with tighter cost control (particularly at HQ which runs to tune of ~€250m p.a.).
“Schibsted remains cheaply valued at a 34% discount to NAV and with the stub trading at 6.7x NTM EBITDA. Further news on Adevinta will be the key catalyst to drive both NAV growth and discount narrowing. We remain excited about prospective returns and continue to engage with the company and other stakeholders to ensure that a satisfactory outcome is achieved. It is important that any transaction fixes the undervaluation of both Adevinta and Schibsted shares.”
KKR & Co
“KKR was amongst our largest contributors for the year, adding +177bps to returns on the back of a share price that ended the period +45% higher (total return in USD) vs +21% for the S&P 500 Index. The investment was one of our largest detractors in AGT’s previous financial year, and a top contributor in the year before that. Less long-windedly, KKR’s share price is volatile.
“Share price performance suggests investors view alternative asset managers as high beta plays on risk assets. Our contention is that this ignores the defensive characteristics of scale-advantaged managers, and the structural growth trends the industry exhibits.
“The current assets under management (AUM) that alternative asset managers have is for the most part long-term, or even permanent, and so the risk of redemptions is very limited. In the case of KKR, over half of its AUM is either perpetual capital or long-dated strategic investor partnerships (separately managed accounts in which capital is recycled following exits); just 9% of AUM is from vehicles with a life of less than eight years at inception.
“This gives rise to a high level of visibility on future earnings. We note that KKR’s fee-related earnings per share for H1-2023 grew +7%, with the non-cyclical management fees component increasing by +16%.
“Secular trends towards greater institutional allocations to alternatives, particularly in private credit and infrastructure, are a forceful tailwind for the industry. Against that backdrop, we expect the largest players such as KKR to take a disproportionate share of that growth as LPs look to consolidate their number of LP relationships. While there is certainly some indigestion across LPs after record fund-raising years, KKR is in the enviable position of having already raised the latest iteration of its flagship funds.
“Blackstone’s success in raising capital from private wealth channels has materially raised the total addressable market for the alternative asset managers. While KKR’s presence in this space is still relatively nascent, they have invested heavily in distribution and expect 30-50% of new KKR capital to be sourced from private wealth channels over the next several years. The size of the market is so vast that even a small up-tick in allocations to alternatives could have seismic results, with an expected increase from 1% in 2020 to 5% in 2025 translating to an additional $9 trillion of inflows. We expect there to be only a few winners in this space, consisting of the largest managers with the most recognised brands.
“Despite these tailwinds, KKR trades on less than 20x fee-related earnings. Note this multiple is calculated only accounting for accrued carried interest, so giving no credit for additional carry earned on existing funds and on future funds. This compares very favourably to peers, and to other financials companies of similar quality (i.e. growth and margin characteristics). With Blackstone having become the first alternative asset manager to enter the S&P 500, we believe it is a matter of time before KKR and Apollo are also selected for inclusion. This could lead to as much as 20% of their free float being bought by index-tracker and “index-aware” investment vehicles.”
EXOR
“EXOR was a meaningful contributor to returns. Over the last year EXOR shares have marched +28% higher, driven exclusively by NAV growth, with the discount broadly unchanged at 43%.
“In last year’s Annual Report, we described a situation of strong performance at Ferrari being offset by “hard to justify” weakness at Stellantis. This year both contributed strongly, with share price total returns of +47% and +62%, respectively.
“Performance at Stellantis is particularly pleasing, with the industrial and financial logic of the merger shining through. Longer-term readers of our letters may remember that the extreme undervaluation of FCA (as it then was) and the scope for value creation through industry consolidation were key attractions that initially led us to invest in EXOR in 2016. For Stellantis’ 2022 results the company reported a 13.0% operating margin and achieved €7.1bn of net cash synergies – exceeding the €5bn merger target more than two years ahead of plan. The consensus view amongst investors is that the auto industry faces a period of deflation, with increased supply leading to higher dealer inventory and in-turn weaker pricing – which will dilute margins / earnings from unsustainably high post-pandemic levels. We have long held the view that it is in a more challenging environment that Stellantis’ structural margin improvements and Carlos Tavares’ obsessive focus on cost will shine through. With the shares trading at just 3.5x PE the market does not seem to be pricing this in.
“During the year EXOR built a 15% stake in Philips, the (rather beleaguered) Dutch healthcare-focused conglomerate. Philips shares trade c.60% below their April 2021 high following a disastrous product recall, an FDA consent decree and unknown potential legal claims relating to concerns that sound abatement foam within its devices could disintegrate and cause health problems. We believe the investment meets the key criteria EXOR were looking for: reducing the cyclicality of EXOR’s NAV exposure; gaining influence without paying a control premium, with potential further capital allocation opportunities if the company were to raise equity; and significant self-help opportunities that EXOR can push to support from the board – from improving governance, to improving operational procedures and longer term questions about unlocking value from the Personal Health (toothbrushes / shavers) business that has limited synergies with the rest of the group.
“Despite its strong NAV performance, EXOR’s discount remains wide at 43%. In recognition of this fact the company recently launched a €1bn (5% market cap) buyback program, €750m of which will be structured as a Dutch tender offer. We will not be taking part, having already reduced the position materially earlier in the year to free up capital for new ideas. Indeed, notwithstanding the reduction in our position, we believe the outlook for NAV growth and discount narrowing to be attractive.”
Brookfield
“Brookfield Corporation was our largest detractor over the financial year, reducing NAV by 103bps. Note that this figure is the aggregated net impact from the long position in Brookfield Corporation and the short positions in index and underlying holdings established as hedges.
“To recap, AGT acquired a position in what was then called Brookfield Asset Management in December 2022 ahead of the spin-off of a 25% stake in its asset management business. What was Brookfield Asset Management has been renamed Brookfield Corporation (BN); the spun-off asset management business has taken on the name of its parent company (BAM).
“Our research highlighted that BAM (as it was) was trading at a dislocated valuation and that either (i) the asset management business was being valued on too cheap a multiple or (ii) the discount on the other assets was too wide. Share price moves subsequent to the spin-off proved the latter to be the case, and we sold our stake in the spun-off asset-management business to acquire more of the more attractively-valued Brookfield Corporation.
“We have taken out short positions in most of the listed underlying holdings (Brookfield Asset Management, Brookfield Renewable Partners, and Brookfield Infrastructure Partners), accounting for 54% of NAV at the time of writing. In doing so, our exposure is limited to the underlying unlisted assets and will mean that a higher proportion of our prospective returns will come from discount moves than would otherwise be the case.
“The main unlisted assets to which we are exposed are Brookfield Corporation’s real estate holdings which account for 36% of NAV at the current reported valuation. There is considerable scepticism around this valuation given the headwinds facing office properties due to work-from-home trends and regulatory-driven upgrades to environmental standards. Indeed, much of the company’s properties are in office and retail. We understand these concerns but we contend that, with a materially negative value implied on the real estate by Brookfield Corporation’s share price, the shares are attractively valued. To illustrate this, the equity value for the real estate could be cut by 75% and the discount to NAV on which Brookfield Corporation trades would still be almost 30%.
“Management have several levers to pull to address the undervaluation. These include further spin-offs of the remaining 75% stake in Brookfield Asset Management and more aggressive share buybacks.”
Wacom
“Wacom was your Company’s second largest detractor in 2023, reducing returns by -78 bps. Wacom is a Japan-listed company which holds c.60% global market share in the niche market of tablets and pens for professional use, designed to emulate the feel of pen and paper while drawing on a screen. AGT has invested in Wacom since August 2021 and has experienced a total return of -30.4% over this period.
“Weak consumer sentiment and inflation in the North American and European regions, as well as semiconductor-related logistics disruptions, created significant headwinds for the consumer electronics industry. Wacom’s flagship LCD graphic tablets were particularly affected by the economic downturn due to their relatively long replacement cycle of approximately five years, which has been prolonged further due to the deterioration of consumer sentiment.
“In May 2023, Wacom’s management disclosed a recovery plan to respond to this situation, announcing eight measures, including improving cashflow by significantly reducing inventories and increasing unit prices by up to 30%.
“Dissatisfied with Wacom’s performance, AVI has been strengthening its engagement with members of the Board, engaging on average at least once a month. Following these dialogues, the company announced a new share buyback, totalling up to JPY20bn to date. Out of the total buyback budget, approximately JPY14bn has not yet been implemented, equivalent to 15.1% of the company’s market capitalisation. These buybacks are expected to be undertaken by the end of March 2025.
“While peer forward EV/EBIT multiples average 16x, Wacom’s EV/EBIT multiple based on company targets for the financial year ending March 2025 is 11x and just 8x for the following year. There has been no significant change in the company’s global positioning through the Covid-19 period, and the company plans to launch a series of new products, including the Wacom One series, from early autumn 2023, indicating that it is implementing measures to stimulate consumer demand.
“Overall, we expect the digitisation of the global design market to continue, and remain confident that Wacom, in its position as market leader, will be at the forefront of innovation in this segment.”
Third Point Investors
“Third Point Investors (TPOU) was, for the second consecutive year, one of the largest detractors from overall returns. Weak NAV performance (-2%) compounded with a widening discount (-17% to -20%) to produce a -6% decline in share price, far behind the returns of the S&P 500 (+21%) and the MSCI AC World Index (+21%). Returns for AGT in Sterling were depressed further by GBP strength vs the US Dollar.
“Low double-digit positive returns from the credit book were insufficient to offset weak returns from the equity exposure where the Manager underperformed on both long and short exposures.
“TPOU’s short- and long-term performance track record is now deeply uninspiring with the vehicle having outperformed the S&P 500 in just four out of seventeen calendar years and far behind the index over all time periods to 30 September 2023. Over ten years, an annualised NAV total return of +4.4% falls well short of the +11.9% from the S&P 500 and the +8.3% from the MSCI World. While NAV volatility has generally been lower than equity indices, we do not believe that offers any great appeal for potential buyers of what has almost always been a majority equity-exposed strategy.
“Shareholders may recall that AGT also owned a direct position in the Third Point Offshore Master Fund that underlies TPOU. This was acquired as a result of our participation in an exchange facility offered to TPOU shareholders in early 2022 that allowed qualifying shareholders to exchange a portion of their TPOU shareholding for shares in the Master Fund at a 2% discount to NAV. This saw 43% of our position exchanged for shares in the Master Fund, and we have since redeemed this holding at the maximum permissible rate and exited entirely in June 2023.
“For our remaining position in TPOU, we draw some solace from the tender offer for 25% of the company’s shares scheduled for Q2 2024. This is triggered if the average discount for the six months to the end of March 2024 exceeds 10%. Given that the current discount is 21%, we do not see any plausible scenario in which this tender offer will not be triggered. We plan to participate in full.
“We expect the tender offer to be over-subscribed, leaving the fund not only 25% smaller in terms of net assets, but with the market aware of a large overhang of selling pressure. With no further exit opportunity until March 2027 and with an increased exposure to private investments, we would be surprised if the discount did not widen materially post-tender.
“In this scenario, it is entirely appropriate that the share buyback programme should continue given the high return on investment from share repurchases, but we are mindful that this will have a further deleterious impact on already woeful liquidity. We expect to see the company then limp on until the next discount-contingent tender offer (at a tighter threshold of 7.5%) scheduled for March 2027 which, barring a remarkable turnaround in performance and sentiment, is also highly likely to be triggered. With no further exit opportunities scheduled thereafter, the discount is likely to widen yet further.
“We believe there is a strong case for intervention from the Board to steer the company away from what seems to be an inevitable course.”
Aker ASA
“Aker was also a detractor from returns over the last year. On a total return basis shares and NAV declined -2.7% and -3.4% respectively with the discount moving slightly narrower to 24%. From AGT’s perspective this was exacerbated by a -700bps depreciation of the NOK versus Sterling.
“The rather modest year-over-year change in Aker’s share price and NAV masks greater volatility in oil prices and related equities. From a November 2022 peak oil prices fell some -24% to a spring trough, only to rally +36% through to the end of September 2023. Shares in Aker BP (62% of NAV) were similarly volatile but ended down by -3% on a total return basis.
“We continue to believe that oil will play an important and elongated role in our energy mix in the coming decades. In this context we believe the prospects for well-managed, low-cost operators with long production growth schedules such as Aker BP to be attractive. This led us to more than double our position in Aker since the start of 2020.
“Although there is grave uncertainty in the near-term, as evidenced by the steep decline in oil prices shortly after the end of the financial year, demand for oil will grow resiliently over the coming decade. A confluence of capital destruction, ESG policies, and the demise of Shale have firmly put the power with OPEC+, which has shown considerable appetite for flexing its muscles over the last twelve months. With limited spare production capacity and a much-depleted US Strategic Petroleum Reserve, OPEC’s dominance will be a feature of the coming years.
“We expect such an environment to be characterised by generally higher, albeit likely quite volatile, oil prices. Aker BP will benefit from this, as they embark on a significant production growth plan. In turn these cash flows can be returned to Aker through dividends (with Aker BP’s dividend growing +10% year-over-year) and invested in higher growth/higher terminal value businesses. Over the last year, Aker have experienced some road bumps in this regard, with shares in Aker Horizons, the renewables holding company established in 2020, declining by some two-thirds (and now accounting for just 3% of NAV). This speaks to the operational complexity of solving the climate crisis and the capital required to get there – something which becomes more relevant when risk free rates are no longer zero.”
IAC
“Having been the most significant detractor from returns last year, IAC – the North American holding company controlled by Barry Diller – was also a detractor from returns this year. Over the course of the year the shares declined -9%, as a -15% decline in the NAV was partially sheltered by a narrowing of the discount from 41% to 37%.
“In last year’s Annual Report we wrote: “So what’s gone wrong? The short answer is lots”. This year fewer things have gone wrong, and there are green shoots of improvement, but nothing has gone right as such, and investors remain highly sceptical about the extent to which key assets Angi (12% of NAV) and Dotdash Meredith (10%) can drive both top and bottom-line growth.
“In IAC CEO Joey Levin’s quarterly letter at the start of the year, he talked of a “back to basics” strategy. This has clearly been evidenced at Angi, the home services marketplace. Since becoming CEO of Angi a little under a year ago, Levin has steadied the ship. Measures to reduce the cost structure have been implemented. There have been meaningful reductions in sales team headcount, and over the first half of 2023 capex has been cut by nearly two-thirds. He has started to simplify the product offering and ambition, turning losses from Services from -$13m in the second quarter of 2022 to profits of +$2m this year, as they exit un-economic offerings. Arguably this is the “easy” bit and the next stage of showing the business can successfully drive top-line growth is the hard bit – with the jury very much still out as to whether this is possible. That said, the “easy” bit is not to be sniffed at – after all the company churned through three CEOs in five years who couldn’t do it! With earnings starting to ramp up, we believe this creates a base from which value can be grown and extracted. At the current $1.1bn enterprise value – which equates to 0.7x trailing sales and ~8x next year EBITDA – we believe the business could be of interest to financial buyers given the attractive cash generative nature of the core Ads & Leads business and room for cost cutting from non-core areas. This would be an attractive outcome for IAC shareholders, giving the company significant capital to allocate. Alternatively, although sceptical, we remain open minded to Joey Levin continuing to drive fundamental improvements, re-igniting growth and margins – something to which the market doesn’t appear to be assigning a high probability.
“Turning to Dotdash Meredith (10% of NAV) – the digital media company that was established in 2021 when IAC’s Dotdash acquired the storied media brands of the Meredith Corporation – there are also signs of improvement. Whilst 2022 had always been billed as a transition year, a deterioration in ad markets, compounded by a much slower and more complex than anticipated integration, meant the first twelve months of ownership were ones to forget. In 2023 the integration issues are now behind them, with the focus now solely on navigating a challenging macro environment. In aggregate, management describe the ad market as being in a state of “stable weakness”, albeit with significant variation by category. We remain somewhat cautious on the heavy lifting that the second half of the year will have to do for Dotdash Meredith to reach management guidance of $250-300m adjusted EBITDA but, given the high incremental margins the business earns, are excited about the prospects for meaningful recovery in earnings and growth over the medium term – validating the acquisition.
“Whilst at 37% the discount is narrower than it was a year ago, it remains wide both in absolute terms and relative to history. As the “anti-conglomerate conglomerate” with a history of spinning assets to shareholders, which acts as a pull to par, we believe the fair discount is much closer to zero. Combined with the prospects for improved earnings growth, prospective returns appear attractive. Management seem to agree, having bought back 3.7% of shares outstanding between February and May 2023. With net cash equalling c.18% of market cap, we believe there should be more of this.”