Law Debenture – winner of best investment company for income two years in a row in our Investors’ Choice Awards – is a unique trust. There are two distinct components to the portfolio: a UK equity income portfolio and a professional services business.
Denis Jackson is Law Debenture’s CEO – not a position that you normally associate with investment companies, where the board is usually all non-executive. He took on the job at the start of 2018. The professional services business that he runs accounts for about 18% of the trust’s NAV but provides about a third of its income.
The equity portfolio is managed by James Henderson and Laura Foll. James has been working with the trust since 1994 and became manager in 2003. Laura was James’s assistant from 2011 to 2019 and was then promoted to joint manager.
The two components are complementary. The income that the professional services business generates gives the managers more freedom to invest in lower-yielding but faster-growing companies. The substantial equity portfolio and the trust’s 136-year track record lend the professional services business a sense of solidity, which helps it win clients.
The professional services component encompasses a wide range of different business lines. They range from company secretarial work to pension trustee, and from providing escrow accounts (for the likes of commercial real estate deals and M&A) to whistleblowing services.
Many of these actually thrive when economies/markets are struggling. For example, in its role as a bond trustee, Law Debenture takes on the job of ensuring the best outcome for bondholders when a bond defaults, which was a boon in the financial crisis. More recently, the pension trustee business saw a pick up of activity as interest rates rose and defined benefit pension funds moved into surplus. In both cases, these were periods of equity market weakness. That counter-cyclical element helps smooth Law Debenture’s returns. In 2020, while COVID was upsetting stock markets and causing dividend suspensions, the share of income provided by the professional services business was about 65%.
The fees that the business earns are often long-term and inflation-linked (usually to RPI). That is an extra source of comfort for a company that has built up a track record of growing its dividend each year for 46 consecutive years and would love to maintain that. Denis says that there are plenty of growth opportunities as it expands into new business areas and geographies.
The underlying customer base is very diverse, the largest accounts for about 1% of turnover. Two thirds of the income is repeat business, which makes this a high-quality income stream.
The UK equity portfolio includes a spread of large, medium, and small companies. About 60% is currently in FTSE 100 companies, which is less than their weight in Law Debenture’s FTSE All-Share Index performance benchmark. That reflects the managers’ views of where the best value is on offer within the market. For example, James and Laura have been adding to the trust’s AIM exposure as many of these companies sold off in the wake of changes to inheritance tax rules around AIM stocks.
The investment approach is contrarian, and the portfolio has an overweight exposure relative to the benchmark in sectors such as capital goods, manufacturing, and industrials. In part, this is predicated on a belief that UK interest rates will continue to fall next year.
The managers feel that many portfolio companies are operationally leveraged so that even small uplifts in revenues will translate into meaningful increase in profits.
The largest positions in the portfolio will be well-known to you – companies such as Barclays, Shell, and Rio Tinto. However, the portfolio is diversified by design. More recent investments include: foundry business Castings (which falls into that operationally leveraged category mentioned above); Workspace, which trades on an attractive discount to its underlying asset value; fuel cell company AFC Energy, whose fuel cells are helping to replace polluting diesel generation; and IP Group, the company established to commercialise some of the best ideas emerging from UK universities.
Law Debenture has the ability to hold overseas stocks too – at the end of October these accounted for about 9% of the portfolio. This allows the trust to have exposure to sectors that are not well represented in the UK market. Japanese automaker Toyota Motor is a good example of this.
One of the strengths of the investment company structure is that you can use gearing to enhance returns. At the end of October, the net gearing ratio was 12.3%. In recent years, the trust managed to take advantage of the low interest environment to lock in some long term and inexpensive debt. The weighted average cost of debt was under 4% at the end of 2024. That includes some debt with fixed interest cost of just over 2.5% per annum that does not need to be repaid until 2050.
Investors were no doubt minded to give Law Debenture the award on the back of its impressive dividend growth track record. Over the 10 years to the end of 2024, the dividend grew by over 113%. By contrast, inflation was about 35%. It probably also helped that over that period the share price rose from 530p to 893p. We think its win was well deserved, could it make it three in a row?
