Smithson Investment Trust has published results covering the 12 month period ended 31 December 2024. It was another poor year for returns as the NAV total return of 2.1% fell some way short of the 11.5% return generated by the MSCI World SMID Index. The discount narrowed a bit from 11.5% to 9.1% and that meant that shareholders got a return of 4.9%.
There is a dividend of 0.58p planned to be paid in May, the first dividend that the company has declared. The chairman reminds investors that given the nature of the trust’s investments, shareholders should not anticipate a substantial annual dividend in the future.
The company bought back 29.2m shares during 2024 and has now bought back more than 25% of its shares in issue since buybacks began in 2022. Buying shares back added 2.4% to the NAV per share during 2024.
[There is a continuation vote scheduled for this year’s AGM in April. It will be interesting to see the outcome of that.]
The NAV return since launch is now just behind that of the benchmark (63.2% for the trust versus 64.2% for the index) but shareholders are lagging by some distance with a return of 48.4%. However, things have perked up a bit in 2025, so far, with the NAV up 5.9% against 1.1% for the benchmark index.
The investment manager is implementing some changes to the portfolio to address this. The board is going to tweak the investment policy to permit the manager to buy any stock in the MSCI SMID Index. That broadens out the market cap range of permitted investments from between £500m and £15bn to between $64m to $67.4bn (using market cap figures as at 31 December 2024). Shareholders need to approve this. [This echoes a similar proposal by Edinburgh Worldwide. US listed companies are on average so much larger that UK ones than the largest stocks in the small and mid cap index globally are as big as some of the largest stocks in the FTSE100. Interestingly, however, as the manager says below, it intends to focus on the smaller end of the range.]
The chairman notes that globally small cap has lagged large cap by 41 percentage points over the period since the company launched in 2018 (based on returns on MSCI indices).
Extracts from the manager’s report – this was first published on 27 January 2025.
This year’s performance has prompted us to expend time and thought on potential improvements and as a result we have made incremental changes to our process. To become world class in any endeavour requires not only a relentless high effort, but the focus of that effort into a singular area of expertise. And, like a magnifying glass focusing the sun’s energy onto a single spot, the more effective the focus, the brighter your result.
Thus, the primary change to our process is to focus ever closer on the specific areas where we think the best long term returns will reside, with the exclusion of all distractions. We are already fortunate to have the luxury to ignore any area of the market that we don’t think will provide sustainable long term returns and can therefore remove the noise of such things as meme stocks, unprofitable companies, fluctuating commodities (including bitcoin) and all other highly volatile diversions. But while we were concentrating on companies of £500 million to £15 billion in market capitalisation, we now believe our attention should be placed into businesses in the lower half of this range, driven by the fact that many of our companies have grown quite large during our period of ownership. It makes intuitive sense to us that a good small company has a much greater probability of increasing in value multiple times than a large one. You will notice the first change in the portfolio to directly address this described below.
Further, we believe that if we can find small companies which are improving their profitability by serving long term growth areas within our typical sectors of technology, industrials, consumer and healthcare, there will be plenty of future ‘multiple bagger’ investments presented to us. We have identified many such growth areas including the electrification of industry and transport, energy infrastructure construction and maintenance, space and aerospace industry suppliers, AI deployment and data centre construction, healthcare diagnostics and small pharmaceutical and biotechnology company research and development. Other recent changes in the portfolio have originated from these avenues of discovery.
This year, we have also made the first addition to the investment management team, with Kurran Aujla joining as an analyst. Will Morgan recently left the company.
Of course, the overarching investment strategy, proven over decades, of buying good companies, not overpaying and then holding as long as we can to allow our investments to compound in value, remains unchanged.
Not overpaying for these companies can be assessed by looking at the average free cash flow yield (the free cash flow divided by the market capitalisation) of the portfolio. This has increased to 3.3% from 2.8% this time last year. Over the last twelve months, the growth in free cash flow for our companies was 45% on a weighted average basis, although this includes several companies rebounding in profitability from a low point induced by the pandemic. The median average figure, which in this case is likely more instructive, was 22%.
Regarding our holding period, while our ambition is to maintain our positions for many years, this is particularly difficult with small companies, for three main reasons:
- management teams, particularly those which are founder-led, are able to and sometimes prone to abruptly change the capital allocation strategy of the company;
- the niche markets in which small companies operate can quickly shift in terms of demand trends or competitive dynamics, exacerbated by some companies having exposure to just a single market;
- the more volatile share prices of small capitalisation companies relative to large capitalisation ones can lead to more frequent valuation extremes in the former group.
The top five detractors to performance:
Temenos, a Swiss banking software company, caused us much frustration over the first few months of the year. We now believe that the company will require more investment in the short and medium term to fix a badly managed transition to a Software-as-a-Service (SaaS) business model, which will likely place pressure on both margins and returns over the coming years. We therefore sold the company in the first half.
Spirax Group, the industrial business based in the UK, has been a victim of slowing global industrial production growth over the last couple of years, which has continued falling, down from 1.5% in August to 0.9% now. All regions have slowed but there was particular weakness in China due to its struggling property market having knock-on effects across its economy. Further to this, Spirax’s peristaltic pumps business has a large exposure to the biopharma business which has been weak since the pandemic-stimulated boost faded away. Still, the latest trading statement showed some acceleration in group revenue growth, with all business units now growing again, which we take as a positive early sign of recovery.
Domino’s Pizza Enterprises, the Australian Domino’s franchisor also performed poorly during the year. This is a company that had performed very well until 2021, after which mis-execution in several markets, including Japan and Germany, led to underperformance. While management has set out a plan to recover sales in these markets, we believe that given the amount of time this turnaround might take, our shareholders’ capital would be better deployed in other opportunities, and we sold the position. Interestingly, the company’s supervisory Board appeared to share our impatience and recently parted ways with the long serving CEO.
Fevertree is the UK producer of premium tonics and mixers. While its margins have been recovering from the logistics and raw material cost squeeze it suffered in recent years, its overall demand environment has become weaker over the last 12 months due to declining alcohol consumption, particularly the gin market in the UK, its largest and most profitable market.
Qualys is a US company providing cyber security software and its order growth has been held back recently by the macroeconomic uncertainty leading to reductions in corporate IT budgets. We expect this to be temporary and for orders to recover once corporate budgets start growing again. Indeed, in the latest results, billings growth rebounded to 14%, sending the share price up 16% at the time of the report. As it happens, there was also bid speculation reported on the same date, causing the shares to jump a further 10% by the end of the day.
The top five contributors to performance:
Fortinet, the US cybersecurity company performed extremely well this year, up 55% in share price terms, after results in Q2 and Q3 positively surprised the market. In particular, the growth rate of bookings started reaccelerating in Q2 after a substantial slowdown over the last couple of years. This news sent the share price up 25% in a single day, which once more demonstrates that equity returns are anything but linear.
Fisher & Paykel Healthcare, the medical device company based in New Zealand, had a much better year as its demand recovered from the post-Covid lull it had experienced over the last couple of years, propelling the share price to new highs.
Addtech, the diversified Swedish industrial business, has only been in the portfolio for 3 years but over that time its share price has more than doubled. Earnings results over the last 12 months continued to be better than expected, primarily due to its strategy of frequently acquiring small, profitable companies at low multiples of earnings.
TechnologyOne, the software company based in Australia, continued its strong share price performance as the business managed to maintain the mid-teens revenue growth it has achieved since 2022. This is a result of a successful transition to Software-as-a-Service (SaaS) for its Enterprise Resource Planning (ERP) software, which has proven popular with institutional clients such as universities and the UK government.
Diploma is an industrial distribution business that has performed so well over the last few years that it has grown into our largest holding. This has been achieved through an admirable ability by management to maintain organic growth in the mid single digit range despite the slowing global industrial production, while also adding new companies to the group which have significantly outperformed management’s initial expectations, thus proving to be extremely good value acquisitions.
SSON : Smithson bids to turn performance around with focus on smaller end of its universe
