KEYSTONE POSITIVE CHANGE INVESTMENT TRUST PLC
KEYSTONE INVESTMENT TRUST PLC
ANNUAL FINANCIAL REPORT ANNOUNCEMENT
FOR THE YEAR ENDED 30 SEPTEMBER 2017
FINANCIAL INFORMATION AND PERFORMANCE STATISTICS
Performance Statistics
2017 2016
% CHANGE % CHANGE
Total Return Statistics(1)
(capital growth with income reinvested)
Net asset value (NAV) - debt at market value +7.8 +5.4
Share price +3.2 +1.3
FTSE All-Share Index +11.9 +16.8
AT AT %
30 SEPTEMBER 30 SEPTEMBER CHANGE
2017 2016
Capital Statistics
Net assets (£'000) 275,387 264,947 +3.9
NAV per share - debt at market value 1979.9p 1894.9p +4.5
Share price(1) 1730.0p 1735.5p -0.3
FTSE All-Share Index(1) 4049.9 3755.3 +7.8
Discount† of share price to net asset value per
share:
- debt at market value 12.6% 8.4%
Gearing from borrowings†- gross 11.6% 12.1%
- net 6.6% 6.2%
FOR THE YEAR TO 30 SEPTEMBER
2017 2016
Revenue Statistics
Net revenue available for ordinary shareholders (£ 8,316 8,386
'000)
Revenue return per ordinary share 61.5p 62.0p -0.8
Dividends per ordinary share - first interim 18.0p 18.0p
- second 37.0p 35.0p
interim
55.0p 53.0p +3.8
- special 4.7p 5.3p
- total 59.7p 58.3p
Ongoing charges†:
Excluding performance fee 0.61% 0.69%
Performance fee 0.00% 0.03%
† Defined in the Glossary of Terms on page 66.
(1) Source: Thomson Reuters Datastream.
CHAIRMAN'S STATEMENT
Performance
The total return to shareholders over the year to 30 September 2017 was 3.2%,
based on the share price with dividends reinvested. While positive, this return
is disappointing as it was some way behind our benchmark, the FTSE All-Share
Index, which posted a total return of 11.9%. The total return on the underlying
net asset value (NAV) per share was 7.8% with debt at market (fair) value, thus
part of the share price underperformance came from the widening of the discount
at which the shares traded relative to the NAV.
Both the three year share price and net asset value performance now lag our
benchmark, with a NAV total return of 20.9% compared with 27.8% for the
benchmark. Accordingly, no performance related fee is payable (2016: £65,000).
Longer term share price performance has also been affected by the variations in
the discount. The Company's five and ten year share price total returns were
55.7% and 114.7% respectively. The NAV per share total returns over the same
periods were 78.6% and 120.4%, compared with total returns of 61.2% and 75.2%
for the FTSE All-Share Index (source: Invesco, Thomson Reuters Datastream).
The Manager's Report section of the Strategic Report provides background to the
year's investment performance and details some of the issues faced. A number of
stock specific factors had a significant negative impact, such as Provident
Financial, Acacia Mining and BT Group. In addition, not holding HSBC and being
underweight in commodity stocks adversely affected the Company's performance
relative to the benchmark in the year under review.
The weighted average discount of the investment companies in the UK All
Companies sector remained wide through the year and was 9.7% at 30 September
2017 compared with 9.2% at 30 September 2016 (source: JP Morgan Cazenove). The
average discount at which the Company's ordinary shares traded relative to
their underlying NAV (with debt at fair value) over the past year widened to
10.6%, from 7.7% last year. At the year end the share price stood at a discount
of 12.6% to the NAV (debt at fair value).
Revenue and Dividends
Income in the year, excluding special dividends, was £9,060,000 (2016: £
9,062,000). The amount of special dividends received fell and consequently the
total income for the year of £9,703,000 is marginally less than last year's £
9,783,000. The revenue return after tax fell correspondingly from 62p to 61.5p
per ordinary share.
The Board has declared a second interim dividend, in lieu of a final, of 37p
per share (2016: 35p), giving a total ordinary dividend for the year of 55p per
share (2016: 53p). The dividend will be paid on 22 December 2017 to
shareholders on the register on 1 December 2017.
The Company has continued to benefit from special dividends received from
investee companies, albeit at a lower scale than last year. These dividends
totalled £643,000, the equivalent of 4.76p this year (2016: £721,000; 5.33p)
and the Board has decided again to pass the greater part of this on to
shareholders as a special dividend of 4.7p (2016: 5.3p). The special dividend
will be paid at the same time as the second interim dividend. As indicated in
my statement last year, special dividends received are likely to continue to
decline.
Management Arrangements - Portfolio Manager
As reported in the half-yearly report, James Goldstone took over from Mark
Barnett as portfolio manager from 1 April 2017. The Board would like to thank
Mark Barnett for his outstanding long term returns for shareholders over the
past 14 years.
James has made significant changes to the portfolio, reflecting his views on
the UK economic outlook amid wider political uncertainty. Encouragingly, the
NAV total return of 3.6% achieved in the six months since he took control of
the portfolio has matched the benchmark FTSE All-Share Index's return of 3.6%
over the same period, despite the setbacks outlined in his Manager's Report.
Management Arrangements - Fees
During the year the Board agreed with the Manager a revised fee arrangement
with an effective date of 1 April 2017. Under this new arrangement, the Manager
is entitled to a reduced management fee of 0.45% per annum (previously 0.6%) of
the Company's market capitalisation. All other terms relating to fees remain
unchanged from the existing management agreement.
The Board
The Directors recognise the importance of the AIC Code particularly in terms of
evaluating the performance of the Board as a whole, the respective Committees
of the Board and individual Directors. In May 2017, the Board engaged an
independent consultancy firm, Nurole Limited, to undertake a review of the
Board as then constituted. The review process is further detailed in the
Directors' Report on pages 52 and 53.
The Board announced on 22 August 2017 the appointment of two new non-executive
Directors, Karen Brade and Katrina Hart, with effect from 18 January 2018. Both
bring extensive experience of the equity markets to the Board, and therefore we
recommend that shareholders support their election at the forthcoming AGM.
Their profiles are set out on page 18. Peter Readman, who has served on the
Board since 1993, will retire at the AGM and we extend our thanks for his long
and dedicated service on behalf of shareholders.
Gearing
The Board takes responsibility for the Company's gearing strategy and sets
parameters within which the portfolio manager operates. The Company's
borrowings, in the form of long-term debentures, amount to £32 million. The net
gearing of the Company is determined by the extent to which these borrowings
are invested. The Board has remained fairly cautious throughout the past year,
and the parameters limiting the Manager have not changed, being that no net
purchases be made which would take equity exposure above 107.5% of net assets
and that sales be made if, as a result of market movements, equity exposure
goes higher than 115% of net assets. It is a decision of the portfolio manager
where to set the portfolio's exposure subject to these limits. When held,
corporate bonds are not treated as equity exposure for the purposes of the
gearing limits.
Outlook
Although the outlook for the UK remains uncertain, the Board is confident that
James Goldstone has positioned the portfolio in opportunities that will,
combined with his differentiated investment approach, generate worthwhile
returns over time and enable the Company to fulfil its investment objective to
provide shareholders with long-term growth of capital.
AGM
The Notice of the AGM of the Company is on pages 60 to 63 and a summary of the
resolutions is set out in the Directors' Report on pages 58 and 59. The AGM
will be held on 18 January 2018 at 1st Floor, 43-45 Portman Square, London W1H
6LY at 11.00am and shareholders are cordially invited to attend.
This year, there is a new resolution in response to requests from voting
agencies to have the opportunity to vote on the Company's dividend payment
policy, as detailed on page 8. This is an advisory resolution.
The Board has carefully considered all the resolutions proposed in the Notice
and, in their opinion, consider them all to be in the interests of the
shareholders as a whole. The Directors and the portfolio manager, James
Goldstone, will be available at the meeting to answer shareholders' questions.
Beatrice Hollond
Chairman
27 November 2017
STRATEGIC REPORT
FOR THE YEAR ENDED 30 SEPTEMBER 2017
BUSINESS REVIEW
Keystone Investment Trust plc is an investment company holding investments with
a market value in excess of £290 million and its investment objective is set
out below. The strategy the Board follows to achieve that objective is to set
investment policy and risk guidelines, together with investment limits, and to
monitor how they are applied. These are also set out below.
The business model adopted by the Company to achieve its objective has been to
contract the services of Invesco Fund Managers Limited (the 'Manager') to
manage the portfolio in accordance with the Board's strategy and under its
oversight. The Manager also provides company secretarial, marketing and general
administration services. The portfolio manager responsible for the day-to-day
management of the portfolio was Mark Barnett to 31 March 2017 and, as explained
in the Chairman's Statement, James Goldstone took over as portfolio manager on
1 April 2017.
All administrative support is provided by third parties. In addition to the
management and administrative functions of the Manager, the Company has
contractual arrangements with Link Asset Services (formerly known as Capita
Asset Services) as registrar and BNY Mellon Trust & Depositary (UK) Limited as
the depositary. The depositary has delegated the safekeeping (custody) of the
Company's investments to The Bank of New York Mellon (London Branch). From 1
December 2017, the depositary and custodian will become The Bank of New York
Mellon (International) Limited following novation of the depositary agreement.
This transfer will have no substantive effect on the current services and
arrangements.
Investment Objective and Policy
Investment Objective
The Company's objective is to provide shareholders with long-term growth of
capital, mainly from UK investments.
Investment Policy and Risk
The portfolio is invested by the Manager so as to maximise exposure to the most
attractive sectors and stocks within the UK stock market and, within the limits
set out below, internationally. The Manager does not set out to manage the risk
characteristics of the portfolio relative to the benchmark index and the
investment process will result in potentially very significant over or
underweight positions in individual sectors versus the benchmark.
The Manager controls stock-specific and sector risk by ensuring that the
portfolio is always appropriately diversified. In depth, continual analysis of
the fundamentals of investee companies allows the portfolio manager to assess
the financial risks associated with any particular stock. The portfolio is
typically made up of 50 to 80 stocks. If a stock is not considered to be a good
investment, then the Company will not own it, irrespective of its weight in the
index.
Investment Limits
The Board has prescribed the following limits on the investment policy, all of
which are at time of investment unless otherwise stated:
- no single equity investment in a UK listed company may exceed 12.5%
of gross assets;
- the Company will not invest more than 15% of its assets in other
listed investment companies;
- the Company will not invest more than £12 million in bonds, with a
maximum of £1.5 million in any issue;
- the Company will normally not invest more than 5% of gross assets in
unquoted investments;
- the Company will not normally invest more than 15% of its equity
investments in companies that are not UK listed and incorporated; and
- borrowing may be used by the Company to create gearing within limits
determined by the Board.
Gearing Policy
The Board carefully considers the Company's policy in respect of the level of
equity exposure. The Board takes responsibility for the Company's gearing
strategy and sets guidelines to control it, which it may change from time to
time. These guidelines currently require that the Manager must make no net
purchases if equity exposure is more than 107.5% of net assets, and must make
sales if, as a result of market movements, equity exposure is to exceed 115% of
net assets. When held, corporate bonds are not treated as equity exposure for
the purposes of the gearing limits.
Foreign Exchange
The Company has some non-sterling denominated investments and is therefore
subject to foreign exchange risk. The Board monitors foreign currency exposure
and takes a view, from time to time, on whether foreign currency exposure
should be hedged. For the present, the Board has prescribed that all currency
exposure should be hedged other than US dollar and Swiss franc.
Performance
Delivery of shareholder value is achieved through outperformance of the
relevant benchmark.
The Board reviews performance by reference to a number of Key Performance
Indicators that include the following:
• net asset value (NAV) and share price total return compared with
benchmark and peer group performance;
• share price premium/discount relative to the net asset value;
• dividends; and
• ongoing charges.
The Company's NAV and share price total returns for the year to 30 September
2017 were 7.8% and 3.2% respectively, both of which were substantially less
than the total return of the Company's benchmark, the FTSE All-Share Index, of
11.9%. The Manager's Report on pages 12 to 15 provides commentary on the
reasons for the performance.
The combination of this year's relative underperformance and that of last year
has also affected longer term performance. Over three years, the Company's NAV
and share price returns were 20.9% and 12.2%, respectively, compared to the
benchmark return of 27.8%. The Manager is entitled to a performance-related fee
based on the last three years' NAV performance, but this year no fee accrues.
A table of the returns for the last ten years, together with a graph, can be
found on page 3.
Peer group performance is monitored by comparing the Company with the 13
investment companies making up the UK All Companies sector of the approximately
300 investment companies in the UK and a bespoke list of investment companies
which the Board considers most closely resemble the Company. As at 30 September
2017, in NAV total return terms, the Company was ranked 11 in its sector over
one year, 9 over three years and 7 over 5 years (source: JPMorgan Cazenove).
The Company's shares traded at a discount relative to NAV (with debt at fair
value) through the year, as shown in the following graph. The discount at the
year end was 12.6%
There is no specific target discount. The Board asks shareholders to approve
resolutions every year which allow for the repurchase of shares (for
cancellation or to be held as treasury shares) and also their issuance. This
may assist in the management of the discount. The Company has not issued any
ordinary shares in the year and no shares were repurchased.
Dividends form a key component of the total return to shareholders. The income
from the portfolio and potential level of dividend payable is reviewed at every
board meeting. The Board's Dividend Payment Policy is for the Directors to
declare two dividends in respect of each accounting year, for payment in June
and December. Additional special dividends may be declared, at the discretion
of the Directors.
A first interim dividend of 18p (2016:18p) per share was paid on 23 June 2017
and a second interim dividend of 37p (2016: 35p) per share has been declared,
which is payable on 22 December 2017 to shareholders on the register at 1
December 2017. These give a total ordinary dividend for the year of 55p
compared with 53p for the previous year. The Board has also declared a special
dividend of 4.7p (2016: 5.3p) to be paid at the same time as the second interim
dividend. The dividend history of the Company over the last ten years is shown
in the table on page 3.
The ongoing charge is the industry measure of the Company's operating costs as
a percentage of net asset value. The expenses of the Company are reviewed at
every board meeting, with the aim of managing costs incurred and their impact
on performance. The ongoing charges figure for the past year, which excludes
any performance fee, was 0.61%, compared with 0.69% for the year to 30
September 2016. The ten year record of ongoing charges is shown on page 3.
Financial Position
At 30 September 2017, the Company's net assets were valued at £275 million
(2016: £265 million). These comprised a portfolio of mainly equity investments
and net current assets.
At this and the previous year end, the Company's ordinary shares were geared by
borrowings in the form of two issues of long-term debentures, totalling £32
million nominal. Their weighted average interest rate was 6.77% for both years.
The Company also had £0.25 million of 5% cumulative preference shares in issue.
The Company also has an uncommitted short-term overdraft facility, of up to 10%
of net assets, with the custodian for settlement and liquidity purposes. This
was undrawn at the year end.
Outlook and Future Trends
The main trends and factors likely to affect the future development,
performance and position of the Company's business can be found in the
following Manager's Report section of this Strategic Report. Further details as
to the risks affecting the Company are set out below under 'Principal Risks and
Uncertainties'.
Principal Risks and Uncertainties
The audit committee regularly undertakes a robust assessment of the risks the
Company faces, on behalf of the Board (see Audit Committee Report on pages 21
to 23).
The following are considered to be the most significant risks to the Company
and to shareholders in relation to their investment in the Company. Further
details of risks and risk management policies as they relate to the financial
assets and liabilities of the Company are detailed in note 16 to the financial
statements.
Investment Objective
There is no guarantee that the Company's strategy and business model will be
successful in achieving its investment objective.
The Board monitors the performance of the Company and has established
guidelines to ensure that the investment policy that has been approved is
pursued by the Manager.
Market Risk
The majority of the Company's investments are traded on the London Stock
Exchange. The principal risk for investors in the Company is of a significant
fall in stock markets and/or a prolonged period of decline in the markets
relative to other forms of investment. The value of investments held within the
portfolio is influenced by many factors including the general health of the
economy in the UK, interest rates, inflation, government policies, industry
conditions, political events, tax laws, environmental laws and investor
sentiment. The portfolio manager has summarised in the Manager's Report section
of this Strategic Report particular factors affecting the performance of
markets in the year and his view of those most pertinent to the outlook for the
portfolio. Such factors are out of the control of the Board and the Manager and
may give rise to high levels of volatility in the prices of investments held by
the Company, although the use or elimination of gearing may modify the impact
on shareholder return.
Investment Risk
An inherent risk of investment is that the stocks selected for the portfolio do
not perform well.
The investment process employed by the Manager combines top down assessment of
economic and market conditions with stock selection. Fundamental analysis forms
the basis of the Company's stock selection process, with an emphasis on sound
balance sheets, good cash flows, the ability to pay and sustain dividends, good
asset bases and market conditions. The process is complemented by constant
assessment of market valuations. It is important to have a sense of a company's
realistic valuation which, to some extent, will be independent of the price at
which it trades in the market. Overall, the investment process is aiming to
achieve absolute returns through a genuinely active fund management approach.
This can therefore result in a portfolio which looks substantially different
from the benchmark index.
Risk management is an integral part of the investment management process. The
Manager effectively controls risk by ensuring that the Company's portfolio is
always appropriately diversified. Continual analysis of all holdings gives the
Manager a full understanding of financial risks associated with them.
The portfolio of investments held at 30 September 2017 is set out on pages 16
and 17.
Past performance of the Company is not necessarily indicative of future
performance.
Shares
Shareholders are exposed to certain risks in addition to risks applying to the
Company itself.
The ordinary shares of the Company may trade at a premium or discount to its
NAV. The Board monitors the price of the Company's shares in relation to their
NAV and the premium/discount at which they trade.
The value of an investment in the Company and the income derived from that
investment may go down as well as up and an investor may not get back the
amount invested.
While it is the intention of the Directors to pay dividends to ordinary
shareholders twice a year, the ability to do so will depend upon the level of
income received from securities and the timing of receipt of such income by the
Company. Accordingly, the amount of the dividends paid to ordinary shareholders
may fluctuate. Any change in the tax or accounting treatment of dividends or
other investment income received by the Company may also affect the level of
dividend paid.
The Directors seek powers to issue and buy back the Company's shares each year,
which can be used to help manage the level of discount. The Board also monitors
the level of revenue available for distribution at each Board meeting.
Gearing
Gearing levels may change from time to time in accordance with the Manager's
and the Board's assessment of risk and reward. Whilst the use of borrowings by
the Company should enhance total return where the return on the Company's
underlying securities is rising and exceeds the cost of borrowing, it will have
the opposite effect where the underlying return is falling. As at 30 September
2017, net gearing from borrowings stood at 6.6% (2016: 6.2%). The Board and the
Manager regularly review gearing and will continue to monitor the level closely
over the year ahead.
Reliance on the Manager and Other Service Providers
The Company has no employees and the Directors have all been appointed on a
non-executive basis. The Company is reliant upon the performance of third party
service providers for it to function. In particular, the Manager performs
services that are integral to the operation of the Company. Failure by any
service provider to carry out its obligations to the Company in accordance with
the terms of its appointment or compromise of their systems could have a
materially detrimental impact on the operation of the Company and could affect
the ability of the Company to successfully pursue its investment policy.
The Company has limited direct exposure to cyber risk. However, the Company's
operations or reputation could be affected if any of its service providers
suffered a major cyber security breach. The Board monitors the preparedness of
its service providers in this regard and is satisfied that the risk is given
due priority.
The Manager may be exposed to reputational risks. In particular, the Manager
may be exposed to the risk that litigation, misconduct, operational failures,
negative publicity and press speculation, whether or not it is valid, will harm
its reputation. Any damage to the reputation of the Manager could result in
potential counterparties and third parties being unwilling to deal with the
Manager and by extension the Company. This could have an adverse impact on the
ability of the Company to pursue its investment policy successfully. The
Company's main service providers are listed on page 65.
The Board monitors the services provided to the Company, informally at every
Board meeting and formally at least annually.
Regulatory
The Company is subject to various laws and regulations by virtue of its status
as a public limited company, as an investment trust and as an alternative
investment fund. A loss of investment trust status could lead to the Company
being subject to capital gains tax on the profits arising from the sale of its
investments. A serious breach of other regulatory rules might lead to
suspension from the Stock Exchange. Other control failures, either by the
Manager or another of the Company's service providers, might result in
operational or reputational problems, erroneous disclosures or loss of assets
through fraud, as well as breaches of regulations.
The Manager reviews the level of compliance with tax and other regulatory
financial requirements on a daily basis. All transactions, income and
expenditure are reported to the Board. The Board regularly considers all risks,
the measures in place to control them and the possibility of any other risks
that could arise. The Board ensures that satisfactory assurances are received
from service providers. The Manager's Compliance Officer produces regular
reports for review by the Company's Audit Committee.
Viability Statement
The Company is a collective investment vehicle rather than a commercial
business venture and is designed and managed for long term investment. The
Company's investment objective clearly sets this out. Long term for this
purpose is considered by the Directors to be at least five years and
accordingly they have assessed the Company's viability over that period.
However, the life of the Company is not intended to be limited to that or any
other period.
In assessing the viability of the Company the Directors considered the
Company's current position, the principal risks to which it is exposed and
their potential impact on its future development and prospects. The most
significant of these are shareholder dissatisfaction arising from failure to
meet the Company's investment objective, through poor investment performance or
because the investment policy is no longer appropriate to the prevailing market
conditions, and contributory market and investment risks. The Board also took
into account the capabilities of the Manager and the varying market conditions
experienced, which have effectively stress tested the Company over many years
through different and difficult market cycles.
In terms of financial risks to viability, save for the limited value ascribed
to unquoted investments, the Company's portfolio is readily realisable and many
times the value of its short term liabilities and annual operating costs. The
Company also has long term debt obligations comprising two debentures. The
smaller debenture, £7 million, falls due in 2020 and the larger, £25 million,
in 2023. In aggregate this long term debt amounts to 10% of total assets less
current liabilities, so the principal is more than nine times covered and the
risk that interest obligations will not be met is negligible.
Based on the above, and assuming there is no significant adverse change to the
regulatory environment and tax treatment of UK investment trusts, the Directors
have a reasonable expectation that the Company will be able to continue in
operation and meet its liabilities as they fall due over the five year period
of assessment.
Board Diversity
The Company's policy on diversity is set out on page 52. The Nomination
Committee considers diversity, including the balance of skills, knowledge,
gender and experience, amongst other factors, when reviewing the composition of
the Board and appointing new directors but does not consider it appropriate to
establish targets or quotas in this regard. At the date of this report, the
Board comprises five non-executive directors of whom one, the Chairman, is a
woman thereby constituting 20% female representation. Two new female directors
have been nominated for election at the forthcoming AGM, at which one of the
male directors will retire, so this ratio will increase. Summary biographical
details of the Directors are set out on page 18. The Company has no employees.
Social and Environmental Matters
As an investment company operating as an investment trust, with no employees,
property or activities outside investment, environmental policy has limited
application. The Manager considers various factors when evaluating potential
investments. While a company's policy towards the environment and social
responsibility, including with regard to human rights, is considered as part of
the overall assessment of risk and suitability for the portfolio, the Manager
does not necessarily decide to, or not to, make an investment on environmental
and social grounds alone. The Manager applies the United Nations Principles for
Responsible Investment.
The Company is an investment vehicle and does not provide goods or services in
the normal course of its business, or have customers. Accordingly, the
Directors consider that the Company is not required to make any slavery or
human trafficking statement under the Modern Slavery Act 2015.
Stewardship
The Board considers that the Company has a responsibility as a shareholder
towards ensuring that high standards of corporate governance are maintained by
the companies in which it invests. The Company's stewardship functions have
been delegated to the Manager, who exercises the Company's voting rights and
reports back to the Board. The Manager has adopted a clear and considered
policy towards its responsibility as a shareholder on behalf of the Company. As
part of this policy, the Manager takes steps to satisfy itself about the extent
to which the companies in which it invests look after shareholders' value and
comply with local recommendations and practices, such as the UK Corporate
Governance Code. A copy of the Manager's Policy on Corporate Governance and
Stewardship can be found at www.invescoperpetual.co.uk.
MANAGER'S REPORT
Market Review
As explained in the half year financial report, the UK equity market ended the
2016 calendar year on a strongly positive note as global equity markets and
government bond yields rose in response to the surprise election of Donald
Trump as US President and the resultant expectation of increased infrastructure
spending, reduced regulation and lower taxes.
Through the remainder of the first half of the Company's year the equity market
continued to focus on foreign exchange and on the future direction of interest
rates. The internationally weighted FTSE 100 index surged to a high in
mid-March, coinciding with the high in US 10-year bond yields, as the market
priced in stronger US and global growth and sterling remained weak against all
major currencies.
As a result, sector performance rotated towards industries that would benefit
from the rising yield curve, a pro-growth political backdrop and US
dollar-denominated earnings, although this trend abated after dovish comments
from the US Federal Reserve accompanied its March interest rate rise and as the
Trump administration failed to progress healthcare reforms through Congress.
Equities continued their run into the second half of the Company's financial
year, buoyed by strengthening commodity prices and despite a recovery in
sterling against the dollar. The FTSE 100 index reached a record high in early
June, led by a rally in the oil and mining sectors and a temporary sell off in
sterling in response to the surprise outcome of the UK general election.
Through the summer, however, growing tensions between the US and North Korea
hit market sentiment globally and economic data provided mixed signals around
UK economic growth; the Office of National Statistics revised down growth
figures for the second quarter of 2017, the International Monetary Fund cut UK
economic growth forecasts and there was some softening in construction activity
and industrial production. Despite these issues, there was continued expansion
in the service sector and some positive surprises in retail sales. In August
the UK unemployment rate reached a 40-year low at 4.3%.
Renewed strength in sterling further dampened UK equity market performance in
September after rhetoric from the Bank of England (BoE) suggested the BoE would
"ease its foot off the accelerator" by raising interest rates at its November
2017 meeting.
While tangible progress in Brexit negotiations appears limited to date, Theresa
May's keynote speech in Florence in late September made clear that the UK
government anticipates a two-year transitional period between leaving the EU in
March 2019 and the start of any new trading relationship. An agreement along
these lines would avoid the cliff-edge feared by the market and so the Prime
Minister's more co-operative tone was well received.
Change of Named Portfolio Manager and Portfolio Activity
I was appointed portfolio manager by the Board on 1 April 2017; portfolio
activity from this date reflects the gradual transition to my preferred
investment strategy.
By the Company's year-end this process was largely completed, but given my
focus on valuation to enhance return and mitigate risk, I have delayed adding
or selling certain holdings in anticipation of a better opportunity to do so.
I have tilted the portfolio towards domestic cyclicals and financials by
investing in businesses, often at depressed valuations, where I believe there
is considerable potential upside to earnings.
New investments have been made in Acacia Mining, Ashtead, Balfour Beatty,
Barclays, Cairn Homes, Coats, Cranswick, Gamma Communications, Hollywood Bowl,
Howden Joinery, JD Sports, Just Eat, Lloyds Bank, McBride, Mears, Micro Focus
International, PRS REIT, Randgold Resources, Royal Dutch Shell 'B', Safestyle,
Saga, Shire, Sigma Technology, Standard Life and TP ICAP. Further details of my
portfolio activity can be found in the Strategy and Outlook section.
The holdings in AstraZeneca, Beazley, Bunzl, Capita, Centrica, Compass, Doric
Nimrod, G4S, KCOM, Lancashire, London Stock Exchange, NewRiver REIT, Novartis,
Shaftesbury, SSE, TalkTalk, Thomas Cook and VPC Specialty Lending were sold.
The holdings in Roche, BAE Systems and Imperial Brands were reduced.
Portfolio Performance Review
The Company's net asset value, including reinvested dividends, rose by 7.8%
during the year to 30 September 2017, compared with a rise of 11.9% by the FTSE
All-Share index.
The portfolio delivered a positive return against a strong market backdrop, but
failed to match the rise of the index.
Relative performance was negatively impacted by the portfolio's underweight
positioning in mining (which returned +32.7% over the year) and the oil and gas
sectors which also performed strongly. Not holding HSBC (+35.2%) also detracted
from relative performance.
The holdings in the tobacco sector were among the top contributors to
performance, benefiting from the sector's overseas earnings, but also from
continued consolidation. British American Tobacco completed its merger with
Reynolds American in July; the deal has created a combined entity which is
well-positioned to exploit next generation products, particularly in the key US
market. However, share prices were negatively affected across the sector in
August as the stock market focused on plans announced by the US Food & Drug
Administration to launch a consultation on lowering nicotine levels in
cigarettes. We expect any new regulation emerging from the consultation will
take significant time to come to fruition and the tobacco industry has grown
well-accustomed to dealing with such headwinds. Elsewhere in the portfolio, the
holding in BAE Systems (+24.9%) contributed positively to performance against a
backdrop of rising geopolitical instability. The company, which derives a
significant proportion of revenues overseas, benefited from sterling weakness
and expectations of a sharp increase in defence spending following the US
election. BAE confirmed a series of major contracts through the 12-month
period, including a multi-billion pound deal for support work on new generation
F-35 stealth fighters and a £3.7 billion contract with the Ministry of Defence
to build a new fleet of warships.
Next (which rose 45% from its low point in July) contributed positively through
what has been a fairly torrid year for UK retailers. After a tough Christmas
trading period, the company's recent interim results prompted a sharp rise in
the shares as management modestly upgraded full-year sales and profit guidance
on a "somewhat less challenging" outlook. This is a business with a track
record of consistently delivering within the guidance range set at the start of
each year and an exceptional understanding of shareholder value.
Notwithstanding the ongoing structural challenges from online retail, Next's
online directory and logistics infrastructure equip the business to navigate
the shift to online better than its competitors.
In the financial sector, Legal & General (L&G) (+25.0%) contributed positively.
L&G continued to capitalise on opportunities in the bulk annuity market, where
it has a global market-leading position.
Provident Financial (-71.4%) was the single largest driver of underperformance
for the period. The sub-prime lender has delivered strong performance in the
portfolio over many years, but the business was hit by major operational
disruption in August following a strategic shift in its home credit operating
model. The company issued a profit warning, downgrading Q3 earnings forecasts
for its Consumer Credit Division and announcing that subsidiary Vanquis Bank is
co-operating with an FCA investigation into its Repayment Option Plan ancillary
product. The previously announced interim dividend was withdrawn and the CEO
resigned. This prompted a 70% intra-day decline in the company's share price.
Subsequent to this initial decline, the share price showed some recovery,
albeit from a low base, and I sold the holding.
Acacia Mining (which fell 56% over the second half of the year) also negatively
impacted performance. The gold miner presented a compelling investment
opportunity, offering free cash flow yield at the then prevailing gold price
along with the downside protection of gold in an uncertain market environment.
Acacia conducts the bulk of its exploration and extraction in Tanzania, which
has traditionally been a business-friendly environment. Unfortunately, the
company has found itself mired in a dispute with the Tanzanian government, who
have alleged historic underdeclaration of exports and therefore tax payments
and have, as a result, suspended Acacia's concentrate exports.
BT Group (-23%) also detracted as the market continued to focus on ongoing
developments around the legal separation of its Openreach high-speed broadband
network. In January an update on accounting irregularities in the group's
Italian division prompted a sharp share price fall, which worsened after a
profit warning from the company highlighted a more challenged outlook for
domestic public services contracts. The valuation remains depressed, but the
company is starting to see some improvement following its acquisition of EE.
Strategy and Outlook
Six months on from my first update to shareholders, the UK equity market
continues to push higher. This is despite a growing list of things worth
worrying about. In no particular order and to name but four: geopolitics (North
Korea), domestic politics, monetary policy (global QE tapering/ reversal and
rising base rate) and the uncertainties of Brexit. Whilst the headline
valuation of the constituents of the FTSE All-Share Index looks reasonable at
around 14 times 12-month forward earnings, that average conceals some stark
valuation differences between stocks, sectors and "styles" that by historical
standards look extreme and have thrown up some compelling opportunities.
Accordingly, I have reshaped the portfolio over the past six months, with a
slant towards selected domestic cyclicals and financials where the risk/reward
looks most favourable.
Whilst my investment process revolves heavily around stock picking, I have made
these changes to the portfolio in the context of a number of top down working
assumptions about how the world will look over the next few years.
The most important of these is around inflation and the likely trajectory of
interest rate policy. The sharp fall in sterling in the wake of the EU
referendum flowed through quickly to the prices of food, energy and fuel and
the tail-end of this move was still being felt in September with CPI at 3%.
However, the recent recovery in sterling against the dollar (including on a
trade-weighted basis) means CPI is likely to be at or close to peak for now and
is a factor in the market's view that interest rates will rise only very
gradually. This potentially misses the significance of wage inflation. Private
sector wage growth is already above 3% and the 1% cap on public sector pay has
now been lifted. Wages at the bottom end of the pay scale will continue to
accelerate thanks not just to the pre-determined increases in the national
living wage, but also, according to anecdotal evidence from management teams we
meet, to a very tight labour market. Since being given independence, the Bank
of England has signalled consistently that inflation expectations, rather than
current rates of inflation, drive interest rate policy and wage inflation is
surely the biggest driver of those expectations.
This leads to several conclusions: firstly, that the risk to UK base rates and
market rates of interest is clearly to the upside (against a similar backdrop
globally); secondly, that in the near term, the recent decline in real
disposable income is set to reverse and boost UK consumption and, in turn, the
revenues and margins of companies exposed to the UK consumer; thirdly, that the
pound, still well below purchasing power parity, could strengthen substantially
and in the process dent the earnings of export-led and internationally based
businesses, at the same time as expanding disposable incomes further.
The impact of all this could be very significant indeed, given the current
valuation disparity between the potential winners and losers. The momentum that
has characterised the last several years in the equity market has left the
share prices of companies exhibiting "value" characteristics, relative to those
exhibiting "growth" characteristics, at levels rarely seen in the last forty
years; money has poured into so called "bond proxies" and into shares of
companies perceived as capable of growing in a low growth environment. As an
example, shares in UK Financials are still very close to their post referendum
twenty year low relative to Consumer Staples. If the received wisdom that the
low growth, low interest rate environment is permanent proves erroneous, sector
rotation and the resultant correction in share prices could be dramatic.
Added to all this is the outcome of the Brexit negotiations and, in the
shorter-term, the perception of the likely outcome. Whilst the process will
inevitably continue to generate headlines about the two sides' positions and
the economic impact of a good deal or of no deal, I believe that in time an
agreement will be reached that avoids unnecessary mutual pain. An intervening
period of brinksmanship will of course bring volatility to the UK stock market
but in time I expect this to be seen to have presented unusually attractive
investment opportunities.
Another risk to domestic resurgence is the rise of the Labour party under
Jeremy Corbyn, who has successfully identified a number of serious societal and
generational issues and capitalised upon them in the face of a Tory party
weakened and distracted by Brexit and the surprise general election result.
Whilst a Labour majority in parliament could turn the valuation scenario
discussed above on its head, it is difficult to envisage a set of conditions
under which the Conservative party would precipitate another General Election
over the next 24 months. I am therefore watching the domestic political
situation extremely closely but don't view the threat as imminent.
So with the risks either over-stated or sufficiently distant, I have favoured
companies that offer undervalued exposure to a better domestic out-turn than is
generally expected. This has resulted in significant holdings in domestically
focused UK banks and life insurers, where the market has priced in such a
negative view that valuations are very depressed. Barclays, Lloyds Bank, Legal
& General and Aviva would all be beneficiaries of any increase in interest
rates but crucially this is not currently priced into their consensus earnings
forecast. In the case of Barclays and Lloyds Bank, they simply need to continue
to deliver on cost reductions, whilst delivering only very modest volume growth
and the current share prices will look unreasonably cheap; with any move in
interest rates they will look even more so. Legal & General should continue to
consolidate its position as a global leader in the bulk annuity market, while
Aviva is starting to see better execution across its digital platforms driving
cross-selling from life and pensions into general insurance products. Like with
banks, if rates rise more quickly than the market is currently anticipating,
earnings will surprise to the upside, but this is not required to justify my
view that the shares are very undervalued.
Beyond Financials, I have invested in a number of UK companies which are
exposed to UK consumption and stand to benefit if the consensus outlook for
continued negative real wages and resultant weak demand fails to materialise.
Diversification of the portfolio of course remains key; while I have increased
the portfolio's domestic and financials exposure, I have retained - and in some
areas increased - broad exposure to international earnings where valuations
remain appealing. This has been the case with BP, which is now a top three
position in the portfolio. Management have successfully adapted the business to
the reality of a lower oil price, and are on the verge of covering an optically
high but scrip-assisted historic dividend with free cash flow. BP have achieved
cash flow breakeven at a $50 oil price and guided that they could achieve this
at $35 in due course; management have also signalled plans not just to
neutralise future scrip issuance but also to neutralise $5 billion of historic
scrip through share buybacks. This would be a very significant event that would
underline management's commitment to shareholder value and to an appropriate
capital allocation framework.
To conclude, the world feels an increasingly uncertain place but with the
transition largely complete, I believe I have a portfolio of investments at
attractive valuations which is both very well positioned to navigate what lies
ahead and has the potential to deliver a compelling total return, comprising
both income and capital growth.
James Goldstone, Portfolio Manager
The Strategic Report was approved by the Board of Directors on 27 November
2017.
Invesco Asset Management Limited
Company Secretary
STRATEGIC REPORT
INVESTMENTS IN ORDER OF VALUATION
AT 30 SEPTEMBER 2017
UK listed ordinary shares unless stated otherwise
Equity Investments MARKET
VALUE % OF
ISSUER SECTOR £'000 PORTFOLIO
Barclays Banks 12,791 4.3
BP Oil & Gas Producers 11,835 4.0
Next General Retailers 10,051 3.4
Lloyds Bank Banks 9,892 3.4
British American Tobacco Tobacco 9,233 3.1
Legal & General Life Insurance 8,868 3.0
Shire Pharmaceuticals & Biotechnology 8,848 3.0
Royal Dutch Shell - B shares Oil & Gas Producers 7,478 2.5
RELX Media 7,008 2.4
Aviva Life Insurance 6,827 2.3
Top Ten Investments 92,831 31.4
BT Fixed Line Telecommunications 6,748 2.3
Coats General Industrials 6,152 2.1
Cairn Homes Household Goods & Home 5,354 1.8
Construction
Babcock International Support Services 5,103 1.7
McBride Household Goods & Home 5,092 1.7
Construction
HomeServe Support Services 4,890 1.7
BCA Marketplace Financial Services 4,751 1.7
A J BellUQ Financial Services 4,644 1.6
Imperial Brands Tobacco 4,475 1.5
TP ICAP Financial Services 4,422 1.5
Top Twenty Investments 144,462 49.0
Hollywood Bowl Travel & Leisure 4,389 1.5
BTG Pharmaceuticals & Biotechnology 4,320 1.5
Saga General Retailers 4,318 1.5
Sherborne Investors Guernsey B Financial Services
- C shares 2,735
- A shares 1,545
} 1.5
Rentokil Initial Support Services 4,215 1.4
Summit Germany Real Estate Investment & Services 4,062 1.4
Hiscox Non-life Insurance 3,923 1.3
N Brown General Retailers 3,911 1.3
Derwent London Real Estate Investment Trusts 3,885 1.3
Victoria Household Goods & Home 3,867 1.3
Construction
Top Thirty Investments 185,632 63.0
Motif Bio Pharmaceuticals & Biotechnology 2,415
- ADR 1,202
- ADR warrants 9 Nov 2021 202
} 1.3
Micro Focus Software & Computer Services 3,815 1.3
Oxford Sciences InnovationUQ Financial Services 3,746 1.3
JD Sports Fashion General Retailers 3,692 1.3
easyJet Travel & Leisure 3,567 1.2
Randgold Resources Mining 3,536 1.2
Gamma Communications Mobile Telecommunications 3,450 1.2
Xafinity Financial Services 3,389 1.1
Secure Trust Bank Banks 3,040 1.0
Standard Life Aberdeen Life Insurance 3,024 1.0
Top Forty Investments 220,710 74.9
MARKET
VALUE % OF
ISSUER SECTOR £'000 PORTFOLIO
Harworth Real Estate Investment & Services 2,891 1.0
IP Group Financial Services 2,863 1.0
Melrose Industries Construction & Materials 2,861 1.0
P2P Global Investments Equity Investment Instruments 2,859 1.0
Imagination Technologies Technology Hardware & Equipment 2,799 0.9
Balfour Beatty Construction & Materials 2,764 0.9
BAE Systems Aerospace & Defence 2,730 0.9
Sigma Capital Financial Services 2,725 0.9
Electra Private Equity Equity Investment Instruments 2,724 0.9
Roche - Swiss common stock Pharmaceuticals & Biotechnology 2,672 0.9
Top Fifty Investments 248,598 84.3
Real Estate Investors Real Estate Investment Trusts 2,633 0.9
Just Eat General Retailers 2,601 0.9
Mears Support Services 2,549 0.9
Drax Electricity 2,542 0.9
Horizon Discovery Pharmaceuticals & Biotechnology 2,494 0.8
Hadrian's Wall Secured Equity Investment Instruments
Investments - ordinary 1,890
- C shares 437
} 0.8
Touchstone Innovations Financial Services 2,326 0.8
Acacia Mining Mining 2,212 0.8
Chesnara Life Insurance 2,135 0.7
CLS Real Estate Investment & Services 2,008 0.7
Top Sixty Investments 272,425 92.5
PureTech Health Health Care Equipment & Services 1,960 0.7
Diurnal Pharmaceuticals & Biotechnology 1,804 0.6
Marwyn Value Investors Equity Investment Instruments 1,798 0.6
Safestyle UK General Retailers 1,768 0.6
Cranswick Food Producers 1,757 0.6
PRS REIT Real Estate Investment Trusts 1,757 0.6
Silence Therapeutics Pharmaceuticals & Biotechnology 1,617 0.5
Macau Property Opportunities Fund Real Estate Investment & Services 1,580 0.5
Ashtead Support Services 1,556 0.5
Vectura Pharmaceuticals & Biotechnology 1,384 0.5
Top Seventy Investments 289,406 98.2
Hibernia REIT Real Estate Investment Trusts 1,378 0.5
Howden Joinery Support Services 1,378 0.5
NexeonUQ Electronic & Electrical Equipment 942 0.3
Realm Therapeutics Health Care Equipment & Services 816 0.3
GAME Digital General Retailers 359 0.1
Damille Investments II Equity Investment Instruments 173 0.1
Lombard Medical Health Care Equipment & Services
- US common stock 147 -
Napo Pharmaceuticals Pharmaceuticals & Biotechnology
- US common stockUQ 135 -
HaloSource Chemicals 21 -
Nimrod Sea AssetsUQ Equity Investment Instruments 13 -
Top Eighty Investments 294,768 100.0
XTL Biopharmaceuticals - ADR Pharmaceuticals & Biotechnology 9 -
Total Equity Investments (81) 294,777 100.0
Other Investments
ISSUER AND ISSUE SECTOR MOODY/ MARKET % OF
S&P RATING VALUE PORTFOLIO
£'000
Barclays Bank - Nuclear Power Non-Equity Investment NR/NR 1 -
Notes 28 Feb 2019 Instruments
Total Investments (82) 294,778 100.0
NR is non-rated.
UQ is unquoted.
ADR is American Depositary Receipt.
STATEMENT OF DIRECTORS' RESPONSIBILITIES
IN RESPECT OF THE PREPARATION OF FINANCIAL STATEMENTS
The Directors are responsible for ensuring that the annual financial report is
prepared in accordance with applicable law and regulations.
Company law requires the Directors to prepare financial statements for each
financial year. Under that law the Directors have elected to prepare financial
statements in accordance with UK Accounting Standards, including FRS 102 'The
Financial Reporting Standard applicable in UK and Republic of Ireland'. Under
company law, the Directors must not approve the financial statements unless
they are satisfied that they give a true and fair view of the state of affairs
of the Company and of the net return of the Company for that period.
In preparing these financial statements, the Directors are required to:
• select suitable accounting policies and then apply them consistently;
• make judgments and accounting estimates that are reasonable and prudent;
• state whether applicable UK Accounting Standards have been followed,
subject to any material departures disclosed and explained in the financial
statements; and
• prepare the financial statements on the going concern basis unless it is
inappropriate to presume that the Company will continue in business.
The Directors are responsible for keeping adequate accounting records which are
sufficient to show and explain the Company's transactions and disclose with
reasonable accuracy at any time the financial position of the Company and which
enable them to ensure that the financial statements comply with company law.
They are also responsible for safeguarding the assets of the Company and hence
for taking reasonable steps for the prevention and detection of fraud and other
irregularities.
Under applicable law and regulations, the Directors are also responsible for
preparing a Strategic Report, a Corporate Governance Statement, a Directors'
Remuneration Report and a Directors' Report that comply with that law and
those regulations.
The Directors of the Company, whose names are shown on page 18 of this Report,
each confirm to the best of their knowledge that:
• the financial statements, which have been prepared in accordance with
United Kingdom accounting standards on a going concern basis, give a true and
fair view of the assets, liabilities, financial position and net return of the
Company;
• the annual financial report includes a fair review of the development and
performance of the business and the position of the Company, together with a
description of the principal risks and uncertainties that it faces; and
• they consider that the annual financial report, taken as a whole, is fair,
balanced and understandable and provides the information necessary for
shareholders to assess the Company's position and performance, business model
and strategy.
Beatrice Hollond
Chairman
Signed on behalf of the Board of Directors
27 November 2017
INCOME STATEMENT
FOR THE YEAR ENDED 30 SEPTEMBER
2017 2016
REVENUE CAPITAL TOTAL REVENUE CAPITAL TOTAL
NOTES £'000 £'000 £'000 £'000 £'000 £'000
Gains on investments 9 - 10,197 10,197 - 8,155 8,155
Foreign exchange losses - (292) (292) - (11) (11)
Income 2 9,703 2,648 12,351 9,783 88 9,871
Investment management fees
and performance-related
fees 3 (301) (901) (1,202) (343) (1,092) (1,435)
Other expenses 4 (401) - (401) (355) - (355)
Net return before finance
costs and taxation 9,001 11,652 20,653 9,085 7,140 16,225
Finance costs 5 (561) (1,647) (2,208) (560) (1,647) (2,207)
Return on ordinary activities
before taxation 8,440 10,005 18,445 8,525 5,493 14,018
Tax on ordinary activities 6 (124) - (124) (139) - (139)
Return on ordinary activities
after taxation for the
financial
year 8,316 10,005 18,321 8,386 5,493 13,879
Return per ordinary share
Basic 7 61.5p 74.0p 135.5p 62.0p 40.7p 102.7p
The total column of this statement represents the Company's profit and loss
account, prepared in accordance with UK Accounting Standards. The return after
taxation is the total comprehensive income and therefore no statement of
comprehensive income is presented. The supplementary revenue and capital
columns are presented for information purposes in accordance with the Statement
of Recommended Practice issued by the Association of Investment Companies. All
items in the above statement derive from continuing operations of the Company.
No operations were acquired or discontinued in the year.
RECONCILIATION OF MOVEMENTS IN SHAREHOLDERS' FUNDS
FOR THE YEAR ENDED 30 SEPTEMBER
CALLED UP SHARE CAPITAL CAPITAL REVENUE TOTAL
SHARE PREMIUM REDEMPTION RESERVE RESERVE £'000
CAPITAL £'000 RESERVE £'000 £'000
£'000 £'000
Balance at 30 September 2015 6,760 3,449 466 238,150 10,800 259,625
Dividends paid - note 8 - - - - (8,557) (8,557)
Net return on ordinary - - - 5,493 8,386 13,879
activities
Balance at 30 September 2016 6,760 3,449 466 243,643 10,629 264,947
Dividends paid - note 8 - - - - (7,881) (7,881)
Net return on ordinary - - - 10,005 8,316 18,321
activities
Balance at 30 September 2017 6,760 3,449 466 253,648 11,064 275,387
The accompanying notes are an integral part of these statements.
BALANCE SHEET
AT 30 SEPTEMBER
2017 2016
NOTES £'000 £'000
Fixed assets
Investments held at fair value through profit or loss 9 294,778 281,835
Current assets
Debtors 10 733 724
Cash and cash equivalents 13,755 15,597
14,488 16,321
Creditors: amounts falling due within one year 11 (1,876) (1,237)
Net current assets 12,612 15,084
Total assets less current liabilities 307,390 296,919
Creditors: amounts falling due after more than one year 12 (32,003) (31,972)
Net assets 275,387 264,947
Capital and reserves
Called up share capital 13 6,760 6,760
Share premium 14 3,449 3,449
Capital redemption reserve 14 466 466
Capital reserve 14 253,648 243,643
Revenue reserve 14 11,064 10,629
Shareholders' funds 275,387 264,947
Net asset value per ordinary share - basic
- debt at par 15 2037.1p 1959.8p
- debt at market value 15 1979.9p 1894.9p
The financial statements on pages 34 to 50 were approved and authorised for
issue by the Board of Directors on 27 November 2017.
Signed on behalf of the Board of Directors
Beatrice Hollond
Chairman
The accompanying notes are an integral part of these statements.
CASH FLOW STATEMENT
FOR THE YEAR ENDED 30 SEPTEMBER
2017 2016
NOTES £'000 £'000
Cash flow from operating activities
Net return before finance costs and taxation 20,653 16,225
Adjustments for:
Purchase of investments (157,332) (44,117)
Sale of investments 155,617 44,503
(1,715) 386
Scrip dividends (26) (39)
Gains on investments (10,197) (8,155)
Net cash movement from derivative instruments
- currency hedges (157) -
Operating cash flows before movements in working capital 8,558 8,417
(Increase)/decrease in debtors (67) 133
Decrease in creditors (151) (2,477)
Tax on overseas income 6 (124) (139)
Net cash inflow from operating activities 8,216 5,934
Cash flow from financing activities
Interest paid on debenture stocks (2,165) (2,166)
Preference dividends paid (12) (12)
Net equity dividends paid 8 (7,881) (8,557)
Net cash outflow from financing activities (10,058) (10,735)
Net decrease in cash and cash equivalents (1,842) (4,801)
Cash and cash equivalents at start of the year 15,597 20,398
Cash and cash equivalents at the end of the year 13,755 15,597
Reconciliation of cash and cash equivalents to
the Balance Sheet is as follows:
Cash at custodian 1,605 267
Short-Term Investment Company (Global Series) plc,
money market fund 12,150 15,330
Cash and cash equivalents 13,755 15,597
Cash flow from operating activities includes:
Interest received 176 177
Dividends received 9,232 9,296
The accompanying notes are an integral part of these statements.
NOTES TO THE FINANCIAL STATEMENTS
1. Accounting Policies
Accounting policies describe the Company's approach to recognising and
measuring transactions during the year and the position of the Company at the
year end.
A summary of the principal accounting policies adopted by the Company is set
out below.
(a) Basis of Preparation
(i) Accounting Standards applied
The financial statements have been prepared in accordance with applicable
United Kingdom Accounting Standards and applicable law (UK Generally Accepted
Accounting Practice (UK GAAP)) and with the Statement of Recommended Practice
Financial Statements of Investment Trust Companies and Venture Capital Trusts,
issued by the Association of Investment Companies in November 2014 (SORP) and
updated in January 2017. The financial statements are issued on a going concern
basis.
(ii) Functional and presentation currency
The financial statements are presented in Sterling, which is the Company's
functional and presentation currency and the currency in which the Company's
share capital and expenses, as well as a majority of its assets and
liabilities, are denominated.
(b) Financial Instruments
(i) Recognition of financial assets and financial liabilities
The Company recognises financial assets and financial liabilities when the
Company becomes a party to the contractual provisions of the instrument. The
Company will offset financial assets and financial liabilities if the Company
has a legally enforceable right to set off the recognised amounts and interests
and intends to settle on a net basis.
(ii) Derecognition of financial assets
The Company derecognises a financial asset when the contractual rights to the
cash flows from the asset expire or it transfers the rights to receive the
contractual cash flows on the financial asset in a transaction in which
substantially all the risks and rewards of ownership of the financial asset are
transferred. Any interest in the transferred financial asset that is created or
retained by the Company is recognised as an asset.
(iii) Derecognition of financial liabilities
The Company derecognises financial liabilities when its obligations are
discharged, cancelled or expired.
(iv) Trade date accounting
Purchases and sales of financial assets are recognised on trade date, being the
date on which the Company commits to purchase or sell the assets.
(v) Classification and measurement of financial assets and financial
liabilities
Financial assets
The Company's investments are classified as held at fair value through profit
or loss as the investments are managed and their performance evaluated on a
fair value basis in accordance with a documented investment strategy, and this
is also the basis on which investment information is provided internally to the
Board.
Financial assets held at fair value through profit or loss are initially
recognised at fair value, which is taken to be their cost, with transaction
costs expensed as part of gains and losses on investments in the income
statement, and are subsequently valued at fair value.
Fair value for investments that are actively traded in organised financial
markets is determined by reference to stock exchange quoted bid prices at the
balance sheet date. For investments that are not actively traded or where
active stock exchange quoted bid prices are not available, fair value is
determined by reference to a variety of valuation techniques including broker
quotes and price modelling. Where there is no active market, unlisted/illiquid
investments are valued by the Directors at fair value based on recommendations
from Invesco's Pricing Committee, which in turn is guided by the International
Private Equity and Venture Capital Valuation Guidelines issued in 2015, using
valuation techniques such as earnings multiples, recent arm's length
transactions and net assets.
Financial liabilities
Financial liabilities, including borrowings, are initially measured at fair
value, net of transaction costs and are subsequently measured at amortised cost
using the effective interest method.
(c) Accounting for Capital Reserves
Realised gains and losses on sales of investments (note 9(b)); realised gains
or losses on forward currency contracts; realised gains and losses on foreign
currency; management fees and finance costs allocated to capital; and any other
capital charges, are included in the income statement and dealt with in the
capital reserve. Unrealised increases and decreases in the valuation of
investments at the year end (including the related foreign exchange gains and
losses) are also included in the income statement and dealt with in the capital
reserve.
(d) Cash and cash equivalents
Cash and cash equivalents may comprise cash (including short term deposits
which are readily convertible to a known amount of cash and are subject to an
insignificant risk of change in value) as well as cash equivalents, including
money market funds. Investments are regarded as cash equivalents if they meet
all of the following criteria: highly liquid investments held in the Company's
base currency that are readily convertible to a known amount of cash, are
subject to an insignificant risk of change in value and provide a return no
greater than the rate of a three-month high quality government bond.
(e) Income
Dividend income arises from equity investments held and is recognised on the
date investments are marked 'ex-dividend'. Where the Company elects to receive
dividends in the form of additional shares rather than cash, the equivalent to
the cash dividend is recognised as income in the revenue account and any excess
in the value of the shares received over the amount of the cash dividend is
recognised in capital reserve. Special dividends are taken to income unless
they arise from a return of capital, when they are allocated to capital in the
income statement. Interest income arising from fixed income securities and cash
is recognised in the income statement using the effective interest method.
Deposit interest and underwriting commission receivable are taken into account
on an accruals basis.
(f) Management and Performance-related fees
Investment management fees are recognised on an accruals basis and are charged
75% to capital and 25% to revenue. This is in line with the Board's expected
long-term split of returns, in the form of capital gains and income
respectively, from the investment portfolio of the Company.
Performance-related fees are calculated as detailed in the Directors' Report
and are charged wholly to capital as they arise mainly from capital returns on
the investment portfolio.
(g) Expenses and Finance costs
Expenses are recognised on an accruals basis and finance costs are recognised
using the effective interest method, with the debentures being held at
amortised cost. The finance costs of debt are allocated 75% to capital and 25%
to revenue for the reasons outlined in (f) above. The 5% cumulative preference
shares are classified as a liability and therefore the dividends payable on
these shares are classified as finance costs and charged to revenue in the
income statement.
(h) Hedging
Forward currency contracts entered into for hedging purposes are valued at the
appropriate forward exchange rate ruling at the balance sheet date. Profits or
losses on the closure or revaluation of positions are included in capital.
(i) Foreign Currency Translation
Transactions in foreign currency, whether of a revenue or capital nature, are
translated to Sterling at the rates of exchange ruling on the dates of such
transactions. Foreign currency assets and liabilities are translated to
Sterling at the rates of exchange ruling at the balance sheet date. Any gains
or losses, whether realised or unrealised, are taken to capital or to revenue,
depending on whether the gain or loss is of a capital or revenue nature. All
gains and losses are recognised in the income statement.
(j) Taxation
Foreign dividends that suffer withholding tax at source are shown gross, with
the corresponding tax charge in the income statement.
Deferred taxation is recognised in respect of all timing differences that have
originated but not reversed at the balance sheet date where transactions or
events that result in an obligation to pay more tax or a right to pay less tax
in the future have occurred. Timing differences are differences between the
Company's taxable profits and its results as stated in the financial
statements. Deferred taxation assets are recognised where, in the opinion of
the Directors, it is more likely than not that these amounts will be realised
in future periods.
A deferred tax asset has not been recognised in respect of surplus management
expenses and losses on loan relationships, as the Company is unlikely to have
sufficient future taxable revenue to offset against these.
(k) Dividends Payable
Dividends are not recognised in the financial statements unless there is an
obligation to pay at the balance sheet date.
2. Income
This note shows the income generated from the portfolio (investment assets) of
the Company and income received from any other source.
2017 2016
£'000 £'000
Income from investments
UK dividends
- Ordinary dividends 7,388 7,055
- Special dividends 643 305
Overseas dividends
- Ordinary dividends 1,402 1,725
- Special dividends - 416
Scrip dividends 26 39
Income from interest distribution 194 207
9,653 9,747
Other income
Deposit interest - 12
Underwriting commission 1 -
Other 49 24
50 36
Total income 9,703 9,783
Special dividends of £2,648,000 (2016: £88,000) have been recognised in
capital.
3. Investment Management and Performance-related Fees
This note shows the fees paid to the Manager. These are made up of the
management fee payable quarterly and a performance-related fee calculated
annually. The latter is only payable when the portfolio outperforms the
benchmark index plus its hurdle, which is +1.25% per annum.
2017 2016
REVENUE CAPITAL TOTAL REVENUE CAPITAL TOTAL
£'000 £'000 £'000 £'000 £'000 £'000
Investment management fee 301 901 1,202 343 1,027 1,370
Performance-related fee - - - - 65 65
301 901 1,202 343 1,092 1,435
Details of the management agreement are disclosed in the Directors' Report.
The performance-related fee is due if the Company's annualised total return
over the previous three years is greater than the annualised return of the FTSE
All-Share (Total Return) Index over the same period, plus the hurdle.
At 30 September 2017, an investment management fee of £261,000 (2016: £354,000)
has been accrued in respect of the three months to 30 September 2017. No
performance-related fee has been accrued for the year (2016: £65,000).
4. Other Expenses
The other expenses of the Company are presented below.
2017 2016
£'000 £'000
Directors' fees 111 111
Fees payable to the Company's auditor in relation to:
- the statutory audit of the financial statements 26 26
Other expenses 264 218
401 355
The Director's Remuneration Report provides further information on Directors'
fees.
Fees payable to the Company's auditor are shown excluding VAT which is included
in other expenses.
Other expenses includes £6,000 (2016: £6,000) of employer's National Insurance
on Directors' fees. As at 30 September 2017, the amount outstanding on
Directors' fees and employer's National Insurance was £7,700 (2016: £6,900).
5. Finance Costs
Finance costs arise on any borrowing that the Company has, with the main
borrowing being the £32 million of Debenture stocks (see note 12).
2017 2016
REVENUE CAPITAL TOTAL REVENUE CAPITAL TOTAL
£'000 £'000 £'000 £'000 £'000 £'000
Interest payable on borrowings
repayable not by instalment:
debenture stock repayable
after 3 years 549 1,647 2,196 548 1,647 2,195
Dividends on 5% cumulative
preference shares 12 - 12 12 - 12
561 1,647 2,208 560 1,647 2,207
6. Tax on ordinary activities
As an investment trust, the Company pays no tax on capital gains and as the
Company principally invests in UK assets, it has little overseas tax. This note
shows details of the tax charge and why no deferred tax is required to provide
for tax that is expected to arise in the future due to differences in
accounting and tax bases.
(a) Current Tax Charge
2017 2016
REVENUE REVENUE
£'000 £'000
Overseas tax 124 139
(b) Reconciliation of Current Tax Charge
2017 2016
£'000 £'000
Total return on ordinary activities before taxation 18,445 14,018
UK Corporation Tax effective rate of 19.5% (2016: 20%) 3,597 2,804
Effect of:
- Gains on investments (1,988) (1,631)
- Loss on foreign exchange movements 57 2
- UK dividends which are not taxable (2,030) (1,415)
- Overseas dividends which are non-taxable (264) (415)
- Overseas tax 124 139
- Non-taxable scrip dividends (5) (8)
- Disallowed expenses 3 3
- Excess of management expenses over taxable income 630 660
Current tax charge for the year 124 139
(c) Factors that may Affect Future Tax Changes
The Company has excess expenses of £71,913,000 (2016: £68,676,000) that are
available to offset future taxable revenue. A deferred tax asset, of £
12,225,000 measured at the standard corporation tax rate of 17% (2016: £
11,675,000 at 17%), has not been recognised in respect of these expenses since
the Directors believe that there will be no taxable profits in the future
against which the deferred tax assets can be offset.
7. Return per Ordinary Share
Basic return per share is the amount of gain (or loss) generated for the
financial year divided by the number of ordinary shares in issue. The
calculation is based on the weighted average number of shares in issue during
the year.
Basic revenue, capital and total return per ordinary share is based on each of
the returns on ordinary activities after taxation and on 13,518,799 (2016:
13,518,799) shares being the number of ordinary shares in issue throughout the
year.
8. Dividends
Dividends represent the return of income less expenses to shareholders.
Dividends are paid as an amount per ordinary share held.
2017 2016
£'000 £'000
Dividends on equity shares paid and recognised in the year:
Second interim dividend for 2016 of 35p (2015: 33p) 4,732 4,461
Special dividend for 2016 of 5.3p (2015: 12.3p) 716 1,663
First interim dividend for 2017 of 18p (2016: 18p) 2,433 2,433
7,881 8,557
2017 2016
£'000 £'000
Dividends on equity shares payable in respect of the year:
First interim paid 18p per ordinary share (2016: 18p) 2,433 2,433
Second interim dividend of 37p per ordinary share (2016: 35p) 5,002 4,732
7,435 7,165
Special dividend of 4.7p per ordinary share (2016: 5.3p) 635 716
8,070 7,881
9. Investments
The portfolio is made up primarily of investments which are listed, i.e. traded
on a recognised stock exchange, and some unlisted investments. Gains and losses
are either:
- realised, usually arising when investments are sold; or
- unrealised, being the difference from cost on those investments
still held at the year end.
(a) Analysis of Investments by Listing Status
2017 2016
£'000 £'000
Investments listed on a recognised stock exchange 285,298 273,462
Unlisted investments 9,480 8,373
294,778 281,835
(b) Analysis of Investment Gains and Losses
2017 2016
LISTED UNLISTED TOTAL TOTAL
£'000 £'000 £'000 £'000
Opening book cost 206,544 7,050 213,594 200,818
Opening investment holding
gains 66,918 1,323 68,241 74,972
Opening valuation 273,462 8,373 281,835 275,790
Movements in year:
Purchases at cost 157,642 506 158,148 42,608
Sales - proceeds (155,402) - (155,402) (44,718)
Sales - net realised gains 61,280 - 61,280 16,409
Transfer between listed and
unlisted during the year (979) 979 - -
Book cost written off - - - (1,523)
Movement in investment holding
gains (50,705) (378) (51,083) (6,731)
Closing valuation 285,298 9,480 294,778 281,835
Closing book cost 269,085 8,535 277,620 213,594
Closing investment holding gains 16,213 945 17,158 68,241
Closing valuation 285,298 9,480 294,778 281,835
Net realised gains based on
historical cost 61,280 - 61,280 14,886
Movement in investment holding
gains in year (50,705) (378) (51,083) (6,731)
Gains/(losses) on investments 10,575 (378) 10,197 8,155
(c) Transaction Costs
Transaction costs on purchases of £837,000 (2016: £171,000) and on sales of £
194,000 (2016: £57,000) are included within gains and losses on investments in
the income statement.
10. Debtors
Debtors are amounts which are due to the Company, such as income which has been
earned (accrued) but not yet received and monies receivable from brokers for
investments sold.
2017 2016
£'000 £'000
Amounts due from brokers - 215
Unrealised profit on forward currency contracts 157 -
Prepayments and accrued income 291 281
Overseas withholding tax recoverable 267 186
Income tax recoverable 18 42
733 724
11. Creditors: amounts falling due within one year
Creditors are amounts which must be paid by the Company, and include any
amounts due to brokers for the purchase of investments or amounts owed to
suppliers, such as the Manager and auditor.
2017 2016
£'000 £'000
Amounts due to brokers 809 19
Accruals 1,067 1,153
Performance-related fee - 65
1,876 1,237
Details of the performance-related fee are given in note 3.
12. Creditors: amounts falling due after more than one year
Long term creditors consist of £32 million of debentures and a small issue of
preference shares. These form the principal borrowings of the Company and the
fixed interest that the Company pays is reported under note 5 'Finance Costs'.
2017 2016
£'000 £'000
Debenture Stock:
7.75% redeemable 1 October 2020 7,000 7,000
6.5% redeemable 27 April 2023 24,968 24,968
31,968 31,968
Discount and issue expenses on debenture stock (215) (246)
31,753 31,722
5% cumulative preference shares of £1 each 250 250
32,003 31,972
The debentures rank pari passu with each other, and ahead of shareholders, and
are secured by floating charge over the assets of the Company.
The debenture stocks both pay interest twice a year; the 7.75% Debenture Stock
2020 for the six months ended 31 March and 30 September, and the 6.5% Debenture
Stock 2023 for the six months to 27 April and 27 October. Both debenture stocks
generally make the payments in April and October. The preference shares
dividend is paid bi-annually in March and September.
13. Called up share capital
Ordinary share capital represents the total number of shares in issue, for
which dividends accrue.
2017 2016
NUMBER £'000 NUMBER £'000
Allotted, called-up and fully paid:
Ordinary shares of 50p each 13,518,799 6,760 13,518,799 6,760
The ordinary shares are fully participating and on a poll carry one vote per £1
nominal held.
No shares were issued or bought back during the year (2016: nil).
14. Reserves
This note explains the different reserves that have arisen over the years. The
aggregate of the reserves and share capital (see previous note) make up total
shareholders' funds.
The share premium comprises the net proceeds received by the Company following
the issue of shares, after deduction of the nominal amount of 50 pence and any
applicable issue costs. The capital redemption reserve maintains the equity
share capital arising from the buy back and cancellation of shares; it, and the
share premium, are non-distributable.
The capital reserve includes the investment holding gains/(losses), being the
difference between cost and market value at the balance sheet date. It also
includes cumulative realised gains/(losses). Capital investment gains and
losses are shown in note 9(b) and form part of the capital reserve. Share buy
backs can be funded from the capital reserve. The revenue reserve shows the net
revenue retained after payment of dividends. The revenue and capital reserves
are distributable by way of dividend.
15. Net Asset Value
The Company's total net assets (total assets less total liabilities) are often
termed shareholders' funds and are converted into net asset value per ordinary
share by dividing by the number of shares in issue.
The following shows the shareholders' funds and net asset value (NAV) in pence
per share, together with a reconciliation of NAV with debt at par to NAV with
debt at market value. The difference in the NAVs arises from the valuation of
the debenture stocks and preference shares. The number of shares in issue at
the year end is shown in note 13.
2017 2016
SHAREHOLDERS' NAV SHAREHOLDERS' NAV
FUNDS PER SHARE FUNDS PER SHARE
£'000 PENCE £'000 PENCE
NAV - debt at par 275,387 2,037.1 264,947 1,959.8
Add: - debt at par, after amortised
costs (note 12) 32,003 236.7 31,972 236.5
Less: - debt at market value
(note 17) (39,728) (293.9) (40,748) (301.4)
NAV - debt at market value 267,662 1,979.9 256,171 1,894.9
Only the basic NAV is shown. There is no dilution in this or the previous
year.
16. Financial Instruments
Financial instruments comprise the Company's investment portfolio, derivative
instruments (if any) as well as its cash, and any borrowings, debtors and
creditors. This note sets out the Company's financial instruments and the risks
related to them.
The Company's financial instruments comprise its investment portfolio (as shown
on pages 16 and 17), derivatives, cash, and any borrowings, debtors and
creditors that arise directly from its operations such as sales and purchases
awaiting settlement and accrued income. The accounting policies in note 1
include criteria for the recognition and the basis of measurement applied for
financial instruments. Note 1 also includes the basis on which income and
expenses arising from financial assets and liabilities are recognised and
measured. The Company did not have any exposure to derivatives during the year
(2016: none), apart from the use of forward currency contracts to hedge the
Euro exposure.
The principal risks that an investment company faces in its portfolio
management activities are set out below:
Market risk - arising from fluctuations in the fair value or future cash flows
of a financial instrument because of changes in market prices. Market risk
comprises three types of risk: currency risk, interest rate risk and other
price risk:
Currency risk - arising from fluctuations in the fair value or future cash
flows of a financial instrument because of changes in foreign exchange rates;
Interest rate risk - arising from fluctuations in the fair value or future cash
flows of a financial instrument because of changes in market interest rates;
and
Other price risk - arising from fluctuations in the fair value or future cash
flows of a financial instrument for reasons other than changes in foreign
exchange rates or market interest rates.
Liquidity risk - arising from any difficulty in meeting obligations associated
with financial liabilities.
Credit risk - arising from financial loss for a company where the other party
to a financial instrument fails to discharge an obligation.
Risk Management Policies and Procedures
The Directors have delegated to the Manager the responsibility for the
day-to-day investment activities of the Company as more fully described in the
Directors' Report.
An investment company invests in equities and other investments for the long
term so as to meet its investment objective and policies. In pursuing its
investment objective, the Company is exposed to a variety of risks that could
result in either a reduction in the Company's net assets or a reduction of the
profits available for distribution by way of dividends.
The risks applicable to the Company and the policies the Company used to manage
these risks for the two years under review follow.
Market risk
The Company's Manager assesses the Company's exposure when making each
investment decision, and monitors the overall level of market risk on the whole
of the investment portfolio on an ongoing basis. The Board meets at least
quarterly to assess risk and review investment performance, as disclosed under
Board Responsibilities on page 53. No derivatives or hedging instruments are
utilised to manage market risk. Borrowings are used to enhance returns,
however, this increases the Company's exposure to market risk and volatility.
Currency risk
The majority of the Company's assets, liabilities and income are denominated in
Sterling. There is some exposure to US dollars, Swiss francs and the Euro. The
latter currency was hedged by the use of forward currency contracts.
Management of the currency risk
The Manager monitors the Company's exposure to foreign currencies daily and
reports to the Board on a regular basis.
Forward currency contracts can be used to limit the Company's exposure to
anticipated future changes in exchange rates which are also used to achieve the
portfolio characteristics that assist the Company in meeting its investment
objective and policies. All contracts are limited to currencies and amounts
commensurate with asset exposure to those currencies.
Income denominated in foreign currencies is converted to Sterling on receipt.
The Company does not use financial instruments to mitigate the currency
exposure in the period between the time that income is included in the
financial statements and its receipt.
Currency exposure
The fair values of the Company's monetary items that had currency exposure at
30 September are shown below. Where the Company's equity investments (which are
not monetary items) are priced in a foreign currency, they have been included
separately in the analysis so as to show the overall level of exposure.
30 SEPTEMBER 2017
SWISS
EURO US DOLLAR FRANC
£'000 £'000 £'000
Debtors (due from brokers and dividends) - - 267
Forward currency contracts (10,674) - -
Foreign currency exposure on net monetary items (10,674) - 267
Investments at fair value through profit or loss that
are equities 10,794 1,708 2,672
Total net foreign currency exposure 120 1,708 2,939
30 SEPTEMBER 2016
SWISS
EURO US DOLLAR FRANC
£'000 £'000 £'000
Debtors (due from brokers and dividends) - 125 186
Foreign currency exposure on net monetary items - 125 186
Investments at fair value through profit or loss that
are equities - 15,981 14,369
Total net foreign currency exposure - 16,106 14,555
The above amounts may not be representative of the exposure to risk during the
year, because the levels of foreign currency exposure may change significantly
throughout each year.
Currency sensitivity
The table below illustrates the sensitivity of net assets and of net return
after taxation for the year using the exchange rates shown below. It is based
on the Company's monetary foreign currency financial instruments held at each
balance sheet date and takes account of forward foreign exchange contracts that
offset the effects of changes in currency exchange rate.
2017 2016
£/Euro ±2.6% n/a
£/US dollar ±2.7% ±5.4%
£/Swiss franc ±1.8% ±6.1%
The above percentages have been determined based on the market volatility in
the year, using the standard deviation of Sterling's daily fluctuation to the
relevant foreign currencies against the mean during the year.
If Sterling were to weaken against the Euro, US dollar or Swiss franc to this
extent, this would have the following effect:
30 SEPTEMBER 2017
SWISS
EURO US DOLLAR FRANC
£'000 £'000 £'000
Income statement - return after taxation
Revenue return 1 10 13
Capital return 3 46 48
Total return after taxation for the year 4 56 61
Effect on net asset value 0.0% 0.0% 0.0%
30 SEPTEMBER 2016
SWISS
EURO US DOLLAR FRANC
£'000 £'000 £'000
Income statement - return after taxation
Revenue return - 27 35
Capital return - 863 877
Total return after taxation for the year - 890 912
Effect on net asset value 0.0% 0.3% 0.3%
If Sterling were to strengthen against the Euro, US dollar or Swiss franc to
this extent, the effect would be the exact opposite.
In the opinion of the Directors, the above sensitivity analysis is not
representative of the year as a whole, since the level of exposure may change
frequently as part of the currency risk management process of the Company.
Interest rate risk
Interest rate movements may affect the level of income receivable on cash
deposits and the interest payable on the variable rate borrowings. When the
Company has cash balances, they are held on variable rate bank accounts
yielding rates of interest dependent on the base rate of the custodian. The
Company has an uncommitted bank overdraft facility which it uses for settlement
purposes, on which interest is payable at a variable rate. Use of this facility
has been minimal over the two years being reported on. At the year end there
was none drawn down (2016: nil).
At the balance sheet date the Company had structural debt comprising £32
million of debenture stocks and £250,000 of 5% cumulative preference shares.
The interest rates on the debenture stocks and preference shares are fixed and
details are shown in notes 5 and 12.
The Company's portfolio is substantially invested in equities which are not
directly exposed to interest rate risk.
Other price risk
Other price risk (i.e. changes in market prices other than those arising from
interest rate risk or currency risk) may affect the value of the equity
investments, and it is the business of the Manager to manage the portfolio to
achieve the best returns.
Management of other price risk
The Directors manage the market price risks inherent in the investment
portfolio by meeting regularly to monitor on a formal basis the Manager's
compliance with the Company's stated objectives and policies and to review
investment performance.
The Company's portfolio is the result of the Manager's investment process and
as a result is not correlated with the Company's benchmark or the market in
which the Company invests. The value of the portfolio will not move in line
with the market but will move as a result of the performance of the company
shares within the portfolio.
Based on the equity portfolio value of £294,778,000 (2016: £281,835,000), if
the value of the portfolio rose or fell by 1% at the balance sheet date, the
net return after tax for the year and net assets would increase or decrease by
£2.95 million (2016: £2.82 million) respectively; in calculating these amounts
no adjustment has been made for other variables including management fees.
Liquidity risk
Liquidity risk is minimised as the majority of the Company's investments are
readily realisable securities which can be sold to meet funding commitments if
necessary. In addition, the bank overdraft facility provides for additional
funding flexibility. No special arrangements have been made in connection with
the liquidity of any of the Company's assets.
Liquidity risk exposure
The contractual maturities of the financial liabilities at the year end, based
on the earliest date on which payment can be required, are as follows:
2017 2016
LESS MORE LESS MORE
THAN THREE TO THAN THAN THREE TO THAN
THREE TWELVE ONE THREE TWELVE ONE
MONTHS MONTHS YEAR TOTAL MONTHS MONTHS YEAR TOTAL
£'000 £'000 £'000 £'000 £'000 £'000 £'000 £'000
Debenture stocks - - 31,968 31,968 - - 31,968 31,968
Interest on debenture
stocks 811 1,354 9,200 11,365 811 1,354 11,366 13,531
Amounts due to
brokers 809 - - 809 19 - - 19
Other creditors
and accruals 364 - - 364 450 - - 450
Performance fee
accrued - - - - 65 - - 65
1,984 1,354 41,168 44,506 1,345 1,354 43,334 46,033
The 5% cumulative preference shares do not have a fixed repayment date and are,
as a result, not shown in the above table. Details are shown in note 12 of the
financial statements.
Credit risk
Credit risk encompasses the failure by counterparties to deliver securities
which the Company has paid for, or to pay for securities which the Company has
delivered. This risk is mitigated by using only approved and appropriately
regulated counterparties. Cash balances are limited to a maximum of either £10
or £15 million with any one deposit taker and 10% of gross assets for holdings
in the Short-Term Investments Company (Global Series) plc, which invests in
high quality sterling denominated money market investments such as commercial
paper, certificates of deposit, time deposits and asset-backed commercial
paper. Only deposit takers approved by the Board are used.
The portfolio may be adversely affected if the custodian of the Company's
assets suffers insolvency or other financial difficulties. The risk associated
with failure of the custodian is mitigated by the appointment of a depositary.
The depositary is ultimately responsible for safekeeping of the Company's
assets and is strictly liable for the recovery of financial instruments in the
event of loss. As part of the Board's risk management and control monitoring,
the Board reviews the custodian's annual control report and the Manager's
management of the relationship with the custodian.
17. Fair Value
The fair values of the financial assets and financial liabilities, other than
debentures and preference shares, are either carried in the balance sheet at
their fair value (investments), or the balance sheet amount is a reasonable
approximation of fair value (due from brokers, dividends receivable, accrued
income, due to brokers, accruals, cash at bank and overdraft).
Fair Value Hierarchy Disclosures
Nearly all of the Company's portfolio of investments are in the Level 1
category as defined in FRS 102 as amended for fair value hierarchy disclosures
(March 2016). The three levels set out in FRS102 follow:
Level 1 - The unadjusted quoted price in an active market for identical assets
or liabilities that the entity can access at the measurement date.
Level 2 - Inputs other than quoted prices included within Level 1 that are
observable (ie developed using market data) for the asset or liability, either
directly or indirectly.
Level 3 - Inputs are unobservable (ie for which market data is unavailable) for
the asset or liability.
Categorisation within the hierarchy is determined on the basis of the lowest
level input that is significant to the fair value measurement of each relevant
asset/liability. The valuation techniques used by the Company are explained in
the accounting policies note.
2017 2016
LEVEL 1 LEVEL 2 LEVEL 3 TOTAL LEVEL 1 LEVEL 2 LEVEL 3 TOTAL
£'000 £'000 £'000 £'000 £'000 £'000 £'000 £'000
Financial assets
designated at fair
value through
profit or loss:
Quoted investments:
Equities 285,095 - - 285,095 273,458 - - 273,458
Other securities - 203 - 203 - 4 - 4
Unquoted investments:
Equities - - 9,480 9,480 - - 8,373 8,373
Derivative financial
instruments:
Currency hedges - 157 - 157 - - - -
Total for financial
assets 285,095 360 9,480 294,935 273,458 4 8,373 281,835
A reconciliation of the fair value movements in Level 3 is set out below:
2017 2016
£'000 £'000
Opening fair value of Level 3 8,373 8,671
Transfers from Level 1 to Level 3 979 -
Purchases at cost 506 -
Movement in holding gains on assets held at the year end (378) (298)
Closing fair value of Level 3 9,480 8,373
The book cost and market (fair) value of the debentures and the preference
shares based on the offer value at the balance sheet date follow.
BOOK FAIR BOOK FAIR
VALUE VALUE VALUE VALUE
2017 2017 2016 2016
£'000 £'000 £'000 £'000
Debentures payable in less than 5 years:
7.75% Debenture Stock 2020 7,000 8,286 7,000 8,444
Debentures repayable in more than 5 years:
6.5% Debenture Stock 2023 24,968 31,218 24,968 32,071
Discount on issue of debentures (215) - (246) -
31,753 39,504 31,722 40,515
5% Cumulative preference shares of £1 each 250 224 250 233
32,003 39,728 31,972 40,748
18. Capital Management
The Company's capital, or equity, is represented by its net assets which are
managed to achieve the Company's investment objective set out on page 8.
The Company's total capital employed at 30 September 2017 was £307,390,000
(2016: £296,919,000) comprising borrowings of £32,003,000 (2016: £31,972,000)
and equity share capital and other reserves of £275,387,000 (2016: £
264,947,000).
The Company's total capital employed is managed to achieve the Company's
investment objective and policy as set out on page 6, including that borrowings
may be used to raise equity exposure. At the balance sheet date, net gearing
was 6.6% (2016: 6.2%). The Company's policies and processes for managing
capital are unchanged from the preceding year.
The main risks to the Company's investments are shown in the Strategic Report
under the 'Principal Risks and Uncertainties' section on pages 8 to 9. These
also explain that the Company is able to gear and that gearing will amplify the
effect on equity of changes in the value of the portfolio.
The Board can also manage the capital structure directly since it has taken the
powers, which it is seeking to renew, to issue and buy back shares and it also
determines dividend payments.
The Company is subject to externally imposed capital requirements with respect
to the obligation and ability to pay dividends by section 1159 Corporation Tax
Act 2010 and by the Companies Act 2006, respectively, and with respect to the
availability of the overdraft facility, by the terms imposed by the custodian.
The Board regularly monitors, and has complied with, the externally imposed
capital requirements. This is unchanged from the prior year.
Borrowings comprise debenture stocks and preference shares, details of which
are contained in note 12.
19. Contingencies, Guarantees and Financial Commitments
Contingencies or guarantees that the Company will or has given would be
disclosed in this note if any existed. Likewise any commitments, being those
amounts that the Company is contractually required to pay in the future as long
as the other party meets their obligations.
There were no contingencies, guarantees or other financial commitments of the
Company at the year end (2016: £nil).
20. Related Party Transactions and Transactions with the Manager
A related party is a company or individual who has direct or indirect control
or influence over the Company. Under accounting standards, the Manager is not a
related party.
Under UK GAAP, the Company has identified the Directors as related parties. The
Directors' remuneration and interests have been disclosed on pages 25 to 26
with additional disclosure in note 4. No other related parties have been
identified.
Details of the Manager's services and fees are disclosed in the Directors'
Report on pages 55 and 56 and in note 3.
21. Post Balance Sheet Events
Any significant events that occurred after the Company's financial year end but
before the signing of the Balance Sheet will be shown here.
There are no significant events after the end of the reporting period requiring
disclosure.
The financial information set out above does not constitute the Company's
statutory accounts for the year ended 30 September 2017. The financial
information for the year ended 30 September 2016 is derived from the statutory
accounts for 2016, which have been delivered to the Registrar of Companies.
The 2016 accounts were audited and the audit report was unqualified, did not
include a reference to any matters to which the auditor drew attention by way
of emphasis without qualifying the report and did not contain a statement under
section 498 of the Companies Act 2006. The statutory accounts for the year
ended 30 September 2017 have been finalised and audited but have not yet been
delivered to the Registrar of Companies.
The audited annual financial report will be available to shareholders shortly.
Copies may be obtained during normal business hours from the Company's
administration office, 6th Floor, 125 London Wall, London EC2Y 5AS and are
available via the Company's section of the Manager's website at
www.invescoperpetual.co.uk/keystone .
The Annual General Meeting will be held on 18 January 2018 at 11.00am at 43-45
Portman Square, London, W1H 6LY.
By order of the Board
Invesco Asset Management Limited
27 November 2017
Contact:
Shilla Pindoria 0203 753 1000
Keystone Investment Trust : Annual Financial Report
November 27, 2017 at 11:28 am
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