ASI UK Smaller Companies: October 2021 update

• Harry Nimmo is a pioneer when it comes to investing in smaller companies
• His investment approach has been consistent throughout his management career
• Long-term performance has been strong, the fund has outperformed its peers by some margin
• The fund does not currently feature on the Wealth Shortlist of funds chosen by our analysts for their long-term performance potential

How it fits in a portfolio

The fund aims to grow your investment over the long-term by investing in small UK companies. Smaller companies typically have more room for growth than larger ones, although they are more volatile and higher risk. This fund could add diversification to the UK portion of a more adventurous portfolio. The managers’ growth-focused investment style also means it could complement other funds investing more in companies perceived to be undervalued.

The fund is fairly large in size for a smaller companies fund though, and the managers don’t want to attract significant levels of new investment so they can keep it nimble. That's why we're not currently considering it for the Wealth Shortlist of funds chosen by our analysts for their long-term performance potential.

Manager

With a career spanning over three decades, Harry Nimmo is one of the most experienced smaller companies investors around. Since joining Standard Life Investments (subsequently Aberdeen Standard Investments) in 1985 he’s spent most of his career analysing small businesses with big potential. We admire his investment approach, which has been replicated across many other smaller companies funds with great success.

Given how long Nimmo has managed funds, questions around his retirement are natural. At the moment he remains focused on fund management and is a valuable resource for future successors and other team members.

Abby Glennie, Deputy Head of Smaller Companies, was named co-manager in November 2020. She started her career at Kames Capital before joining what was then Standard Life Investments in 2013. Most of her time has been spent analysing UK companies and in 2016 she joined the smaller companies team. With 14 years of industry experience, Glennie is building a strong track record.

The managers are also responsible for other funds and trusts focused on small and medium-sized companies. Given the overlap in approach and support from a dedicated team, we think they can comfortably manage their workload.

Process

The managers scour an investment universe of around 700 stocks to uncover the big companies of tomorrow. Their process has remained the same since launch in 1997 and over that period has proved effective.

They use a quantitative tool called ‘the matrix’ to help with the heavy lifting. It gives every company a score based on its quality, growth prospects and the momentum behind its earnings and share price. This enables the managers to exclude weaker candidates such as loss-making or highly indebted companies. They like businesses that perform well throughout a market cycle, so they have tended to avoid those with earnings that are tied to the fate of the wider economy.

This leaves a shortlist of roughly 100 companies, which the managers and their team then investigate and debate further. Companies in the fund are usually still managed by their founders or led by a proven management team. They should also possess barriers to entry from competition, a sustainable business model and the ability to raise prices without significantly impacting demand. Meeting each company's management team is another crucial part of the managers’ due diligence.

The managers consider the smallest 10% of companies listed on the UK stock market to be 'smaller companies'. But many of these businesses technically fall within the FTSE 250, meaning the fund invests more in medium-sized companies than many of its peers in the IA UK Smaller Companies sector. We don’t see this as a bad thing though. Medium-sized companies are often seen as the UK stock market's ‘sweet-spot’ – they have more growth potential than larger businesses, but are lower risk than smaller ones. This doesn’t make them a sure thing of course.

Sector wise, the managers tend to find plenty of opportunities in the financials, software, media and leisure goods sectors. Recent investments include IT services provider Bytes, which was listed on the stock market for the first time through an IPO (Initial Public Offering). The managers think it’s a high-quality business with the potential to benefit from increasing digitisation over the coming years. They also invested in Watches of Switzerland, a firm they believe to be the supplier of choice for many watch brands. Other new investments include online marketplace Auction Technology Group and private equity company Draper Esprit.

In contrast, they sold their investment in online rail and coach ticket platform Trainline. The announcement of a competing online system from GB Rail raised concerns about its prospects. Data software company First Derivatives was also sold. The managers have invested in this company for some time, but it’s struggled to recover since its founder’s death in 2019.

Culture

The fund was previously part of Standard Life plc, until the business merged with Aberdeen Asset Management in 2017 to create Standard Life Aberdeen plc. This later became Aberdeen Standard Investments and in July 2021, the company changed name once again to abrdn in order to simplify and unite under one single brand. The fund’s name will automatically change to reflect this in due course.

While mergers have the potential for disruption, we think the smaller companies team, which also includes UK and European funds, were relatively unaffected. There’s a collegiate feel to the smaller companies team at abrdn. Members share research and ideas with each other, and work with one another to debate and challenge stock decisions.

Although the manager's process doesn’t specifically exclude any particular area, ESG (Environmental, Social and Governance) considerations form a part of company analysis. The managers engage with companies where they feel there are serious ESG issues and use their right to vote at shareholder meetings.

Cost

The fund has an ongoing annual charge of 0.99%, but we’ve secured HL clients an ongoing saving of 0.22%. This means you’ll pay a net ongoing charge of 0.77%. The HL platform fee of up to 0.45% per year also applies.

Performance

Since Nimmo took over management in August 2003 the fund has delivered exceptional performance. Over this period, it’s returned 1170.9%* vs 644.7% for the IA UK Smaller Companies sector. Our analysis puts this down to Nimmo’s impressive stock picking. Remember all funds will rise and fall in value, so you could get back less than you invest. Past performance is also not a guide to future returns, and funds are intended to be held for the longer-term.

During periods of market weakness, the managers' focus on high-quality companies has helped the fund hold up better than the broader market. This was the case during the darkest days for the stock market in March 2020 as Covid-19 began to lock down the economy. The fund’s also tended to outperform in rising markets, although we expect it to struggle when unloved companies perceived to be undervalued are in vogue. This has been the case over the past 12 months and the fund’s underperformed the IA sector average by 19.4%.

The fund has still delivered good returns though and there have been some success stories at a stock level. For example, media company Future was one of the top performers, boosted by solid growth in digital advertising. Impax Asset Management was another strong performer. As an ESG specialist, the company’s assets under management (AUM) have continued to rise as investors shift to more sustainable solutions. Other notable performers include software company Kainos and audio products group Focusrite.

Over the longer term we expect Nimmo and Glennie to deliver strong performance, although this is not guaranteed.

Past performance isn't a guide to the future. Source: *Lipper IM to 30/09/2021.

**ASI UK Smaller Companies Retail Acc share class used to extend performance history. The standard unit class available through HL is Class S.

More about the ASI UK Smaller Companies including charges

ASI UK Smaller Companies Key Investor Information