ICG: Private equity trusts must do better on discounts

After solid half-year results still left their shares trading on a 25% discount, ICG Enterprise fund managers admit listed private equity funds need to do a better job telling investors why the blow-ups of the financial crisis are not going to be repeated.

The fund managers of ICG Enterprise (ICGT ), a £560m private equity investment trust, have said their sector needs to do a better job of communicating what it does and why the blow-ups of the financial crisis are not about to be repeated so as to address the issue of share prices lagging way behind the supposed value in portfolios. 

Interim results for the trust, which combines a fund-of-funds approach with co-investments and ICG-sourced plays in the highest conviction holdings, showed its portfolio had proved resilient in the teeth of the coronavirus pandemic.

Net asset value (NAV) declined to £11.27p per share over the six months to 31 July, reflecting just a 1% loss on a total return basis, at the same time as the FTSE All-Share slumped 17.8%.  

With the shares closing at 854p on Wednesday after the results, that left them still on a nearly 25% discount, to the chagrin of the managers given the high level of exposure to defensive sectors, like healthcare, tech, education and subscription-type business services.

‘I think it’s a fantastic buying opportunity and I’m buying myself,’ Oliver Gardey, head of private equity fund investments at manager ICG.  

We recently highlighted a split among London-listed funds between the likes of HgCapital (HGT ) – whose shares have tended to trade close to or at a premium to NAV, with demand boosted by its focus on the much-loved tech sector – and the rest. 3i (III ), the £10.3bn giant on more than a 20% premium, is a notable exception.

ICGT, with more diversified exposure, is typical in trading significantly and persistently below NAV. The average discount in the Association of Investment Companies (AIC)’s Private Equity sector stands at just over 19%.

Conversely, investors are flocking to newer entrants to private equity, despite their inexperience as Quilter Cheviot’s Nick Wood pointed out to us this week. For example, fresh-faced venture capital fund Merian Chrysalis (MERI ) had no trouble raising £95m, twice its target, in a share issue priced at a small premium to NAV this month.

Uncertainty around how badly listed private funds would be hit by the pandemic, when they did update their NAVs, has been another factor behind the stickiness of discounts. 

‘We have to do a better job’ 

Following ICGT’s solid results, Gardey described the trust’s discount as ‘incredible’, given its sector mix and defensive strategy, but added that fund managers needed to do more to address the problem.

‘I think we still have to do a better job to explain what private equity is. It’s not easy for the retail shareholder to understand. So, we need to do a better job in educating,’ he said.

‘And I think there’s a little bit of a hangover from the [financial crisis] where there were some spectacular blow-ups, and I think it’s still suffering from the image of that.’

After the 2008 crash, investment companies like the defunct SVG Capital ran into issues with being unable to meet commitments, as the opportunity to realise investments dried up, while 3i fell foul of high leverage as the value of its holdings dived.

Colm Walsh, co-manager of ICGT, said that investor fears over a repeat of those issues had been a ‘consistent theme’ over the last decade he had worked on the trust, despite the superior returns the sector has generated over and above public markets, and particularly the UK market, over that time.

Gardey said a ‘fundamental difference’ between today and the last crisis had been the evolution of credit lines with banks, so investment companies were not reliant on redemptions to fund follow-on commitments. Additionally, those using gearing, or borrowing to boost returns, are now in the minority.  

He added that investors also seemed to be scared away by discounts, forgetting that as long as they do not widen, underlying returns on NAV still come through. 

‘The discount matters only if there’s a lot of volatility in the discount, but from an investment perspective it shouldn’t discourage investors. If anything, it should actually encourage them because over time hopefully we can close the gap,’ he said.

Markets leaders, strong sectors

The ICG managers argued their defensive growth strategy, focusing on medium-sized and larger companies, had shown its worth in the current conditions.

‘I think one of the things when you look at the list is that we’ve invested in high quality companies. We look for things like market leadership positions,’ said Colm.

The sector mix has proved favourable, with a combined 40% of the portfolio in the healthcare, education and TMT – technology, media and telecoms – sectors. Another 13% is in business services, an area where the managers also emphasised the resilience. 

Bucking the downturn, the top 30 holdings, accounting for just under half of assets, displayed earnings growth of 15% in the prior 12 months.

Roompot, a Dutch operator of holiday parks and third largest holding, has been the major recent realisaton, sold to KKR at a ‘significant uplift’ after the end of the financial year. Given the company was obviously hit by the pandemic, Colm said it had been one of the names they were ‘probably quite worried about back in March’, but that the sale was a prime example of the value of investing in market leaders.  

During the year to July, £94m of proceeds were generated, with 14 full realisations at an average uplift of 7% from the prior valuation on the balance sheet. A total of £52m was deployed in new investments, including funds run by well-regarded rivals such as Bain Capital, CVC and Hg, with a notable slant towards tech.

At the end of the period, the trust had £197m of ‘available liquidity’, including £158m of undrawn bank lines, before Roompot and other sales. That compares to £353m of outstanding commitments relating to funds still in their investment periods. Gardey said that reflected a ‘very strong’ balance sheet, with enough liquidity to fund commitments likely over the next two-and-a-half years, even without further realisations.

Post-period, the trust also co-invested in Norwegian company Visma alongside Hg, in what was described as the largest ever software buyout.

Over the last decade, ICGT’s shareholder have received a 254% total return, versus the 195% average in the AIC Private Equity Sector and the FTSE All-Share’s 63% return.

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