James Carthew: I'm still willing to PIN my hopes on a cheap private equity stalwart

Pantheon International's strong annual results come laced with expectations of losses to come for private equity funds, but on a 43% discount our columnist thinks way too much pessimism is baked into the trust's share price.

The Pantheon International (PIN ) annual report is out – all 200 pages of it – and I think it’s worth dissecting. Over the 12-month period ended 31 May 2022, the fund, which is designed to provide liquid access to some of the world’s best private equity managers, saw its net asset value (NAV) rise from 344.8p to 451.6p (up again since to 462.7p as at 30 June 2022).

The 31% uplift in the NAV was more than 23 percentage points ahead of the return on the MSCI World index. It is also way better than any global equity trust.

Close peers such as abdrn Private Equity Opportunities (APEO ) and Oakley Capital (OCI ) may be doing even better but ranked against the Association of Investment Companies’ private equity sector over the past 12 months, PIN comes in at a creditable fifth of 19 funds.

Where it really falls down is in its returns to shareholders. A widening discount dragged the trust’s share price returns for its financial year down to 8.6%. At the end of May, the trust was trading on a 35% discount. Today, that has widened further to 43%.

PIN has been around since 1987, and so it has survived numerous market cycles. From launch to the end of May 2022, it made investors 11.3% a year, around 3% a year more than the return on the MSCI World Index. Over the decade that I have held it, it has made me about 3.8 times my money.

PIN’s last financial year was a bumper one: record distributions from the portfolio, an average 42% uplift in previous valuations on exit (demonstrating the conservative nature of these funds’ NAVs), and average 25% revenue and earnings growth from the underlying companies.

The board wants the discount to narrow and, reasonably you might think, feels that if more investors were aware of just how good an investment PIN could be, they would flock to buy it. Unfortunately, this is unlikely to happen overnight, and the board has decided that share buybacks are needed too.

Getting comfortable with high fees

Part of the problem for private equity funds – especially funds of funds such as PIN – is a wider dislike of the underlying fee structures in the industry. My approach has always been to consider returns net of fees and only take them into account if trying to decide between two very similar options. PIN’s ongoing charges ratio, on the AIC’s preferred method and excluding performance fees, is now 1.15%, down from 1.22%.

PIN’s managers have been looking to add value in recent years by increasing portfolio concentration; making a number of direct co-investments into unlisted businesses, while reducing the exposure to funds. Last year, that paid off when, following a takeover, EUSA Pharma became PIN’s largest ever single company distribution – freeing up £49.5m or five times the original investment.

PIN has also committed more money to the Pantheon Secondary Opportunities Fund, which buys exposure to individual private equity situations through ‘manager-led single asset secondaries’. Generally, these are companies in mature limited partnership funds coming to the end of their (typically 10-year) lives that the general partner (the investment manager of the fund) likes and want to hold onto.

Another argument levelled against the sector is that the NAVs are out of date. In PIN’s case, as of end of June, 15% of reported valuations were dated 30 June, 74% at 31 March, 8% at 31 December 2021 and 3% were dated 30 September 2021 or older. Global markets are off 10% or so since the end of March, but that does not suggest as savage a downgrade to NAV as is predicted by the discount.

However, within listed markets growth stocks have fallen far further than value, and relatively early-stage growth companies have been hit very hard, as is evidenced by the performance of funds such as Chrysalis (CHRY ). PIN’s portfolio had 24% in the growth category and 4% in even earlier stage venture at the end of May.  

Additionally, from an industry sector viewpoint, PIN is biased to sectors such as technology (33% of the portfolio), and healthcare (18%), which have struggled this year, and relatively light in the sectors that have been doing well, such as energy and materials.

Geographically, PIN has quite a bit less in the US and more in Europe than the MSCI World Index. That, too, might work against it in the short term.

Wading through the document we eventually get to the manager’s report on page 57 (this is not a dig at Pantheon – almost all annual reports have become unwieldy). Here we get confirmation that the venture and growth portions of the portfolio delivered some of the best returns over the last financial year.

Manager optimism

Looking forward, PIN’s manager Helen Steers (pictured) notes that record fundraising has left the private equity industry with record amounts of uncommitted funds. At the end of September 2021, dry powder was estimated at $1.3tn. She thinks some of that could be put to work in bids for the smaller fast-growing businesses within PIN’s portfolio. Although, one constraint may be a weak high yield debt/leveraged loan market, crucial to fund many transactions.

Steers also notes that the best private equity managers have good track records of navigating their portfolio companies through difficult times – being happy to fund opportunistic bolt-on acquisitions, for example.

Steers is optimistic about the prospects for the fund’s technology and healthcare investments, noting that the underlying managers have a preference for cash-generative companies with a competitive advantage and pricing power. A substantial proportion of the report is given over to case studies on and interviews with leading investments. There is also an interesting set of charts that shows that PIN’s portfolio companies were much more resilient than the average listed company in the Covid-related recession of 2020.

One of the observations that Steers makes is that the underlying private equity managers are not under pressure to sell their assets. I think that the pace of distributions from the underlying portfolio will slow during the current financial year. That means less uplifts on exit and less NAV progression. We could see some modest fall in the NAV as valuations are updated but, given the discount, I am minded to top up my holding.

James Carthew publishes research at QuotedData. Any opinions expressed by Citywire, its staff or columnists do not constitute a personal recommendation to you to buy, sell, underwrite or subscribe for any particular investment and should not be relied upon when making (or refraining from making) any investment decisions. In particular, the information and opinions provided by Citywire do not take into account people’s personal circumstances, objectives and attitude towards risk.

Investment company news brought to you by Citywire Financial Publishers Limited.