James Carthew: Let's cure, not kill, the UK's growth capital trusts

I did a tidying up exercise on my portfolio early last month and turfed out a couple of small positions including Digital 9 Infrastructure (DGI9) and Syncona (SYNC).

The DGI9 sale worked out well in that it came before the latest disaster, writing off its holding in TV broadcast tower business Arqiva, which it paid £460m for in June 2022, on the back of claims of inflation-linked revenues and an average eight-year contract duration. However, the loss avoided is rather dwarfed by the loss I had already suffered.

I still think that there is upside in SYNC, but I also owned much more meaningful positions in Worldwide Healthcare (WWH), International Biotechnology (IBT) and RTW Biotech Opportunities (RTW). While I think the outlook for healthcare is pretty positive, three holdings are plenty.

The main difference between SYNC and most of its peers is its bias to early-stage unquoted businesses, although RTW has some overlap here. SYNC has had some spectacular successes. However, it has also been exposed to some companies where the science did not live up to expectations, which is to be expected given its remit.

SYNC’s net asset value (NAV) hit a high in 2019 and has been drifting off since. It did not experience the same surge in value that other biotech trusts did in 2020 and has not had the same run of good returns that peers have generated in recent months. However, SYNC did experience the same discount widening that hit the sector when interest rates started to climb in 2022. Unfortunately, unlike peers, SYNC’s discount is still far too wide (about 43% when I was writing this, with the next widest being RTW on 12%).

This means that SYNC’s share price returns are fairly dire (negative over 10 years). However, this is still a sizeable company, with assets of over £1bn.

Saving lives

I invested in SYNC back in 2019 and 2020, but I had been following it since it started life in 2014 as the Battle Against Cancer Investment Trust or BACIT. Syncona was a portfolio of life sciences investments that Wellcome Trust had put together. In 2016, these two merged and folded in some investments that Cancer Research UK had made. Always in the back of my mind was the idea that even if SYNC was not making me money, at least it was helping to fund innovation that could help save people’s lives.

Having said that, this is also an investment vehicle aiming to achieve ‘superior long-term capital appreciation’. In recognition of this, the board has encouraged the investment team to tilt the bias of the portfolio towards later-stage assets. Securing approval for a therapy or even delivering promising Phase 2 trials that encourage attention from deep-pocketed pharma companies could drive spectacular NAV gains.

Discount dilemma

The board has long been keen to tackle the discount. Its first set of proposals, published in June last year caused upset. It suggested adopting a policy of managed wind down – effectively cutting off funding for new research. It also had a plan to sell assets at a discount to a new private investment vehicle which would have been open to big institutional shareholders but not to the likes of you and me. I was one of a number of investors and commentators to oppose this plan.

In October, following ‘further extensive consultation’, the plan was radically revised. Instead of seeking to liquidate the entire portfolio, £250m would be raised from sales of mature investments. That money would be used to fund a return of capital to shareholders. Assets would be sold ‘only when it is in the best interests of shareholders, driven by the balance of risk and reward, to maximise value’. SYNC would continue to make small investments (up to 5% of NAV or £15m per year in 2026 and 2027) in new life science investments – maintaining its role as a funder of innovative research.

Finally, after two years or the return of £250m, whichever comes first, the board would come back to shareholders for guidance on the way forward, but the current intention would be for it to re-start its normal investment activity.

Cure not kill

Shareholders are now being asked to approve the new plan and a new long-term incentive scheme for the investment team. The big change here is to reward it for achieving profitable realisations rather than NAV growth. This is an important distinction, akin to the change that Chrysalis Investments (CHRY) made to its performance fee after it was justly criticised for paying out large sums based on unrealised gains.

This brings us around to one of the big stories of the week: the row between CHRY and its investment advisers which has accompanied them being sacked and the board asking investors to approve a managed wind down. The underlying situation bears a strong similarity to SYNC. While I recognise investors’ frustration with the discount and NAV progression, I am a bit sad about the readiness to kill CHRY rather than cure it.

We, as a country, need growth capital to support promising entrepreneurs and innovators. Seraphim Space (SSIT) is demonstrating what can be achieved by growth capital funds with good managers and the right stock selection. I am hoping to see it expand. SYNC still has a role to play in the biotech sector and I hope that just as listed healthcare stocks are having a better time of it, SYNC’s portfolio will eventually catch up.