The Scottish American Investment Company P.L.C. (SAINTS)
Legal Entity Identifier: 549300NF03XVC5IFB447
Regulated Information Classification: Interim Financial Report.
The following is the unaudited Interim Financial Report for the six months to 30 June 2023 which was approved by the Board on 31 July 2023.
Results for the six months to 30 June 2023 and appointment of Deputy Manager
Results
¾ SAINTS’ assets have delivered a strong positive return over the first six months of 2023, broadly keeping pace with equities. SAINTS’ net asset value total return (borrowings at fair value) was 7.8% over the first six months of 2023, whilst global equities* returned 7.9% over the same period.
¾ Over the past five years the Company has outperformed both global equities and its sector, delivering a net asset value total return (borrowings at fair value) of 73.0% against the market’s* total return of 56.7% and the sector’s unweighted average net asset value total return of 50.0%.†
¾ The Company has declared a second interim dividend of 3.45p.
¾ SAINTS’ revenues per share over the period were 7.64p compared to 7.78p for the equivalent period last year. The reduction in the Company’s revenues is principally due to exchange rate movements and property sales, with the Company’s equity holdings generally continuing to show dividend growth in local currency terms, helped by the Managers’ emphasis on dependability.
¾ SAINTS’ global equity portfolio outperformed global equities over the period despite the narrow leadership in equity markets.
¾ Despite a rising interest rate environment SAINTS’ bond investments delivered a positive total return, as to a lesser extent did property. SAINTS’ infrastructure equities fell back slightly.
¾ To satisfy market demand the Company issued £7.7m of shares over the period at a premium to Net Asset Value.
¾ The Board and the Managers are optimistic about SAINTS’ long term prospects for growth.
* FTSE All-World Index (in sterling terms)
† Source: Morningstar/Baillie Gifford and relevant underlying service providers. See disclaimer at end of this announcement.
Appointment of Deputy Manager
¾ The Board is pleased to announce the appointment of Ross Mathison as Deputy Manager of SAINTS with immediate effect. Ross is an investment manager in Baillie Gifford’s Global Income Growth team. This appointment reflects his close involvement in the management of SAINTS and Baillie Gifford’s team based approach.
Pausing to look back: the long term case for dividend growth rather than yield
With SAINTS celebrating its 150th anniversary this year, we have been pausing to look back. Baillie Gifford was appointed investment manager by the Board in 2004. Financial markets were recovering from the dot com crash, the UK was still in the EU, and China was on its way to becoming a major driver of global growth after joining the World Trade Organisation in 2001.
As managers we inherited a portfolio which had focused on preserving yield, and which had become heavily skewed towards the UK: almost 70% of the equity portfolio was invested in London-listed stocks. We began a gradual process of moving the portfolio in a different direction. Focusing on growth rather than yield. And more expansive in terms of embracing investment opportunities globally.
At the time, SAINTS’ competitors could essentially be regarded as the peer group of UK Equity Income funds. So, what happened next? The accompanying chart shows the income and capital growth delivered by SAINTS since 2004, compared with 26 such funds which are still going today. Of these 26, we were particularly interested in the 20 funds which, back in 2004, yielded more than 4%. These yield-focused funds had an average dividend yield of 4.7%, which was approximately a quarter higher than SAINTS’ yield in 2004, which was 3.8%.
The results can be seen in the chart. Despite its lower starting yield, SAINTS shareholders have received, over the period, more income than investments in the average high-yielding fund. Not by a wide margin, but a little bit more, despite starting at a significantly lower yield. The growth in dividends from SAINTS has surpassed the gap in starting yield, to the point that over the entire period, total income from SAINTS has been a little higher.
More strikingly, there is a stark difference in capital growth. SAINTS’ shareholders have seen their capital grow by many multiples of the higher-yielding, UK-focused funds. An investment of £10,000 in 2004 delivered £24,000 of capital growth at SAINTS, compared with £5,300 for those yield-seeking funds.
Adding both income and capital growth, SAINTS’ shareholders have seen their initial investment grow by 4.6x, whereas an investor in the average higher-yielding UK income fund would have seen their initial investment grow by 2.8x.
http://www.rns-pdf.londonstockexchange.com/rns/7961H_1-2023-7-31.pdf
We draw three conclusions from these numbers:
· A focus on dividend growth, rather than yield, does not mean shareholders receive less income than high-yielding strategies, over the long-term.
· These outcomes give credence to our belief that investing in companies that can compound their dividends relentlessly higher over long periods of time – the SAINTS approach – results in much higher capital growth. Relentless compounding of dividends requires relentless compounding of earnings. And relentless compounding of earnings drives share price appreciation, resulting in capital growth.
· It shows the benefits of investing globally. Of course, many UK-listed companies are global businesses, tapping into growth in other parts of the world. But the much wider universe of global opportunities provides much better odds of finding those relentless compounders of earnings and dividends.
Note that we have assumed, in our calculations, that investors were choosing to receive and consume their income, rather than reinvesting it into new shares of SAINTS (or their UK income fund). If we crunched these numbers again, but assumed reinvestment of dividends into new shares, we suspect the gap in outcomes would be even wider: given SAINTS’ much stronger capital growth. We know that many SAINTS shareholders reinvest their dividends into new SAINTS shares.
Long-term compounders
Around 2013, Baillie Gifford expanded the team managing SAINTS. This gave us the resource to search the world for even more of the dividend compounders we seek. It also gave us an opportunity to stop and think about our investment approach. We decided to double-down. SAINTS leaned further into growth, and away from higher-yielding equities.
Looking back on the companies that were owned within the portfolio in 2013 – many of which are still held today – we can see several examples of the growth stocks that have underpinned SAINTS’ income and capital growth. The table below shows the ten best-performing holdings that we have held continuously for the past decade. (There have been other strong performers purchased since 2013, but here we are focussing on decade-long performance):
| Company | cumulativeTotal return GBP | cagrSales | cagrEPS | cagrPE | cagrShare price | pa to cagrDiv addition | cagrTotal return local | cagrTotal return GBP |
| Apple | 1820% | 10% | 14% | 12% | 28% | 2% | 32% | 34% |
| Microsoft | 1312% | 10% | 13% | 11% | 25% | 1% | 28% | 30% |
| TSMC | 715% | 16% | 20% | (1%) | 18% | 1% | 28% | 30% |
| Analog Devices | 545% | 16% | 20% | 1% | 18% | 2% | 18% | 20% |
| Partners Group | 466% | 15% | 14% | (1%) | 13% | 2% | 16% | 19% |
| Atlas Copco | 403% | 8% | 9% | 7% | 16% | 3% | 21% | 18% |
| McDonald’s | 373% | (2%) | 7% | 4% | 12% | 2% | 15% | 17% |
| Rio Tinto | 281% | 3% | 6% | 1% | 7% | 4% | 14% | 14% |
| Pepsi | 260% | 3% | 5% | 3% | 8% | 2% | 12% | 14% |
| UPS | 234% | 6% | 11% | (3%) | 8% | 2% | 11% | 13% |
Source: Bloomberg and Baillie Gifford. Period 30 June 2013 to 30 June 2023
Some of the returns here are extraordinary. Investments such as Apple, Microsoft, TSMC, Analog Devices, Partners Group and Atlas Copco have all delivered share price appreciation better than 15% per annum, in local currency terms. After we add dividends into the equation, total returns have been even higher: 20 or 30% per annum in some cases. That means $1,000 invested ten years ago is worth about $11,800 today, in the example of Microsoft.
The foundation-stone beneath the total returns of these companies has been their strong revenue and earnings growth. By focusing on companies that we have judged likely to compound their earnings relentlessly higher at attractive rates – some 20% per annum in the case of TSMC and Analog Devices for example – we have found that share price appreciation has broadly followed. Sometimes this capital growth has been turbo-charged by expansion in the PE multiple, for example in the case of Apple. But the more important thing has been not to over-pay, risking PE compression that offsets the earnings growth. This way, the earnings growth has been more likely to translate into share price and capital growth.
Looking back today, in 2023, we believe more strongly than ever in our approach: focusing on growing companies that pay resilient dividends which should compound relentlessly away alongside their profit growth, all in the pursuit of strong income and capital growth for SAINTS shareholders. By looking globally for these companies, rather than narrowing our horizons to the particular island on which we happen to be based, we dramatically raise our odds of finding the next Atlas Copcos and Apples of the world. Over the long-term, we believe the laws of compounding make this approach highly likely to deliver better results than a value-oriented, yield-based approach to investing.
Interim Management Report
Market commentary
Markets went down, up and occasionally sideways in the first half of 2023. It might be tempting to dismiss this as the usual gyrations of share prices and sentiment. But there are longer-term forces at play in recent market movements, which are worth commenting on here to help SAINTS shareholders understand what is happening.
The world economy is currently in a period of transition. The 2010s were an environment of low inflation and low interest rates. During the recent past we have seen inflation spike to levels not seen for many years, and central banks including the Bank of England attempt to wrestle inflation under control by continuously raising short-term borrowing rates. This has had, and will continue to have, knock-on effects in the broader economy. At times the market has plunged into despondency about the potential for recession, whilst at other times it has been euphoric about the prospect of inflation peaking and interest rates stabilising.
But what does it all mean for SAINTS’ investments? Our belief is that the companies in the equity portfolio are much better-placed to continue growing their earnings and dividends than the average company in the stock market, despite the challenges that come with higher inflation and higher interest rates. For one thing, SAINTS’ holdings have notably low levels of debt. This means that while other companies may struggle mightily in the next few years as they roll over their debt at significantly higher interest rates, this is unlikely to be much of a drag on profit growth for the companies in SAINTS’ portfolio. Indeed some of SAINTS’ holdings, such as Netease and Cognex, have net cash balance sheets and will see their earnings rise as they earn higher rates of interest.
We can also observe that SAINTS’ holdings earn unusually high returns on equity, compared with the average company. This is essentially a reflection of the strong value they offer to their customers, which in turn helps them to pass on cost inflation where appropriate. We have seen this play out in some of their financial results since the start of the year. For example Coca-Cola recently reported revenue growth of 11% year over year.
These are some of the factors that give us confidence that, in this brave new world of higher interest rates, the impact on growth across SAINTS’ equity portfolio will, hopefully, be relatively muted. Of course if economies fall into recession, growth may slow a little. But even then we might be hopeful that nominal growth in their dividends would continue. The typical SAINTS holding pays out perhaps half of its earnings as dividends. This means that even if these earnings fall, there is a large cushion that allows SAINTS’ companies to look through the cycle and increase their dividends. We saw this during the past six months at TSMC, which despite forecasting a decline in sales of 10% this year due to the semiconductor cycle, said it foresees strong growth in its business in the medium-term and announced an increase in its dividend of 9%.
Performance
Over the first half of 2023, the equity portfolio delivered positive returns of approximately 8%, broadly in line with global equity markets. Interestingly, three of the top five contributors to performance were industrial companies: Watsco (the US distributor of air conditioning equipment), Fastenal (the US distributor of industrial parts) and French-listed Schneider Electric (automation and power management equipment).
“Interestingly” because, as mentioned above, investors have been worrying about the impact of rapidly rising interest rates on the economy and the risks of recession. But the results published by these companies have been far more resilient than the market anticipated.
Apart from these industrial names, Novo Nordisk was another strong contributor to performance over the past 6 months, on the back of excellent operational performance. Sales for Q1 2023, announced in May, were 25% higher than the previous year as its appetite suppressants continue to see rapidly rising demand from patients who are battling obesity.
Two Chinese holdings were the main drag on performance: furniture manufacturer Man Wah and sportswear company Anta Sports. Both published muted results in the period, affected by a disappointing rebound in the Chinese economy so far this year following the end of the strict lockdown policy last December. Our view is that in both cases their long-term growth prospects have not been markedly impacted, simply delayed, and their balance sheets and cash-flows remain very healthy.
Beyond the equity portfolio, we saw solid performance from SAINTS’ investments in property, infrastructure equities, and bonds. These are funded out of SAINTS’ prudent borrowings with an average cost of 3%.
Perhaps most notable was the property portfolio, managed by OLIM, which delivered a positive contribution to performance over the period as rental income more than offset a decline in capital values. The latest valuation, conducted externally by Savills, resulted in a handful of the properties being modestly marked down due to rising interest rates and falling market values for commercial property across the UK. But if we look at the 12 properties which were owned by SAINTS at the start of the year, and compare their values with the latest market valuation at 30 June 2023, we see that in aggregate their total value fell by only 2.4%, from £66.75m to £65.15m. This is a notable performance in a very difficult market for commercial property. If we add the two new properties purchased during the past six months (a hotel in Ringwood and an Aldi supermarket in Gosport) the total property portfolio has grown from £66.75m to £79.55m. Their rental income comfortably beats the cost of SAINTS’ modest borrowings.
Investments and divestments
Two new equity holdings were added to the portfolio in the first half of the year: Coloplast and Eurofins.
Coloplast is a Danish-listed leading manufacturer of ostomy, incontinence, urology and wound care products, with significant European and global market shares. Its product engineering strengths in adhesives technology, combined with a mindset of continuous innovation, have enabled the company to develop profitable niche positions in markets with good prospects of continued compounding in earnings and dividends.
French-listed Eurofins Scientific is a laboratory business focused on a wide variety of testing related to food and the environment. Structural growth drivers of its business include expanding regulation and increased penetration of testing in developing countries. What makes us particularly enthusiastic about Eurofins is the distinctive vision of its founder, CEO and largest shareholder, Gilles Martin, who is resolutely focused on the long-term. Over the past three decades, the company has invested relentlessly in an industry-leading, internally developed technology platform and created a large global network of labs. We expect the combination of these two factors to provide solid foundations for growth and increasing returns on capital in the next decade and beyond.
So far this year, we have divested from four equity holdings: National Instruments, Silicon Motion, Linea Directa, and Cullen Frost.
National Instruments is an American manufacturer of hardware and software for lab researchers which has received a takeover bid at a price of $53 per share. We believe that the offer price is attractive and represents a healthy return on the fund’s book cost, so we sold our position.
Silicon Motion, likewise, received a takeover offer. As we had received the final dividend and there was still uncertainty over the Chinese regulators’ willingness to approve the deal, we decided to divest our position and put the capital to work in new ideas.
We invested in Linea Directa, a Spanish motor insurance company, only two years ago. However, the shares have proven to be highly illiquid, which meant we struggled to make this into the size of holding we envisaged. With no plan in sight to help improve liquidity, we decided to divest the holding.
Following a string of runs at US regional banks earlier this year, we decided that the risk facing Cullen Frost had turned unfavourably asymmetric, and we divested the holding to preserve capital.
ESG
We believe that investing sustainably is critical if we are to achieve our long-term objectives of delivering a dependable income and growing income and capital in real terms over the long term. In addition to the regular monitoring of our holdings and scoring potential new portfolio candidates using our Impact Ambition and Trust framework, our ESG analyst delved deep into two particular issues over the past few months: water management in Chile, and palm oil.
The water management report was to help us assess our investment in Albemarle, the world’s largest lithium producer, and the potential risks to its growth prospects from water management around its operations in Chile. For a few weeks our analyst became a hydrogeologist, talking to academics, experts and NGOs to try and assess the impact of the company’s practices in one of the world’s most arid regions. His conclusion was that whilst lithium mining has some impact, the reduced water availability that has been observed in Chile in the past few years is more likely to be a function of the 13-year drought currently underway in the country, combined with much-larger water consumption by copper mining and agriculture. We will use this research to encourage Albemarle to expand their efforts to reduce water use and expand the monitoring of their impact on water in the area.
Palm oil, and the deforestation sometimes associated with its production, is another important issue with potential implications for our investments. Palm oil is in some ways a victim of its own success, with a broadening range of uses leading to global production rising fivefold over the past thirty years and making it the most used vegetable oil in the world. Advocates of palm oil point to the fact that it represents 36% of food oil globally but takes up less than 9% of land dedicated to that food oil production. Critics counter that not all land is created equal and palm oil production often replaces tropical forest with high carbon stock and richer biodiversity. Several of SAINTS’ investments including Procter & Gamble, L’Oréal and PepsiCo are significant users of palm oil so we need to understand this particular issue.
Our research has highlighted a few important points. Much progress has been made in terms of sustainability certification and many companies are now dedicating resources to ensure their palm oil is grown sustainably. On the other hand, a large number of small independent suppliers, combined with a lot of intermediary processing steps, make traceability and transparency very challenging, and a key area for companies to address. This has helped us to have more informed discussions with our companies – indeed we raised it with Procter & Gamble while visiting them in Cincinnati last month – and this has helped us to establish a set of measures and policies we expect our holdings to adopt, if they have not already done so.
Outlook
After reflecting back on the occasion of SAINTS’ 150th, we take several lessons forward. One is the rewards from focusing on long-term dividend growth rather than short-term dividend yield. Another is the expansion of opportunities afforded by a global portfolio. A third is the exceptional returns that outstanding companies can generate for SAINTS shareholders.
This year, as every year, the gyrations of markets and economies creates a great deal of uncertainty and speculation. But for the long-term investor in great companies, faced with opportunities such as Coloplast or Eurofins or indeed any of the investments within SAINTS’ portfolio, we see the potential for many years of continued resilient income together with attractive growth in capital.
We are proud to be managers of SAINTS, and the trust put in us by the Board. We hope that in the decade ahead, as in the nearly two-decades past, we can continue to earn that trust by delivering attractive returns to SAINTS shareholders.
Baillie Gifford & Co
31 July 2023
See disclaimer at the end of this announcement.
Past performance is not a guide to future performance.