1. CHAIRMAN’S STATEMENT
Introduction
I am pleased to present the annual report for Troy Income & Growth Trust plc (the ‘Company’) following my appointment as a non-executive Director and Chairman in January 2023.
Company Aims
In March 2023, the Board held a Strategy meeting to set clear targets which were agreed with the Managers (‘Troy Asset Management Limited’) and are set out below. These clear targets have been closely monitored at each Board meeting along with their associated Key Performance Indicators.
• Dividend growth of 4% per annum for Shareholders
The Board announced in September that the Company would pay a fourth and final dividend for the financial year of 0.529p per share (2022 – 0.50p). This results in a 4% increase in the total dividends paid in FY23 – in-line with the Board’s aim.
• Share price total return (capital and income) above the FTSE All-Share Index over a 5-year period
Performance over the latest five-year period has fallen short of this target, with the portfolio lagging the
FTSE All-Share Index. Higher interest rates have been a headwind for the Managers’ approach of investing
only in companies with a record of good long term dividend growth. Over the last five years, this approach has underperformed other peer group Trusts’ more value orientated styles. Sectors typically eschewed by the Managers for their cyclicality and capital intensity, particularly Energy and large Banks, performed strongly. The Managers see a more balanced market today, with a more challenging environment ahead for corporate profits. Such an environment is likely to better suit the Managers’ approach to the market.
• Share price volatility lower than the FTSE All-Share Index
The Managers emphasise high-quality, resilient, dividend-paying businesses that should drive consistent returns, avoiding the worst of market sell offs. In particular, they believe a portfolio suffering fewer and less destructive drawdowns will be in a better position to compound returns over the long run. The Company has consistently fared better than the FTSE All-Share Index during market sell offs and has continued to provide a return with lower share price volatility.
• To maintain the Company’s Discount Control Mechanism
The discount control mechanism (‘DCM’) has played an important role in reducing share price volatility over the long term, ensuring the Company’s share price remains closely aligned with net asset value. It has also allowed Shareholders to choose the time best suited to them to redeem any shares, knowing that it will be at a price close to net asset value.
On 2 November 2023, the Company announced the suspension of the DCM and the buyback of its shares. Recent buyback activity had resulted in the Company getting very close to (i) fully utilising its existing authority to repurchase shares; and (ii) depleting its distributable reserves, which are required to effect buybacks under the DCM. At that point, the Board was reviewing possible options for a combination with another investment trust and, in light of all of these considerations, the DCM was suspended pending a further announcement on the outcome of the review.
Proposed Merger with STS Global Income & Growth Trust plc
As well as setting the targets detailed above, the Board has been considering the best future for the Company, given recent and current market challenges and the impact of the ongoing share buybacks throughout the year on the size of the Company.
Following a review of a number of strategic options, on 28 November 2023 the Board announced that it had reached an agreement with the Board of STS Global Income & Growth Trust plc (‘STS’) for a proposed merger. Subject to shareholder approval, the merger will be implemented through a scheme of reconstruction pursuant to section 110 of the Insolvency Act 1986, resulting in the voluntary liquidation of the Company and the rollover of its assets into STS in exchange for the issue of new shares in STS. Shareholders will also be offered the option of up to 100% cash exit.
The enlarged STS will continue to be managed, on the same basis as currently, by Troy Asset Management, with James Harries continuing as the lead portfolio manager, supported by Tomasz Boniek and the wider Troy investment team.
The proposals are subject to the approval of both the Company’s shareholders and STS shareholders, and also to regulatory and tax approvals.
In reaching this decision, the Board noted a number of attractions to a combination with STS, including continued exposure to Troy’s investment ethos and process, commonality of UK investments with the addition of global income growth equities, a continuing discount control mechanism, reduced overall costs for continuing shareholders and increased liquidity. Troy has also agreed to make a significant cost contribution in the form of an eighteen-month fee waiver on the assets transferred from the Company to STS.
It is intended that the documentation in connection with the proposal will be posted to shareholders in February 2024, with a view to completing the transaction by the end of March 2024.
Performance
The Company delivered a net asset value (‘NAV’) per share total return of +6.6% and a share price total return of +6.3% over the year to 30 September 2023. Over the same period, the FTSE All-Share Index produced a total return of +13.8%. The average NAV total return for the AIC UK Equity Income sector was +12.6% for the same period. The two most significant drags on performance were some of the Company’s holdings in large, low cyclicality Consumer Staples companies and the two holdings in the Materials sector. Sterling’s strong appreciation against the dollar was also a headwind, impacting the Company’s small number of US-listed holdings as well as the predominantly overseas earnings of the portfolio as a whole.
In the volatile, macro-driven markets of the past year, it was pleasing that a number of the Company’s core holdings in large, stable businesses contributed strongly to returns. RELX was the largest positive driver, while GSK, AstraZeneca, Compass, and Unilever were also in the top 10 contributors. The other notable area of strength came from Consumer Discretionary stocks. In particular, UK domestically focused businesses such as Domino’s Pizza and Next were fuelled by a combination of economic recovery and strong earnings performance. Elsewhere, post-COVID rebounds in global travel drove the share price of InterContinental Hotels Group, while shares in niche industrial company Diploma rose on a year of very strong growth. Across the broader UK index, positive contributions came from large financial companies such as banks and life insurers, some large cyclical industrial companies, and from energy majors – all areas in which the Company tends to have minimal exposure.
The Managers provide further commentary on portfolio performance within their report.
Background
It has been a positive year for UK equities – perhaps a surprising outcome given the various macroeconomic factors conspiring to test global economies and markets; volatile inflation, higher interest rates, the aftereffects of the pandemic, and geopolitical clashes. Nevertheless, UK markets benefited from regaining some political stability following the short-lived Truss government, as well as more resilience than expected from the UK economy and consumer.
Both the magnitude and speed of the current interest rate cycle remain notable. However, after 14 consecutive rate rises beginning in December 2021, the Bank of England finally paused for breath in September of 2023, leaving the UK base rate flat at 5.25%. At the time of writing, core inflation is currently still above 5% in the UK, but is well past its peak of over 7%. Meanwhile, overall UK CPI (consumer price index) inflation has moderated materially from over 11% to under 4%. The narrative from central banks indicates we are probably at peak interest rates for this cycle, and markets have now turned to speculating on the likely path of rate cuts. These will depend on the strength of economies in the coming months. US economic growth in particular has remained robust and markets are talking of a possible ‘soft landing’, in which the US economy manages to curtail inflation and absorb the impacts of this sharp interest rate cycle without entering recession. Such a scenario is uncommon but not without precedent. As the Managers discuss in their review, they remain mindful that the full extent of impacts from higher rates are likely still to be felt.
Portfolio
Large, high-quality, low cyclicality businesses continue to make up the core of the portfolio. Some of the Company’s largest allocations include a c.30% weighting to Consumer Staples (e.g. Unilever, Diageo and Reckitt), c.20% to non-discretionary B2B-focused businesses (e.g. Compass Group, RELX and Bunzl) and c.10% to the relatively non-cyclical Healthcare sector (e.g. AstraZeneca and GSK).
Volatile markets have enabled the Managers to make six new investments over the course of the year – Roche, London Stock Exchange Group, Sage, Smiths Group, Imperial Brands and Howden Joinery. These are all resilient, leading companies in their respective industries and have strong balance sheets and well-covered, growing dividends. The Managers have known and followed each of these companies for multiple years and believe market weakness has allowed them to purchase at attractive prices and dividend yields.
Three positions were exited, all in the first six months of the year: Haleon, Halma and AVEVA. AVEVA was subject to a bid by its majority shareholder, following which the position was sold. Haleon and Halma were sold on valuation and dividend yield grounds.
Dividends
The Board announced in September that the Company would pay a fourth and final dividend for the financial year of 0.529p per share (2022 – 0.50p). The total dividends for FY23 totalled 2.05p, representing a 4% increase on the prior year. Over the year this was above the peer group rate of dividend growth.
Discount Control Mechanism
The DCM is one way in which the Company has set itself apart from other trusts in the sector. The DCM materially improves the liquidity of the Company’s shares and ensures Shareholders can purchase and sell shares in the Company at a price that closely reflects the NAV. This is particularly important in dampening volatility for Shareholders during times of market stress, where it is not uncommon for other trusts to trade at a material discount to their NAVs.
As noted above, the DCM was suspended on 2 November 2023. In the event that the proposed merger does not go ahead, then appropriate steps will be taken to allow the DCM to recommence in due course.
Outlook
In the coming year, the UK market is likely to continue focusing on the path of interest rates, inflation, and the related impacts on corporate and consumer health. The Managers expect continued pressure on earnings, which resulted in a decline in aggregate UK dividends in 2023. In this environment, the Board sees clear virtues in an emphasis on quality, low cyclicality business models that can fund growing, comfortably covered dividends and we remain optimistic about this investment style for the future.
Bridget Guerin
Chairman
23 January 2024