Results analysis: Miton UK MicroCap

• Miton UK MicroCap (MINI)’s universe of UK’s smallest quoted companies has been out of favour in recent years, and over the financial year ending 30/04/2024 drove MINI to a loss.
• The NAV total return (adjusted for the company’s holdings in warrants) was -12.9%, while the Numis SC 1000 Index (not a formal benchmark, but a useful comparator) was up 7.2%.
• Holdings Yu Group and Serabi Gold showed the powerful return potential in micro-caps, rising 200% and 143% over the period. However, they could not offset a general malaise in the sector.
• MINI’s managers, Gervais Williams and Martin Turner, note that funding has been a challenge for their companies, with the cost of debt high and many resorting to equity raises. Those that have, have generally been punished by the market, whatever the long-term prospects are. This was the case with the single largest company detractor, CyanConnode, which fell 53%.
• Revenue return for the year was 0.09p per share, and the board has decided to recommend a final dividend of 0.09p per share, reflecting the revenue for the year.
• Each year MINI provides an opportunity for shareholders to redeem their holding at NAV less costs. This year the latest date for receipt of redemption requests in 01/10/2024, for a redemption point of 05/11/2024.
• The board highlights that it has agreed with Premier Miton that the latter will rebate its management fee so that ongoing charges are no higher than 2%, as was the case this year, in order to ensure the viability of the trust at a lower market capitalisation. We note that management fees are charged on market cap rather than NAV, which means they are lower when the trust is trading on a discount.
• Micro-caps remain cheap compared to larger companies, and even the trust’s strongest performers remain on relatively modest valuations. The managers highlight that Yu Group’s P/B of 6.2x compared to 52x for Nvidia’s. With the UK starting to outperform in recent months, they argue the stage is set for a potentially powerful rebound.
• Chairman of the board Ashe Windham said: “It is hard to overstate the scale of the current upside potential for the Miton UK Microcap Trust in absolute terms.”

Kepler View

Multiple trends have been working against Miton UK MicroCap (MINI) for a few years, but there are tentative signs that the currents may be shifting. The UK has been out of favour for some time, while small and mid caps have been particularly unloved – part of a global trend to favour the largest companies. However, a combination of good economic growth and lower valuations being rewarded with greater overseas interest has led to UK markets picking up over the past year. The recent general election result is also being seen as positive by many market participants, as the new government looks likely to be more stable and is secure with a large majority. MINI should benefit from a renewed interest in UK stocks, but what it really needs is for investors to start getting excited about small caps again.

We won’t try to forecast when this will happen, but we note that all trends eventually reverse, and Nvidia’s growth has started to slow in recent months. We think it may be that lower rates and better economic growth could see more money looking for opportunities in the equity market, and the high growth potential and low valuations of micro-caps could then start to catch investors’ eyes. In particular, we think an easing funding environment could be important when it comes to improving sentiment towards micro-caps, as it is one risk factor investors may be wary of. A lower cost of debt funding should also reduce the need for companies to undertake dilutive rights issues, which the managers note has seen companies particularly harshly punished in recent years.

Gervais and Martin argue that the current retreat from globalization favours publicly-quoted companies which are cash-generative and should lead to improved investor sentiment to small-caps. In their view, should mainstream indices start to struggle, then the attractions of cheap small-caps should draw capital down the market-cap spectrum. Given the relatively small size and illiquid nature of the micro-cap universe, they argue it wouldn’t take much of a reallocation by institutional investors to see a significant re-rating.

We think MINI’s upside looks almost option-like. Valuations and sentiment are so low, that the potential upside if both shift is exceptionally high, while the downside could be limited. From a shareholder’s perspective, the annual redemption window helps reduce the downside too, as it means shareholders should be able to redeem at close to NAV rather than sell on a wide discount in the market. We think the managers’ conviction in this opportunity is shown by the decision to rebate the management fee in order to keep the OCF economic for shareholders. In our view this shows their confidence that the strategy can perform well again, as it did when delivering exceptional returns in 2020/2021.

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