Fundsmith Emerging (FEET) - Crazy idea?

[simoan]

I've had this crazy idea, please stop me!

I've been building a position in FEET recently at a discount to NAV of 15% (current discount is 15.1%). This has been a real dog since launch and it is a big stain on the otherwise good name of Fundsmith. I'm sure Terry Smith now wishes he'd not the had the idea in the first place, and he's long run away from running the fund himself. It changed the investment mandate a while back and yet it is now at pretty much an all-time high discount.

The thesis of my idea is this...

1. It is looking more likely the company will need to call a continuation vote this year. This from the last (FY21) Annual Report:

"As I mentioned in my Statement last year, the Company’s constitutional documents require that the Directors should consider calling a continuation vote in the event that, after the end of the fourth financial year of the Company’s existence (being 31 December 2018), the Company’s shares have traded at an average discount in excess of 10% of the NAV per share in a relevant year. The Board has kept this under close review and, as the Company’s shares traded at an average discount of 6.6% during the Year, it believes that such a vote should not be put before shareholders this year. The Board will continue to keep this under close review on an annual basis."

So far, the YTD discount has varied from 8% to 17% and we're now nearly 7 months in. So, the average discount is well over 10% thus far.

2. The major shareholder list includes > 21% of the company owned by specialist investment companies that run strategies based on buying IT's at significant discounts. So should the discount persist they may want a quick 15% gain and move on having realised their goal. FWIW Terry Smith may also be happy to exit his > 3% holding. So, should there be a continuation vote, there is a decent chance of it being well supported.

3. Quite unbelievably, although the board state in the AR that they continually monitor the NAV discount/premium and will act appropriately to manage it, the company has not re-purchased any shares since 13th September 2021, nearly a year ago. The AGM in May passed a motion to allow re-purchases to be made and yet they have done nothing. Why is that? Is there a chance they have one eye on a continuation vote?

Anyway, maybe a crazy idea, but what's the worst that can happen buying at a 15% discount? They start buying back shares and the discount narrows? The company has never acquired any scale and the market cap is currently a piddling £300m. If Terry is half as ruthless as he makes out, I'm pretty sure he'll want rid.

All the best, Si

[BullDog]

I think you stand a good chance of spotting a winner there. FEET always reminded me of Anthony Bolton who did similar to Smith when he launched a China investment trust. He quit after a while. I think both Bolton and Smith are out of their skillset with this kind of stuff. I would not be at all surprised to see FEET getting wound up. Good luck.

[monabri]

Nearly half the geographic split of the fund is in India ( fund factsheet 29 April 22). Would a fund wind up be influenced by the prospects there and the fund manager ( O' Brien ) would need to 'make the case for continuation'? Politically, India are tightrope walking , trying to keep neutral in the West v Russia situation in order to benefit from cheaper(er) energy?

I also note, the fund is 42% consumer staples..this will have a significant bearing on future performance...possibly negatively though ( Unilever Hindustan, Nestle input costs).

In summary, it's a bit of a punt which might rely on understanding prospects for the Indian stock market (I struggle with the UK market!).

[simoan]

In summary, it's a bit of a punt which might rely on understanding prospects for the Indian stock market (I struggle with the UK market!).

The idea here is complete strategic ignorance! No-one knows what the future holds for Indian stocks but at least I know I don't know. All that matters is that all holdings are large (with the exception of DP Eurasia which is a basket case anyway) liquid companies that can be easily sold. This is quite different to investing in a UK small cap IT where it would not be possible for the manager to sell the holdings quickly without damaging the price achieved. Buying at a 15% discount leaves a fair margin of safety but we'll see what the next few months bring...

[onslow]

I guess it depends on your view of the underlying assets?

Buying them at a discount is great, but if the fair value of the assets declines it wont help you if the discount persists

(or becomes greater!)

[simoan]

I guess it depends on your view of the underlying assets?

Buying them at a discount is great, but if the fair value of the assets declines it wont help you if the discount persists

(or becomes greater!)

But that’s true of any investment! I’m not sure I understand the point you’re making? One of the greatest forces in investment is “reversion to the mean”. If you read the investment strategy of the funds that hold more than a fifth of FEET shares, that’s exactly what they’re doing. If they are offered the chance to achieve that quickly via a continuation vote, there’s a very good chance they’ll take it.

[simoan]

So, today FEET released its interim results, and the plot thickens...

For those that want to read the full interims: https://www.investegate.co.uk/fundsmith ... 00080165V/

I recently sent an email to the Chairman asking why the company was not buying back shares and have heard nothing back. I mean, who doesn't like buying £1 for 85p, it's a no brainer if you have no gearing and believe in your own company. So I would expect any excuse to be of the very lame kind, if I ever get a reply. I suspect it is not a question they want to answer and they are happy to kick the can down the road until the next AGM, at which point a continuation vote will likely be held.

Here's the most relevant section for me:

Share Price Discount

Shareholders will be aware of the Board's aspiration that the Company's shares would not trade at a price which, on average, represented a discount that was out of line with the Company's peer group (the AIC Global Emerging Markets Sector). The Board has continued to monitor the position very closely and, while no shares were repurchased during the period under review (2021: 15,000 shares were repurchased to be held in treasury), the Company has repurchased a total of 351,773 shares to be held in treasury at a total cost of £4.9m to 4 August 2022, the latest practicable date prior to publication of this report. The Board and its advisers continue to monitor the discount closely and the Company will make further purchases of shares if the Board deems it to be appropriate although it has become sceptical about whether this policy alone will serve to close the discount.

So they are sceptical. Well, I'm sceptical as to why they are sceptical about buybacks! Everyday my news feed is full of companies doing buybacks, many of them ITs, including Smithson. I still suspect that there is an ulterior motive here and that larger shareholders (over 20% of which are funds specifically targeting returns from ITs trading at large discounts) would like to see the trust wound up via a continuation vote next year. We shall see...

All the best, Si

[Hariseldon58]

Given the performance has not been great then it's not really a good target for hope the discount will close...You may be right about corporate actions but the discount is not enormous and I suspect you might have better luck elsewhere, where fundamentals may help you.

[simoan]

Given the performance has not been great then it's not really a good target for hope the discount will close...You may be right about corporate actions but the discount is not enormous and I suspect you might have better luck elsewhere, where fundamentals may help you.

The discount is around 15% which is more than all but one trust in the same AIC sector. They supposedly monitor this and aim to have a discount close to the sector average, yet they are doing nothing about it as stated today. They have no gearing, so why are they not buying pound coins for 85p in an effort to close the discount as other trusts are doing?
And that includes Smithson which is at a much smaller discount.

But this is not about the discount per se. It’s that the status quo will trigger a continuation vote where the major institutional shareholders will be able to realise their investment close to NAV and Fundsmith will be able to kill off its problem child. It certainly seems like the board are doing their very best to make FEET the most unattractive investment possible and are fully aware of where they’re heading.

As I said in the OP, perhaps I’m crazy, but I smell a rat. It seems very strange to me that a fund attached to Terry Smith should be able to fumble on so aimlessly.

[scrumpyjack]

All this assumes that in a winding up their investments would all realise the quoted market value. It depends what they hold, how liquid and in demand those particular shares were and whether, if the market knows these shares are going to be dumped, their price might fall sharply? Also there are the costs of liquidation, which might be non trivial if it is a small trust?

[Hariseldon58]

My experience of wind ups is that there are costs, the process is fairly protracted, final payments were paid years later ( they were small though) the costs represented about 3% or 4% as I recollect.

I purchased one such IT that was voluntarily liquidating at a substantial discount and did well, as the market did not seem to note that a significant part of the portfolio was already in gilts, thus the discount on the non gilts part of the portfolio was very high indeed. It's unlikely that I'll see such an opportunity in this era of freely available information.

[simoan]

All this assumes that in a winding up their investments would all realise the quoted market value. It depends what they hold, how liquid and in demand those particular shares were and whether, if the market knows these shares are going to be dumped, their price might fall sharply? Also there are the costs of liquidation, which might be non trivial if it is a small trust?

I did say “close to NAV” for a reason. Liquidity is very good as I mentioned above and only a very small inconsequential holding in DP Eurasia could really be an issue. I have been through all holdings to check market liquidity. Median market cap is > £5bn so not really a major issue.

As for dumping shares into the open market… this is not generally how institutional sellers operate in this scenario and it is most likely they would sell blocks directly to other institutions.

[scrumpyjack]

All this assumes that in a winding up their investments would all realise the quoted market value. It depends what they hold, how liquid and in demand those particular shares were and whether, if the market knows these shares are going to be dumped, their price might fall sharply? Also there are the costs of liquidation, which might be non trivial if it is a small trust?

I did say “close to NAV” for a reason. Liquidity is very good as I mentioned above and only a very small inconsequential holding in DP Eurasia could really be an issue. I have been through all holdings to check market liquidity. Median market cap is > £5bn so not really a major issue.

As for dumping shares into the open market… this is not generally how institutional sellers operate in this scenario and it is most likely they would sell blocks directly to other institutions.

OK well done on such diligence!

[simoan]

My experience of wind ups is that there are costs, the process is fairly protracted, final payments were paid years later ( they were small though) the costs represented about 3% or 4% as I recollect.

I purchased one such IT that was voluntarily liquidating at a substantial discount and did well, as the market did not seem to note that a significant part of the portfolio was already in gilts, thus the discount on the non gilts part of the portfolio was very high indeed. It's unlikely that I'll see such an opportunity in this era of freely available information.

This assumes that as a retail investor you'd be holding on for grim death until the bitter end rather than sell in the market if the continuation vote fails. I would sell immediately as the institutions will quickly arbitrage away the majority of the discount. You make a particularly important point though with regard to the time-value of money - with inflation at ~10% that's a key factor now. I've had a few takeovers recently (Ultra Electronics, McKay Securities, now EMIS) and have sold out when the share price gets within 3-5% of the bid price to recycle the funds, especially when there is no dividend payment pending.

Anyway, thanks for your thoughts. I greatly welcome negative comments and it was the main reason for starting this thread.

All the best, Si

[simoan]

All this assumes that in a winding up their investments would all realise the quoted market value. It depends what they hold, how liquid and in demand those particular shares were and whether, if the market knows these shares are going to be dumped, their price might fall sharply? Also there are the costs of liquidation, which might be non trivial if it is a small trust?

I did say “close to NAV” for a reason. Liquidity is very good as I mentioned above and only a very small inconsequential holding in DP Eurasia could really be an issue. I have been through all holdings to check market liquidity. Median market cap is > £5bn so not really a major issue.

As for dumping shares into the open market… this is not generally how institutional sellers operate in this scenario and it is most likely they would sell blocks directly to other institutions.

OK well done on such diligence!

Well it's fairly easy to read the latest Annual Report and take a look at all the holdings, liquidity and where they are listed. There are some very big companies held such as TSMC, Tencent, Tata, Hindustan Unilever, Nestle India, Asian Paints etc. and total assets of the trust are only £360m spread across 37 holdings, so probably no issue selling the vast majority of these holdings in the market if they wish. The biggest single holding size is probably £20m (or less) by now: there were only 4 holdings > £20m at the end of last year according to the AR.

Don't get me wrong, there may be nothing in this, but so far the board are going against every metric they have laid down about the conditions under which they would actively manage the discount to NAV. They are effectively throwing the towel in and are making no efforts to ensure the discount is in-line with the AIC sector average as stated. We had reconfirmation of this in the interim results statement yesterday. Apparently, unlike every other IT that trades at a large discount, they are "sceptical" share buybacks will have the desired effect. That means one of two things, they know there are large sellers in the market and that they will just be taking on debt and providing liquidity to allow them a way out, or, they do not want to close the NAV because Terry Smith and other large holders have told them they want the opportunity to get out close to NAV next year via a continuation vote.

The fund has not been a success for Fundsmith, a blot on its copybook, and it also happens that the 9 years are up for the Chairman since launch and he will be standing down next year. Maybe I'm reading too much into it but it seems to me there are signs that something is afoot. Of course, that could all change if they start buying in shares, but that's not much of a downside when you have been buying at a large discount!

All the best, Si

[simoan]

I have just come off a call with the Chairman of FEET. It turns out I'm not as crazy as I thought I was...

[doug2500]

Full Marks to Simoan.

https://www.feetplc.co.uk/news/feet-news/?id=w9e5odr

[simoan]

Full Marks to Simoan.

https://www.feetplc.co.uk/news/feet-news/?id=w9e5odr

Winner, winner, chicken dinner!

Voluntary liquidation is an even better result than I expected. Terry just pulled the plug! I was told there was a FEET board meeting this week. It seems that was just to dot the i’s and cross the t’s. Sorry can’t comment further as I’m waiting for a flight.

All the best, Si

[BullDog]

Full Marks to Simoan.

https://www.feetplc.co.uk/news/feet-news/?id=w9e5odr

Winner, winner, chicken dinner!

Voluntary liquidation is an even better result than I expected. Terry just pulled the plug! I was told there was a FEET board meeting this week. It seems that was just to dot the i’s and cross the t’s. Sorry can’t comment further as I’m waiting for a flight.

All the best, Si

Congratulations on a fantastic call.

Have a safe flight.

[RajK]

Well done Simoan

Do i take it is best to just hold on to the stock now and wait for the liquidation? Isn't there a danger that NAV goes down between now and when they start to sell? What are others doing?