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Four recommendations ahead of the impending LIC sector consolidation

Rodney Lay

Risk Return Metrics

The Australian LIT/LIC sector is undergoing a marked structural shift. At the top end, IPOs have only progressed where there is confidence amongst Joint Lead Manager (JLM) consortiums of raising $500m+. For debt LITs, we expect a continuation of trend - new IPOs will be largely limited to top tier global managers, with the possibility of some very highly regarded domestic managers offering differentiated and highly targeted investment strategies. In equities, IPOs, if any should be forthcoming, will be limited to successful domestically established fund managers with a large and loyal investor base in which to internally market and distribute the product. VGI Partners Ltd and the Magellan Financial Group represent two prime examples.

At the bottom end, namely the sub $200m market cap part of the LIC sector, consolidation is gaining pace by way of increased activism and increasingly vocal disgruntled shareholders spurred by large and persistent discounts to NTA. Consolidation is playing out by way of an increasing number of liquidity restructures (conversions and wind-ups) and merger / acquisition activity in an effort to narrow discounts. 

IIR notes that the stakes are not immaterial, with the elimination of discounts to NTA in the LIC sector with a market capitalisation of less than $200m generating a value uplift to (often long suffering) shareholders of $0.5bn (in a segment that has a combined market cap of $4.08bn).

Historically, Australian investors have exhibited an unhealthy tolerance of under-performing management teams. However, partly in the wake of the Banking Royal Commission and possibly the shadow that has (wrongly or rightly) been cast over the sector with respect to the stamping fee consultation process, IIR believes attitudes have begun to a shift in the LIC sector. 

This is beginning to manifest by way of shareholders becoming increasingly vocal in relation to persistent discounts to NTA and poor performance. As a long time proponent of close ended vehicles, this is a development that IIR welcomes as it will ultimately lead to a stronger sector and better shareholder outcomes. The onus now however is firmly on LIC boards to act in the best interests of shareholders. 

Four key recommendations

Based on a review of the sector’s structural dynamics, IIR’s key recommendations are:

  1. IIR urges boards that oversee LICs with limited liquidity and persistent discounts to NTA to implement standard initiatives to close the gap, including on- and off-market buybacks, increasing dividends (where practicable), and improving investor communications. Where such measures have been exhausted with no material narrowing of a gap to NTA, a board must diligently and prudently consider all restructuring options to create liquidity and to narrow the discount, including conversion to a unit trust, wind-up, a merger, or appointment of a new investment manager. 
  2. IIR advocates that investment managers and JLMs set hard minimums of, say, $200m for an IPO (with a few possible exceptions). IIR believes that investment managers that are unlikely to achieve this threshold would provide investors a better experience by pursuing the Exchange Traded Managed Fund (ETMF) avenue (at least until sufficient scale is achieved and at which point an investment manager may sensibly pursue a conversion to a LIC if the benefits of a close-ended structure are likely to be advantageous to longer term performance);
  3. Loyalty share structures for capital raisings where the shares are issued in the listed fund manager parent group as incentive to invest (as undertaken by Magellan Financial Group and VGI Partners Ltd) should cease. Unlike the currently open secondary offer for the Pengana Private Equity Trust (PE1), in which the loyalty share offer (in PE1 versus Pengana Capital Group Limited) has been appropriately structured, issuing loyalty shares as incentive to participate in a raise runs the risk of generating a motivation to invest that is partly exogenous to the investment merits of the investment vehicle taken in isolation. Both VG1 and VG8 moved to a discount to NTA following the respective capital raises (and VG1 had never previously traded at a discount). Clearly some investors participated in the capital raises solely for the shares in the listed parent company. While the discount may present an opportunity for those buying either VG1 or VG8 it has removed market exit timing control to a degree for those wishing to sell. This is not a direct criticism of VGI Partners Ltd (they pioneered the manager paying all IPO costs in VG1) but with the benefit of hindsight IIR suspects they would not have gone down the same route. 
  4. With respect to initiatives to close a discount gap to NTA, IIR believes the investment manager and board of the Monash Absolute Return Fund (MA1) is leading the way in terms of acting in the best interests of shareholders (possibly being spurred into action by the activist investor Sandon Capital). The investment manager and board of the Monash Absolute Returns Fund have proposed a conversion to an ASX-listed Exchange Traded Managed Fund (ETMF). If shareholders vote in favour of the proposal it will be the first such conversion to an ETMF in the Australian market. IIR suspects however it will not be the last. 

A detailed analysis of the consolidation of the LIC sector is contained in the attached report. 



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Rodney Lay
Rodney Lay
Risk Return Metrics

Investment analyst with particular experience in listed and unlisted investment strategies, equities and structured products.

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