Buy, Hold, Sell: UK mid-caps deliver

Guy Anderson, manager of Mercantile Investment Trust, on the stocks he has been buying and selling recently.

Over the past five years, Mercantile Investment Trust has returned just under 55%, substantially ahead of its benchmark. In contrast, the average performance of trusts in its sector, UK all companies, was just 28%.

Run by Guy Anderson since 2012, Mercantile aims to deliver long-term capital growth through investment in a variety of mid- and small-cap UK equities. While the trust does pay some income, its yield is modest at 2.6% and its main focus is on growth.

Anderson says he has “a bias towards cash-generative businesses”. His team looks for structurally good businesses with high competitive advantages; such companies, it is hoped, will deliver strong earnings growth.

According to Anderson, the trust’s portfolio is typically about 90% in mid-caps and 10% in smaller companies. The total number of holdings, as of April 2019, was 82.

Buy: Aveva


Aveva is one of the world’s leading providers of engineering and industrial software. The company’s software is used for the maintenance of power plants, oil refineries, off - shore oil rigs and other similar large engineering assets. Anderson explains: “In the past, if you were building and operating an oil refinery, you would have a physical blueprint of the asset, which you would then use to maintain it in a reactive way by checking certain pipes at certain times.” Aveva’s product allows a digital version of this.

Industrial digitalisation as an industry should experience strong structural growth, he says, arguing that within this industry Aveva is a clear leader, with a great market position and high-quality finances.

In particular, what attracted the team’s attention to the stock was the recent successful merger of Aveva and another company, Schneider Electric. “This merger was completed at the start of last year. What was seen through 2018 was a pickup in revenue growth. Revenue was growing in the low double digits, which was seen as evidence that the combination is driving growth.” Aveva was purchased at the end of 2018. Since then it has risen by about 40%, says Anderson.

Aveva delivers 40% gain

A graph showing the performance of Aveva, National Express and Ricardo in Buy, Hold, Sell


Hold: National Express


“The key thing about this stock is that it is one of only a few transport service companies to step away from UK rail contracts,” Anderson says. A few years ago the company decided to shun rail in favour of its bus operation.

This decision was one which attracted Mercantile’s team to the company in 2016. Anderson says: “We were doing a review of that sector and what stood out was that it all looked cheap, with companies trading on price-to-earnings ratios of around 10x.” However, upon further inspection the team noticed that most companies were running unattractive rail contracts, with the exception of National Express, which was primarily committed to bus services.

“This is quite a cash-generative business,” Anderson says. “Return on capital for the buses is reasonably good.” At the same time, the company is expanding its bus operations internationally.

The stock right now is just a hold: in 2016, when the company was first purchased, it was trading at a price/earnings (p/e) ratio of around 10x. Now, says Anderson it is on around 11x. “While in absolute terms this is cheap, relative to the sector the company has rerated upwards somewhat, becoming more expensive.”

Sell: Ricardo


Ricardo is an engineering consultancy for car manufacturers. The company provides R&D outsourcing capabilities for car manufacturing, focusing on transmissions and engine emission, among other areas.

Anderson says he was first drawn to the company in 2010. At the time, the steep downturn in car manufacturing that started in 2008 was coming to an end. The financial crisis and resulting economic downturn had caused engineering budgets to be slashed. This meant the company was priced very cheaply. Those budgets, however, were increasing by 2010, making the company a cyclical play.

At the same time, Anderson also saw a potential structural growth trend in the making. Principally, there was an increased focus on emissions reductions, something the company was well-placed to benefit from. “Over the past 10 years, this theme has been playing out,” he says.

However, in 2017 Anderson started to sell the company, exiting completely by the end of 2018. He saw a number of potential risks ahead, one being the transition to electric vehicles. Moreover, the company’s huge growth convinced Anderson his holding had run its course.

He points out that at the time of purchase, the company’s market capitalisation was about £150 million and the business was largely ignored by other market participants. Since then, the company’s market cap has grown to around £400-500 million and so has its valuation. “We no longer saw an obvious uptick in potential. We decided we would recycle capital.”

Long-term outperformance

A chart showing the performance of the Mercantile Investment Trust

Source: FEAnalytics, 31 April 2019

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