Performance fee capped for investment trust after £112 million payday

Backlash from shareholders spurred trust parent Jupiter Asset Management to rethink the performance fee.

Growth capital investment trust Chrysalis Investments is set to change its performance fee structure to cap the amount that can be earned in additional fees by the trust.

For the year to September 2021, the trust earned a £112 million performance fee, of which £60 million was paid to trust managers Nick Williamson and Richard Watts.

It took 20% of the returns over the set net asset value (NAV) level, which was an 8% hurdle rate. This amounted to a huge sum as the value of its unlisted shares boomed during the pandemic.

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But the hangover for technology stocks has been brutal this year, with Chrysalis’ share price plummeting 73% as funding for tech companies dried up and investors moved to prioritise profits today over the prospect of future growth.

This has left shareholders feeling short-changed, having paid out for strong performance last year only to see their returns wiped out this year.

Jupiter Asset Management, the fund group that owns Chrysalis, have reached an agreement – subject to a shareholder vote – with the board of Chrysalis to cut and cap any future performance fees.

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The overall performance fee level will be reduced from 20% to 12.5% over a set NAV level, and any performance fee will now be settled in shares rather than cash to align the fund manager’s incentives with shareholders’ incentives. Three-quarters of these shares will be deferred by Chrysalis for between three and five years.

There will also be a cap on the performance fee payable in any one year so that the total expense ratio of the trust will not exceed 3.75% in a financial year.

Numis, the investment trust analyst, said: “We believe these changes are positive and provide clarity on a significant issue for shareholders, but key to turning around sentiment will be portfolio performance and greater confidence in the valuation.”

Performance fees are more common than investors perhaps realise. Research by interactive investor’s editorial team earlier this year found that almost 30% of investment trusts (93 out of 337) have performance fees, of which 44% paid out in their last financial year.

Will the portfolio bounce back?

Speaking to investors yesterday, Chrysalis managers Williamson and Watts admitted they had made some mistakes managing the portfolio, but were adamant that the worst was over for the trust’s performance as valuations were now reasonable given the trust’s sitting on a 54% discount to NAV.   

Watts said that investing in Klarna, the buy-now pay-later firm, in three different funding rounds, including its $46 billion (£38 billion) valuation round in 2021 that took it to 27% of Chrysalis’ portfolio, may have been an error.

He said: “I look back at Klarna and ask if there was an opportunity to take the stake down to 20% or the high teens, and the answer is yes. But at that point in time we felt that Chrysalis was still in its growth phase and we were growing and building the portfolio which would naturally dilute existing positions over time.

“Maybe we underestimated the fact that going into a market downturn with that concentration risk it might have been wiser to use it to take some money off the table and that was one of the key learnings of the past 12 months.”

Klarna’s valuation was cut 85% this year to $6.7 billion.

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The managers said there were “signs of stability” in the IPO market, which could spell company sales next year for Chrysalis, and the portfolio was at an “attractive valuation” given that “the underlying portfolio companies are in a very strong position”.

Klarna, which is now a 19% position in the trust, released results yesterday that showed losses were narrowing. Overall, the net operating loss for the third quarter reduced by $169 million compared to the second quarter of the 2022.

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On Klarna, Watts said: “It competes against credit card companies charging 25% to 30% in interest, so the proposition for consumers is very compelling. The average credit balance is less than $100 and customers come back again and again to purchase things with Klarna.

“It’s very effective for merchants too, and has a network effect as merchants that do not offer Klarna at checkout will lose out to those that do.”

The fund managers also said they are beginning to see an uptick of bids for their portfolio companies at higher valuations than their last funding rounds.

Williamson says: “Research from Numis shows that most investors think that private stock valuations have bottomed. This is what we are seeing anecdotally, with bids more recently for our portfolio companies at a premium to recent rounds. This is important because if prices stabalise that feeds through into our NAV.

“There is a trade-off between growth and profitability. In 2021 it was all about growth. But because we look for unit economics and profitability potential for our companies when they reach a large scale, the shift from prioritising growth to prioritising profitability this year and looking ahead suits us just fine.”