In our latest Insider Interview, collectives editor Kyle Caldwell puts the questions to Stuart Widdowson, fund manager of Odyssean Investment Trust Ord (LSE:OIT). Widdowson runs a very concentrated portfolio, currently comprising just 16 stocks. He explains there’s a high bar to meet his investment criteria, which is to invest in mispriced opportunities among UK smaller companies.
The trust's high conviction approach is further reflected by (as at the end of November 2023) three companies having individual weightings of over 10%, collectively accounting for just over 40% of the portfolio. Widdowson runs through the investment attractions of each of Ascential (LSE:ASCL), Elementis (LSE:ELM), and NCC Group (LSE:NCC).
Kyle Caldwell, collectives editor at interactive investor: Hello and welcome to our latest Insider Interview. Today in the studio I have with me Stuart Widdowson, manager of the Odyssean Investment Trust. Stuart, thanks for coming in today.
Stuart Widdowson, manager of the Odyssean Investment Trust: Thank you for having me.
Kyle Caldwell: So, Stuart, to kick off, could you run us through how you invest? I understand that you're looking for mispriced opportunities among UK smaller companies. Could you talk us through how you find those potential opportunities?
Stuart Widdowson: Absolutely, Kyle. So, what we're really looking for is a combination of three things. First, a company we perceive to be of above-average quality. Second, a company that's trading below what we believe to be its intrinsic value. And third a company that, through some management effort, could be performing better than it does today.
Going back to valuation, we look at this in two different ways. The first is, is this company trading on a discount to what we think its implied valuation is today? Second, how is that implied valuation going to grow in time? When we look at valuation, it's not just looking at price-to-earnings (P/Es) and many of the metrics that more conventional fund managers look at. We spend a lot of time thinking about who might be an alternative owner to the stock market, and we spend a lot of time benchmarking valuations against corporate M&A transactions. We’ve found that's a really good way to spot valuation opportunities that maybe other people haven't spotted.
Kyle Caldwell: It's a very concentrated portfolio. There's currently only 16 holdings. Is it a deliberate choice to be concentrated, or does it reflect the fact that you can't find enough opportunities for the way in which you invest?
Stuart Widdowson: Typically we would have up to 20 stocks in the portfolio. Our selection criteria is very rigorous and we're long-term investors. Typically we'd make only four or five new investments a year. So, 16 is probably towards the low end, Over the past five and a half years it's been about 18 on average.
But what we tend to find is that once we have such a rigorous filtering process, there aren't that many companies that pass that test. And once we find those companies that we really like and think we have those prospects, there's a very high bar to find an alternative investment to effectively displace one of our holdings.
Kyle Caldwell: In terms of your biggest positions, the top three stocks (as at end of November 2023), account for around 40% of the portfolio. How important is it that each company delivers? For instance, if one has a bad year, will that negatively impact the entire performance of the investment trust?
Stuart Widdowson: Well, quite concentrated portfolios can have quite lumpy performance, both on the up and downside. We tend to find that over the long term, if we've selected the right types of companies, the lumps and bumps tend to even themselves out.
What we do have with a number of these companies, particularly in our top three, is that while they hold a single trading entity, they might have multiple divisions that do quite different things. So, you are getting diversity of operational performance despite the fact it's just in one company.
Kyle Caldwell: And could you run through each of those three companies and explain why they are your favourite stocks?
Stuart Widdowson: Absolutely. So, the largest holding in our portfolio at the moment is a company called Ascential, which is a B2B media company. We invested in this company mostly in Q4 2022. Ascential had three divisions at the time. An events business, for business events, largely in the two brands of Money 2020 and Cannes Lions. These are both excellent events and very well thought of in the sector. The second division was a company called WGSN, which it still has at the moment, but that’s currently up for sale, or has been sold. That does consumer research on a subscription basis. And the final division, which they've just sold, is their digital commerce business, which basically helps brand owners sell their items on electronic platforms such as Amazon.
When we invested, the shares had derated significantly despite the company actually outperforming or meeting expectations. And we felt when we invested at just over £2 a share, the break-up value of the company was way above the share price. So as in, if you added the valuation of all those three divisions together, you came up with the share price significantly ahead of where the shares were trading.
A few months after we invested, the company put a statement out saying it was going to sell WGSN. This was in January last year, and then in the autumn they said they'd sold, and on the same day they announced that they’d sold WGSN [they] also sold the digital commerce business to Omnicom. The shares have performed particularly well over the last year. The opportunity there is really what's left with the events business because even though the shares have performed quite well, the events business is still being valued, we think, on a look-through basis at a significant discount to M&A multiples in that sector. So, although it's done very well for us, we still think there's quite a lot to go.
The second-biggest holding is Elementis, which is a niche specialty chemicals business. And it's a very unusual asset because it is vertically integrated, so it owns a lot of its own sources of raw material in the form of the world's only commercially viable and highest-quality hectorite clay mine in California, which has decades worth of supply, and also industrial talc mines in Finland with very high-quality talc.
The real advantage of that is that they take effectively the raw materials and turn them into products to sell to a whole bunch of different end markets, particularly personal care, coatings or the paints industry, and other industries. Being in control of your own raw materials is a fantastic way of combating inflation because you're much less exposed to third parties increasing the cost of your materials.
So, Elementis sits in a really good position at supply chain and has decades worth of mineral asset backing. It's not just about that opportunity. We bought very well initially during Covid at a price that was less than 50% of book value. But we've always felt there was an opportunity for the company to generate higher margins than it has done in the past.
Interestingly, the company had a capital markets day in November where they unveiled $30 million (£23.5 million) of structural cost savings, and the current profitability of the business is about $100 million. So, even if volumes don't improve from this level, which they probably will, there's significant earnings upside, which we don't think is in the share price, from delivering those cost savings over the next two years.
It's also been subject to M&A interest over the last few years. In late 2020 and early 2021, it was approached publicly by two US peers interested in buying the company at a significant premium to the then share price. So, we think it has a mix of everything we like. Good asset backing and scope to improve earnings. Pretty undemanding valuation, but also the upside from some sort of corporate activity if the stock market doesn't buy it properly.
The third holding is NCC, which is a technology services business, which has two divisions; a software escrow business, and a cybersecurity consulting business. Very different businesses, very different dynamics. The software escrow business is a relatively low-growth business, almost like an insurance business where, if you buy a piece of software, they will protect the source code in case your software provider goes bust. It's a very stable business. Never going to shoot the lights out, but very good cash generation, very profitable.
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The cybersecurity business is in a very interesting part of the market. We all read about cybersecurity and the increased threats. It had quite a difficult year last year because early in January and February, some of its biggest US customers were cost cutting. So, the likes of Meta, Google [Alphabet], and Facebook, and the company profit-warned. We had a small stake in that business that we had left. We've owned it over the years. And, in the aftermath of that, we significantly increased our stake by about three or four times because we felt, again, that the shares had basically corrected to a level that was a massive discount to the sum of [its] parts. The team is doing a really good job in refocusing the business and taking cost out, and we think some pretty exciting times lie ahead. We wouldn't be surprised to see the business separated into two different firms at some point as well.
Kyle Caldwell: So, the investment trust has been around for nearly six years. Of those 16 current holdings, how many have you had since IPO?
Stuart Widdowson: It took us about a year to get invested, post-IPO. We have three holdings that are still in the portfolio from the initial investments we made. The first is Wilmington (LSE:WIL), which we've almost exited. It's a small B2B media company. We bought in the day of a profit warning at a very undemanding valuation. And a new team has gone in there, again a common theme here, change of management in our portfolio companies. A new team has gone in and really focused on the portfolio. They've sold some slower growth, less core assets, made a couple of quite interesting bolt-ons. They paid all debt down, and they've structurally improved margins, and moved all the training business from face to face to online as well, which was re-accelerated through Covid. It's done very well for us. We've largely exited the position, but it's delivered annualised returns of about 15% in a market that's been flat for the last five and a bit years.
The second one is Chemring Group (LSE:CHG), which we did fully exit post-Ukraine. And we bought back in more recently. This is a niche FTSE 250 defence company, most well known for countermeasures, but increasingly it's being recognised. It has an electronic warfare and cyber and AI business in there. We exited it when the Ukraine war kicked off because the stock market was pretty difficult through that period and Chemring significantly rerated by about 30 or 40%. We felt that that was an exuberant response to what was happening in Ukraine and we exited the position [and] reinvested the money in the rest of the portfolio. But as that exuberance faded over 2023, we felt the stock became quite undervalued again in Q4 and we bought back into it.
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The final one is a company called Benchmark Holdings (LSE:BMK), which is a niche aquaculture business, which effectively is the technology around the nutrition, breeding and treatments of salmon typically. So it's involved with specialist feed for very small salmon as they're growing, genetics for salmon eggs, [and] basically creating disease-resistant salmon eggs. And then finally a system to help treat sea lice in salmon farms, which is one of the biggest costs to the industry.
Kyle Caldwell: When you're constructing the portfolio and you're on the lookout for potential new names, how important is looking at sectors, and how much store do you set by themes?
Stuart Widdowson: So, very similar to private equity. Ed, my colleague, and I used to work in private equity. We believe in focusing your time and energy on a small number of sectors and getting to know those sectors much better than trying to invest in the whole market. So, we really focus on specialist industrials, TMT, healthcare and business services, and that accounts for most of our portfolio. We feel that if we understand those sectors better, we can spot valuation opportunities. But in the case of Elementis and some of our other holdings, situations where companies are not making the profit margins we think they should be, we are really trying to spot that before the market does.
Kyle Caldwell: Stuart, thanks for coming in today.
Stuart Widdowson: Thanks, Kyle.
Kyle Caldwell: That's it for this episode of our Insider Interview video series. Check out the rest of the series on our YouTube channel. Please let us know what you think. You can comment, like and please do hit that subscribe button, and hopefully I'll see you again next time.
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