DSM: Cash Exit Facility, Share Buybacks and subsequent Strategic Review

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Downing Strategic Micro-Cap Investment Trust plc ("the Company")

LEI: 213800QMYPUW4POFFX69

9 January 2023

Cash Exit Facility, Share Buybacks and subsequent Strategic Review

Introduction and background

The investment objective of the Company is to generate capital growth for shareholders over the longer term from active involvement in a focused portfolio of UK micro-cap companies (those whose market capitalisations are under £150 million at the time of investment), targeting a compound return of 15% per annum over the longer term.

Over the period of 12 months to 31 December 2022, the Company’s NAV declined by 16.8% compared to a decline of 30.7% in the FTSE AIM All Share TR index. Despite this out-performance against the wider FTSE AIM All Share market, the Company’s shares currently trade at a discount of 20.24% to their NAV as at 5 January 2023. 

As noted in the half yearly results published on 1 November 2022, the investment manager (the "Manager") believes that the Company’s investment portfolio is currently valued at a discount of over 40% to consensus share price targets in the market.  This double discount is expected to offer longer term shareholders significant upside as this embedded value is realised over time.

Cash Exit Facility

The Board has previously announced its intention to offer shareholders a 50% share redemption opportunity in May 2024 at NAV (less costs) (the "Cash Exit Facility").

Although it is challenging to forecast what market conditions will prevail in May 2024, it is the primary aim of the Board and the Manager to have by that point: (i) achieved continued outperformance against the market, (ii) realised some existing investments; and (iii) narrowed the discount at which the Company's shares are currently trading through a combination of performance and share buybacks. These outcomes are the central objectives of the Board and the Manager. 

Nevertheless, should the Cash Exit Facility be fully subscribed and, as a result, the Company becomes sub-scale, the Board intends to conduct a strategic review (the "Strategic Review"). This review would consider putting to shareholders a continuation vote, or, alternatively, a potential roll-over into another suitable investment company, possibly coupled with a cash exit. If a continuation vote were proposed and not passed, the Company would be placed into a wind down strategy with the objective of realising the remainder of the Company's portfolio in an orderly manner.

The Company currently holds 15.7% of its assets in cash.  The Manager has undertaken a liquidity analysis of the Company’s investments. Based on this current analysis, the Board is confident that the Manager can maintain a pool of investments sufficient to realise adequate cash, through market liquidity, anticipated corporate events, and capturing the embedded value in the portfolio, to exceed the amount required to fund the Cash Exit Facility. New investment opportunities will be considered within this liquidity analysis.

Share Buybacks

The portfolio is currently invested in 16 companies and aims to hold between 12-18 positions. The Manager continues to identify appropriate opportunities to deploy cash into the market, both in new investments and through the existing portfolio. Given that cash currently represents 15.7% of the Company's NAV, the Board has concluded, due to the current double discount, that shareholders will also benefit from share buybacks ("Share Buybacks" and, together with the Cash Exit Facility and Strategic Review, the "Proposals"). 

The exact amount of cash that will be committed to Share Buybacks will be determined by market conditions, investment opportunities uncovered by the Manager and the ongoing liquidity analysis, to ensure that the Company remains well placed to identify a pool to fund the Cash Exit Facility.  The Board will keep Share Buybacks under review to ensure that they continue to offer the best returns for the Company’s long-term shareholders.

Benefits of the Proposals

The Board believes that the Proposals provide clarity to the Company’s shareholders on the following matters:

• A clear objective to drive investment returns from the Company's mature portfolio of undervalued small cap companies with clear catalysts that are likely to produce value realisation over the coming 12 months.
• In the event that the discount continues to be wide despite the best efforts of the Board and the Manager, the Cash Exit Facility gives shareholders an opportunity, already promulgated last May, to exit the Company at NAV (less costs) – a significant uplift from the current discount.
• Share Buybacks will enhance the Company's NAV per share and are expected to improve liquidity in the Company’s shares.
• Should the Cash Exit Facility be fully subscribed, the commitment to undertake the Strategic Review provides shareholders with certainty of either a managed wind-down (following a continuation vote), or, alternatively, to choose to roll over their investment in the Company into a larger investment entity.

Hugh Aldous, Chairman, commented:

“Following on from the marketing initiatives announced in November, these Proposals are expected to enhance returns to shareholders and address the discount at which the shares have traded for too long. The Company is well placed to take advantage of the intrinsic value in the portfolio and also provide a cash return to shareholders at NAV.  We have confidence in our investment manager and the Company’s portfolio.  However, in the event that market sentiment and performance work against smaller companies, we now also have a clear plan for returning value to our shareholders in an orderly manner and in the best interests of all shareholders.”

Judith MacKenzie, Investment Manager, noted:

“UK Large Cap companies sit on a discount to international peers, UK Small Cap companies sit on a discount to UK Large Cap, and the minnows, UK Micro-Cap sit on a discount to Small Cap.  This portfolio sits on a valuation discount even to its peer group of companies under £150m market cap.  These value quality companies have been carefully managed with strategic initiatives and catalysts put in place over the last few years and are well placed to continue the resilience and outperformance they had demonstrated in a volatile 2022.  The Board has been bold and ensured that shareholders can see a clear path to value realisation either through performance, narrowing of discount, merger or return of capital or indeed a combination of all four.  This provides optionality for shareholders who should have confidence in this portfolio that sits on a significant discount to their intrinsic value, with their share price performance likely to be dictated by the execution of defined strategic initiatives as opposed to purely market sentiment”

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