The £56m Liontrust First Smaller Companies unit trust is being renamed the Liontrust Intellectual Ca...
The £56m Liontrust First Smaller Companies unit trust is being renamed the Liontrust Intellectual Capital Trust to better reflect the investment style of fund manager Anthony Cross.
Cross, who has managed the fund since January 1998 after joining Liontrust from Schroders, looks at a company's intangible assets like patents and branding, rather than tangible assets like plant and equipment.
Another important aspect is that the directors must own at least 3% of the company. He believes that the label 'small companies' is misleading. Over the one year to 26 July, the fund is placed 27 out of 76 funds in the UK Smaller Companies sector, on an offer to bid basis. Over three months, on a bid to bid basis, the fund is ranked 20 of 77. He talks to Jenne Mannion.
How do you go about investing the portfolio?
The way I run money stems from a philosophy about how the economy has changed over the past 20 years. The big change that has happened is that people-based assets have become far more important in the success of companies than physical based assets such as plant and equipment, due to increased competition and the need for companies to compete more aggressively.
In order to win the customer, companies now have to add value to their basic goods or services. They add value by creating intangible assets, brand, customer relationships, distribution networks, database strengths and intellectual property, often through a big spend in research and development. These intangible assets are commonly referred to as a company's intellectual capital. So it is intellectual capital that has become far more important than physical capital in the success of today's companies. Because the intellectual capital of a company is created by today's employees, it is vital to motivate and retain the employees within the business.
All the empirical evidence is that if you motivate employees well, it leads to better performance in companies. The big improvement in companies comes about when you use equity to motivate employees.
Why is the description 'small companies' misleading?
When the label smaller companies is used, people try to characterise companies as having a certain level of P/E, or yield, or exposure to overseas markets or exposure to interest rates. This is misleading because you are taking some 2,000 businesses and trying to distil those businesses down into a few catch all descriptions.
People should think much more clearly about what makes individual business successful or not. To bag companies together as being small and having certain characteristics because they lie below the cut off of the FTSE 350, an artificial boundary line, is totally misleading. It's lazy and it is a cop out. Instead people should be thinking of the reasons why they want to invest below the FTSE 350. Those reasons for doing so should be because they have identified that there are a number of companies with intellectual-based business models that will sustain growth at a faster rate than elsewhere in the stock market. Additionally, these companies should provide better shareprice appreciation than elsewhere in the market and these companies often represent the emerging industries of tomorrow.
What is your investment universe?
I look at companies that are capitalised below the FTSE 350, but I am happy to hold companies that emigrate into the FTSE 250 until I find a suitable replacement. The universe of companies which are intellectual-property based probably includes 200-250 stocks and that is growing as all those companies now coming to the market are intellectual capital type businesses. There is, for example, not much appetite for companies like general retailers.
What then do you look for in a company when investing?
Every company must have intellectual capital. I define this through a screening process on a database that has been built in-house and through evaluating each company in terms of its intellectual capital strengths. Within classic industrial stocks, for example, those companies which have tended to perform better are those which have had a very big spend on research and development. Looking on the database, companies such as Renishaw, Druck, Ultra Electronics, Advanced Power Components and Huntleigh Technology all have a very high spend on R&D. Through patents and copyrights, which are intellectual property, they gain their competitive advantage.
Because I'm looking for what I believe is sustainable intellectual capital, I tend not be sucked into flaky business models. If I can't see that it is at all sustainable, then I am not interested in owning the stock, even though it might have an exciting name or have exposure to the internet. That's not enough.
What is the criteria then to make you buy a stock?
Every company in the fund has to prove to me that it has intellectual capital strengths. Every company therefore has to have at least 3% of its equities held by directors of the business. Examples are obvious within a number of classic people-based businesses. These include companies such as Incepta Group in PR, IT Net in IT outsourcing, and Penna Group in human resources management, which all have a high degree of director and employee share ownership. If the directors of the businesses are willing to own the company, that's a pretty good sign that it will continue to grow and develop.
Do you invest in companies listed on Aim?
Often Aim companies are newer, less tried and tested businesses and therefore, because of the way I build the portfolio they represent a smaller part of the fund. That is not to say that the companies cannot in the future become bigger parts of the fund as they develop and grow their customer base and broaden their product base. We have holdings such as Focus Solutions in information technology, World Careers Network, running graduate recruitment websites, and Get Mapping.
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