The Alternative Investment Market has evolved since its launch in 1995, becoming a home for a number of the growth businesses in which we invest.
Following the administration earlier this year of Patisserie Valerie, one of the Index’s more well-known companies, we reflect on the stewardship philosophy that guides our investment process in this market.
Our active engagement
A number of differences make it cheaper and usually less onerous for a company to list its shares on AIM rather than the main market. Financial reporting, for example, need not be as detailed or timely, while corporate governance standards are less stringent, including the need for shareholder approval for certain transactions. These features can be attractive for smaller companies seeking external capital, and mean that AIM continues to host a number of successful growth companies such as ASOS and Fever-Tree. In our experience, the highest quality companies often meet, and sometimes exceed, the standards of some on the main market.
For all the success stories though, AIM investors have also witnessed some dramatic corporate failures and governance scandals in recent years. Prior to the collapse of Patisserie Valerie, drinks distributor Conviviality entered administration after admitting to financial reporting inaccuracies and an unpaid tax bill. Concerns over corporate governance and unsatisfactory engagement with management were among the factors in our decision to exit our investment in the company ahead of the suspension of its shares, adding weight to our conviction in the value of a stewardship approach within our AIM portfolios.
What is stewardship and why is it important for investing?
By ‘stewardship’, we mean an overarching investment philosophy that is long-term in its outlook and seeks to invest in businesses which are aligned with societal interests. We try to understand the pertinence of environmental, social and corporate governance considerations to companies’ operations and impact, and reflect these in our decision to invest, or not. It also means staying close to the companies we invest in on our clients’ behalf, not only to monitor the persistence of long-term value drivers, but also to scrutinise and hold management teams to account for their performance.
While it is common for investment managers to formalise their processes for buying and selling companies’ shares, we have also articulated what this stewardship philosophy looks like in practice in our ‘Ownership Discipline’ document.
We believe this approach should deliver the sustainable financial returns which our clients seek, whilst also supporting positive broader outcomes. The financial case for ‘active’ ownership, or engagement with management teams and boards, is increasingly well understood, with a University of Cambridge and London Business School study claiming that successful, target engagements led to positive abnormal returns.1
Does a stewardship approach have specific application to AIM?
A stewardship mindset brings particular advantages when investing in AIM due to the fact that companies are typically covered by fewer research analysts than in the main market, and sometimes primarily by the house broker. To make matters worse, the broker often also serves as the company’s Nominated Advisor, or ‘Nomad’. Under AIM rules, the Stock Exchange delegates to Nomads the responsibility for checking and enforcing the company’s adherence to listing rules. Given the company pays for this itself, as well as advice and brokerage services from the same entity, the potential for conflicts of interest is clear. This makes it essential for investors to undertake their own thorough due diligence and assessment of the quality of management and the Board.
How we go about it in practice
At Sarasin & Partners, we ensure that for every new investment idea, and indeed review of existing holdings, we assess the quality of corporate governance and existence of environmental and social considerations which could be material to the long-term success of the company. This is led by our AIM investment team with support and challenge from our dedicated stewardship analysts. Our conclusions on both the nature of any risks and how well the company is able to manage them are factored into the final investment case and inform our plans for active engagement. We also pay close attention to indicators of audit and accounting risk given the incidences of errors at a number of AIM companies and the fact that there is limited coverage by external research analysts.
In order to better understand these factors, and to influence change where appropriate, we aim to meet with the management teams and non-executive board members of the companies we invest in, and on occasion to visit sites and facilities.
Recent examples of our engagement
We engage across a range of issues, and during this quarter held meetings with the management team and Board Chairman, separately, of Abcam, a leader in the global research antibody market. We gained comfort around the use of animals, which remains necessary for some parts of this process, and provided feedback on management remuneration among other areas.
We have had dialogue with Fever-Tree, a household name in the premium mixer market, to encourage more detailed reporting on how it ensures labour and environmental standards are upheld in its ingredients supply chain. We also wrote to the Board of ASOS regarding governance and communication at the online fashion retailer. We are supportive of the company’s engagement with responsible supply sourcing practices, including recent Government inquiries into fast fashion, and are encouraged by progress on the topics we have raised.
A holistic approach to stewardship
The stewardship framework which guides our AIM investment process is similar in many respects to the approach we take in our global strategies. A recent update to the AIM listing rules could see further alignment of smaller UK companies with main market standards, since adoption of a Corporate Governance Code is now mandatory. Yet, stewardship is not an exercise in box-ticking against a set of prescriptions. A holistic understanding of companies’ risks and value-drivers, coupled with a long-term ownership mindset will continue, therefore, to be at the core of our investment process.
1 ‘Active Ownership’, Elroy Dimson, Oğuzhan Karakaş, Xi Li, 2015