- Activist investor Elliott targets Scottish Mortgage Investment Trust
- Elliott was previously the driving force behind change at another investment trust, Alliance Trust
- Reducing unquoted exposure could potentially be on Elliott’s wish list
Dan Coatsworth, investment analyst at AJ Bell, comments:
“Only days since it abandoned efforts to buy UK electricals retailer Currys, activist Elliott Investment has appeared on the shareholder register of one of the most popular investment trusts among UK investors.
“Its 5.037% position in Scottish Mortgage comes at a time when the trust’s managers have been on a charm offensive to drive more interest in what they are doing. While the share price has slowly been moving upwards since last October, it still remains 43% below its peak in late 2021.
“Historically, Scottish Mortgage has often traded on a premium to the value of its underlying assets. Today, the shares trade on an 8% discount, so there is an opportunity for Elliott to make money simply by that discount narrowing. The big question is what will make that re-rating happen? Performance is one catalyst and another is to use share buybacks to narrow the gap.
“Only a week ago Scottish Mortgage announced plans to buy back at least £1 billion worth of shares, equal to 9% of the trust’s market value at the time of the news. That’s a chunky commitment and one has to consider if this decision was a defence mechanism should it have discovered Elliott was building a stake. Spotting an activist on the shareholder register can prompt a board to get one step ahead by second guessing what they want and beating them to it so as to avoid a public ridicule.
“Part of Scottish Mortgage’s share price weakness was down to the rising interest rate environment as that negatively affected valuations of companies where the story is more about future cash flow than jam today. But as the share price fell, there were also suggestions that Scottish Mortgage had been taking too many wild bets on blue-sky companies, ones that had an idea but were miles off making any money.
“It is feasible to suggest that Elliott could call on Scottish Mortgage to focus more on companies that already generate profit or at least have a growing revenue stream rather than simply a concept. That could spell an end to the bonkers ideas which Scottish Mortgage previously bought into, such as flying taxis and 3D-printed rockets. Having fewer unquoted stocks would mean in theory that its portfolio has more liquidity, should it need to exit any positions quickly.
“The investment trust’s strategy is to identify tomorrow’s winners and there are plenty of companies already on the stock market that could fit the bill rather than fishing around private businesses.
“One can imagine that Scottish Mortgage and its manager Baillie Gifford wouldn’t want to fiddle with their investment process. They might argue that it previously worked so why change it? However, that was in a rock bottom interest rate environment and it seems highly unlikely we’ll return to such a backdrop any time soon. If Elliott did call for a reduction in unquoted exposure, Scottish Mortgage might push back as it could argue that now is precisely the wrong time. Private valuations have come under pressure so if anything, Scottish Mortgage could go hunting for bargains.
“There is also chatter in the markets that quite a few private companies are becoming more confident about floating on a stock market. Indeed, Reddit’s IPO success has shown that investors are once again happy to buy into loss-making companies. An IPO is one way to drive up the value of a business.
“Scottish Mortgage’s model is built around backing high-risk, early-stage ideas. If it reduced unquoted exposure and focused on more profitable businesses there is a danger it could get lost in the crowd of generic tech funds and trusts.
“Perhaps what it needs to do is better communicate the risks associated with the trust and make it clear that it is prepared to make bold decisions in the hope of achieving outsized returns. Investors need to understand what they are buying, particularly as there is a fear that many don’t appreciate it could experience more setbacks than a bog-standard equity fund.
“Ultimately, Elliott will have bought a stake to make money so it might start by focusing on the quick wins. It has form in the investment trust space, having spent seven years battling Alliance Trust in a fight that led to changes to the board of directors, the sale of its investment management subsidiary, a new multi-manager strategy and a narrowing of its discount to net asset value.”