ASCOF +80% in successful first three years
Three years ago we launched the Appian Small Companies Opportunities Fund (ASCOF) as we believed many quality small and mid-cap companies were under-owned and undervalued, presenting compelling investment opportunities. Our approach has been very successful and this fund has risen by 80.5% over the three years since it was launched at the start of October 2012. This is equivalent to a compound annual return of 21.8% and includes a gain of 22.7% made in the first nine months of 2015.
In the aftermath of the financial crisis small and mid-cap stocks were indiscriminately shunned in herd-like fashion. Consequently, many well-run companies with robust business models were unfairly overlooked and were valued at levels materially lower than warranted. When investors can identify high quality assets which are significantly undervalued the potential to realise superior returns over time exists. As equity markets recovered and value became less apparent in large cap stocks, investors once again started to recognise the undervaluation of smaller companies. Our holdings benefited as small and mid-caps regained favour with the broader market.
If the market fails to recognise undervalued smaller companies corporate buyers eventually will. If anything, we underestimated the potential for corporate activity amongst our holdings, as 12 stocks owned by the fund have been taken over, and at healthy premiums to their pre-bid share prices. This number represents a significant portion of our holdings given the fund aims to own between 25 and 30 stocks at any point and has only been invested in a total of circa 40 stocks since inception.
Smaller companies are more nimble and capable of growing substantially faster than larger companies. In the past 18 months alone, two stocks which are among the fund’s top holdings each acquired businesses which were larger than the size of their existing operations. Both of these ‘transformational’ acquisitions have been very successful, and the share prices of both stocks have been rewarded with handsome gains.
While small companies may be less overlooked than they were three years ago, many opportunities remain for the discerning investor to uncover well-run businesses that are under-appreciated by the market. Furthermore, consolidation activity is unlikely to abate given large growth-constrained corporates with strong balance sheets are looking to M&A to drive growth particularly as interest rates are low. Meanwhile, the more nimble and entrepreneurial of the smaller companies remain capable of growing at a faster pace than larger companies.
While returns from here should not be expected to be as spectacular as those of the past three years and a higher degree of volatility may be likely, the success of the ASCOF over its first three years reinforces our confidence that our approach to smaller companies can continue to deliver over the long-run. At the end of the day, identifying high quality assets which are undervalued remains a fundamentally sound investment strategy.