Scottish American Investment Company: May 2024 update

• The managers hunt around the globe for companies with sustainable growth prospects and resilient dividends

• The managers are supported by a well-resourced and diverse team at Baillie Gifford

• The trust has a proven track record of year-on-year dividend growth, having increased its pay-out for 50 consecutive years

How it fits in a portfolio

Founded in 1873, The Scottish American Investment Company (SAINTS) is one of the oldest investment trusts around. The managers search globally for companies with the potential for sustainable growth and a reliable dividend. The aim is to grow income and capital over the long term by primarily investing in company shares, but they also invest in other assets such as property, infrastructure, and bonds. Given its growth bias it could work well alongside ‘value’ funds or investment trusts investing in unloved companies to form part of an income focused portfolio.

Investors in investment trusts should be aware the trust can trade at a discount or premium to net asset value (NAV).

Manager

James Dow and Toby Ross had been joint lead managers of the trust since August 2017, having served as deputy managers since July 2016. As of 14th February 2024 Ross decided to step down from his role of deputy manager for the trust to focus on other responsibilities as he has now assumed leadership of the Sustainable Growth Team at Baillie Gifford. Ross has also stepped down on the Baillie Gifford Global Income Growth fund, an open-ended fund that invests in a similar way to this trust but doesn’t have the ability to invest in unquoted companies or borrow to invest, known as ‘gearing’.

Dow has spent his entire investment career at Baillie Gifford after joining its graduate scheme. Prior to his current positions, Dow spent time covering US companies. Dow is also co-manager of the Baillie Gifford Sustainable Income fund. Given the overlap in their process and approach, we think he can comfortably handle these responsibilities.

Ross Mathison who was named co-manager on their near identical open-ended fund at the start of 2022 has been named deputy manager of the trust. Mathison joined Baillie Gifford in 2019 having previously worked at Aviva and Standard Life covering European and global equities.

The managers are supported by a team of four analysts alongside a dedicated Environment, Social and Governance (ESG) analyst and investment researcher. They also benefit from the wider resource available at Baillie Gifford which consists of over 100 investment professionals.

Process

SAINTS has all the hallmarks of a Baillie Gifford portfolio, unconstrained with a focus on growth over the longer term. Dow and Mathison require companies to demonstrate two key traits: a dependable income stream and the potential for above inflation profit growth. These companies need to demonstrate resilience through the economic cycle. This leads them to be very selective and only those companies they consider to be ‘exceptional’ make the cut.

To identify opportunities, they focus on bottom-up analysis (looking at individual company prospects) using a combination of quantitative and qualitative factors. Each company must pass their nine-question framework which focuses on understanding the drivers of growth and the reliability of the dividend. Meeting with company management is a crucial part of this process and it allows them to gauge the attitude towards paying a dividend to shareholders. If a company cuts its dividend, the managers review the investment, but this doesn’t necessarily mean it will be sold. Each company is assessed on a case-by-case basis and the managers acknowledge that dividend cuts can be prudent for long-term growth, for example to fund the acquisition of another business.

This analysis whittles a universe of around 4,500 into a portfolio of between 50-100 holdings. The trust is split into four areas looking for different drivers of free cash flow - cash available to the business after expenses have been paid.

‘Compounding machines’ form the bedrock of the trust and consists of quality companies with strong balance sheets, barriers to entry from competition and experienced management teams. Companies like Nestlé, Microsoft and McDonald’s fit into this bucket. The managers like companies with an ‘exceptional revenue opportunity’, these tend to be market leaders with pricing power (the ability to raise prices without affecting demand) offering the potential for quicker growth. The remaining areas focus on longer-term free cash flow growth, looking for companies with a catalyst for positive change. Companies that possess these qualities can be hard to find, but by investing globally the managers give themselves the best opportunity to seek them out.

The managers keep the trust diversified by investing across different regions. The largest investments are in developed markets like the US and Europe but exposure to Asia also accounted for around 11% of the trust at the end of March 2024. The managers also invest in emerging markets which adds risk.

Recent additions to the trust include US DIY retailer Home Depot. Dow believes the company has a strong brand and they are building on its services to the professional trade. This could be a strong new line of revenue and growth for the business. Danish manufacturer Coloplast was also added, they manufacture many healthcare products relating to ostomy, incontinence, urology and wound care products. They have a strong position in Europe and globally. French healthcare company Eurofins, who specialise in testing relating to food and the environment, was added after they invested heavily to create a global networks of laboratories. Dow also added US semi-conductor company Texas Instrument and UK drinks manufacturer Diageo.

In contrast, Dow sold a number of companies after re-evaluating their future prospects. This includes Chinese rice cracker and soft drink company Want Want. US regional bank Cullen Frost was sold after growth had been slow with intense competition in the local market. National Instruments was another complete sale after they received a takeover bid which pushed up their share price. Other sales include Spanish insurance company Linea Drecta, as well as UK mining company Rio Tinto.

The trust also invests in a portfolio of UK commercial property managed by OLIM Property Limited and some global bonds, which includes riskier high yield and emerging market bonds. More recently they have also set up a small infrastructure equities portfolio to help diversify the income stream and deliver growth in excess of inflation. These investments are made with borrowed money with the intention of increasing returns (known as gearing), but this could magnify losses in a falling market and increases risk. Gearing at the end of 2023 was 10%, a marginal decrease from last year where it stood at 11%.

The managers can also use derivatives, which if used adds risk. The investment trust structure gives them the flexibility to also invest in higher-risk unlisted companies, but they don’t do this at the current time and don’t anticipate doing so for the foreseeable future.

This trust has a holding in Hargreaves Lansdown PLC.

Culture

This trust is managed by Baillie Gifford, an independent private partnership founded in 1908. It’s owned by partners who work full time at the firm. This ownership structure means senior managers have a vested interest in the company, and its funds and investment trusts, performing well. We think this has helped cultivate a culture with a long-term focus, where investors' interests are at the centre of decision making. We also like that managers are incentivised in a way that aligns their interests with those of long-term investors and should retain talented managers.

ESG Integration

All of Baillie Gifford’s funds are run with a long-term investment horizon in mind – they see themselves as long-term owners of a business, not short-term renters. So, assessing whether society will support, or at the very least, tolerate, the business model over the long term, and whether management will act as good stewards of shareholders’ capital is an important part of the investment process.

Dedicated ESG analysts sit with and report into their respective investment teams, and the firm’s ESG efforts are supported by a dedicated climate specialist team, an ESG Services team (responsible for voting operations and ESG data) and an ESG Client team (responsible for ESG-related client communications). Individual investment teams are responsible for voting and engagement for the companies they invest in. Investment in controversial weapons is prohibited across the firm.

The firm reports all its voting decisions and provides rationale in situations where it voted against management or abstained, in a detailed quarterly voting report. There is also a quarterly engagement report which details the companies engaged with, and the topic discussed, and further engagement case studies are available on the website. All this information is brought together in the firm’s annual Stewardship Activities report.

We are comfortable that ESG risks are considered suitably at Baillie Gifford. However this trust does not have a specific ESG or responsible investing remit, meaning that it has the option to invest in companies that are considered ESG sinners.

Cost

The net ongoing annual charge was 0.58% in 2023, this is marginally lower than it was in 2022 where the ongoing charge was 0.59%. Investors should refer to the latest annual reports and accounts, and Key Information Document for details of the risks and charging structure.

If held in a SIPP or ISA the HL platform charge of 0.45% (capped at £200 p.a. for a SIPP and £45 for an ISA) per annum also applies. The platform charge doesn’t apply if the trust is held in a Fund and Share Account or a Junior ISA.

Investment trusts trade like shares, both a buy and sell instruction will be subject to the HL share dealing charges.

Performance

The managers have done a good job of outperforming their peer group since Dow took over in July 2018. Over this period the trust’s share price has increased 55.16% vs 25.39% for the AIC Global Equity Income peer group. The trust’s net asset value (NAV) has increased 75.28% over this period. Remember that past performance is not a guide to the future.

Over the trusts latest financial year to the end of December 2023, the trust’s share price rose by 8.22% vs 9.27% for the AIC Global Equity Income peer group. The trust’s NAV rose 11.79% in 2023.

Despite the overall underperformance compared to the sector, the equity part of the portfolio performed well returning 13.9%. There were a number of stocks that performed very well in 2023. Swedish industrial company Atlas Copco was a standout performer, it is a well-managed company that focusses on innovation to drive growth. The business saw strong operational growth in 2023 and Dow has identified that it is unlikely to continue growing at the rate it did last year but still looks strong in the long-term. After performing well in 2022 Danish pharmaceutical company Novo Nordisk continued to perform strongly. They have a pioneering medicine for appetite control and this year a continuation of good data from their clinical trials will likely drive continued uptake of the medicine.

It wasn’t all positive though, Chinese rice and cracker manufacturer Want Want continued to struggle. Dow was hoping that rising input costs would slow however, they have now recognised that the board have become too near-term focussed which has made the company slow to changing preferences in China. Dow has decided to sell the company after visiting them in China. Mining company Rio Tinto also performed poorly, it had been a long standing investment for the trust but in recent years they believe the outlook for the company is beginning to deteriorate. Because of this Dow also sold their shares in the company.

It was a great period for the trusts bond portfolio which returned 9.5% and proved to be a worthwhile diversifier for the trust. The trusts infrastructure and property portfolios didn’t fare as well returning 3% and -1.8%.

The total dividend per share for the year to 31 December 2023 was 14.10p, a 2% increase from the previous 12-month period. This means the trust has increased its dividend for 50 years in a row and is an AIC Dividend Hero. The trust has a dividend yield of 2.73%, although remember yields are variable and aren’t a reliable indicator of future income.

At the time of writing the trust trades at a -8.37% discount to NAV however in 2023 the trust traded on average of 1.86% premium.