While they come with plenty of risk, smaller companies can offer investors better growth opportunities than their larger counterparts.
The better performing funds of 2017 had growth mandates, meaning the UK funds that did best were looking for opportunities in indices with smaller constituents than the blue-chip FTSE 100.
The Alternative Investment Market (AIM) was launched in 1995, as a place for smaller UK companies to float on. It offers investors willing to take on an extra level of risk in return for the potential of greater returns some cracking companies.
The likes of ASOS (ASC), boohoo.com (BOO) and FeverTree (FEVR) all have market capitalisations of over £2 billion – more than some FTSE 250 firms. Despite their high profiles, they are still happily holding onto their AIM listing.
They, and many others, have helped the AIM All-Share outpace the FTSE 100 fivefold and the FTSE 250 by two times over the past three years.
We screened the five funds in the Investment Association UK Smaller Companies sector that are rated Gold or Silver by Morningstar analysts to check out which stocks they are holding using the Morningstar X-Ray Tool.
Fevertree
Unsurprisingly, Fevertree is top of the pops among smaller company funds given its stellar success and accounts for a good amount of three of the five portfolios. Old Mutual UK Smaller Companies, the only Gold-rated fund in our list, has a position of more than 4%.
Old Mutual is the largest institutional holder of the stock, owning almost 10% and second only to Charles Rolls, who founded the company with Tim Warrillow. It floated on the stock market back in November 2014 and has surged 1,770% since to trade at a shade over £25 today.
The firm makes premium carbonated mixers for alcoholic beverages, including tonic water for use with gin – a fast-growing drink for Britons. While the valuation has run away with itself, both revenues and sales have grown consistently by around 70% year-on-year since 2014.
Fevertree said in a trading update 12 days ago that results for full-year 2017, due out in March, will be “comfortably ahead of market expectations”, so expect some further juice in the share price in the short term.
SLI UK Smaller Companies has 3% of its portfolio in Fevertree, while River & Mercantile UK Equity Smaller Companies has 2.5%.
Smart Metering Systems (SMS)
Another “ten-bagger”, Smart Metering Systems floated in 2011 at 60p per share. It currently trades hands at 740p – growth of 1,133%. The market cap stands at £669 million.
This time, Old Mutual is the largest shareholder, having got in at the initial public offering and Dan Nickols’ fund has recently upped its stake. It currently represents 2.88% of his portfolio, 4.23% of the River & Mercantile fund and 2.29% of the Standard Life offering.
The Glasgow-based company owns and operates gas and electricity meters on behalf of major energy companies like Centrica, E.ON, Gazprom and SSE. Results for the six months to June 30 2017 saw SMS increase revenue by 14% to £36.8 million with a slight improvement in pre-tax profits but decrease in earnings per share of 10%.
First Derivatives (FDP)
Capitalised at just over £1 billion, First Derivatives is a more seasoned listed company. Its share price has doubled since the start of 2017 and is the largest holding in the Standard Life fund at 5% of assets. The Old Mutual offering has a small position.
It’s not widely owned by institutions, with chief executive and founder Brian Conlon still hanging on to around a third of shares. It’s also the second largest holding in the Bronze-rated Slater Growth Fund.
First Derivatives provides software products and consulting services to institutions in the finance, technology and energy sectors. It also supplies technology to enable the Red Bull racing team to analyse data during Formula 1 Grand Prix races.
Its results for the six months to 31 August 2017 showed revenue up 21% and adjusted pre-tax profits up 13%. Chairman Seamus Keating said full-year performance is expected to be ahead of the board’s expectations.
GB Group (GBG)
Cyber security firm GB Group has been a listed company for more than 25 years, but moved to AIM in August 2010. Then trading at 25p, it’s now up to 429p. GB provides identity verification services to prevent fraud to blue-chip names such as carmaker Ford, apparel seller Nike and global banking giant HSBC.
The share price had a wobble late last year, falling 40% in the space five weeks to trade at 210p after the election of Donald Trump as President of the United States in November. It’s bounced back since, though, more than doubling.
GB is highly cash generative with an experienced and incentivised management team, according to sellside broker finnCap. It has seen long-term double-digit organic growth and has recurring revenue streams.
A forecast yield of 1% for 2018 is decent for a growing company, especially considering the dividend is growing at 10%-plus every year and is well covered by earnings.
Octopus Investments, a provider of venture capital trusts, is the largest shareholder at over 10% with Standard Life Aberdeen and Canaccord Genuity next. The SLI fund has a 2.5% position in GB and Artemis UK Smaller Companies has 1.3%.
Blue Prism (PRSM)
Blue Prism is another success story for AIM’s tech sector. The company provides robotics software that enables large companies to automate many mundane back-office tasks, freeing their employees to carry out more important activities.
The firm debuted on AIM in March 2016 at 78p. In almost two years, its share price has shot up over 1,500% to £13 today.
But with that stellar share price growth comes questions over valuations, and some fund managers have recently taken profits on their holdings in Blue Prism. One of those is James Baker, manager of Chelverton UK Growth.
Baker told Morningstar recently that he exited his position in mid-2017 at around 800p – “much too early” despite having made eight times his money. His reasoning, though, was that Blue Prism’s “market capitalisation to sales ratio was becoming unsustainable fast”.
Although some board members have been taking profits in recent months, management still own significant portions of the stock. Old Mutual owns a fifth of the company and Nickols’ fund has 2.58% of its assets invested.
