Emerging Companies Fund
The Emerging Companies Fund (Wholesale) (the ‘Fund’) returned 8.8% net of fees in the quarter ended 30 September 2023, outperforming its benchmark which appreciated 7.5%. The Emerging Companies Fund (Retail) grew by 8.9% net of fees in the quarter, also outperforming the benchmark.
The Fund has a small-cap strategy with investments spread across small and microcap companies in Australia and New Zealand. Stock selection in information technology was the standout contributor to investment performance, while an underweight in financials was a drag on investment performance.
Software company Nuix was a stand-out performer, with the share price more than doubling in the quarter, following a positive financial update and inclusion in the S&P ASX300 index. Pathology company Australian Clinical Labs also contributed to the portfolio performance after delivering a recovery in second half margins. Our investment in software company Bravura continued its strong share price recovery, after being forced into a deeply discounted capital raise in 2023.
Outlook for the Fund
While ASX small and microcap names have underperformed their ASX large cap peers over 3 years, the 2025 price to earnings ratios for the ASX Small Industrials Index still sits on a hefty 21.7 multiple today. The market is clearly anticipating successive interest rate cuts over the next 24 months, so any upside change to the trajectory of inflation will be poorly received by equity markets.
The microcap names, particularly those sub $200m capitalised remain unloved by the market and vulnerable to opportunistic corporate and private equity takeover interest. This is highlighted by underperforming sales enablement software company Bigtincan receiving takeover offer from US private equity company Vector Capital over the quarter. The market today is very index driven, with inclusion in the ASX300 typically a major share price driver in 2024. Overall, we anticipate low interest rates will boost investor interest in small and microcap companies and we also anticipate the IPO market will open. We continue to build a small/micro portfolio which has strong global growth characteristics, intellectual property and can be justified via fundamental valuation principles. The healthcare, information technology and renewable utility sectors was very important for the Fund.
Emerging Companies (Wholesale) Fund Performance
As at 30 September 2024*
| fund | benchmark^ | |
|---|---|---|
| 3 months | 8.8% | 7.5% |
| 6 months | 10.8% | 2.7% |
| 1 year p.a. | 22.2% | 23.3% |
| 3 years p.a. | -1.7% | -1.0% |
| 5 years p.a. | 10.2% | 3.6% |
| since inception p.a. | 13.2% | 7.2% |
Source: FE fundinfo.
^Benchmark: S&P ASX Small Industrials Index. Past performance is not a reliable indicator of future performance.
Inception date: 30/06/2015.
Emerging Companies (Retail) Fund Performance
As at 30 September 2024~
| fund | benchmark^ | |
|---|---|---|
| 3 months | 8.9% | 7.5% |
| 6 months | 10.9% | 2.7% |
| 1 year p.a. | 21.8% | 23.3% |
| 3 years p.a. | -2.1% | -1.0% |
| 5 years p.a. | 9.7% | 3.6% |
| since inception p.a. | 12.6% | 7.2% |
Source: FE fundinfo.
^Benchmark: S&P ASX Small Industrials Index. Past performance is not a reliable indicator of future performance.
Inception date: 30/06/2015.
Contributors and detractors
Top 3 contributors to Fund return
+113.0%
Nuix Ltd. (NXL)
+50.2%
Australian Clinical Labs Ltd. (ACL)
+27.3%
Bravura Solutions Limited (BVS)
Top 3 detractors from Fund return
-15.0%
MedAdvisor Limited (MDR)
-25.3%
Prophecy International Holdings Ltd. (PRO)
-13.3%
Mach7 Technologies Ltd. (M7T)Contributors
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Nuix (NXL) was a key positive contributor to returns. Under this management team, there has been transformation of the business, particularly in evolving the product offering and engaging with customers, which has yielded positive results. The company posted a strong FY24 result which highlighted the company’s solid underlying cash flow and balance sheet, with FY25 guided ACV growth ahead of expectations. Nuix was added to the S&P/ASX 300 index in September.
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Australian Clinical Labs (ACL) performed strongly alongside other listed diagnostics companies as patient volumes started to show some recovery. ACL delivered a solid FY24 result, with strong second half margins amplifying the valuation disparity compared to its peers. The growth profile and valuation remain supportive.
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Bravura (BVS)'s financial performance has improved materially, led by cost outs, with FY25 operating earnings guidance coming in above consensus expectations. The announcement of capital return initiatives - including the distribution from the proceeds of Sonata’s perpetual licence sale to Fidelity and an on-market buyback - were received positively by investors. The company has a solid balance sheet and we view the key variable for a further re-rate is meaningful revenue growth from FY26 if a major APAC or UK deal were to be won over the next year.
Detractors
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MedAdvisor (MDR) saw weakness during the quarter as it announced its upcoming platform investment requirements at the full-year result. Additionally, there was also likely some profit taking given MDR’s share price had more than doubled between April and July 2024. We continue to see long-term, strategic value as MDR capitalises on its market leading position within the US pharmacy adherence space.
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Prophecy International (PRO) saw a pullback in its share price post its FY24 trading update due to the slightly lower than expected ARR growth of 22% and reduction in the sales pipeline, which now appears to be stabilising. We think the share price reaction was overdone, with the market overlooking that it had reached free cash flow neutrality, partly a function of liquidity due to its small market cap. The company appears undervalued, trading on 1x EV/ARR FY25E with a solid net cash position.
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Mach7 Technologies (M7T) weakness appears to be driven by management’s unwillingness to continue providing positive cash flow guidance due to its platform investment in FY25. This also likely pushes out operating leverage to FY27. We see positive near-term catalysts via the Veteran Affairs opportunity and continue to like the long-term fundamentals. The stock also has strong valuation support when compared to competitors.
Bravura's financial performance has improved materially, with FY25 operating earnings guidance coming in above consensus expectations.
Portfolio changes
Additions to the Fund
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Hansen Technologies Limited (HSN) – Hansen is a global billing software business for the energy & utilities and communications & media sectors. HSN is trading at an undemanding valuation and we see an opportunity for margin recovery over the medium-term as the recently acquired Powercloud business undergoes a turnaround.
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Webjet Group Limited (WJL) – Webjet underwent a demerger in the September quarter, with Webjet separating the online travel agent to a separately listed entity (ASX code: WJL) on a 1 for 1 basis.
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Radiopharm Theranostics (RAD) – We took the opportunity to invest in RAD via its recent capital raise. The implied market capitalisation, cash position, phase 2 radiopharm diagnostic asset and strategic investment from $5.6bn US listed Lantheus offered a compelling opportunity.
Reductions from the Fund
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Ansarada Group Ltd (AND) – The scheme of arrangement for Ansarada was implemented in September 2024, following approval by the shareholders and supreme court. We had held Ansarada since 2018 as an unlisted investment and are pleased that a profitable exit for investors had been finalised.
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G8 Education Limited (GEM) – position was exited on share price strength, as the Group demonstrated a recovery in operational performance post Covid.
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Helia Group Limited (HLI) – The Helia position was exited on valuation grounds. HLI has recently been impacted by lower new business written, particularly due to the Federal Government scheme assisting first home buyers. More recently CBA, Helia’s largest client, put their contract up for tender which has led to uncertainty regarding future earnings.
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PharmX Technologies Limited (PHX) – The fund exited its position in PharmX off the back of liquidity surrounding the court case announcement. Whilst we liked the investment thesis, its nano-cap status and limited liquidity offered us an opportunity to reduce our holdings. Following the loss of the appeal, we divested completely
Webjet underwent a demerger in the September quarter, with Webjet separating the online travel agent to a separately listed entity.
The market is clearly anticipating successive interest rate cuts over the next 24 months, so any upside change to the trajectory of inflation will be poorly received by equity markets.
Sector allocation
Sector overweights
Cash, Health Care, Information Technology, Utilities (renewables)
Sector underweights
Consumer Discretionary, Consumer Staples, Financials, Industrials, Materials, Real Estate
* Total returns are calculated using the sell (exit) price, net of management fees and gross of tax as if distributions of income have been reinvested at the actual distribution reinvestment price. The actual returns received by an investor will depend on the timing, buy and exit prices of individual transactions. Return of capital and the performance of your investment in the fund are not guaranteed. Past performance is not a reliable indicator of future performance. Figures showing a period of less than one year have not been adjusted to show an annual total return. Figures for periods of greater than one year are on a per annum compound basis. The current benchmark may not have been the benchmark over all periods shown in the above chart and tables. The calculation of the benchmark performance links the performance of previous benchmarks and the current benchmark over the relevant time periods.
Disclaimer
Interests in the Australian Ethical Managed Funds are issued by Australian Ethical Investment Ltd (ABN 47 003 188 930, AFSL 229949), the Responsible Entity of the Australian Ethical Managed Funds.
The information in this summary is of a general nature and is not intended to provide you with financial advice or take into account your personal objectives, financial situation or needs. Before acting on the information, consider its appropriateness to your circumstances and read the Financial Services Guide, relevant product disclosure statement and Target Market Determination available on our website.
You may wish to seek financial advice from an authorised tax or financial adviser before making an investment decision. Past performance is not a reliable indicator of future performance.