REG - Secured Income Fd - Annual Financial Report
9 October 2020
Secured Income Fund plc
("SSIF" or the "Company")
Annual Financial Report
For the year ended 30 June 2020
A copy of the Company's Annual Report and Financial Statements for the year ended 30 June 2020 will shortly be available to view and download from the Company's website, https://kkvim.com/secured-income-fund/. Neither the contents of the Company's website nor the contents of any website accessible from hyperlinks on the Company's website (or any other website) is incorporated into or forms part of this announcement.
Enquiries to:
Directors
David Stevenson (Chair)
Susan Gaynor Coley
Brett Miller
tel: +44 7973 873785
tel: +44 7977 130673
tel: +44 7770 447338
KKV Investment Management Limited
Catherine Halford Riera / Nicola Bird
tel: +44 20 7429 2200
finnCap Ltd.
Corporate Finance: William Marle / Giles Rolls
Sales: Mark Whitfeld
tel: +44 20 7220 0500
The contents of this preliminary announcement have been extracted from the Company's Annual Report, which is currently in print and will be distributed within the week. The information shown for the years ended 30 June 2020 and 30 June 2019 does not constitute statutory accounts and has been extracted from the full accounts for the years ended 30 June 2020 and 30 June 2019. The reports of the auditors on those accounts were unqualified and did not contain adverse statements under sections 498(2) or (3) of the Companies Act 2006. The accounts for the year ended 30 June 2019 have been filed with the Registrar of Companies. The accounts for the year ended 30 June 2020 will be delivered to the Registrar of Companies in due course.
Strategic Report
Key Points
30 June 2020
30 June 2019
Net assets [1]
£45,532,000
£50,129,000
NAV per Ordinary Share
86.37p
95.10p
Share price at 30 June 2020
76.50p
92.00p
Discount to NAV
11.4%
3.3%
(Loss)/profit for the year
£(913,000)
£2,236,000
Dividend per share declared in respect of the year
7.00p
7.00p
Dividend cover
0.44
0.79
Total return per Ordinary Share (based on NAV) [2]
-1.8%
+4.4%
Total return per Ordinary Share (based on share price) [2]
-9.2%
+8.2%
Ordinary Shares in issue
52,660,350
52,660,350
[1]
In addition to the Ordinary Shares in issue, 50,000 Management Shares of £1 each are in issue (see note 21).
[2]
Total return per Ordinary Share has been calculated by comparing the NAV or share price, as applicable, at the start of the year with the NAV or share price, as applicable, plus dividends paid, at the year end.
Strategic Report
Overview and Investment Strategy
General information
Secured Income Fund plc (the "Company", "Fund" or "SIF") was incorporated in England and Wales under the Companies Act 2006 on 13 July 2015 with registered number 09682883. It is an investment company, as defined in s833 of the Companies Act 2006. Its shares were admitted to trading on the London Stock Exchange Specialist Fund Segment on 23 September 2015 ("Admission").
Change of Investment Manager
On 5 June 2020, the Company novated the contract to manage the portfolio to KKV Investment Management Limited (the "Investment Manager" or "KKV"), following the management team into their new entity from SQN Asset Management Limited ("SQN UK" or the "Former Investment Manager").
Change of name
On 18 July 2020, the Company changed its name from SQN Secured Income Fund plc to Secured Income Fund plc.
Continuation vote
On 19 June 2020, the Company held a continuation vote (the "Continuation Vote") that, in line with the Directors' recommendation, did not pass. This vote was required under the Articles as the Company did not have a Net Asset Value of at least £250 million as at 31 December 2019. As the Continuation Vote did not pass, the Directors (as required under the Articles) convened a further general meeting of the Company on 17 September 2020 at which Shareholders approved the managed wind-down of the Company.
Investment objective and policy
On 17 September 2020, the Shareholders approved the adoption of a new investment objective and policy of the Company, as follows:
The Company will be managed with the intention of realising all remaining assets in the Portfolio in a prudent manner consistent with the principles of good investment management and with a view to returning cash to Shareholders in an orderly manner.
The Company will pursue its investment objective by effecting an orderly realisation of its assets in a manner that seeks to achieve a balance between maximising the value received from those assets and making timely returns of capital to Shareholders. This process might include sales of individual assets, mainly structured as loans, or running off the Portfolio in accordance with the existing terms of the assets, or a combination of both.
As part of the realisation process, the Company may also exchange existing debt instruments for equity securities where, in the opinion of the Board, the Company is unlikely to be able to otherwise realise such debt instruments or will only be able to realise them at a material discount to the outstanding principal balance of that debt instrument.
The Company will cease to make any new investments or to undertake capital expenditure except where, in the opinion of both the Board and the Investment Manager (or, where relevant, the Investment Manager's successors):
- the investment is a follow-on investment made in connection with an existing asset in order to comply with the Company's pre-existing obligations; or
- failure to make the follow-on investment may result in a breach of contract or applicable law or regulation by the Company; or
- the investment is considered necessary to protect or enhance the value of any existing investments or to facilitate orderly disposals.
Any cash received by the Company as part of the realisation process prior to its distribution to Shareholders will be held by the Company as cash on deposit and/or as cash equivalents.
The Company will not undertake new borrowing.
Any material change to the investment policy would require Shareholder approval.
Prior to 17 September 2020, the investment objective and policy was as follows:
Investment objective
The investment objective of the Company was to provide Shareholders with attractive risk adjusted returns, principally in the form of regular, sustainable dividends, through investment predominantly in a range of secured loans and other secured loan-based instruments originated through a variety of channels and diversified by way of asset class, geography and duration.
Investment policy
The Company achieved its investment objective by investing in a range of secured loan assets mainly through wholesale secured lending opportunities, secured trade and receivable finance and other collateralised lending opportunities. Loan assets included both direct loans as well as other instruments with loan-based investment characteristics (for example, but not limited to, bonds, loan participations, syndicated loans, structured notes, collateralised obligations or hybrid securities) and may have included (subject to the limit set out below) other types of investment (for example, equity or revenue- or profit-linked instruments). The Company may have made investments through alternative lending platforms that present suitable investment opportunities identified by the Investment Manager.
Chairman's Statement
Introduction
I am pleased to provide Shareholders with my first Chairman's statement, covering the financial year from 1 July 2019 to 30 June 2020. Over the reporting period, the Company has continued to reduce platform and third party debt. Despite continued macro uncertainty caused by Brexit, wider geopolitical issues and the onset of the Covid-19 pandemic, income has continued to be delivered for Shareholders.
Secured Income Fund plc (LSE: SSIF) is a UK-listed specialist investment trust with a focus on secured investments that produce regular, collateralised income from investments made in a portfolio of loans to lower middle market companies in the UK and the rest of the world.
Performance
All loans underwritten since April 2017 are performing in line with expectations however, the impact of Covid-19 has meant a requirement to relax some covenants, with deferral of interest and the maturity of some loans. The Investment Manager has continued to strive to limit legacy third party exposure and as at 30 June 2020 this portion of the overall portfolio had been reduced to £9.8 million (including accrued interest) from £15.2 million at 30 June 2019. It is noted that progress in reducing peer to peer loan exposure has slowed as we approach the residual of this segment and aged positions have now been impaired.
For the reporting period ended 30 June 2020, the Company has generated a net loss of £0.9 million (2019: profit of £2.2 million), a loss per Ordinary Share of 1.73p (2019: profit per Ordinary Share of 4.25p). The Company's NAV at 30 June 2020 was £45.5 million (86.37p (cum income) per Ordinary Share) compared to £50.1 million (95.10p per Ordinary Share) as at 30 June 2019. The total return for the reporting period was a loss of 1.8% (2019: total return of 4.4%).
Foreign exchange exposure on the 26.1% of non-Sterling loans has continued to be fully hedged and any liquidity calls arising from the hedging strategy are considered manageable within the Company's cash flow even with increased volatility assigned to Covid-19 impact and Brexit uncertainty.
Note that all returns are net of all fees and no gearing was applied to the portfolio during the reporting period.
Corporate Activity
On 5 June 2020, the Company novated the contract to manage the portfolio to KKV Investment Management Limited, following the management team into their new entity. This provides continuity of management and allows for the opportunity for a smooth run-off of the portfolio. Detail on the new manager is provided in our accompanying Investment Manager's Report.
Upon the recommendation of the Board, in June 2020, Shareholders voted to wind the Company up. This decision was made after the Company was unable to raise new capital and meet its original goal to increase shareholder capital to £250 million by December 2019. The Board of Directors and the Investment Manager have now begun work on an orderly wind-down of the business and hope to return capital to investors expeditiously, avoiding capital erosion. In anticipation of a vote to wind-down the Company, the Board instructed the Investment Manager to cease all new underwriting commitments from January 2020 and only one commitment of €1.4 million to an existing counterparty, an Irish SME and Leasing Fund, remains in place, although negotiation will take place to consider withdrawing from this further investment.
We have also reviewed costs in recent months and have taken steps to reduce ongoing expenses going forward. These measures have included a mutually agreed reduction in investment management fees to 0.75% for 12 months from 18 September 2020, and thereafter to 0.55%. Advisor and PR costs have also been reduced post year-end to allow for better value for money for Shareholders. The amendment date from which these changes will take effect is 17 September 2020.
Dividends
The Company elected to designate all dividends for the period ended 30 June 2020 as interest distributions to its Shareholders. In doing so, the Company took advantage of UK tax treatment by "streaming" income from interest-bearing investments into dividends that will be taxed in the hands of Shareholders as interest income.
As set out in the Prospectus, the Company intended to distribute at least 85% of its distributable income by way of dividends on a monthly basis, retaining some of the distributable income as a loss reserve to smooth future dividend flows.
The Company has maintained its dividend of 7.00p for the reporting period. During the reporting period, dividend cover has fluctuated due to specific transaction flows, impairment of peer to peer and venture debt positions and the decision not to apply leverage until more platform and peer to peer investments had been removed from the portfolio.
As a consequence of the decision to proceed with a managed wind-down, the Board has reviewed the dividend policy going forward and has decided to cease paying monthly dividends and intends to pay quarterly dividends as well as returning excess capital as and when the Company has excess cash reserves available for distribution.
Discount
During the reporting period, the Company traded at an average discount to NAV of 7.74%.
Board of Directors
In May 2020, Ken Hillen resigned as Chairman of the Company and I would like to thank him on behalf of the Board and Shareholders for his work over his tenure in the role.
In order to maintain strong corporate governance, the remaining Directors embarked on a recruitment exercise and in July 2020, appointed Brett Miller as a Director of the Company. Brett brings significant experience of closed end funds and the alternative lending sector and has experience of working with companies that are in wind-down and so we welcome him to the Board and look forward to his positive contribution over the remainder of the life of the Company.
Outlook
During the reporting period impairments to aged legacy peer to peer positions dampened NAV performance. Despite this, a healthy cash balance has enabled the continued payment of dividends. In addition, we anticipate to be able to commence some return of capital to Shareholders in the first half of the next reporting period.
The Board expects the wind-down plan that will likely take two or three years to execute with the objective of delivering investors total proceeds as close to NAV as possible less the unavoidable expenses required in the process. However, as stated, we have already taken steps to reduce costs and will continue to do this over the coming months. If we are able to identify a suitable buyer to purchase some or all of the existing direct loan portfolio to expedite early capital return, the Board will also consider these proposals. Our goal in the managed wind-down is to achieve a balance between maximising the value received from those assets and making timely returns of capital to Shareholders.
Market conditions have been very challenging. The Investment Manager has worked with borrowers to ensure that their businesses remain "alive" since the onset of the pandemic and so far, no impairment provisions have been considered necessary for this element of the portfolio. These decisions have been taken after careful consideration of PRA guidance and IFRS 9 treatment of such loans. Specific Covid-19 guidance has been issued by the PRA, details of which are outlined further within the Investment Manager's Report. However, the Investment Manager considers that the most challenging period is ahead of us, as various furlough and bounce back assistance is withdrawn from the economy with Q4 2020 and Q1 2021 presenting a risk to our borrowers. We will keep investors informed of any developments as they occur, in the months to come.
We thank investors for their continued support during this period and hope that the consistent high level of income has provided at least a degree of solace as the Board and the Investment Manager now work on a constructive plan to return capital to Shareholders.
David Stevenson
Chairman
8 October 2020
Investment Manager's Report
Overview
KKV Investment Management Limited ("KKV") assumed investment management responsibility for the Company on 5 June 2020.
Following the decision by Shareholders not to support continuation, we are working hard on plans to return capital to Shareholders in as expeditious a way as possible without damaging capital value.
We are again able to report continued steady progress in delivering a 7.00p dividend despite having to impair aged legacy debt held within the portfolio. The Company has continued to reduce peer to peer lending to only 0.5% of the portfolio and has reduced legacy exposure overall to 21.5%. IFRS 9 impairment provisions have been increased on legacy investments and now stands at 8.88% of the total NAV value. The Company has no debt.
Since our last report when we expressed concern regarding Brexit impact on the UK economy, events have overtaken somewhat, and we are now in the grips of a global pandemic. Despite both these challenges, we have not had cause to impair our direct loan exposures to date but we have applied a sensible and pragmatic approach to helping our borrowers get through this unprecedented period with amortisation, interest and covenant relief. We are mindful that businesses rarely fail over a covenant breach and that in times of significant stress, cash balances remain key. These measures have been taken having considered guidance from the PRA on monitoring our borrowers in relation to IFRS 9 provisioning, where the directive is to ensure appropriate consideration of expected credit losses and risk of default etc. It explains that Covid-19 related measures do not automatically lead to direct increase in risk of default or increase in the stage of the loans in the IFRS 9 categories. Management are still required to assess the risk and particulars of each loan and consider whether there is any increase in the probability of default when assessing for impairment, and the Company has not had cause to credit impair any of our direct loan exposures to date as the outlook has remained reasonably comfortable. However, as the pandemic draws on into the second half of the year, with heightened risk of a second wave, we will keep this decision under regular review.
Since the Company's financial year end, we had observed an improvement in the performance of our direct loan exposure with borrowers reporting better performance in terms of sales and general business activity. However, since the beginning of September we have noted a marked increase in overall volatility and a generic uncertainty in the SME sector which has a particular pertinence to the industries and types of loan to wholesale providers that our loan book targets. We have undergone a rigorous review of our processes and monitoring of these loans with no cause for concern with regard to specific debt service, but given the nature of the portfolio, it would be unwise of us to ignore the elevated risk that this uncertainty represents to our borrowers and to flag the loan loss provisions we may have to apply in the future as the global economy braces itself for further economic contraction.
Throughout the Covid-19 pandemic, we have increased our interaction with borrowers and received far more regular trading updates from them than we would ordinarily request; our relationships with these counterparties have remained strong and we have welcomed the transparency and the open dialogue with which they have provided this information. In some cases where required, we have awarded maturity extensions and amortisation holidays to allow them time to adjust to the prevailing operating conditions. We are pleased that there have been no defaults which we consider testament to the strong active management deployed by our team and would expect that under normal market conditions to return the full capital value of the loans to our investors upon maturity. However, in the shorter term, the impact of the macro economy on trading conditions could be detrimental, meaning that loss provisioning may need to increase and we consider this to be prudent risk management under extenuating circumstances.
We have provided a thorough review of each of our investments in the following commentary with a higher than usual level of disclosure for investments in the private domain and of this nature. We will continue to review and undertake ongoing due diligence in relation to these loans to ensure that any future impairments caused by the unprecedented economic circumstances are recognised appropriately.
Background
KKV assumed the role of portfolio manager for Secured Income Fund plc on 5 June 2020 via a novation arrangement. This new business is owned by Kvika banki, an Icelandic bank specialising in asset management with a total of EUR 3 billion assets under management with KKV representing 16% of this total.
Despite opening for business during a global pandemic, we are pleased to report that the company was able to commence operational management with few glitches. KKV has the use of three offices in London and Surrey but all employees have been equipped to work remotely throughout the current Covid-19 Emergency with the majority choosing to do so. All processes are functioning and business continuity has been maintained to a good level. The transition of employees under the TUPE scheme has been completed and a good start has been made to their working relationships with new colleagues.
The analyst team working on this fund has been reduced due to the resignation of our former Head of Credit. We have recruited further fund management personnel and credit analysts to replace and make a considerable enhancement to our capability within the team.
Market backdrop
Highly volatile pricing of all assets across the risk spectrum and intermittent volatility spurts have been facets of all fixed income sectors during the reporting period. All fixed income products fell violently from March onwards and this was particularly severe for higher yielding assets although even US Treasury bonds were affected by a general malaise and also suffered reduction in capital value. Since the introduction of emergency market support packages from central banks such as the US Federal Reserve (Fed), European Central Bank and Bank of England these markets have settled but the economic picture remains uncertain.
As developed markets in the US, UK and Europe begin to ease lockdown measures, market commentators were expectant of a so-called V shaped recovery as businesses begin to emerge from their forced hibernation. Our appraisal is more circumspect and despite spread tightening in recent weeks for investment grade credits, as companies shore up their balance sheets with additional borrowing, we are particularly focussed on data relating to SME performance and securitised products such as CLO's and lower sub investment grade markets where the greatest pain has been observed. We expect coupon obligations to be put under pressure and forbearance to be the watch word for the next 9-12 months.
SME business confidence has fallen sharply and lower turnover due to Covid-19 has caused severe cash-flow difficulties for many businesses, increasing demand for working capital finance. This has been coupled with a sharp increase in demand for loans and uptake of government backed schemes encouraging commercial banks to lend into the sector. Easing of credit criteria for loans by these banks, has a second derivative effect of weakening capital adequacy and it is our expectation that once market conditions begin to normalise, lending patterns will revert to more conventional levels, allowing alternative lenders to pick up the baton once again.
The speed of recovery is unclear at the present time. By way of stark illustration, unemployment in the US increased by 14 million in six weeks at the height of the Covid-19 emergency whereas the total number of those losing jobs between June 2008 and June 2009 was 3.5 million and it took four years for employment to return to pre-recession levels. Reversal of lost jobs takes time for an economy to absorb and so we expect this to impact consumption and consumer confidence. For lenders and borrowers alike, the safest route to normalisation is to keep sustainable business alive with support and forbearance including maturity extensions and interest or amortisation "holidays", so that they can resume trading and servicing their loans as rapidly as possible; an approach we have adopted across our portfolios since March 2020.
For equity investors, the reduction in dividend and share buy-back programmes across the equity market landscape, should, in our opinion, focus attention on regular coupon paying fixed income strategies. These are contractual and any missed coupons are rolled up, unlike missed dividend payments. Once the current and immediate crisis subsides, we believe regular income will be a highly valued commodity.
Portfolio
There are eleven (2019: 13) direct loans in the portfolio with an average of £3.1 million (2019: £2.6 million) deployed per loan, at an average rate of 11.1% (2019: 10.9%). Each loan has bespoke legal documentation and is designed to fit to the Company's and the borrower's requirements. There have been no defaults in this portion of the portfolio underwritten by the portfolio management team although we should caveat this statement with a warning that as the pandemic continues we may see cause for future impairment. At present and where required we have provided covenant and amortisation relief or maturity extensions to our borrowers. To date, managements ongoing monitoring has not identified write downs on these loans and we will continue to monitor for this risk as the market continues to grapple with the uncertainty that the Covid-19 pandemic and Brexit represents to this segment.
As reported last year, we have changed the way in which we categorise the legacy portfolio. With £9.8 million now held in this part of the portfolio, we have differentiated between peer to peer loans and those that are held in loan note structures with professional counterparties. These loans are larger in quantum and we have a closer relationship with the underlying companies (further details relating to these investments is provided later in the report). The total number of loans via third parties have been reduced from 213 to 17 (April 2017 to June 2020) with a small number of loans amortising down each month. As mentioned above, peer to peer lending now represents only 0.5% of the portfolio with the majority of the remaining exposure impaired 100% as at the end of the reporting period.
No leverage has been used throughout the reporting period. Given the nature of the investments and the less predictable nature of repayments from legacy positions, we would continue to see this as a challenge if reinvesting loan capital, however the Company ceased new investments as at January 2020 ahead of the continuation vote to allow for cash to build. Despite this, we have paid close attention to delivering a covered monthly dividend and although dividend cover has fluctuated over the year as we have impaired platform loans and ceased accruing income, we have enough cash availability to maintain a 7.00p per share dividend for the rest of the calendar year. The Board intends to move to making quarterly dividend payments and ad-hoc special dividends, when appropriate, during the course of the managed wind-down process so that the Company is able to return available cash as soon as reasonably practicable.
Apart from the concentration limit for film financing that had received prior approval from the Board, there were no breaches of investment guidelines during the reporting period and all non-Sterling capital and income has been fully hedged. Fluctuations in the value of Sterling during the reporting period has made for some significant moves and margin requirements have increased. The Board has asked for a review of FX hedging and it may decide to remove FX hedges as the portfolio is wound down. If the hedges are removed we will update our FX exposures regularly in the factsheets.
As the portfolio is now in wind-down, we have been focussed on urging our third-party borrowers to repay debt and expect to begin return of capital to shareholders early in the next reporting period. We shall be encouraging them and assisting them to refinance early so we may return capital to our shareholders. In line with this plan, post 30 June, the Board were able to approve an increased dividend payment of 3.5p in July.
The investment portfolio as at 30 June 2020 exhibited the following characteristics:
30 June 2020 1
Largest Loan
£9,995,000
Weighted Average Remaining Term ("WART")
2.9 years
Investment Yield Range
8.0% - 13.0%
Weighted Average Portfolio Yield
10.0%
[1]
Analysis based on post-impairment figures.
The largest individual investments have the following characteristics:
Borrower Industry
Total balance outstanding (including accrued interest)
% of Net Asset Value
Remaining Term (years)
£
Wholesale Portfolio
£9,995,000
22.0%
1.3 years
UK Diversified Portfolio
£7,405,035
16.3%
5.7 years
Healthcare
£4,853,641
10.7%
4.5 years
European Diversified Portfolio
£4,316,605
9.5%
3.2 years
Media
£3,044,113
6.7%
2.0 years
Portfolio Activity
We sold two direct loans during the reporting period:
· Medical services provider in UK - as reported last year, the business was in a sale process and we had covenants requiring the loan to be repaid in the event of a change of control with penalty costs applied. The company requested a roll over of the debt into the new entity but we were uncomfortable with the balance sheet and domicile in Northern Cyprus. So, after a period of intense negotiation, we secured full repayment.
· Marine servicing company - a service company specialising in renewable energy build and maintenance contracts as well as bridge and oil field service maintenance. The company expanded during the reporting period acquiring a significant fleet in the US as this was part of a strategic expansion plan implemented in 2018. However, despite having equity support from infrastructure investors, the level of debt held by the group became significant and so we made plans to sell the loan and this was achieved in December 2019, leading to a gain for the Company of c.£140k and an IRR upon exit of 12.7%.
Direct Loans
Loan Summary Table:
Borrower
Original Loan Amount £
Principal Balance Outstanding at 30 June 2020 £
ECL provision at 30 June 2020 £
Carrying Value of Loans at Amortised Cost [1] at 30 June 2020 £
Amortisation/ Bullet repayment/ other
Term remaining (years)
Asset Type
Currency
Yield
Borrower 1
£10,000,000
£10,000,000
£5,000
£9,995,000
Interest only during availability period, then amortisation
1.3 years
Wholesale Lending
GBP
10%
Borrower 2
£4,838,319
£4,838,319
£2,419
£4,835,900
Interest only for 12 months, then amortisation
4.5 years
Medical Services
USD
12%
Borrower 3
£4,137,699
£4,137,699
£2,069
£4,135,630
Bullet repayment
3.2 years
SME and Leasing Fund
EUR
Variable
Borrower 4
£2,458,950
£3,045,636
£1,523
£3,044,113
Cash sweep
2.0 years
Film Production Financing
GBP
12%
Borrower 5
£2,504,341
£2,796,007
£1,398
£2,794,609
Cash sweep
2.9 years
Film Production Financing
GBP
11%
Borrower 6
£2,556,790
£2,590,731
£1,295
£2,589,435
Cash sweep
2.8 years
Film Production Financing
GBP
12%
Borrower 7
£2,314,769
£2,509,046
£1,255
£2,507,791
Cash sweep
2.9 years
Film Production Financing
GBP
11%
Borrower 8
£1,703,435
£2,070,283
£1,035
£2,069,248
Cash sweep
2.4 years
Film Production Financing
USD
12%
Borrower 9
£1,500,000
£1,500,000
£750
£1,499,250
Interest only during availability period, then amortisation
1.0 year
Leasing Group
GBP
9.5%
Borrower 10
£1,624,248
£502,945
£251
£502,693
Cash sweep
1.2 years
Film Production Financing
GBP
12%
Borrower 11
£700,000
£428,138
£215
£427,923
Amortisation
2.5 years
Laser and LED Manufacturer
GBP
10%
Direct Loans Total
£34,418,804
£17,210
£34,401,593
[1]
The carrying values of loans at amortised cost disclosed in the table above do not include capitalised transaction fees, which totalled £90,000 at 30 June 2020.
The following provides a narrative relating to some of our direct loan investments. Names of counterparties have been omitted for commercial and business sensitive reasons for our borrowers.
SME loan company (Borrower 1) - 22.0% of NAV
This is the largest individual facility provided by the Company and has been in place since May 2017. This is a long established lender to the SME market. The loan is interest only and upon maturity, the debt amortises over nine months although a longer repayment plan would need to be negotiated given the Covid-19 impact. It is secured by receivables from a pool of diversified loans to small businesses which is advanced at 90% against the security pool and borrower director guarantees together with underlying security. Each underlying loan is rated to a four stage system with our collateral only acceptable for the highest category. If a loan slips into a lower category, there is a requirement for it to be replaced by another better performing credit. We receive a report from the company's auditors on a monthly basis that provides detail on the performance and the entire loan pool.
Loans within the portfolio have been affected at the start of the Covid-19 pandemic but management have reported that things have steadily started to improve with June at breakeven in terms of net new advances. All loans are accompanied by a personal guarantee and any amount over £50,000 has to be secured by a lien on property. They have also reported that they had a reasonably small exposure to the retail sector which had been the hardest hit.
We have allowed covenant breaches regarding the collateralised pool to 95% since April and we have relaxed the terms of the ratings allowed within the pool whilst the period of economic uncertainty remains and are comfortable that the borrower is monitoring performance adequately, all loans were considered "green" in terms of performance and overall loan to value at 93% as at the end June, all interest payments have continued to be paid on time. The company has now relaunched their lending activity in Q3 due to an increase in demand from performing SMEs.
US healthcare services company (Borrower 2) - 10.7% of NAV
This credit replaced the loan to a remote operating vehicle business in December which was sold over concerns regarding the overall indebtedness of the company. This loan, by comparison, offered far greater comfort by way of being guaranteed by its insurance company owner and the seniority of the debt in the overall stack. Faced with the uncomfortable choice of our first default on a direct loan and reduction in dividend cover, we chose to invest. Subsequently, the remote vehicle business had to be restructured during Q1/Q2, 2020 which would have led to impairment for the Company.
This company specialises in ancillary medical services to a number of hospitals in the American Midwest including optometry, audiology, dentistry and podiatry. Security is provided by debenture over all assets other than accounts receivable (although considered to be of low value), pledge over equity that may not be diluted and a parental guarantee over all scheduled interest and principal repayments. This last element being the most important given the weaker balance sheet of the underlying business.
This direct loan was considered of greatest risk of default when the pandemic started given the nature of business and so we have monitored interest receivables very tightly. We are pleased to report that all interest payments have been made on time.
Irish SME and leasing fund investment (Borrower 3) - 9.5% of NAV
This portfolio of some 26 loans has continued to perform and in some cases underlying credits have seen an increase in activity and therefore performance. The majority of the loans are focused on technology companies specialising in online educational software, online publishing and PPE manufacture which has seen threefold increases in sales since the beginning of the year. This has meant a higher than expected distribution to the Company as at the end of the reporting period. One loan extended to a cosmetic dental service representing 1.9% of their portfolio, was due to be sold, this process has been put on hold and the credit expectation reduced. The manager considered this to be a temporary position and expects to recoup the value of the loan.
Media financing (Borrowers 4 through to 8 and Borrower 10) - 29.7% of NAV
Over the course of the last three years, SIF has funded 8 films, two of which have been fully repaid and loan obligations met in full. The remaining six are at various stages of filming and distribution.
At the beginning of the pandemic, as investment adviser to the lender we recognised the risk that tax credits and distribution sales may be delayed and noted the cancellation of a number of film festivals when sales activity is at its most productive. We expected the shortfall in airline and cinema sales to be somewhat compensated by online content providers such as Sky and Netflix.
We duly offered three months extension to the timetables originally set for these projects and monitored the progress of each films. As at July, we have further extended and fully documented the maturity dates for these loans by 12 months to allow for a longer period of repayment.
All six loans are individual facilities and are ring-fenced as individual risks. However, to mitigate the volatility of performance on individual projects, we had allowed for a waterfall structure to allow for profit share from higher performing assets to contribute to the overall repayment of the whole portfolio. It is the managers view that this mechanism will allow for all loans to be repaid in full over the extended period granted. As at year end, we have not allowed any further loss provision and will closely monitor for risk of lifetime credit loss over the coming months as we attempt to emerge into more normal conditions.
UK leasing company (Borrower 9) - 3.3% of NAV
This loan has been underwritten since July 2017 on a rolling twelve month basis. It is a working capital facility to be used to warehouse deals financed by block facilities already in place. The loan is supported by a debenture and the company provides quarterly management accounts and full year audited financials. The underlying portfolio comprises of a basket of loans split between two types of lending; 85% asset finance/ leases with a typical deal size of £15,000 and 15% professional loans to white collar industry professionals supported by personal guarantee.
Updates from the borrower through Q2 highlighted the increased number of requests for forbearance. Overall to the end of May, they reported 25% delinquencies versus a comparison of 9% during the credit crunch. However, 75% of all loans were being paid on time and in full and they reported that they did not expect the position to be terminal and reporting since the end of June 2020 has demonstrated a significant improvement in rental payments to 102%, providing enough comfort for the loan to remain unimpaired. Their team has been working well with the underlying borrowers to achieve furlough for their staff and to apply for CBIL loans. As the pandemic lockdown restrictions have loosened, many of those businesses that asked for forbearance have been able to resume the servicing of their debt, and the borrower have set up amended payment plans to recoup outstanding balances. This has led to payments for July and August exceeding expected amounts. Even with this level of delinquency to the end of June, cash flow analysis shows that they remain cash positive and have enough financial headroom until Autumn 2020. The company has not needed to access their block financing lines over the period.
LED manufacturer in Ireland (Borrower 11) - 0.9% of NAV
This is a secured term loan that has been in place since May 2017 and is secured by a guarantee from the parent company, a debenture over the borrower and a charge over equipment purchased via Capex portion of the facility.
Their business has operated on a business as usual basis throughout the pandemic. They have changed some working practices to allow for split shifts and those who are able to work from home are doing so. The supply chain is working and customers continue to operate.
We had intended to extend a further €500,000 loan facility to the company but withdrew from the commitment at the start of the pandemic in March 2020. Since then, we have granted a three, then six month amortisation deferral with an extension to the original loan. All interest has been received during this time and the management of the company have kept us abreast of developments.
Legacy portfolio
Borrower
Original Loan Amount £
Principal Balance Outstanding at 30 June 2020 £
ECL provision at 30 June 2020 £
Loan Carrying Value at Amortised Cost at 30 June 2020 £
Currency
Yield
Borrower 12
£14,800,664
£7,450,655
£1,059,756
£6,390,899
GBP
Variable
Borrower 13
£1,000,000
£1,000,000
£1,000
£999,000
GBP
17.0%
Borrower 14
£524,151
£524,151
£524
£523,627
USD
8.0%
Borrower 15
£500,000
£415,714
£415,714
£0
GBP
-
Borrower 16
£1,565,297
£508,019
£279,822
£228,197
GBP
9.8%
Borrower 17
£563,270
£345,239
£345,239
£0
GBP
-
Borrower 18
£2,317,199
£2,317,199
£2,317,199
£0
USD
-
Legacy Loans Total
£12,560,977
£4,419,254
£8,141,723
Co-Investments
In line with our reclassification adopted in the last reporting period we continue to separate pure peer to peer, technology platform based lending and three investments that are characterised by professional co-investment alongside other professional investors. After significant corporate change for all three of these investments, we provide the following narrative:
UK venture debt (Borrower 12) - 16.3% of NAV: after the turbulence of two of the three principals leaving the company and triggering a clause in the Loan Note agreement that allowed us to take closer control of the process of managing the portfolio, the business has stabilised and made very good progress in winding down the portfolio. As the portfolio runs off, we have received £1.6 million cash shortly after year end leaving a balance of £5.8 million.
The largest position in the portfolio, a broadband company, has been restructured and is currently impaired by 59% representing 2.1% of the Company's NAV. However, the reorganisation of the business has progressed well and a new CEO employed. Their order book has increased and they have been able to operate throughout the current pandemic crisis. We therefore expect some improvement in recovery.
UK offshore platform (Borrower 13) - 3.3% of NAV
One loan remains in the portfolio and has been in place since early 2017 and is a real estate linked loan to a developer on the island of Gibraltar. It is senior in a stack of other loans underwritten by the platform itself. After two years of careful monitoring and pressing for repayment, we have now been given notification that this will be repaid in full with accrued and penalty interest. Throughout the period of delinquency, we had not impaired the loan as to do so would have encouraged the borrower to urge us to take a haircut on final settlement. Our senior position ahead of the platform lender also gave us comfort that the loan would be repaid in full but this has required patience and perseverance.
US business promissory note (Borrower 14) - 1.4% of NAV
This loan is a working capital facility via a promissory note. It has a maturity to July 2020 and had been due to be repaid early as the business was due to be sold to a larger lending business based in the Netherlands. This transaction failed in Q4 2019 and so an outstanding loan is to be repaid.
The company specialises in Microsoft hardware and software sales to SMEs via a global franchise. It has recently commenced a new product line with X-Box to commence in Q4 2020. The borrower has been unable to settle the loan and so we have agreed an extension by 6 months to January 2021 to allow for the business to settle after the initial pandemic and for the new business line to start over the Q4 holiday season.
Small company bond platform (Borrower 15) - 0.0% of NAV
All three loans outstanding from this platform were repaid during the reporting period including a car leasing business and a school, both of which repaid in full. A third investment with a technology company was settled at 50% of its net value (realising a loss of £402,000) after it delisted from AIM and this is reflected in the financial statements. The only outstanding debt from this platform is a recruitment business that had undergone a protracted recovery process through the courts. In Q1 2020, we took the decision to fully impair the loan due to slow progress and the increased risk that fees and expenses would erode any repayment to the Company.
Peer to Peer
During the reporting period, the Company has been able to reduce the number of peer to peer loans in the portfolio from 40 to 14.
UK peer to peer loan platform (Borrower 16) - 0.5% of NAV
The platform is slowly amortising down and represents 0.5% of the overall portfolio. Two of the largest loans are 50% and 80% impaired respectively and represent 90.8% of the total outstanding balance. Continuous requests for information and insistence that these loans should be repaid have led to some progress in regard to a wind turbine loan. So, despite these positions being aged, we still press for repayment. Other loans that had already been 100% impaired, matured and are reflected as realised losses of £223,000 in the financial report and accounts.
Spanish peer to peer loan platform (Borrower 17) - 0.0% of NAV
We have assigned zero probability of any further collections on the remaining 7 loans within the portfolio. We continued to push for some return from these loans but after receiving a number of formal liquidation confirmations, we concluded that there was very little probability of recouping any further capital.
US peer to peer business (Borrower 18) - 0.0% of NAV
The final outstanding balance of this position has been fully impaired and we have assigned no further ability to recoup funds from the platform. At the beginning of the reporting period, we had impaired 25% of the total outstanding loan and taken the decision to try and assume collections with a management agreement. It took longer than expected to arrange the legal documentation to gain access to files and we had believed it reasonable to expect some success but upon review over the course of the year, we came to the conclusion that there was little to gain from pursuing the outstanding balances and so by end Q1 2020 and the start of the Covid-19 led difficulties, we impaired the remaining balance.
Outlook
The reporting period has not been without its challenges due to external economic pressures of Brexit and then the onset of the Covid-19 pandemic.
All things considered, the loan book has held up reasonably well and we have made reasonable, albeit slower progress with the ongoing cleanup of peer to peer exposures. However, it has been disappointing that we were not able to recoup more capital from the US and European positions and with the benefit of hindsight, our original expectation was too optimistic.
Given the ongoing complexity of Covid-19 impact on the wider economy, the probability of the impact was a lot lower but now there is increased likelihood of deteriorating prospects in the medium term. However, on the balance of probabilities it is likely that our direct loan underwriting representing 76% of the portfolio can ultimately repay at full value.
The Company is now in wind-down and we are working to deliver the Company's new investment policy. Meanwhile, we shall monitor and manage the assets within the portfolio as carefully as possible and urge early repayment by borrowers if the occasion arises. All of the loans in the portfolio require care and diligence, each borrower has specific needs and have to be carefully monitored and indeed, on some occasions, helped through difficult periods. If they are not managed with this level of due care and diligence, there is a risk that the credit outlook for these loans may deteriorate. It is as much about the manager as the borrower in these circumstances.
We would like to thank Shareholders for their support and look forward to sharing updates on the progress made on wind down in future months.
Dawn Kendall
Portfolio Manager
KKV Investment Management Ltd
8 October 2020
Principal Risks and Uncertainties
Risk is inherent in the Company's activities, but it is managed through an ongoing process of identifying and assessing risks and ensuring that appropriate controls are in place. The key risks faced by the Company, along with controls employed to mitigate those risks, are set out below.
Macroeconomic risk
Adverse macroeconomic conditions may have a material adverse effect on the Company's yield on investments, default rate and cash flows. The Board and the Investment Manager keep abreast of market trends and information to try to prepare for any adverse impact.
The Company's assets are diversified by geography, asset class, and duration, thereby reducing the impact that macroeconomic risk may have on the overall portfolio.
Interest rate risk arises from the possibility that changes in interest rates will affect future cash flows and/or fair values of the Company's investments. Exposure to interest rate risk is limited by the use of fixed rate interest on the majority of the Company's loans, thereby giving security over future loan interest cash flows.
Currency risk is the risk that changes in foreign exchange rates will impact future profits and net assets. Currency risk is mitigated to a certain extent through the use of forward foreign exchange contracts to hedge movements in foreign currency exchange rates.
Following the UK's exit from the EU on 31 January 2020, and until trade agreements are signed, there may be some uncertainty in UK and European markets as they adjust to the new relationship between the UK and the EU and the rest of the world. Although the exact impact of Brexit is not known, the Board believes that the Company is well placed to deal with future impacts from it.
Covid-19
The Covid-19 outbreak is a risk to the global economy. Details of the macroeconomic impact, as it may affect the Company, are provided in the "Market Backdrop" section of the Investment Manager's Report. The Investment Manager and Administrator invoked their business continuity plans to help ensure the safety and well-being of their staff thereby retaining the ability to maintain business operations. These actions helped to ensure business resilience.
The situation is changing so rapidly that the full impact cannot yet be understood, but future cashflows and valuations are more uncertain at the current time, and may be more volatile than in recent years. Indeed, the level of estimation uncertainty and judgement for the calculation of expected credit losses has increased as a result of the economic effects of the Covid-19 outbreak. However, the impact of defaults that might occur in future under different economic scenarios has been reflected in various models to enable the Board to evaluate the Company's viability, and the Directors believe that the Company is well placed to survive the impact of the Covid-19 outbreak, thereby enabling the Company to realise its assets in an orderly manner.
Credit risk
The Company invests in a range of secured loan assets mainly through wholesale secured lending opportunities, secured trade and receivable finance and other collateralised lending opportunities. The Company is also exposed to direct loans. Significant due diligence is undertaken on the borrowers of these loans and security taken to cover the loans and to mitigate the credit risk on such loans.
The key factor in underwriting secured loans is the predictability of cash flows to allow the borrower to perform as per the terms of the contract.
Following the change of investment objective on 17 September 2020, the Company ceased to make any new investments or to undertake capital expenditure except where, in the opinion of both the Board and the Investment Manager (or, where relevant, the Investment Manager's successors):
- the investment is a follow-on investment made in connection with an existing asset in order to comply with the Company's pre-existing obligations; or
- failure to make the follow-on investment may result in a breach of contract or applicable law or regulation by the Company; or
- the investment is considered necessary to protect or enhance the value of any existing investments or to facilitate orderly disposals.
The impact of the Covid-19 outbreak on general credit risk is provided in the Investment Manager's Report.
The Company's assets are diversified by geography, asset class, and duration, thereby reducing the impact that investment risk may have on the overall portfolio. This diversification may reduce as assets are realised, but is an acceptable, and to some extent unavoidable, risk associated with the realisation process.
The credit risk associated with the investments is reduced not only by diversification but also by the use of security. Despite the use of security, credit risk is not reduced entirely and so the Investment Manager monitors the recoverability of the loans (on an individual loan basis) each month and impairs loans in accordance with IFRS 9 Financial Instruments.
Platform risk
The Company is dependent on platforms, albeit to a lesser extent for that reducing part of the loan portfolio originated through platforms than was the case prior to the change of Investment Manager in April 2017, to operate the loan portfolio (to effectively monitor loans; and to pay and receive monies as necessary). If a platform were no longer able to operate effectively this could put at risk loans made with/through such a platform and increase credit risk.
The Investment Manager undertakes due diligence on all the platforms and part of this work is to confirm that the platforms have disaster recovery policies in place whereby a third party administrator would step in to manage the loans in the event the platform could no longer do so. If such an event were to occur, the Company's approach would vary depending on the platform and the circumstances, and would be determined by the Board after discussion with the Investment Manager and other advisers.
The Company's exposure to platform risk is decreasing as it realises platform loans and exits positions on certain platforms entirely.
Regulatory risk
The Company's operations are subject to wide ranging regulations, which continue to evolve and change. Failure to comply with these regulations could result in losses and damage to the Company's reputation.
The Company employs third party service providers to ensure that regulations are complied with.
Reputational risk
Any adverse impact on the Company's reputation would likely result in a fall in its share price, thereby adversely affecting Shareholders.
Environment, Employee, Social and Community Issues
As an investment company, the Company does not have any employees or physical property, and most of its activities are performed by other organisations. Therefore, the Company does not combust fuel and does not have any greenhouse gas emissions to report from its operations, nor does it have responsibility for any other emissions producing sources under the Companies (Directors' Report) and Limited Liability Partnerships (Energy and Carbon Report) Regulations 2018.
When making investment decisions, the Investment Manager has not, historically, considered the impact that an entity in which the Company invests may have on the community. However, whilst the Board believes that all companies have a duty to consider their impact on the community and the environment, the Company does not have a direct impact on the community or environment and, as a result, does not maintain policies in relation to these matters.
Going forward, the Investment Manager is committed to achieving the best possible risk-adjusted returns through integrating Environmental, Social and Governance ("ESG") considerations into its core investment analysis and decision making process. The Investment Manager recognises the value in considering ESG risks and has adopted the following ESG approach in conducting its business:
· Taking into account the non-financial performance of target companies, specifically related to governance, social and environmental policy.
· Adopting responsible and ethical approach to governance including:
- Remuneration of senior management and a policy on bonuses that is compliant with international standards;
- Implementation of compliance policies and procedures and on-going monitoring of the firm's systems and controls;
- Implementation of risk controls throughout the business; and
- Consideration of our ethical obligations in all business conduct (anti money laundering, anti-corruption, reputational due diligence).
· Encouraging a human resource policy which values and respects all staff members through:
- Objective criteria to measure performance and competencies;
- Support programs requiring senior management involvement in all staff members career progression; and
- Equality across all staff irrespective of role, gender, race, age, religious belief or sexual orientation.
Gender Diversity
The Board of Directors of the Company currently comprises two male Directors and one female Director. Further information in relation to the Board's policy on diversity can be found in the Directors' Remuneration Report in the Annual Report and Financial Statements.
Key Performance Indicators
The Board uses the following key performance indicators ("KPIs") to help to assess the Company's performance against its objectives. Further information on the Company's performance is provided in the Chairman's Statement and the Investment Manager's Report.
Dividend yield
The Company distributes at least 85% of its distributable income by way of dividends on a monthly basis. During any year the Company may retain some of the distributable income and use these to smooth future dividend flows. The Company's annual dividend target for the period under review was 7.00p per Share.
The Company has announced dividends of £3,684,000 (7.00p per Ordinary Share) for the year ended 30 June 2020 (2019: £3,684,000 (7.00p per Ordinary Share)), being 228.5% (2019: 128.9%) of distributable income for the year (see notes 5 and 22 for further details). To ensure the tax efficient streaming of qualifying interest income, the Company may announce an additional dividend out of the profits for the year ended 30 June 2020, once the tax advisers have finalised the tax computations.
NAV and total return
The Directors regard the Company's NAV as a key component to delivering value to Shareholders, but believe that total return (which includes dividends) is the best measure for shareholder value.
Premium/discount of share price to NAV
Prior to the Continuation Vote, in the event that the Ordinary Shares had been trading at a daily discount to NAV of greater than 10% for three consecutive months (calculated on a rolling three monthly average of daily numbers), the Board were required to convene a general meeting to propose a continuation resolution.
Although this requirement is no longer applicable, the Board understand the importance of minimising the discount to NAV at which the Company's Ordinary Shares trade and the Board regularly monitors the premium/discount of the price of the Ordinary Shares to the NAV per share. During the year, the Company traded at an average discount to NAV of 7.74%. In normal market conditions, stabilisation of dividend cover would have resulted in a narrowing of discount to NAV. However, sector volatility and some sales of shares by investors created a stock overhang during most of the reporting period, and at 30 June 2020 the shares were trading at 76.50p, an 11.4% discount to NAV (2019: 92.00p, a 3.26% discount to NAV). However, FinnCap, the Company's corporate broker, has maintained a good job of matching sales to purchases and retail interest in the stock has been ongoing.
Capital returned to Shareholders
Following the change in investment objective on 17 September 2020, the Directors consider it important to measure the amount of capital returned to Shareholders. In the six days since 17 September 2020, no capital has been returned to Shareholders. However, on 26 August 2020, the Company announced a dividend of 3.50 pence per Ordinary Share with a payment date of 25 September 2020.
This was not a KPI during the year ended 30 June 2020.
David Stevenson
Chairman
8 October 2020
Promoting the Success of the Company
The following disclosure outlines how the Directors have had regard to the matters set out in Section 172(1)(a) to (f) of the Companies Act 2006.
The Board considers the needs of a number of stakeholders when considering the long-term future of the Company. The key stakeholders with which the Board has liaised during the year ended 30 June 2020 were:
· Shareholders; and
· Key service providers.
Shareholders
The Company's significant Shareholders at the year end can be found in the Directors' Report in the Annual Report and Financial Statements.
When making principal decisions the Board consider it imperative to analyse the views of the Company's investors to ensure that its decisions are aligned with the wishes of Shareholders and that the Company can achieve its Investment Policy. The key performance indicators have been considered on an ongoing basis as part of the Board's decision making process.
Details of how the Directors communicate with Shareholders can be found in the Corporate Governance Report.
Other than the routine engagement with investors regarding strategy and performance, the Company's continuation was discussed with investors. A continuation vote was held on 19 June 2020 that, in line with the Directors' recommendation, did not pass. A further general meeting of the Company was held on 17 September 2020 at which a special resolution approved the managed wind-down of the Company and the adoption of the new investment policy of the Company.
Key service providers
Details of the Company's key service providers can be found in the Directors' Report in the Annual Report and Financial Statements.
The key service providers are fundamental to the Company's ability to continue in the same state as any changes could disrupt the expected timeliness of information provided to the markets. In turn, this would be likely to have a detrimental impact on the Company's reputation.
The Board has continuous access to the Company's key service providers and has open two-way communication with them. Key aspects of discussion with these service providers, other than those regarding Company performance and strategy, were in respect of fees payable to these providers.
Following these discussions, the Investment Manager's fees were amended post year end as disclosed in note 7.
David Stevenson
Chairman
8 October 2020
Statement of Comprehensive Income
for the year ended 30 June 2020
Note
Year ended
30 June 2020
Year ended
30 June 2019
£'000
£'000
Revenue
Interest income
3f
4,315
4,026
Other income
-
30
------------
------------
Total revenue
4,315
4,056
------------
------------
Operating expenses
Management fees
7a
(483)
(513)
Broker fees
(197)
(79)
Other expenses
11
(164)
(169)
Transaction fees
7a
(147)
(81)
Administration fees
7b
(117)
(117)
Legal and professional fees
(97)
(51)
Directors' remuneration
8
(94)
(108)
------------
------------
Total operating expenses
(1,299)
(1,118)
------------
------------
Investment gains and losses
Movement in unrealised gains and losses on loans due to movement in foreign exchange on non-Sterling loans
14
410
110
Impairment losses on financial assets (or loans)
14
(3,299)
(415)
Movement in unrealised gain on investments at fair value through profit or loss
15
19
1
Movement in unrealised gain/(loss) on derivative financial instruments
17
345
(319)
Realised (loss)/gain on disposal of loans
(536)
16
Realised gain on disposal of investments at fair value through profit or loss
15
-
3
Realised loss on disposal of investments held for sale
-
(51)
Realised loss on derivative financial instruments
17
(852)
(206)
------------
------------
Total investment gains and losses
(3,913)
(861)
------------
------------
Net (loss)/profit from operating activities before (loss)/gain on foreign currency exchange
(897)
2,077
Net foreign exchange (loss)/gain
(16)
159
------------
------------
(Loss)/profit and total comprehensive income for the year attributable to the owners of the Company
(913)
2,236
------------
------------
(Loss)/earnings per Ordinary Share (basic and diluted)
13
(1.73)p
4.25p
------------
------------
There were no other comprehensive income items in the year.
Except for unrealised investment gains and losses, all of the Company's profit and loss items are distributable.
The accompanying notes form an integral part of the financial statements.
Statement of Changes in Equity
for the year ended 30 June 2020
Note
Called up share capital
Special distributable reserve
Profit and loss account
Total
£'000
£'000
£'000
£'000
At 30 June 2018
577
50,942
20
51,539
Impact of transition to IFRS 9
-
-
(23)
(23)
------------
------------
------------
------------
At 1 July 2018 - revised for the application of IFRS 9
577
50,942
(3)
51,516
Profit for the year
22
-
-
2,236
2,236
Transactions with Owners in their capacity as owners:
Dividends paid
5,22
-
(689)
(2,934)
(3,623)
------------
------------
------------
------------
At 30 June 2019
577
50,253
(701)
50,129
Loss for the year
22
-
-
(913)
(913)
Transactions with Owners in their capacity as owners:
Dividends paid
5,22
-
(2,072)
(1,612)
(3,684)
------------
------------
------------
------------
At 30 June 2020
577
48,181
(3,226)
45,532
------------
------------
------------
------------
There were no other comprehensive income items in the year.
The above amounts are all attributable to the owners of the Company.
The accompanying notes form an integral part of the financial statements.
Statement of Financial Position
as at 30 June 2020
Note
30 June 2020
30 June 2019
£'000
£'000
Non-current assets
Loans at amortised cost
14
31,942
36,614
Investments at fair value through profit or loss
15,16
251
232
------------
------------
Total non-current assets
32,193
36,846
------------
------------
Current assets
Loans at amortised cost
14
10,691
10,642
Cash held on client accounts with platforms
14
-
48
Other receivables and prepayments
18
1,625
1,141
Cash and cash equivalents
1,193
1,987
------------
------------
Total current assets
13,509
13,818
------------
------------
Total assets
45,702
50,664
------------
------------
Current liabilities
Other payables and accruals
19
(164)
(184)
Derivative financial instruments
16,17
(6)
(351)
------------
------------
Total liabilities
(170)
(535)
------------
------------
------------
------------
Net assets
45,532
50,129
------------
------------
Capital and reserves attributable to owners of the Company
Called up share capital
21
577
577
Other reserves
22
44,955
49,552
------------
------------
Equity attributable to the owners of the Company
45,532
50,129
------------
------------
Net asset value per Ordinary Share
23
86.37p
95.10p
------------
------------
These financial statements of Secured Income Fund plc (registered number 09682883) were approved by the Board of Directors on 8 October 2020 and were signed on its behalf by:
David Stevenson
Chairman
8 October 2020
Gaynor Coley
Director
8 October 2020
The accompanying notes form an integral part of the financial statements.
Statement of Cash Flows
for the year ended 30 June 2020
Year ended 30 June 2020
Year ended 30 June 2019
£'000
£'000
Cash flows from operating activities
Net (loss)/profit before taxation
(913)
2,236
Adjustments for:
Movement in unrealised gains and losses on loans due to movement in foreign exchange on non-Sterling loans
(410)
(110)
Impairment losses on financial assets (or loans)
3,299
415
Movement in unrealised gain on investments at fair value through profit or loss
(19)
(1)
Movement in unrealised (gain)/loss on derivative financial instruments
(345)
319
Realised loss/(gain) on disposal of loans
536
(16)
Realised gain on disposal of investments at fair value through profit or loss
-
(3)
Realised loss on disposal of investments held for sale
-
51
Realised loss on derivative financial instruments
852
206
Amortisation of transaction fees
147
81
Interest received and reinvested by platforms
(50)
(287)
Capitalised interest
(1,486)
(915)
Decrease/(increase) in investments
1,783
(2,141)
------------
------------
Net cash inflow/(outflow) from operating activities before working capital changes
3,394
(165)
Increase in other receivables and prepayments
(484)
(369)
(Decrease)/increase in other payables and accruals
(20)
19
------------
------------
Net cash inflow/(outflow) from operating activities
2,890
(515)
Cash flows from financing activities
Dividends paid
(3,684)
(3,623)
------------
------------
Net cash outflow from financing activities
(3,684)
(3,623)
------------
------------
Decrease in cash and cash equivalents in the year
(794)
(4,138)
Cash and cash equivalents at the beginning of the year
1,987
6,125
------------
------------
Cash and cash equivalents at the year end
1,193
1,987
------------
------------
Supplemental cash flow information
Non-cash transaction - interest income
1,536
1,202
The accompanying notes form an integral part of the financial statements.
Notes to the Financial Statements
for the year ended 30 June 2020
1. General information
The Company is a public company (limited by shares) and was incorporated and registered in England and Wales under the Companies Act 2006 on 13 July 2015 with registered number 09682883. The Company's shares were admitted to trading on the London Stock Exchange Specialist Fund Segment on 23 September 2015 ("Admission"). The Company is domiciled in England and Wales.
The Company is an investment company as defined in s833 of the Companies Act 2006.
Change of name
On 18 July 2020, the Company changed its name from SQN Secured Income Fund plc to Secured Income Fund plc.
2. Statement of compliance
a) Basis of preparation
These financial statements present the results of the Company for the year ended 30 June 2020. These financial statements have been prepared in accordance with International Financial Reporting Standards ("IFRS"), as adopted by the European Union.
These financial statements have not been prepared in full accordance with the Statement of Recommended Practice ("SORP") for investment trusts issued by the AIC in October 2019, as the main driver of the SORP is to disclose the allocation of expenses between revenue and capital, thereby enabling a user of the financial statements to determine distributable reserves. However, with the exception of investment gains and losses, all of the Company's profit and loss items are of a revenue nature as it does not allocate any expenses to capital. Therefore, the Directors believe that full compliance with the SORP would not be of benefit to users of the financial statements. Further details on the distributable reserves are provided in note 22.
The Company's capital is raised in Sterling, expenses are paid in Sterling, the majority of the Company's financial assets and liabilities are Sterling based, and (until September 2020) the Company hedged substantially all of its foreign currency risk back to Sterling, Therefore, the Board of Directors consider that Sterling most faithfully represents the economic effects of the underlying transactions of the Company, events and conditions. These financial statements are presented in Sterling, which is the Company's functional and presentation currency. All amounts are rounded to the nearest thousand.
Non-Going Concern
On 19 June 2020, the Company held a continuation vote (the "Continuation Vote") that, in line with the Directors' recommendation, did not pass. This vote was required under the Articles as the Company did not have a Net Asset Value of at least £250 million as at 31 December 2019. As this vote did not pass, the Directors (as required under the Articles) convened a further general meeting of the Company on 17 September 2020 at which a special resolution approved the managed wind-down of the Company and the adoption of the new investment policy of the Company, to carry out an orderly realisation of the Company's portfolio of assets and distribution of cash to Shareholders.
This has had no significant impact on the accounting policies, judgements or carrying value of assets and liabilities within the financial statements as the loans are included net of their expected credit loss provision ("ECL") and are expected to be realised in an orderly manner, and the estimated costs of winding up the Company are immaterial.
The Covid-19 outbreak is a risk to the global economy. Details of the macroeconomic impact and the impact on credit risk are provided in the Investment Manager's Report. The Investment Manager and Administrator invoked their business continuity plans to help ensure the safety and well-being of their staff thereby retaining the ability to maintain business operations. These actions helped to ensure business resilience. The situation is changing so rapidly that the full impact cannot yet be understood, but the Company will continue to monitor the situation closely.
b) Basis of measurement
The financial statements have been prepared on a historical cost basis, except for investments at fair value through profit or loss and derivative instruments, which are measured at fair value through profit or loss.
Given the Company's investment policy to carry out an orderly realisation of the Company's portfolio of assets and distribution of cash to Shareholders, the financial statements have been prepared on a non-going concern basis.
c) Segmental reporting
The Directors are of the opinion that the Company is engaged in a single economic segment of business, being investment in a range of SME loan assets.
d) Use of estimates and judgements
The preparation of financial statements in conformity with IFRS requires management to make judgements, estimates and assumptions that affect the application of policies and the reported amounts of assets and liabilities, income and expenses. The estimates and associated assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis of making the judgements about carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates.
The estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognised in the period in which the estimate is revised, if the revision affects only that period, or in the period of the revision and future periods, if the revision affects both current and future periods.
Judgements made by management in the application of IFRS that have a significant effect on the financial statements and estimates with a significant risk of material adjustment in the next year are discussed in note 4.
3. Significant accounting policies
a) Foreign currency
Foreign currency transactions are translated into Sterling using the exchange rates prevailing at the dates of the transactions. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at period-end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the Statement of Comprehensive Income. Translation differences on non-monetary financial assets and liabilities are recognised in the Statement of Comprehensive Income.
b) Financial assets and liabilities
The financial assets and liabilities of the Company are defined as loans, bonds with loan type characteristics, investments at fair value through profit or loss, cash and cash equivalents, other receivables, derivative instruments and other payables.
Classification
IFRS 9 requires the classification of financial assets to be determined on both the business model used for managing the financial assets and the contractual cash flow characteristics of the financial assets. Loans have been classified at amortised cost as:
- they are held within a "hold to collect" business model with the objective to hold the assets to collect contractual cash flows; and
- the contractual terms of the loans give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding.
The Company's unquoted investments have been classified as held at fair value through profit or loss as they are held to realise cash flows from the sale of the investments.
Recognition
The Company recognises a financial asset or a financial liability when, and only when, it becomes a party to the contractual provisions of the instrument. Purchases and sales of financial assets that require delivery of assets within the time frame generally established by regulation or convention in the marketplace are recognised on the trade date, i.e. the date that the Company commits to purchase or sell the asset.
Derecognition
A financial asset (or, where applicable, a part of a financial asset or part of a group of similar assets) is derecognised where:
- The rights to receive cash flows from the asset have expired; or
- The Company has transferred its rights to receive cash flows from the asset or has assumed an obligation to pay the received cash flows in full without material delay to a third party under a "pass-through" arrangement; and
- Either (a) the Company has transferred substantially all the risks and rewards of the asset, or (b) the Company has neither transferred nor retained substantially all the risks and rewards of the asset, but has transferred control of the asset.
When the Company has transferred its rights to receive cash flows from an asset (or has entered into a pass-through arrangement) and has neither transferred nor retained substantially all the risks and rewards of the asset nor transferred control of the asset, the asset is recognised to the extent of the Company's continuing involvement in the asset.
The Company derecognises a financial liability when the obligation under the liability is discharged, cancelled or expires.
Initial measurement
Financial assets and financial liabilities at fair value through profit or loss are recorded in the Statement of Financial Position at fair value. All transaction costs for such instruments are recognised directly in profit or loss.
Financial assets and financial liabilities not designated as at fair value through profit or loss, such as loans, are initially recognised at fair value, being the amount issued less transaction costs.
Subsequent measurement
After initial measurement, the Company measures financial assets and financial liabilities not designated as at fair value through profit or loss, at amortised cost using the effective interest rate method, less impairment allowance. Gains and losses are recognised in the Statement of Comprehensive Income when the asset or liability is derecognised or impaired. Interest earned on these instruments is recorded separately as investment income.
After initial measurement, the Company measures financial instruments which are classified at fair value through profit or loss at fair value. Subsequent changes in the fair value of those financial instruments are recorded in net gain or loss on financial assets and liabilities at fair value through profit or loss.
The carrying value of cash and cash equivalents and other receivables and payables equals fair value due to their short-term nature.
Impairment
A financial asset is credit-impaired when one or more events that have occurred have a significant impact on the expected future cash flows of the financial asset. It includes observable data that has come to the attention of the holder of a financial asset about the following events:
· Significant financial difficulty of the issuer or borrower;
· A breach of contract, such as a default or past-due event;
· The lenders for economic or contractual reasons relating to the borrower's financial difficulty granted the borrower a concession that would not otherwise be considered;
· It becoming probable that the borrower will enter bankruptcy or other financial reorganisation;
· The disappearance of an active market for the financial asset because of financial difficulties; or
· The purchase or origination of a financial asset at a deep discount that reflects incurred credit losses.
Each direct loan is assessed on a continuous basis by the Investment Manager's own underwriting team with peer review occurring on a regular basis.
Each platform loan is monitored via the company originally deployed to conduct underwriting and management of the borrower relationship. When a potential impairment is identified, the Investment Manager requests data and management information from the platform. The Investment Manager will then actively pursue collections, giving guidance to the platforms on acceptable levels of impairment. In some cases, the Investment Manager will proactively take control of the process.
Impairment of financial assets is recognised on a loan-by-loan basis in stages:
Stage 1:
As soon as a financial instrument is originated or purchased, 12-month expected credit losses are recognised in profit or loss and a loss allowance is established. This serves as a proxy for the initial expectations of credit losses. For financial assets, interest revenue is calculated on the gross carrying amount (i.e. without deduction for expected credit losses).
Stage 2:
If the credit risk increases significantly and is not considered low, full lifetime expected credit losses are recognised in profit or loss. The calculation of interest revenue is the same as for Stage 1. This stage is triggered by scrutiny of management accounts and information gathered from regular updates from the borrower by way of email exchange or face-to-face meetings. The Investment Manager extends specific queries to borrowers if they acquire market intelligence or channel-check the data received. A covenant breach may be a temporary circumstance due to a one-off event and will not trigger an immediate escalation in risk profile to stage 2.
At all times, the Investment Manager considers the risk of impairment relative to the cash flows and general trading conditions of the company and the industry in which the borrower resides.
Stage 3:
If the credit risk of a financial asset increases to the point that it is considered credit-impaired, interest revenue is calculated based on the amortised cost (i.e. the gross carrying amount less the loss allowance). Financial assets in this stage will generally be assessed individually. Lifetime expected credit losses are recognised on these financial assets. This stage is triggered by a marked deterioration in the management information received from the borrower and a view taken on the overall credit conditions for the sector in which the company resides. A permanent breach of covenants and a deterioration in the valuation of security would also merit a move to stage 3.
The Investment Manager also takes into account the level of security to support each loan and the ease with which this security can be monetised. This has a meaningful impact of the way in which impairments are assessed, particularly as the Investment Manager has a very strong track record in managing write-downs and reclaim of assets.
For more details in relation to judgements, estimates and uncertainty see note 4.
c) Cash and cash equivalents
Cash and cash equivalents are defined as cash in hand, demand deposits and short-term, highly liquid investments readily convertible to known amounts of cash and subject to insignificant risk of changes in value.
The carrying values of cash and cash equivalents are deemed to be a reasonable approximation of their fair values.
d) Receivables and prepayments
Receivables are carried at the original invoice amount, less impairments, as discussed above.
The carrying values of the accrued interest and other receivables are deemed to be reasonable approximations of their fair values.
e) Transaction costs
Transaction costs incurred on the acquisition of loans are capitalised upon recognition of the financial asset and amortised over the term of the respective loan.
f) Income and expenses
Interest income and bank interest are recognised on a time-proportionate basis using the effective interest rate method.
Dividend income is recognised when the right to receive payment is established.
All expenses are recognised on an accruals basis. All of the Company's expenses (with the exception of share issue costs, which are charged directly to the distributable reserve) are charged through the Statement of Comprehensive Income in the period in which they are incurred.
g) Taxation
The Company is exempt from UK corporation tax on its chargeable gains as it satisfies the conditions for approval as an investment trust. The Company is, however, liable to UK corporation tax on its income. However, the Company has elected to take advantage of modified UK tax treatment in respect of its "qualifying interest income" in order to deduct all, or part, of the amount it distributes to Shareholders as dividends as an "interest distribution".
h) Changes in accounting policy and disclosures
New and amended standards and interpretations
The Company adopted the following new and amended relevant IFRS in the year:
IFRIC 23
Uncertainty over income tax treatment
The adoption of this accounting standard did not have any effect on the Company's Statement of Comprehensive Income, Statement of Financial Position or equity.
i) Accounting standards issued but not yet effective
The International Accounting Standards Board ("IASB") has issued/revised a number of relevant standards with an effective date after the date of these financial statements. Any standards that are not deemed relevant to the operations of the Company have been excluded. The Directors have chosen not to early adopt these standards and interpretations and they do not anticipate that they would have a material impact on the Company's financial statements in the period of initial application.
Effective date
IFRS 7
Financial Instruments: Disclosures - amendments regarding pre-replacement issues in the context of the IBOR reform
1 January 2020
IFRS 9
Financial Instruments - amendments regarding pre-replacement issues in the context of the IBOR reform
1 January 2020
IAS 1
Presentation of Financial Statements - amendments regarding the definition of materiality
1 January 2020
IAS 1
Presentation of Financial Statements - amendments regarding the classification of liabilities
1 January 2023
IAS 8
Accounting Policies, Changes in Accounting Estimates and Errors - amendments regarding the definition of materiality
1 January 2020
4. Use of judgements and estimates
The preparation of the Company's financial statements requires the Directors to make judgements, estimates and assumptions that affect the reported amounts recognised in the financial statements. However, uncertainty about these assumptions and estimates could result in outcomes that could require a material adjustment to the carrying amount of the asset or liability in future periods.
Judgements
In the process of applying the Company's accounting policies, management made the following judgement, which has had a significant effect on the amounts recognised in the financial statements:
Covid-19
The Covid-19 outbreak is impacting virtually all businesses and the Board expects that it will continue to impact economies over the coming months. The Board and Investment Manager is monitoring any impact this may have on the Company, its investments and income. The situation continues to change rapidly so the full impact cannot yet be understood, a result of which is that future cashflows and valuations are more uncertain at the current time, and may be more volatile than in recent years. Indeed, the level of estimation uncertainty and judgement for the calculation of expected credit losses has increased as a result of the economic effects of the Covid-19 outbreak. However, the impact of defaults that might occur in future under different economic scenarios has been reflected in various models to enable the Board to evaluate the Company's viability, and the Directors believe that the Company is well placed to survive the impact of the Covid-19 outbreak, thereby enabling the Company to realise its assets in an orderly manner.
Estimates and assumptions
The Company based its assumptions and estimates on parameters available when the financial statements were approved. However, existing circumstances and assumptions about future developments may change due to market changes or circumstances arising beyond the control of the Company. Such changes are reflected in the assumptions when they occur.
The current economic uncertainty (and the frequent changes in outlook for different economic sectors) has created increased volatility and uncertainty (as mentioned above and in the Investment Manager's Report). In such circumstances the level of estimation uncertainty and judgement of expected credit losses has increased. As noted in the Investment Manager's Report, there are uncertainties about the need for future provisions that may need to be made against individual loans and receivables. Notwithstanding the best endeavours of management to obtain full repayment there is a material uncertainty in relation to the level of provisioning made in these financial statements. Due to this material uncertainty the Directors are unable to update the expected credit loss assessment (as set out in note 3b) to reflect the likely impact on the Company's loan portfolio.
i) Recoverability of loans and other receivables
In accordance with IFRS 9, the impairment of loans and other receivables has been assessed as described in note 3b. When assessing the credit loss on a loan, and the stage of impairment of that loan, the Company considers whether there is an indicator of credit risk for a loan when the borrower has failed to make a payment, either capital or interest, when contractually due and upon assessment. The Company assesses at each reporting date (and at least on a monthly basis) whether there is objective evidence that a loan classified as a loan at amortised cost is credit-impaired and whether a loan's credit risk or the expected loss rate has changed significantly. As part of this process:
· Platforms are contacted to determine default and delinquency levels of individual loans; and
· Recovery rates are estimated.
The analysis of credit risk is based on a number of factors and a degree of uncertainty is inherent in the estimation process. As mentioned above, due to the Covid-19 pandemic future cashflows and valuations are more uncertain at the current time, and may be more volatile than in recent years. Indeed, the level of estimation uncertainty and judgement for the calculation of expected credit losses has increased as a result of the economic effects of the Covid-19 outbreak.
The determination of whether a specific factor is relevant and its weight compared with other factors depends on the type of product, the characteristics of the financial instrument and the borrower, and the geographical region. It is not possible to provide a single set of criteria that will determine what is considered to be a significant increase in credit risk. Events that the Company will assess when deciding if a financial asset is credit impaired include:
· significant financial difficulty of the borrower;
· a breach of contract, such as a default or past-due event; and
· it becoming probable that the borrower will enter bankruptcy or other financial reorganisation.
Although it may not always be the case (e.g. if discussions with a borrower are ongoing), generally a loan is deemed to be in default if the borrower has missed a payment of principal or interest by more than 90 days, unless the Company has good reason not to apply this rule. If the Company has evidence to the contrary, it may make an exception to the 90 day rule to deem that a borrower is, or is not, in default. Therefore, the definitions of credit impaired and default are aligned as far as possible so that stage 3 represents all loans that are considered defaulted or otherwise credit impaired.
At present no direct loans to SMEs fall within Stage 2 or Stage 3. However, if a situation were to arise where a direct loan to an SME were reclassified as Stage 2 or Stage 3, the probability of default and lifetime expected credit loss would be assessed on a case by case basis and would be pertinent to the probability of recovery.
IFRS 9 confirms that a Probability of Default ("PD") must never be zero as everything is deemed to have a risk of default; this has been incorporated by the Company. All PDs are assessed against historic data as well as the prevailing economic conditions at the reporting date, adjusted to account for estimates of future economic conditions that are likely to impact the risk of default. 12-month PD is applied across the collective as a cumulative in Stage 1, currently set at 2% in line with the Investment Manager's historic performance data, market knowledge, and credit enhancements (this is equivalent to there being 1 default for an average portfolio of 50 unique borrowers. Once an investment moves to Stage 2 then PD will be calculated on an individual basis (and adjusted for Stage 3 if appropriate). All assessment is based on reasonable and supportive information available at the time.
12 month ECL is applied across the collective as a cumulative in Stage 1, split according to the investment's classification. For direct loan investments this is calculated as 2% of the individual investment's Contracted Cash Flows ("CCF"), and 2% of the investment's CCF for platform investments. These Stage 1 12 month ECL amounts are taken to be the investments' floor amounts - the Lifetime ECL for any investment can never be less than its floor amount. Once an investment moves to Stage 2, Lifetime ECL is calculated on an individual basis. Lifetime ECL is reviewed at each reporting date based on reasonable and supportive information available at the time.
The following borrower information should be read in conjunction with the current economic environment and, in particular, the impact of Covid-19.
US Peer to Peer business (Borrower 18) impairment
The Company's largest peer to peer investment is a junior position and represents a risk of write-down. In March 2019, the Former Investment Manager met with the owner/founder and agreed an incentive plan to expedite collections of the underlying portfolio and agreed a three month period to show improvement. They informed the Company that they had written down a large proportion of this portfolio in their accounts due to a sales process underway at the time. They were advised that if no improvement was forthcoming, the Former Investment Manager would take over collections and it was explained that the Former Investment Manager had a good track record, together with its partners, in achieving better recoveries.
In June 2019, having observed slow progress, the Former Investment Manager began a series of meetings to agree interaction mooted in the previous quarter. Two executives from the Former Investment Manager visited Borrower 18 in New York in July 2019 and August 2019, to agree a process for the way forward and to have an update on the sale of the business. At the time, they were in the middle of a two stage due diligence, which caused delays to the provision of information. With effect from 30 June 2020, the Company has impaired this platform exposure by 100% with a 100% expectation of write-down for this part of the portfolio. This is a pre-emptive move and takes into account a best estimate of loans that are now being managed out by attorneys. The decision to use a 100% impairment rate is based upon the Investment Manager's past experience of platform performance.
Whilst a 100% impairment is based on past experience, the amount finally received may be higher than this. A 10% decrease in the impairment on this loan would result in a £232,000 increase in the net asset value of the Company.
UK Venture Debt (Borrower 12) impairment
In September 2019, this platform made the Company aware that a loan was to be sold at a discount to the price originally expected, due to a series of potential acquirers falling away. This resulted in an impairment provision in the year. After the turbulence of two of the three principals leaving the company and triggering a clause in the Loan Note agreement that allowed us to take closer control of the process of managing the portfolio, the business has stabilised and made very good progress in winding down the portfolio. The Company received £1.6 million shortly after year end, leaving a balance of £5.8 million outstanding.
The largest position in the portfolio, a broadband company, has been restructured and was impaired by 59% at the year end, which has been informed by the guidance provided by the platform. However, the reorganisation of the business has progressed well and a new CEO employed. Its order book has increased and it has been able to operate throughout the current pandemic crisis. The Investment Manager, therefore, expects some improvement in recovery.
Small Company Bond Platform (Borrower 15) impairment
Two loans outstanding from this platform were repaid during the reporting period and a further loan was sold to a third party. The only outstanding debt from this platform had undergone a protracted recovery process through the courts. In Q1 2020, the Investment Manager took the decision to fully impair the loan due to slow progress and the increased risk that fees and expenses would erode any repayment to the Company.
Further details of the judgements applied in assessing the recoverability of loans can be found in the Investment Manager's Report.
Collateral
While the presence of collateral is not a key element in the assessment of whether there has been a significant increase in credit risk, it is of great importance in the measurement of ECL. IFRS 9 states that estimates of cash shortfalls reflect the cash flows expected from collateral and other credit enhancements that are integral to the contractual terms. Due to the business nature of the Investment Manager, this is a key component of its ECL measurement and interpretation of IFRS 9, as any investment would include elements of (if not all): a fully collateralised position, fixed and floating charges, a corporate guarantee, a personal guarantee, coverage ratios between 130% to 150%, and an average LTV of 85%.
Loans written off
Financial assets (and the related impairment allowances) are normally written off, either partially or in full, when there is no realistic prospect of recovery. Where loans are secured, this is generally after receipt of any proceeds from the realisation of security. In circumstances where the net realisable value of any collateral has been determined and there is no reasonable expectation of further recovery, write-off may be earlier. Platform loans of £268,000 were written off in the year (2019: £126,000).
Renegotiated loans
A loan is classed as renegotiated when the contractual payment terms of the loan are modified because the Company has significant concerns about a borrower's ability to meet payments when due. On renegotiation, the loan will also be classified as credit impaired, if it is not already. Renegotiated loans will continue to be considered to be credit impaired until there is sufficient evidence to demonstrate a significant reduction in the risk of non-payment of future payments.
All data calculated for IFRS 9 purposes is consistent with the overall methodology employed by KKV across all of its UK public funds. In addition to the methodology used, the Company has taken impairment data from Platforms for the assessment of loans with third party exposure. Again, this is consistent with the approach KKV would expect to take in these circumstances.
There were no new assets originated during the year that were credit-impaired at the point of initial recognition. There were no financial assets that have been modified since initial recognition at a time when the loss allowance was measured at an amount equal to lifetime expected credit losses and for which the loss allowance changed during the year to an amount equal to 12-month expected credit losses.
There were no financial assets for which cash flows were modified in the year while they had a loss allowance measured at an amount equal to the lifetime expected credit loss.
In April 2020, as a result of the impact of Covid-19 a Stage 1 direct loan (gross value of £428,000 at the year end) was renegotiated to allow the payment of interest only for three months, which was subsequently extended to six months. No write-down has been applied to this loan as the Investment Manager has determined, after extensive discussion with the borrower and as the interest continues to be paid in full, that there was not a significant increase in credit risk and thus not necessary to reclassify the loan to Stage 2.
Please see note 3b, note 14 and note 24 for further information on the loans at amortised cost and credit risk.
5. Dividends
The Company distributes at least 85% of its distributable income earned in each financial year by way of dividends. Following discussions with the Investment Manager regarding the anticipated returns from the Company's portfolio (both in the shorter and longer terms), the Company rebased its annual dividend target to 7.00p per Ordinary Share with effect from July 2018, and a dividend of 0.583p per Ordinary Share has been paid every month since then. The monthly dividend at the new rate of 0.583p per Ordinary Share was first paid in September 2018.
The Company elected to designate all of the dividends for the year ended 30 June 2020 as interest distributions to its Shareholders. In doing so, the Company took advantage of UK tax treatment by "streaming" income from interest-bearing investments into dividends that will be taxed in the hands of Shareholders as interest income.
To date, the Company has declared the following dividends in respect of earnings for the year ended 30 June 2020:
Announcement date
Pay date
Total dividend declared in respect of earnings in the year
Amount per
Ordinary Share
£'000
29 August 2019
27 September 2019
307
0.583p
25 September 2019
25 October 2019
307
0.583p
31 October 2019
29 November 2019
307
0.583p
27 November 2019
27 December 2019
307
0.583p
18 December 2019
24 January 2020
307
0.583p
30 January 2020
28 February 2020
307
0.583p
27 February 2020
27 March 2020
307
0.583p
25 March 2020
24 April 2020
307
0.583p
30 April 2020
29 May 2020
307
0.583p
28 May 2020
26 June 2020
307
0.583p
25 June 2020
24 July 2020
307
0.583p
30 July 2020
28 August 2020
307
0.583p
------------
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Dividends declared (to date) for the year
3,684
7.00p
Less, dividends paid after the year end
(614)
(1.17)p
Add, dividends paid in the year in respect of the prior year
614
1.17p
------------
------------
Dividends paid in the year
3,684
7.00p
------------
------------
In accordance with IFRS, dividends are only provided for when they become a contractual liability of the Company. Therefore, during the year a total of £3,684,000 (2019: £3,623,000) was incurred in respect of dividends, none of which was outstanding at the reporting date (2019: none). The dividends of £307,010 each, which were declared on 25 June 2020 and 30 July 2020, had not been provided for at 30 June 2020 as, in accordance with IFRS, they were not deemed to be liabilities of the Company at that date.
All dividends in the year were paid out of revenue (and not capital) profits.
On 26 August 2020, the Company declared a dividend of 3.50p per Share for the period from 1 July 2020 to 31 July 2020. This dividend was paid on 25 September 2020.
Mechanics for returning cash to Shareholders
The Board has carefully considered the potential mechanics for returning cash to Shareholders and the Company's ability to do so. The Board believes it is in the best interests of Shareholders as a whole to make distributions to Shareholders without a significant delay following realisations of a material part of the Portfolio (whether in a single transaction or through multiple, smaller transactions concluded on similar timing). In the Board's view, making distributions by way of a declaration of dividends has the benefit of being faster, providing a more regular return (as opposed to simply waiting to return all available amounts on a liquidation) and being more cost effective to administer than other mechanisms, such as a tender offer or B share scheme, although the Board notes that returning investment principal by way of a declaration of dividends may not be the most tax efficient method of returning monies to investors who are UK tax resident individuals. However, the Board may consider making tender offers for Shares in the future although Shareholders should have no expectation that this will be the case.
The Board intends to make quarterly dividend payments for the time being (instead of the current monthly dividends) but will keep this under review. It may become more appropriate in future as the size of the Company declines to instead make payments by way of ad-hoc special dividends, when appropriate, during the course of the managed wind-down process so that the Company is able to return available cash to Shareholders as soon as reasonably practicable after cash becomes available in the Portfolio. The Company will also look to structure its dividend payments to maintain investment trust status for so long as it remains listed.
6. Related parties
As a matter of best practice and good corporate governance, the Company has adopted a related party policy which applies to any transaction which it may enter into with any Director, the Investment Manager, or any of their affiliates which would constitute a "related party transaction" as defined in, and to which would apply, Chapter 11 of the Listing Rules. In accordance with its related party policy, the Company obtained: (i) the approval of a majority of the Directors; and (ii) a third-party valuation in respect of these transactions from an appropriately qualified independent adviser.
Loan to Medical Equipment Solutions Limited ("MESL")
In June 2017, the Company loaned £1,380,000 to MESL, whose Chairman was Neil Roberts, who was chairman of SQN Capital Management, LLC at that time. The loan bore interest at 10.0% per annum and was for a period of five years from the date of drawdown. The loan was to be repaid via 60 monthly payments. The loan was repaid early in March 2020.
Loan interest of £57,000 was earned in the year (2019: £104,000), none of which was outstanding at 30 June 2020 (2019: £2,000).
At 30 June 2020, the balance of the loan was £nil (2019: £909,000).
The Directors and the Investment Manager are also considered to be related parties. See notes 7 and 8 for further details.
7. Key contracts
a) Investment Manager
On 5 June 2020, the Company novated the contract to manage the portfolio to KKV Investment Management Limited, following the management team into their new entity from the Former Investment Manager (SQN UK).
The Investment Manager has responsibility for managing the Company's portfolio. For their services, the Investment Manager was entitled to a management fee (on the same terms as the Former Investment Manager) at a rate equivalent to the following schedule (expressed as a percentage of NAV per annum, before deduction of accruals for unpaid management fees for the current month):
· 1.0% per annum for NAV lower than or equal to £250 million;
· 0.9% per annum for NAV greater than £250 million and lower than or equal to £500 million; and
· 0.8% per annum for NAV greater than £500 million.
The management fee is payable monthly in arrears on the last calendar day of each month. No performance fee is payable by the Company to the Investment Manager.
During the year, a total of £483,000 (SQN UK, £452,000 and KKV, £31,000) (2019: £513,000 all SQN UK) was incurred in respect of management fees, of which £37,000 was payable at the reporting date (SQN UK, £6,000 and KKV, £31,000) (2019: £42,000 to SQN UK).
From 17 September 2020, the 1.0% per annum base management fee was reduced as follows:
· for 12 months from 17 September 2020 to 16 September 2021, to 0.75% per annum of the Company's NAV; and
· from 17 September 2021, to 0.55% of the Company's NAV.
Performance fee
From 17 September 2020, the Investment Manager is entitled to a performance fee. The performance fee will be calculated using the most recent NAV prior to the Company failing the June 2020 Continuation Vote (being the NAV as at 31 May 2020) as the benchmark NAV (the "Benchmark NAV"). If 99% of the Benchmark NAV is returned to Shareholders by way of dividend, share buy backs or other methods of return of capital within 12 months from 17 September 2020 then a performance fee of 0.6% of the value returned to Shareholders would be payable to KKV. This will be reduced by 0.1% for every 1% less than 99% of Benchmark NAV that is returned to Shareholders.
Should the time taken to realise the Portfolio exceed 12 months from 17 September 2020, then for the period from 17 September 2021 to 17 September 2022, the incentive fee would reduce by 33% (so that, for example if 99% of Benchmark NAV is returned by month 17, the performance fee would be two-thirds of 0.6%).
The introduction of an outperformance fee, under the terms of the amended Investment Management Agreement, states that KKV will be entitled to 10% of all funds returned to Shareholders in excess of the Benchmark NAV within 12 months from 17 September 2020, reducing to 5% within 12-24 months.
Effective from 17 September 2021, the notice period applicable to termination of the Investment Management Agreement by either party was reduced from 12 months to 4 months.
Transaction costs
Prior to the change in the investment policy, the Company incurred transaction costs for the purposes of structuring investments for the Company. These costs formed part of the overall transaction costs that were capitalised at the point of recognition and were taken into account by the Former Investment Manager when pricing a transaction. When structuring services were provided by the Former Investment Manager or an affiliate of them, they were entitled to charge an additional fee to the Company equal to up to 1.0% of the cost of acquiring the investment (ignoring gearing and transaction expenses). This cost was not charged in respect of assets acquired from the Former Investment Manager, the funds they managed or where they or their affiliates did not provide such structuring advice.
The Former Investment Manager agreed to bear all the broken and abortive transaction costs and expenses incurred on behalf of the Company. Accordingly, the Company agreed that the Former Investment Manager may retain any commitment commissions received by the Former Investment Manager in respect of investments made by the Company, save that if such commission on any transaction were to exceed 1.0% of the transaction value, the excess would be paid to the Company.
During the year, transaction costs of £147,000 (2019: £81,000) were amortised.
b) Administration fees
Elysium Fund Management Limited ("Elysium") is entitled to an administration fee of £100,000 per annum in respect of the services provided in relation to the administration of the Company, together with time based fees in relation to work on investment transactions. During the year, a total of £117,000 (2019: £117,000) was incurred in respect of administration fees, of which £28,000 (2019: £30,000) was payable at the reporting date.
8. Directors' remuneration
During the year, a total of £93,513 (2019: £108,044) was incurred in respect of Directors' remuneration, none of which was payable at the reporting date (2019: none). No bonus or pension contributions were paid or payable on behalf of the Directors. Further details can be found in the Directors' Remuneration Report in the Annual Report and Financial Statements.
9. Key management and employees
The Company had no employees during the year (2019: none). Therefore, there were no key management (except for the Directors) or employees during the year.
The following dividends were paid to the Directors during the year by virtue of their holdings of Ordinary Shares (these dividends were not additional remuneration):
David Stevenson
£1,417 (2019: £1,394)
Gaynor Coley
£143 (2019: £12)
Ken Hillen (resigned 26 May 2020)
£291 (2019: £344)
Richard Hills (resigned 18 December 2018)
£0 (2019: £428)
10. Auditor's remuneration
For the year ended 30 June 2020, total fees, plus VAT, charged by RSM UK Audit LLP, together with amounts accrued at 30 June 2020, amounted to £40,000 (2019: £42,000), all of which related to audit services (2019: £42,000). As at 30 June 2020, £40,000 (2019: £40,000) was due to RSM UK Audit LLP.
11. Other expenses
Year ended 30 June 2020
Year ended 30 June 2019
£'000
£'000
Audit fees (note 10)
40
42
Registrar fees
36
37
Other expenses
33
34
Directors' national insurance
26
28
Listing fees
18
17
Accountancy and taxation fees
11
11
------------
------------
164
169
------------
------------
12. Taxation
The Company has received confirmation from HMRC that it satisfied the conditions for approval as an investment trust, subject to the Company continuing to meet the eligibility conditions in s.1158 of the Corporation Tax Act 2010 and the ongoing requirements for approved investment trust companies in Chapter 3 of Part 2 of the Investment Trust (approved Company) Tax Regulations 2011 (Statutory Instrument 2011.2999). The Company intends to retain this approval and self-assesses compliance with the relevant conditions and requirements.
As an investment trust the Company is exempt from UK corporation tax on its chargeable gains. The Company is, however, liable to UK corporation tax on its income. However, the Company has elected to take advantage of modified UK tax treatment in respect of its "qualifying interest income" in order to deduct all, or part, of the amount it distributes to Shareholders as dividends as an "interest distribution".
Year ended
30 June 2020
Year ended
30 June 2019
£'000
£'000
Reconciliation of tax charge:
(Loss)/profit before taxation
(913)
2,236
------------
------------
Tax at the standard UK corporation tax rate of 19% (2019: 19%)
(173)
425
Effects of:
- Non-taxable investment gains and losses
743
164
- Interest distributions
(570)
(589)
------------
------------
Total tax expense
-
-
------------
------------
Domestic corporation tax rates in the jurisdictions in which the Company operated were as follows:
Year ended
30 June 2020
Year ended
30 June 2019
United Kingdom
19%
19%
Guernsey
nil
nil
Due to the Company's status as an investment trust and the intention to continue to meet the required conditions, the Company has not provided for deferred tax on any capital gains and losses.
13. (Loss)/earnings per Ordinary Share
The (loss)/earnings per Ordinary Share of (1.73)p (2019: 4.25p) is based on a (loss)/profit attributable to the owners of the Company of £(913,000) (2019: £2,236,000) and on a weighted average number of 52,660,350 (2019: 52,660,350) Ordinary Shares in issue since Admission. There is no difference between the basic and diluted earnings per share.
14. Loans at amortised cost
Year ended 30 June 2020
Year ended 30 June 2019
£'000
£'000
Loans
45,944
47,726
Unrealised loss*
(3,311)
(422)
------------
------------
Balance at year end
42,633
47,304
------------
------------
Loans:
Non-current
31,942
36,614
Current
10,691
10,642
Cash held on client accounts with platforms
-
48
------------
------------
Loans at amortised cost and cash held on client accounts with platforms
42,633
47,304
------------
------------
*Unrealised loss
Foreign exchange on non-Sterling loans
1,125
715
Impairments of financial assets
(4,436)
(1,137)
------------
------------
Unrealised loss
(3,311)
(422)
------------
------------
The movement in unrealised gains/losses on loans comprises:
Year ended 30 June 2020
Year ended 30 June 2019
£'000
£'000
Movement in foreign exchange on non-Sterling loans
410
110
Movement in impairments
(3,299)
(415)
------------
------------
Movement in unrealised gains and losses on loans
(2,889)
(305)
Impact of transition to IFRS 9
-
(23)
------------
------------
Total movement in unrealised gains and losses on loans
(2,889)
(328)
------------
------------
The weighted average interest rate of the loans as at 30 June 2020 was 10.44% (2019: 10.31%).
The table below details expected credit loss provision ("ECL") of financial assets in each stage at 30 June 2020:
30 June 2020
30 June 2019
Stage 1
Stage 2
Stage 3
Total
Stage 1
Stage 2
Stage 3
Total
£'000
£'000
£'000
£'000
£'000
£'000
£'000
£'000
Direct loans [1]
34,419
-
-
34,419
33,032
-
-
33,032
ECL on direct loans
(17)
-
-
(17)
(16)
-
-
(16)
------------
------------
------------
------------
------------
------------
------------
------------
Direct loans net of the ECL
34,402
-
-
34,402
33,016
-
-
33,016
------------
------------
------------
------------
------------
------------
------------
------------
Platform loans [1]
7,214
-
5,346
12,560
11,585
3,117
426
15,127
ECL on platform loans
(7)
-
(4,412)
(4,419)
(12)
(735)
(374)
(1,121)
------------
------------
------------
------------
------------
------------
------------
------------
Platform loans net of the ECL
7,207
-
934
8,141
11,573
2,382
52
14,007
------------
------------
------------
------------
------------
------------
------------
------------
Accrued interest
1,585
-
-
1,585
799
288
3
1,090
------------
------------
------------
------------
------------
------------
------------
------------
Total loans [1]
41,633
-
5,346
46,979
44,617
3,117
426
48,160
Total ECL
(24)
-
(4,412)
(4,436)
(28)
(735)
(374)
(1,137)
------------
------------
------------
------------
------------
------------
------------
------------
Total net of the ECL
41,609
-
934
42,543
44,589
2,382
52
47,023
------------
------------
------------
------------
------------
------------
------------
------------
[1]
These are the principal amounts outstanding at 30 June 2020 and do not include the capitalised transaction fees, which are not subject to credit risk. At 30 June 2020, the amortised cost of the capitalised transaction fees totalled £90,000 (2019: £233,000).
The table below details the movements in the year ended 30 June 2020 of the principal amounts outstanding and the ECL on those loans:
Non-credit impaired
Credit impaired
Stage 1
Stage 2
Stage 3
Total
Principal outstanding[1]
Allowance
for ECL
Principal outstanding[1]
Allowance
for ECL
Principal outstanding[1]
Allowance
for ECL
Principal outstanding[1]
Allowance
for ECL
£'000
£'000
£'000
£'000
£'000
£'000
£'000
£'000
At 1 July 2019
44,617
(28)
3,117
(735)
426
(374)
48,160
(1,137)
Transfers from:
- stage 1 to stage 3
(2,066)
2
-
-
2,066
(2)
-
-
- stage 2 to stage 3
-
-
(3,117)
735
3,117
(735)
-
-
Net re-measurement of ECL arising from transfer of stage
-
-
-
-
-
(3,584)
-
(3,584)
Net new and further lending/repayments, and foreign exchange movements
(918)
2
-
-
5
15
(913)
17
Loans written-off in the year
-
-
-
-
(268)
268
(268)
268
------------
------------
------------
------------
------------
------------
------------
------------
At 30 June 2020
41,633
(24)
-
-
5,346
(4,412)
46,979
(4,436)
------------
------------
------------
------------
------------
------------
------------
------------
[1]
These are the principal amounts outstanding at 30 June 2020 and do not include the capitalised transaction fees, which are not subject to credit risk. At 30 June 2020, the amortised cost of the capitalised transaction fees totalled £90,000.
The table below details the movements in the year ended 30 June 2019 of the principal amounts outstanding and the ECL on those loans:
Non-credit impaired
Credit impaired
Stage 1
Stage 2
Stage 3
Total
Principal outstanding[1]
Allowance
for ECL
Principal outstanding[1]
Allowance
for ECL
Principal outstanding[1]
Allowance
for ECL
Principal outstanding[1]
Allowance
for ECL
£'000
£'000
£'000
£'000
£'000
£'000
£'000
£'000
At 1 July 2018
28,735
(19)
15,679
(310)
535
(393)
44,949
(722)
Transfers from:
- stage 1 to stage 2
(2,176)
2
2,176
(2)
-
-
-
-
- stage 2 to stage 1
14,801
(52)
(14,801)
52
-
-
-
-
Net re-measurement of ECL arising from transfer of stage
-
41
-
(564)
-
-
-
(523)
Net new and further lending/repayments, and foreign exchange movements
3,257
-
68
89
12
(9)
3,337
80
Loans written-off in the year
-
-
(5)
-
(121)
28
(126)
28
------------
------------
------------
------------
------------
------------
------------
------------
At 30 June 2019
44,617
(28)
3,117
(735)
426
(374)
48,160
(1,137)
------------
------------
------------
------------
------------
------------
------------
------------
[1]
These are the principal amounts outstanding at 30 June 2019 and do not include the capitalised transaction fees, which are not subject to credit risk. At 30 June 2019, the amortised cost of the capitalised transaction fees totalled £233,000.
An increase of 1% of total gross exposure into stage 2 (from stage 1) would result in an increase in ECL impairment allowance of £11,000 (2019: £12,000) based on applying the difference in average impairment coverage ratios to the movement in gross exposure.
At 30 June 2020, the Board considered £4,436,000 (2019: £1,137,000) of loans to be impaired:
30 June 2020
30 June 2019
£'000
£'000
Borrowers 14 and 18
2,318
566
Borrower 12
1,060
8
Borrower 15
416
17
Borrower 17
345
62
Borrower 16
280
466
Direct SME loans
17
15
Other
-
3
------------
------------
Total impairment
4,436
1,137
------------
------------
During the year, £268,000 (2019: £126,000) of loans were written off and included within realised (loss)/gain on disposal of loans in the Statement of Comprehensive Income.
See note 3b and note 4i regarding the process of assessment of loan impairment.
The carrying values of the loans at amortised cost (excluding capitalised transaction costs) are deemed to be a reasonable approximation of their fair values.
15. Investments at fair value through profit or loss
Year ended 30 June 2020
Year ended 30 June 2019
£'000
£'000
Balance brought forward
232
280
Disposals in the year
-
(52)
Realised gain on disposal of investments at fair value through profit or loss
-
3
Movement in unrealised gain on investments at fair value through profit or loss
19
1
------------
------------
Balance at year end
251
232
------------
------------
Cost at year end
159
159
------------
------------
The £251,000 (2019: £232,000) investment at fair value through profit or loss relates to an investment in a Luxembourg fund. For further information on the investments at fair value through profit or loss, see note 16.
16. Fair value of financial instruments at fair value through profit or loss
The following table shows financial instruments recognised at fair value, analysed between those whose fair value is based on:
- Quoted prices in active markets for identical assets or liabilities (Level 1);
- Those involving inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly (as prices) or indirectly (derived from prices) (Level 2); and
- Those with inputs for the asset or liability that are not based on observable market data (unobservable inputs) (Level 3).
Financial assets and liabilities designated as at fair value through profit or loss
At 30 June 2020, the financial instruments designated at fair value through profit or loss were as follows:
30 June 2020
30 June 2019
Level 1
Level 2
Level 3
Total
Level 1
Level 2
Level 3
Total
Financial assets/(liabilities)
£'000
£'000
£'000
£'000
£'000
£'000
£'000
£'000
Unlisted equity shares
-
-
251
251
-
-
232
232
Derivative financial instruments (note 17)
-
(6)
-
(6)
-
(351)
-
(351)
----------
----------
----------
----------
----------
----------
----------
----------
Total financial assets/(liabilities) designated as at fair value through profit or loss
-
(6)
251
245
-
(351)
232
(119)
----------
----------
----------
----------
----------
----------
----------
----------
Level 2 financial instruments include foreign currency forward contracts. They are valued using observable inputs (in this case foreign currency spot rates).
Level 3 financial instruments include unlisted equity shares. Net asset value is considered to be an appropriate approximation of fair value as, if the Company were to dispose of these holdings, it would expect to do so at, or around, net asset value.
Transfers between levels
There were no transfers between levels in the year (2019: none).
Financial assets and liabilities not designated as at fair value through profit or loss
The carrying values of the loans at amortised cost (excluding capitalised transaction costs) are deemed to be a reasonable approximation of their fair values. The carrying values of all other assets and liabilities not designated as at fair value through profit or loss are deemed to be a reasonable approximation of their fair values due to their short duration.
17. Derivative financial instruments
During the year, the Company entered into foreign currency forward contracts to hedge against foreign exchange fluctuations. The Company realised a loss of £852,000 (2019: loss of £206,000) on forward foreign exchange contracts that settled during the year.
As at 30 June 2020, the open forward foreign exchange contracts were valued at £(6,000) (2019: £(351,000)).
18. Other receivables and prepayments
30 June 2020
30 June 2019
£'000
£'000
Accrued interest
1,585
1,090
Prepayments
27
27
Other receivables
13
24
------------
------------
1,625
1,141
------------
------------
The carrying values of the accrued interest and other receivables are deemed to be reasonable approximations of their fair values.
19. Other payables and accruals
30 June 2020
30 June 2019
£'000
£'000
Audit fee
40
40
Management fee
37
42
Legal fees
36
25
Administration fee
28
30
Other payables and accruals
21
24
Directors' national insurance
2
23
------------
------------
164
184
------------
------------
The carrying values of the other payables and accruals are deemed to be reasonable approximations of their fair values.
20. Reconciliation of liabilities arising from financing activities
IAS 7 requires the Company to detail the changes in liabilities arising from financing activities, including both cash and non-cash changes. Liabilities arising from financing activities are those for which cash flows were, or future cash flows will be, classified in the Company's statement of cash flows as cash flows from financing activities.
As at 30 June 2020, the Company had no liabilities that would give rise to cash flows from financing activities (2019: none).
21. Share capital
30 June 2020
30 June 2019
£'000
£'000
Authorised share capital:
Unlimited number of Ordinary Shares of 1 pence each
-
-
Unlimited C Shares of 10 pence each
-
-
Unlimited Deferred Shares of 1 pence each
-
-
50,000 Management Shares of £1 each
50
50
------------
------------
30 June 2020
30 June 2019
£'000
£'000
Called up share capital:
52,660,350 Ordinary Shares of 1 pence each
527
527
50,000 Management Shares of £1 each
50
50
------------
------------
577
577
------------
------------
The Management Shares are entitled (in priority to any payment of dividend of any other class of share) to a fixed cumulative preferential dividend of 0.01% per annum on the nominal amount of the Management Shares.
The Management Shares do not carry any right to receive notice of, nor to attend or vote at, any general meeting of the Company unless no other shares are in issue at that time. The Management Shares do not confer the right to participate in any surplus of assets of the Company on winding-up, other than the repayment of the nominal amount of capital.
22. Other reserves
Special distributable reserve [1]
Profit and loss account [2]
Distributable
Non-distributable
Total
£'000
£'000
£'000
£'000
At 30 June 2018
50,942
75
(55)
50,962
Impact of transition to IFRS 9 (see note 3h)
-
-
(23)
(23)
------------
------------
------------
------------
At 30 June 2018 - revised for the application of IFRS 9
50,942
75
(78)
50,939
Realised revenue profit
-
3,097
-
3,097
Realised investment gains and losses
-
(238)
-
(238)
Unrealised investment gains and losses
-
-
(623)
(623)
Dividends paid
(689)
(2,934)
-
(3,623)
------------
------------
------------
------------
At 30 June 2019
50,253
-
(701)
49,552
Realised revenue profit
-
3,000
-
3,000
Realised investment gains and losses
-
(1,388)
-
(1,388)
Unrealised investment gains and losses
-
-
(2,525)
(2,525)
Dividends paid
(2,072)
(1,612)
-
(3,684)
------------
------------
------------
------------
At 30 June 2020
48,181
-
(3,226)
44,955
------------
------------
------------
------------
[1]
During the period ended 30 June 2016, and following the approval of the Court, the Company cancelled the share premium account and transferred £51,143,000 to a special distributable reserve, being premium on issue of shares of £52,133,000 less share issue costs of £990,000. The special distributable reserve is available for distribution to Shareholders.
[2]
The profit and loss account comprises both distributable and non-distributable elements, as defined by Company Law. Realised elements of the Company's profit and loss account are classified as "distributable", whilst unrealised investment gains and losses are classified as "non-distributable".
With the exception of investment gains and losses, all of the Company's profit and loss items are of a revenue nature as it does not allocate any expenses to capital.
The two £307,010 dividends (see note 5), which were declared on 25 June 2020 and 30 July 2020, were paid out of the special distributable reserve.
23. Net asset value per Ordinary Share
The net asset value per Ordinary Share is based on the net assets attributable to the owners of the Company of £45,532,000 (2019: £50,129,000), less £50,000 (2019: £50,000), being amounts owed in respect of Management Shares, and on 52,660,350 (2019: 52,660,350) Ordinary Shares in issue at the year end.
24. Financial Instruments and Risk Management
The Investment Manager manages the Company's portfolio to provide Shareholders with attractive risk adjusted returns, principally in the form of regular, sustainable dividends, through investment predominantly in a range of secured loans and other secured loan-based instruments originated through a variety of channels and diversified by way of asset class, geography and duration.
Prior to the change in investment policy on 17 September 2020, the Company sought to ensure that diversification of its portfolio was maintained, with the aim of spreading investment risk.
Risk is inherent in the Company's activities, but it is managed through a process of ongoing identification, measurement and monitoring. The Company is exposed to market risk (which includes currency risk, interest rate risk and price risk), credit risk and liquidity risk from the financial instruments it holds. Risk management procedures are in place to minimise the Company's exposure to these financial risks, in order to create and protect Shareholder value.
Risk management structure
The Investment Manager is responsible for identifying and controlling risks. The Board of Directors supervises the Investment Manager and is ultimately responsible for the overall risk management approach within the Company.
The Company has no employees and is reliant on the performance of third party service providers. Failure by the Investment Manager, Administrator, Broker, Registrar or any other third party service provider to perform in accordance with the terms of its appointment could have a significant detrimental impact on the operation of the Company.
The market in which the Company participates is competitive and rapidly changing. The risks have not changed from those detailed on pages 20 to 30 in the Company's Prospectus, which is available on the Company's website, and as updated in the circular of 20 August 2020.
Risk concentration
Concentration indicates the relative sensitivity of the Company's performance to developments affecting a particular industry or geographical location. Concentrations of risk arise when a number of financial instruments or contracts are entered into with the same counterparty, or where a number of counterparties are engaged in similar business activities, or activities in the same geographic region, or have similar economic features that would cause their ability to meet contractual obligations to be similarly affected by changes in economic, political or other conditions. Concentrations of liquidity risk may arise from the repayment terms of financial liabilities, sources of borrowing facilities or reliance on a particular market in which to realise liquid assets. Concentrations of foreign exchange risk may arise if the Company has a significant net open position in a single foreign currency, or aggregate net open positions in several currencies that tend to move together.
In a Managed Wind-Down, the value of the Portfolio will be reduced as investments are realised and concentrated in fewer holdings, and the mix of asset exposure will be affected accordingly.
With the aim of maintaining a diversified investment portfolio, and thus mitigating concentration risks, the Company had established (prior to the change in the investment policy on 17 September 2020) the following investment restrictions in respect of the general deployment of assets:
Investment Restriction
Investment Policy
Geography
- Exposure to UK loan assets
- Minimum exposure to non-UK loan assets
Minimum of 60%
20%Duration to maturity
- Minimum exposure to loan assets with duration of less than 6 months
- Maximum exposure to loan assets with duration of 6 - 18 months and 18 - 36 months
- Maximum exposure to loan assets with duration of more than 36 months
None
None
50%Maximum single investment
10%
Maximum exposure to single borrower or group
10%
Maximum exposure to loan assets sourced through single alternative lending platform or other third party originator
25%Maximum exposure to any individual wholesale loan arrangement
25%
Maximum exposure to loan assets which are neither sterling-denominated nor hedged back to sterling
15%Maximum exposure to unsecured loan assets
25%
Maximum exposure to assets (excluding cash and cash-equivalent investments) which are not loans or investments with loan-based investment characteristics
10%
The Company complied with the investment restrictions throughout the year and up to the change in investment policy on 17 September 2020, except that, on 9 September 2020, in preparation for the upcoming change in investment policy, additional foreign currency forward contracts were entered into in order to equally and oppositely match the open contracts at that date.
Market risk
(i) Price risk
Price risk exposure arises from the uncertainty about future prices of financial instruments held. It represents the potential loss that the Company may suffer through holding market positions in the face of price movements. The investments at fair value through profit or loss (see notes 15 and 16) are exposed to price risk and it is not the intention to mitigate the price risk.
At 30 June 2020, if the valuation of the investments at fair value through profit or loss had moved by 5% with all other variables remaining constant, the change in net assets and profit/(loss) would amount to approximately +/- £13,000 (2019: +/- £12,000). The maximum price risk resulting from financial instruments is equal to the £251,000 (2019: £232,000) carrying value of the investments at fair value through profit or loss.
(ii) Foreign currency risk
Foreign currency risk is the risk that the value of a financial instrument will fluctuate because of changes in foreign currency exchange rates. Currency risk arises when future commercial transactions and recognised assets and liabilities are denominated in a currency that is not the Company's functional currency. The Company invests in securities and other investments that are denominated in currencies other than Sterling. Accordingly, the value of the Company's assets may be affected favourably or unfavourably by fluctuations in currency rates and therefore the Company will necessarily be subject to foreign exchange risks.
As at 30 June 2020, a proportion of the net financial assets of the Company, excluding the foreign currency forward contracts, were denominated in currencies other than Sterling as follows:
Investments at fair value through profit or loss
Loans and receivables
Cash and cash equivalents
Other payables and accruals
Exposure
Foreign currency forward contracts
Net exposure
30 June 2020
£'000
£'000
£'000
£'000
£'000
£'000
£'000
US Dollars
-
7,552
-
-
7,552
(7,531)
21
Euros
-
4,316
1
-
4,317
(4,121)
196
---------------
---------------
---------------
---------------
---------------
---------------
---------------
-
11,868
1
-
11,869
(11,652)
217
---------------
---------------
---------------
---------------
---------------
---------------
---------------
30 June 2019
US Dollars
-
4,359
32
-
4,391
(4,625)
(234)
Euros
-
3,658
1
-
3,659
(3,583)
76
---------------
---------------
---------------
---------------
---------------
---------------
---------------
-
8,017
33
-
8,050
(8,208)
(158)
---------------
---------------
---------------
---------------
---------------
---------------
---------------
In order to limit the exposure to foreign currency risk, the Company entered into hedging contracts during the year. At 30 June 2020, the Company held foreign currency forward contracts to sell US$9,340,000 and €4,550,000 (2019: sell US$11,480,000 and €4,110,000 and buy US$5,610,000 and €120,000) with a settlement date of 30 September 2020.
Other future foreign exchange hedging contracts may be employed, such as currency swap agreements, futures contracts and options. There can be no certainty as to the efficacy of any hedging transactions. In September 2020, the Company closed out its foreign currency forward contracts and it is not intended to enter into foreign exchange hedging contracts in the future.
At 30 June 2020, if the exchange rates for US Dollars and Euros had strengthened/weakened by 5% against Sterling with all other variables remaining constant, net assets at 30 June 2020 and profit/(loss) for the year ended 30 June 2020 would have increased/(decreased) by £11,000/£(10,000) (2019: (decreased)/increased by £(8,000)/£7,000), after accounting for the effects of the hedging contracts mentioned above.
(iii) Interest rate risk
Interest rate risk arises from the possibility that changes in interest rates will affect future cash flows or the fair values of financial instruments. The Company is exposed to risks associated with the effects of fluctuations in the prevailing levels of market interest rates on its financial instruments and cash flow. However, due to the fixed rate nature of the majority of the loans, cash and cash equivalents of £1,193,000 (2019: £1,987,000) were the only interest bearing financial instruments subject to variable interest rates at 30 June 2020. Therefore, if interest rates had increased/decreased by 50 basis points, with all other variables held constant, the change in value of interest cash flows of these assets in the year would have been £6,000 (2019: £10,000).
Fixed interest
Variable interest
Non-interest bearing
Total
30 June 2020
£'000
£'000
£'000
£'000
Financial assets
Loans [1]
42,633
-
-
42,633
Investments at fair value through profit or loss
-
-
251
251
Other receivables
-
-
1,598
1,598
Cash and cash equivalents
-
1,193
-
1,193
------------
------------
------------
------------
Total financial assets
42,633
1,193
1,849
45,675
------------
------------
------------
------------
Financial liabilities
Other payables
-
-
(164)
(164)
Derivative financial instruments
-
-
(6)
(6)
------------
------------
------------
------------
Total financial liabilities
-
-
(170)
(170)
------------
------------
------------
------------
Total interest sensitivity gap
42,633
1,193
1,679
45,505
------------
------------
------------
------------
30 June 2019
Financial assets
Loans [1]
47,256
-
-
47,256
Cash held on client accounts with platforms
-
-
48
48
Investments at fair value through profit or loss
-
-
232
232
Other receivables
-
-
1,114
1,114
Cash and cash equivalents
-
1,987
-
1,987
------------
------------
------------
------------
Total financial assets
47,256
1,987
1,394
50,637
------------
------------
------------
------------
Financial liabilities
Other payables
-
-
(184)
(184)
Derivative financial instruments
-
-
(351)
(351)
------------
------------
------------
------------
Total financial liabilities
-
-
(535)
(535)
------------
------------
------------
------------
Total interest sensitivity gap
47,256
1,987
859
50,102
------------
------------
------------
------------
[1]
Of the loans of £42,633,000 (2019: £47,256,000), two loans amounting to £10,527,000 (2019: £11,499,000) included both fixed elements and variable elements, based on the performance of the borrowers' portfolios of loans.
The Investment Manager manages the Company's exposure to interest rate risk, paying heed to prevailing interest rates and economic conditions, market expectations and its own views as to likely moves in interest rates.
Although it has not done so to date, the Company may implement hedging and derivative strategies designed to protect investment performance against material movements in interest rates. Such strategies may include (but are not limited to) interest rate swaps and will only be entered into when they are available in a timely manner and on terms acceptable to the Company. The Company may also bear risks that could otherwise be hedged where it is considered appropriate. There can be no certainty as to the efficacy of any hedging transactions.
Credit risk
Credit risk is the risk that a counterparty to a financial instrument will fail to discharge an obligation or commitment that it has entered into with the Company, resulting in a financial loss to the Company.
At 30 June 2020, credit risk arose principally from cash and cash equivalents of £1,193,000 (2019: £1,987,000) and balances due from the platforms and SMEs of £42,633,000 (2019: £47,304,000). The Company seeks to trade only with reputable counterparties that the Investment Manager believes to be creditworthy.
The Company's credit risks principally arise through exposure to loans provided by the Company, either directly or through platforms. These loans are subject to the risk of borrower default. Where a loan has been made by the Company through a platform, the Company will only receive payments on those loans if the corresponding borrower through that platform makes payments on that loan. The Investment Manager has sought to reduce the credit risk by obtaining security on the majority of the loans and by investing across various platforms, geographic areas and asset classes, thereby ensuring diversification and seeking to mitigate concentration risks, as stated in the "risk concentration" section earlier in this note.
The cash pending investment or held on deposit under the terms of an investment instrument may be held without limit with a financial institution with a credit rating of "single A" (or equivalent) or higher to protect against counterparty failure.
The Company may implement hedging and derivative strategies designed to protect against credit risk. Such strategies may include (but are not limited to) credit default swaps and will only be entered into when they are available in a timely manner and on terms acceptable to the Company. The Company may also bear risks that could otherwise be hedged where it is considered appropriate. There can be no certainty as to the efficacy of any hedging transactions.
Please see note 3b and note 4 for further information on credit risk and note 14 for information on the loans at amortised cost.
Liquidity risk
Liquidity risk is defined as the risk that the Company will encounter difficulties in realising assets or otherwise raising funds to meet financial commitments. The principal liquidity risk is contained in unmatched liabilities. The liquidity risk at 30 June 2020 was low since the ratio of cash and cash equivalents to unmatched liabilities was 7:1 (2019: 4:1).
The Investment Manager manages the Company's liquidity risk by investing primarily in a diverse portfolio of loans, in line with the Prospectus and as stated in the "risk concentration" section earlier in this note. The maturity profile of the portfolio is as follows:
30 June 2020
30 June 2019
Percentage
Percentage
0 to 6 months
5.4
11.6
6 months to 18 months
30.1
31.2
18 months to 3 years
35.5
24.8
Greater than 3 years
29.0
32.4
------------
------------
100.0
100.0
------------
------------
Capital management
During the year, the Board's policy was to maintain a strong capital base so as to maintain investor, creditor and market confidence and to sustain future development of the Company. The Company's capital comprises issued share capital, retained earnings and a distributable reserve created from the cancellation of the Company's share premium account. To maintain or adjust the capital structure, the Company could issue new Ordinary and/or C Shares, buy back shares for cancellation or buy back shares to be held in treasury. During the year ended 30 June 2020, the Company did not issue any new Ordinary or C shares, nor did it buy back any shares for cancellation or to be held in treasury (2019: none).
The Company is subject to externally imposed capital requirements in relation to its statutory requirement relating to dividend distributions to Shareholders. The Company meets the requirement by ensuring it distributes at least 85% of its distributable income by way of dividend.
Following the Shareholder's approval of the change to investment policy and the managed wind-down of the Company, the Board intends to manage the Company's capital to enable it to make quarterly dividend payments for the time being (instead of the current monthly dividends), although this will be kept under review. It may become more appropriate in future as the size of the Company declines to instead make payments by way of ad-hoc special dividends, when appropriate, during the course of the managed wind-down process so that the Company is able to return available cash to Shareholders as soon as reasonably practicable after cash becomes available in the Portfolio. The Company will also look to structure its dividend payments to maintain investment trust status for so long as it remains listed.
25. Contingent assets and contingent liabilities
There were no contingent assets or contingent liabilities in existence at the year end (2019: none).
26. Events after the reporting period
Change of name
On 18 July 2020, the Company changed its name from SQN Secured Income Fund plc to Secured Income Fund plc.
Appointment of Director
On 8 July 2020, Brett Miller was appointed as a Director of the Company.
Change of investment policy
On 19 June 2020, the Company held the Continuation Vote that, in line with the Directors' recommendation, did not pass. This vote was required under the Articles as the Company did not have a Net Asset Value of at least £250 million as at 31 December 2019. As this vote did not pass, the Directors (as required under the Articles) convened a further general meeting of the Company on 17 September 2020 at which a special resolution approved the managed wind-down of the Company and the adoption of the new investment policy of the Company.
Change of Investment Management fees
On 17 September 2020, the Company agreed to amend the terms of the Investment Management Agreement such that the base investment management fee was reduced and a performance fee added (see note 7a).
Dividends
Two dividends of 0.583p per Ordinary Share, which (in accordance with IFRS) were not provided for at 30 June 2020, have been declared out of the profits for the year ended 30 June 2020 (see note 5).
On 26 August 2020, the Company declared a dividend of 3.50p per Ordinary Share for the period from 1 July 2020 to 31 July 2020. This dividend will be paid on 25 September 2020.
There were no other significant events after the reporting period.
27. Parent and Ultimate Parent
The Directors do not believe that the Company has an individual Parent or Ultimate Parent.
--- ENDS ---
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