1. Venturing Further

    By James Anderson. Spring 2019
    Illustrations by Craig Frazier
  2. James Anderson, joint manager of Scottish Mortgage Investment Trust, talks about why private companies offer more promising new opportunities than their public counterparts.

      

    This article originally featured in Baillie Gifford’s Spring 2019 issue of Trust magazine.

  3. We believe that Scottish Mortgage’s rapid advance into investing in unquoted companies represents our greatest strategic initiative of the last decade. The initial investment results are promising. As we noted in our interim accounts the total return from the subset of holdings that started out as unquoted since our first such investment in June 2010 was 419 per cent against our overall gain of 344 per cent and 163 per cent for the FTSE All-World index.

    Our initial forays into unquoted investing were primarily reactive. As the Board realised earlier than the Managers traditional public equity markets no longer tempted many young and outstanding companies. They had limited capital needs. They often resented the impatience of quarterly capitalism and almost as often the regulatory burdens. If we wished to replenish our pool of ideas in a timely manner we came to agree that venture capital involvement was becoming essential.

    But at that point we had little idea of how great an opportunity we would find. Little did we realise how far companies had come to prefer private to public capital. From remaining private because capital requirements were low, we are now in an environment where ambitious and capital-hungry companies find the funds, the patience and the supportiveness they need in much greater supply in private markets than in early quotation. As Elon Musk would point out, SpaceX is a more constructive model than Tesla. We now regard it as a matter of course that private companies offer us more and more promising new opportunities almost every year than their public counterparts.

    We believe that we have stronger competitive advantages in unquoted investments than in any other aspect of what we do. The most critical reason is that we are happy to charge far lower fees for venture capital style investments than others demand. We simply fold this additional but surely necessary effort into the already low overall charges. At the last year end our ongoing charges represented just 0.37 per cent of assets. Venture capital fees are more usually 2 per cent of assets and an additional 20 per cent of capital gains over any market return. As a very large asset manager recently pointed out to us, this figure is usually more like 3 per cent and 30 per cent after the layering of fees that characterises this area, as access is often only possible via intermediaries. Even famous institutions find it hard to gain worthwhile exposure to good venture capital funds. We therefore see our role as democratising access at low cost.

    Extraordinarily low fees are a real boon. But they are, of course, less appealing if our returns prove to be lower than those of our generously compensated peers. Why are we confident, beyond the favourable initial results, that this will not be the case?

    Despite our considerable respect for the bravery and intellect of many venture capitalists, we do not feel doomed to inferiority. The starting point for this self-confidence lies in our philosophy and reputation in public markets. Our approach to quoted equities is remarkably similar to that emphasised by the venture capital community. We, like they, stress that returns are dominated by a small number of extraordinary companies boasting the potential for exponential returns. Therefore, our process has not had to change dramatically.

     

  4. Still more importantly, our record as patient and supportive investors has translated into access to unquoted opportunities and deals beyond our wildest initial hopes. Some of this represents a very direct spin-off from our quoted portfolio. Some readers have doubtless tracked this development by themselves by noting the parentage of a substantial number of our venture investments. Ant Financial is a major example. It’s the fruit of a relationship built since Alibaba became one of our first unquoted investments in the modern era, as is described elsewhere in this edition. But it’s far from the only example. Grail was initially created by Illumina to explore the exciting opportunities offered by liquid biopsies in early cancer detection. In Germany our investments in HelloFresh and Home24 have not as yet enjoyed similar success in either private or public markets but this seems to say at least as much about the general depression in European markets as their own prowess or their incubation by Rocket Internet.

     

     

    Beyond these very direct links there are many other unquoted investments that have been prompted by relationships of trust built up as long-term investors in public companies already owned by Scottish Mortgage. For example, Intuitive Surgical recommended us to HeartFlow as the company was raising money to apply innovative software techniques to cardiovascular conditions. Although these networks of mutual trust are of inestimable value it’s also the case that repute leaps fences and makes trust easier to establish where connections did not previously exist. We’re very excited by our biotechnology investments in Boston in the shape of Ginkgo and Indigo. Both these opportunities came about via our general reputation as constructive sources of permanent capital rather than any direct links.

    All these examples underline a vital characteristic of venture capital. It is that the company almost always chooses its investors rather than having to accept whoever appears on its register. Trust matters. But we can also offer tangible benefits in this regard. Although traditional venture investors often imply that we are feckless tourists who will disappear at the first sign of difficulty, we behave in the opposite manner. Whereas venture capitalists normally seek an exit as their fund nears the end of its 10-year life-cycle we can happily provide more capital whether in further private funding rounds or at the time of an initial public offering. Most founders really appreciate this. We can be better partners than the venture capitalists in many cases. 

    In all honesty I’m amazed at how far we have come and how quickly we’ve progressed in unquoted investment. It’s been a thrill. We now see this as a core strategic responsibility. The opportunities from healthcare to synthetic biology to space travel, from China to Sweden to America, arise first in vibrant venture capital. We have superlative global corporate access whilst offering patient and supportive capital to founders. We happily offer participation in all this to Scottish Mortgage shareholders at a fraction of the fees usually charged by venture capitalists. This is probably unique.

     

    Annual past performance to 31 December each year (%)

     

    2014

    2015

    2016

    2017

    2018

    Scottish Mortgage Investment Trust PLC

    21.4

    13.3

    16.5

    41.1

    4.6

    FTSE All-World Index

    11.3

    4.0

    29.6

    13.8

    -3.4

     

    Source: Morningstar, FTSE. Share price, total return.

    Past performance is not a guide to future returns.

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    IMPORTANT INFORMATION AND RISK FACTORS

    The trust will have a significant exposure to unlisted investments. The trust’s risk could be increased as these assets may be more difficult to buy or sell, so changes in their prices may be greater. The value of a stock market investment and any income from it can fall as well as rise and investors may not get back the amount invested. Investments with exposure to overseas securities can be affected by changing stock market conditions and currency exchange rates. Investing in emerging markets is only suitable for those investors prepared to accept a higher level of risk. This is because difficulties in dealing, settlement and custody could arise, resulting in a negative impact on the value of your investment.

    The views expressed in this article should not be considered as advice or a recommendation to buy, sell or hold a particular investment. The article contains information and opinion on investments that does not constitute independent investment research, and is therefore not subject to the protections afforded to independent research. Some of the views expressed are not necessarily those of Baillie Gifford. Investment markets and conditions can change rapidly, therefore the views expressed should not be taken as statements of fact nor should reliance be placed on them when making investment decisions.

    Baillie Gifford Savings Management Limited, Baillie Gifford & Co Limited and Baillie Gifford & Co are authorised and regulated by the Financial Conduct Authority and are based at Calton Square, 1 Greenside Row, Edinburgh EH1 3AN.

    The investment trusts managed by Baillie Gifford & Co Limited are listed on the London Stock Exchange and are not authorised or regulated by the Financial Conduct Authority. 

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  6. James Anderson

    James Anderson has managed Scottish Mortgage Investment Trust since 2000. James is a partner at Baillie Gifford and was a member of the Advisory Board of the Kay Review.