SIT Sanditon Investment Trust Plc

SANDITON INVESTMENT TRUST PLC

INTERIM ACCOUNTS

For the six months
to 31 December 2016

COMPANY NUMBER 09040176

Investment Objective

The Company’s investment objective is to:

• Deliver absolute returns of at least 2% per annum, compounded annually, above RPIX; and

• Be an asset diversifier for shareholders by targeting low correlation with leading large capitalisation equity indices.

Contents

Chairman’s Statement
for the six months to 31 December 2016

Performance

Your Company had an indifferent six months with the net asset value closing at 103.3p which, after including the dividend of 1.1p paid to shareholders in December, amounted to a loss of 0.9% over the period. The total return of your Company’s net asset value for 2016 was a more encouraging 5.1%. Your Company’s share price closed the year at 104.4p, falling by 1.9% over the six months, leaving the shares at a premium of 1% to net asset value. Inflation at the year-end had picked up with RPIX rising by 2.7% per annum, largely as a result of cost pressures coming through from the collapse in the pound following Brexit and a steady rise in commodity prices throughout the year.

2016 turned out to be a surprisingly strong year for global equity markets with the UK equity market returning 16.8% (with most of the return coming in the second half), although in dollar terms the return was flat. A weak start to the year before the Brexit referendum was a better environment for your Company’s broadly market neutral structure, than the second half of the year when the UK market broke out of what had been a fairly tight trading range for the first two years of your Company’s life. 2016 will be remembered for two surprise political events which did not have the immediate financial outcomes most commentators predicted, with Mr. Trump’s election as US president particularly causing a sustained rally in developed equity markets despite great uncertainty about what his cocktail of largely protectionist measures will mean for the global economy. The Investment Manager gives a thorough review of performance in the report that follows with the key message being that the rally in equity prices has not changed your Manager’s bearish disposition.

Stake in Sanditon Asset Management

Your Company’s only unlisted holding, a 20% stake in Sanditon Asset Management (SAM) finished the year with assets under management of £620m, over 9% higher than the end of June figure and 4% higher than the 31 March 2016 assets under management figure. The split between long and hedge fund structures remains similar at 62%/38%. I highlighted in my last report that the first six months of the year had been a difficult one for SAM’s investment flows, as indeed it had been for the active industry as a whole, but the year-end AUM number leaves it close to the record achieved at the beginning of 2016. It was a satisfactory year for SAM’s key products with both its long funds achieving above median performance. At this stage of SAM’s development, the Board believes updating the valuation of your Company’s stake once a year remains sufficient and we do not anticipate any changes to the valuation metrics or multiples used for the first valuation, (50/50 1% of SAM’s 31 March year end assets under management and 5x after tax profits). Whilst fee pressure and the rise of passive strategies and exchange traded funds remains a feature of the investment landscape, the Board remains hopeful that SAM can produce sufficiently compelling performance to drive profitable asset growth.

Director

Since my last report we have welcomed Mr. Mark Little to the Board. Mark brings a wealth of investment experience to the Board and has taken over the chair of the Audit Committee from Mr. Christopher Keljik. Christopher remains a non-executive director of your Company but I would like to put on record my thanks to Christopher for his work as Audit Committee Chairman in the first two years of your Company’s life.

Outlook

After a surprisingly strong finish to 2016, 2017 will see plentiful elections in Europe and the triggering of Article 50 by the UK government which have the potential to cause further dislocation in asset markets. Eight years after the crash of 2008, and now well into one of the longest up cycles on record, it remains a moot point how long the market’s current enthusiasm for risk assets can last. Although Quantitative Easing programmes remain in the UK, Europe and Japan, a more rapid tightening of US interest rates than expected is the biggest risk to equity markets in 2017.

Rupert Barclay
Chairman
2 March 2017

Investment Manager’s Report
for the six months to 31 December 2016

“The only function of economic forecasting is to make astrology look respectable” J.K.Galbraith

The same quip could of course be made about the investment management industry, but all investors need a clear view of where they think, on the balance of probabilities, markets and individual stocks are heading. It is often claimed that markets hate uncertainty but this is a ludicrous cliché as the future is by definition uncertain and markets exist and thrive on that uncertainty.

The Chairman’s statement reported our performance numbers for the six months and 2016 as a whole which we won’t repeat, other than to say that it was disappointing we did not build on a reasonable first half. Our astrology gazing at the beginning of 2016 led us to do well on stock selection with our value tilt coming good but strong advances in equity markets in the second half caught out our broadly market neutral structure.

For us, as business cycle investors, we are now living in a time when central bankers do not necessarily behave as you think they should which adds an extra dimension to the uncertainty we all face. Eight years into an economic recovery, central bankers of yore would have been tightening rates to contain any emerging inflationary pressures and to buy insurance for the next down leg of the cycle. This has modestly started to happen in the US. In the UK, had you listened to Mr. Carney before the Brexit referendum you could reasonably have expected that interest rates might rise on a Brexit vote, because that is what he said he would do, but instead he cut them and unleashed more quantitative easing to avert the instantaneous recession he had forecast, but did not turn up. Did he not realise the simple economics that the fall in sterling was likely to give a short-term monetary boost to the UK? Why add to it? Whilst Mr. Carney does not seem to have humility in his genetic makeup, the Bank of England’s economist Mr. Haldane at least had the good grace recently to admit his profession had had a ‘Michael Fish’ moment with their apocalyptic forecasts of an immediate recession should Brexit win. Most worrying for us is the lack of dissent on the Monetary Policy Committee (MPC). 9-0 votes in favour of the August rate cut suggest to us the MPC is not fit for purpose. If none of the four outsiders can provide a counter view to the Bank of England’s, what is the point of the MPC?

Whilst Brexit and Trump are writ large on reviews of 2016, the dominant theme throughout was in fact the renaissance of commodities. From a trough at the beginning of the year, Chinese credit expansion helped commodity prices rebound leading to a surge in commodity shares, reversing much but not all of the underperformance of the previous 18 months. Whilst commodity shares thrive on momentum, we do not believe we are at the start of a sustained uptrend for commodities.

The key call for us as we look into 2017 is when to put on an increased bearish view and it is very probable this will involve a reduction in both financial and commodity shares.

Market Review

Whilst the first half of the year was dominated by price moves in the aftermath of the Brexit referendum, with international stocks gaining at the expense of domestics, the second half of the year saw a straightforward ‘risk on’ rally as all cyclical sectors (save consumer) and financial sectors gained strongly and all defensive sectors fell. With the market rising by 12%, the cyclical sectors of banks, construction, mining, metals and engineering all gained by 25% or more whilst the defensive sectors of telecoms, pharmaceuticals, healthcare, tobacco, beverages and utilities all underperformed by 10% or more. It was a testing time for the active management industry who were generally poorly positioned for 2016’s outcome. Even if you had forecast the political results correctly, it was pretty difficult forecasting a Brexit vote and a Trump victory would be quite so good for markets.

For us it was a mixed year, with reasonable stock selection being offset by being too bearish with our net positioning, but the dispersion of sector performance in 2016 does leave us feeling our business cycle approach is as relevant as ever. The difficulty is always in timing the moves between cyclicals and defensives but we were happy that we had largely closed down all shorts in mining, oil and financials before their enormous rallies in 2016.

Whilst equity markets ended the year in good spirits, we believe the most significant event in the second half was a sharp rise in government bond yields. The US 10 year jumped by 66% to close at 2.44% and the UK 10 year increased by 42% to 1.25% despite Mr. Carney’s latest QE programme which briefly drove down all UK bond yields to historic lows. The equity market has shrugged this off so far but a strong dollar and rising bond yields have the potential to cause substantial problems for global economic growth and equity valuations. Our thesis has always been that even a modest rise in US interest rates could cause havoc in an over leveraged world.

Portfolio Structure and Performance

The most significant change to your portfolio over the six months was moving from a net long position of 10% to a net short position of 7%. This was executed through the futures market but our timing was premature and cost the Company 1.4% over the period as the UK equity market finished the year at highs.

Our business cycle view remains unchanged. After eight years of recovery from the crash of 2008, this is now one of the longest recoveries on record and although 2016 turned out to be a year in which risk assets performed strongly, investors should not fool themselves that this is the start of a prolonged upturn in the economic cycle. Most cycles end with rising inflation and this cycle does not look unusual in this respect. The business cycle shape of our portfolio was therefore largely unchanged with minor alterations a function of one or two stock changes, particularly a modest increase in commodities as a result of covering a short in Fresnillo which added 0.6% over the period and an increase to our short to growth stocks, now -19%, as a result of both adverse price performance and increasing our short in Just Eat.

Over the six month period our long book returned 6.3% and our short book lost 6.6% representing returns on capital of 12.4% and -11.2% respectively. Both books modestly outperformed the market return of 12% by 0.4% and 0.8% respectively, but not sufficiently to overcome our net short position and fund charges.

For 2016 as a whole our long book returned 9.3% and our short book lost 3.1% representing returns on capital of 18.6% and -5.3% respectively, against the market return of 16.8%. Although our long book benefitted from the first revaluation of your Company’s holding in Sanditon Asset Management, the performance of the short book over the year was encouraging, outperforming the market by 11.5%. This was largely due to our business cycle positioning which recognised in the second half of 2015 that commodities were likely to rebound in 2016 and that a likely rising yield curve would make it dangerous to short financials. These sectors were dominated by ‘value’ stocks and we wrote a year ago that 2016 was likely to see a sharp rotation away from growth stocks to value stocks. This indeed largely happened although the severest rotation was away from defensive stocks towards cyclical, which turned out to be a mixed blessing for our portfolio as we were too long defensive assets through the year. However apart from the aforementioned Fresnillo, we had no shorts in commodities through 2016 which ensured that commodities delivered the biggest contribution to performance (+2.9%) through the year with Vedanta and BHP Billiton particularly strong. We also had only one small short in financials which we covered in the aftermath of Brexit. Financials started outperforming in the second half coincident with rising bond yields with our financials holdings adding 2% in the second half after a flat first half.

Although our shorts to ‘Growth’ stocks added 1.7% over the year, a strong second half rally cost us 1.9% over the six months. We remain committed to being short highly rated stocks as rising bond yields hold a particular threat to high valuations. Just Eat cost us 1.2% in the second half as the shares rose on the back of a trading statement which to us looked like it was revealing slower growth in its key UK market. This was confirmed to us near the year end when they announced the proposed acquisition of Hungry House, the no 2 takeaway app, for £200m. The deal will only bring them an extra 1000 restaurants to add to their roster of 28,000, suggesting to us that they remain too eager to acquire growth to hide slowing organic growth. Time will tell but should growth stall due to increased competition or market saturation, we suspect the shares have a lot of downside.

Our biggest disappointment in the second half came from our positioning in Industrial Cyclicals. We have been short industrials since the start of the Company’s life which was largely beneficial to performance up to the Brexit vote. However, the sharp fall in sterling post the referendum vote was beneficial to most industrials who generally make a large percentage of their profits overseas and shorts in this area cost us 3% in the second half, having been a small positive in the first half. Although net short overall, we have two industrial long positions which had mixed fortunes. Melrose Industries more than doubled adding 2% to performance as the market welcomed its acquisition of Nortek, a US building products company. The management team at Melrose have a fantastic track record of buying, improving and then selling on businesses whilst returning the proceeds to shareholders. Having returned capital in the early part of 2016, the rights issue which accompanied the Nortek acquisition gave us the chance to rebuild our position and it remains a key holding for the Company. Sadly, the gains from Melrose were nearly offset by a profit warning from Laird which saw their shares fall by half, costing the Company 1.4%. As a business whose revenues are nearly all in dollars we had hoped Laird would be a beneficiary of sterling’s collapse, but Laird fell victim to severe undercutting by a Chinese supplier to Apple and the loss of sales and profits from Apple contracts has left them needing to raise fresh capital.

Finally, consumer stocks staged a modest recovery after their Brexit mauling at the end of June with useful gains from ITV, Halfords and Dixons Carphone. Much to commentators’ surprise there have been very few profit warnings yet from this space and early trading statements in January suggested it was a pretty good Christmas even for bricks and mortar retailers. Retail shares however remain largely shunned as investors expect sterling’s depreciation to lead to a squeeze on consumer spending in 2017, a view we have sympathy with but very low ratings make us reluctant to short this area of the market.

Outlook

2017 has a raft of European elections to keep investors on edge as well as the triggering of Article 50 by the May government in the next few weeks. Negotiations over Brexit will then start in earnest, and given the EU’s trenchant defence of the four freedoms it seems probable that the UK’s departure from the EU will mean leaving the single market and the customs union. We suspect a hard Brexit will in the long run be more damaging to the EU than the UK and the risks of a breakup of the euro must have increased in 2016. Whilst surprise political outcomes have not damaged equity markets in 2016, whether they do in 2017 will in our view depend on what happens in bond markets. If yields keep rising, and the Federal Reserve have indicated they will meet increased fiscal expansion by the Trump administration with further monetary tightening, we expect equity markets to come under pressure. We are sticking with our bearish disposition.

Tim Russell
Sanditon Asset Management Limited
2 March 2017

Portfolio
as at 31 December 2016

Business Cycle Groupings (% of NAV)*

Country Breakdown (% of NAV)*

*Excluding holdings in Sanditon Asset Management and TM Sanditon UK Select Fund.

Top 20 Long Positions (% of NAV)**

**Including holdings in Sanditon Asset Management, TM Sanditon UK Select Fund and FTSE Future.

Income Statement
for the six months to 31 December 2016

The notes on pages 12 to 14 form part of these accounts.

The total column of this statement is the profit and loss account of the Company. All the revenue and capital
items in the above statement derive from continuing operations.

There is no other comprehensive income.

Statement of Financial Position
as at 31 December 2016

The notes on pages 12 to 14 form part of these accounts.

Statement of Changes in Equity
Six months to 31 December 2016 (unaudited)

Six months to 31 December 2015 (unaudited)

For the year ended 30 June 2016 (audited)

The notes on pages 12 to 14 form part of these accounts.

Notes to the Interim Accounts

1. ACCOUNTING POLICIES

A summary of the principal accounting policies is set out below:

(a) Basis of accounting

The financial statements have been prepared in accordance with the applicable UK Accounting Standards, being FRS102 – The Financial Reporting Standard – and with the Statement of Recommended Practice “Financial Statements of Investment Trust Companies and Venture Capital Trusts” (issued in November 2014 and updated in January 2017). The half-year accounts are prepared in accordance with Financial Reporting Standard 104 – Interim Financial Reporting.

The financial information for the period ended 30 June 2016 included in this report has been taken from the Company’s full accounts.

They have also been prepared on the assumption that approval as an investment trust will continue to be granted. The financial statements have been prepared on a going concern basis.

2. INVESTMENT MANAGEMENT FEE

The Company’s investment manager is Sanditon Asset Management Limited. With effect from Admission, the Manager shall be entitled to receive from the Company in respect of its services provided under the Management Agreement, a management fee accrued daily and payable monthly in arrears calculated at the rate of one-twelfth of 0.75 per cent. per calendar month of the Company’s Net Asset Value. In accordance with the Directors’ policy on the allocation of expenses between income and capital, in each financial period 75 per cent. of the management fee payable is expected to be charged to capital and the remaining 25 per cent. to income.

The Manager is also entitled to a performance fee which equals 15 per cent. of the amount by which the Reference Amount at the end of a Performance Period exceeds the higher of (a) the Hurdle (the “Hurdle” means the Initial Gross Proceeds adjusted for the total amount of any dividends paid or payable) increased by RPIX plus 2 per cent. per annum, compounded annually (on a pro-rata basis where applicable) from Admission and (b) the High Watermark (the “High Watermark” means, as at the end of the relevant Performance Period, the highest of (i) the Reference Amount of the previous Performance Period, (ii) the Reference Amount of the most recent Performance Period in respect of which a performance fee was paid; and (iii) the Initial Gross Proceeds; and in each case adjusted for any repurchases by the Company of Ordinary Shares or any dividends paid or payable during the relevant Performance Period multiplied by the time weighted average of the total number of Shares in issue during that Performance Period).

The first “Performance Period” is the period from 27 June 2014 (the date of Admission to the London Stock Exchange) to the end of the Company’s third accounting period and each subsequent Performance Period begins immediately after the previous Performance Period and ends at the end of the Company’s third accounting period thereafter; provided that where the Management Agreement is terminated the date of such termination shall be the end of the then current Performance Period.

The “Reference Amount” means, in respect of a given Performance Period, the lower of (i) the Net Asset Value on the last Business Day of a Performance Period and (ii) the average of the closing mid-market prices for the five Business Days ending on the last Business Day of a Performance Period of an Ordinary Share as derived from the Official List of the UK Listing Authority, multiplied by the number of Ordinary Shares in issue on the last Business Day of that Performance Period; and in each case adjusted for the total amount of any dividends paid or payable during that Performance Period and any accrual for unpaid performance fees.

3. DIVIDEND

No interim dividend has been declared in respect of the six months to 31 December 2016.

Consideration will be given to an annual dividend in respect of the year ended 30 June 2017 at a Board meeting to be held in September 2017. An announcement will be made shortly after that meeting.

4. INVESTMENTS

* Investment in Sanditon Asset Management Limited.

5. SHARE CAPITAL

Interim Management Report
six months ended 31 December 2016

Investment Objective

The Company’s investment objective is to:

• Deliver absolute returns of at least 2 per cent per annum, compounded annually, above RPIX; and

• Be an asset diversifier for shareholders by targeting low correlation with leading large capitalisation equity indices.

Alternative Investment Fund Managers Directive (“AIFMD”)

In order to comply with AIFMD, the Company has appointed Sanditon Asset Management Limited (“SAM”) to act as its Alternative Investment Fund Manager (“AIFM”). SAM has been approved as a Small Authorised UK Alternative Investment Fund Manager by the UK’s Financial Conduct Authority.

Going Concern

The Directors believe that, having considered the Company’s investment objectives, risk management policies, capital management policies and procedures, nature of the portfolio and expenditure projections, the Company has adequate resources and an appropriate financial structure in place to continue in operational existence for the foreseeable future. The assets of the Company consist mainly of securities which are readily realisable. For these reasons, they consider that there is reasonable evidence to continue to adopt the going concern basis in preparing the accounts.

As at 31 December 2016 the Company had net assets of £51.6 million and it has sufficient cash balances to meet current obligations as they fall due. The Company continues to meet day-to-day liquidity needs through its cash resources.

The Directors have a reasonable expectation that the Company will continue in existence for the foreseeable future.

Principal risks and uncertainties

The key risks to the Company fall broadly under the following categories:

• Investment and strategy

The Board will regularly review the investment mandate and long-term investment strategy in relation to the market and economic conditions. The Board also regularly monitors the Company’s investment performance against the objective to deliver at least 2% above inflation and its compliance with the investment guidelines.

• Accounting, legal and regulatory

In order to qualify as an investment trust, the Company must comply with the provisions contained in Section 1158 of the Corporation Taxes Act 2010. A breach of Section 1158 in an accounting period could lead to the Company being subject to corporation tax on gains realised in that accounting period. Section 1158 qualification criteria are continually monitored by the Investment Manager and the results reported to the Board at its regular meetings. The Company must also comply with the Companies Act and the UKLA Listing Rules. The Board relies on the services of the administrator, Northern Trust Global Services Limited and its professional advisers to ensure compliance with the Companies Act and the UKLA Listing Rules.

• Loss of investment team or Investment Manager

A sudden departure of the Investment Manager or several members of the investment management team could result in a short-term deterioration in investment performance.

• Discount

A disproportionate widening of the discount relative to the Company’s peers could result in loss of value for shareholders. A potential buy-back of shares would be in accordance with London Stock Exchange rules and at the Board’s discretion.

• Operational

Like most other investment trust companies, the Company has no employees and therefore relies upon the services provided by third parties and is dependent on the control systems of the Investment Manager, the custodian and the Company’s other service providers. The security, for example, of the Company’s assets, dealing procedures, accounting records and maintenance of regulatory and legal requirements, depend on the effective operation of these systems. The custodian produces reports on its internal controls which are reviewed by its auditors and give assurance regarding the effective operation of controls.

• Market risk

The fair value or future cash flows of a financial instrument held by the Company may fluctuate because of changes in market prices. This market risk comprises three elements – currency risk, interest rate risk and other price risk (see below).

• Currency risk

The Company may invest in overseas securities and its assets may be subject to currency exchange rate fluctuations.

• Interest rate risk

Interest rate movements may affect the level of income receivable on cash deposits.

• Other price risk

Other price risks (i.e. changes in market prices other than those arising from interest rate risk or currency risk) may affect the value of the investments.

• Credit risk

The failure of the counterparty to a transaction to discharge its obligations under that transaction could result in the Company suffering a loss.

• Liquidity risk

This is the risk that the Company will encounter difficulty in meeting obligations associated with financial liabilities.

Transactions with the Investment Manager

Under AIC Guidance, the Company is required to provide additional information concerning its relationship with the Investment Manager, Sanditon Asset Management Limited (“SAM”). Details of the investment management fee charged by SAM are set out in note 2 on pages 12 and 13. At 31 December 2016, £33,677 (31 December 2015: £31,386) of this fee remained outstanding. SAM received £866 (31 December 2015: £1,732 – website and some IPO related costs) in relation to a contribution to the costs of the website.

Related party transactions

During the period no transactions with related parties have taken place which materially affected the financial position or performance of the Company. The Directors’ current level of remuneration is £16,000 per annum for each Director, with the Chairman of the Audit Committee receiving an additional fee of £4,000 per annum. The Chairman’s fee is £25,000 per annum.

Directors’ responsibility statement

The Directors are responsible for preparing the interim report, in accordance with applicable law and regulations. The Directors confirm that, to the best of their knowledge:

• The condensed set of financial statements within the interim report has been prepared in accordance with FRS 104 issued by the Accounting Standards board on “Half-Yearly Financial Reports”;

• The Interim Management Report includes a fair review of the information required by 4.2.7R (indication of important events during the first six months of the year, their impact on the condensed set of financial statements, and a description of the principal risks and perceived uncertainties for the remaining six months of the financial year); and

• The Interim Management Report includes a fair review of the information concerning related parties transactions as required by Disclosure and Transparency Rule 4.2.8R.

For and on behalf of the Board
Rupert Barclay
Chairman
2 March 2017

Directors and Officers
as at 31 December 2016

Directors

Rupert Barclay, Chairman
Hugo Dixon
Christopher Keljik OBE
Mark Little

Investment Manager

Sanditon Asset Management Limited
Fifth Floor
33 Cannon Street
London EC4M 5SB
Telephone: 020 3595 2900

Secretary and Administrator

Northern Trust Global Services Limited
50 Bank Street
Canary Wharf
London E14 5NT

Registered office

Fifth Floor
33 Cannon Street
London EC4M 5SB

Company number

09040176

Auditor

Ernst & Young LLP
25 Churchill Place
Canary Wharf
London E14 5EY

Registrar

Capita Asset Services
The Registry
34 Beckenham Road
Beckenham
Kent BR3 4TU
Email: ssd@capitaregistrars.com

Stockbroker

JPMorgan Cazenove
25 Bank Street
Canary Wharf
London E14 5JP

Website

www.sanditonam.com