ASEI.L Regulatory News (ASEI)

ABERDEEN STANDARD EQUITY INCOME TRUST PLC

Legal Entity Identifier (LEI): 21380015XPT7BZISSQ74

HALF-YEARLY FINANCIAL REPORT

FOR THE SIX MONTHS ENDED 31 MARCH 2020

KEY FINANCIAL HIGHLIGHTS

PERFORMANCE HIGHLIGHTS

CHAIRMAN'S STATEMENT

Performance

On 22 January, the day before our Annual General Meeting, the World Health Organisation issued a short statement following a brief fact finding mission to Wuhan by experts from its China and Western Pacific regional offices to find out more about a new virus which had appeared in that city. This merely said that "there was evidence of human to human transmission in Wuhan but more investigation is needed to understand the full extent of transmission".

In less than five months since then the virus has spread to almost every corner of the world and, according to Worldometer.com, over 4.8 million people have been infected, over 316,000 have died and it is expected that in the current calendar quarter overall world economic activity will be down by about a quarter. It is doubtful if there has ever been as rapid a development of a pandemic in human history.

It is therefore not surprising that your Company, whose financial year had got off to a good start, with an NAV total return of 7.9% in its first quarter, has suffered severely from the unforeseeable and violent market setback. This began in late February as the extent and implications of the pandemic began to become apparent, the clearest example of which was the unprecedented fall in demand for petroleum products, leading to a total collapse in the price of crude oil in April. Over the six months to 31 March 2020 our NAV total return was -30.1% against the FTSE All-Share Index's -22.0%. Our Share Price total return figure was only marginally better at -29.4%.

The Investment Manager's Report below provides a more detailed explanation of this most disappointing setback, to which our gearing was a contributor along with some devastating price falls in individual holdings such as Cineworld and TUI Travel, whose apparently bright business prospects in 2020 morphed into an existential struggle for survival in less than a month.

Revenue

Since late February the postponement or outright cancellation of dividends that had already been declared has become commonplace and this reduced the income we had expected to receive in March. Dividend income in the six months was £4.724m compared to £5.016m last year, a reduction of 5.8%. Total income for the period was £4.739m compared to £5.212m, a fall of 9.1%. Management fees and administrative expenses charged to revenue were down 5.7% at £413k compared to £438k in 2019. After interest costs and tax, net earnings were down 10.8% to £4.087m and the revenue per ordinary share was 8.35p compared to 9.43p in 2019.

Dividends

Looking ahead to the second half of the year, the only certainty is that our dividend income is going to be very substantially less than we had been expecting at the time of the AGM and well below the amount we received last year. At this stage, the position is changing so fast that it is not possible to make any sensible forecast as to the outcome for this year.

In these extraordinary circumstances, the Board has given very careful consideration as to its policy as regards dividends. The Objective of the Company, as set out in the Annual Report, is to "provide Shareholders with an above average income….. while at the same time providing real growth in capital and income". Based on last year's dividend, our shares currently yield almost 8% compared to the FTSE All-Share Index yield of slightly over 5%, thus clearly meeting one part of the Objective. The Board is only too well aware that over the last decade the Company has not achieved real growth in capital, but it has undoubtedly achieved real growth in income, with the dividend having risen by almost 74% from 11.8p per share in 2010 to 20.5p in 2019, while the RPI has risen by less than 30%.

One of the features of the investment trust structure is the ability to build up revenue reserves against a rainy day. After adjusting for the payment of last year's final dividend, the Company's revenue reserves at 30 September 2019 were £8.750m, or almost 18p per share. Today we face not just a rainy day but a monsoon, and the Board's view is that these are the very conditions in which it is entirely appropriate to draw on the revenue reserves.

We have paid a first interim dividend of 5.2p in March and the Board is now declaring a second interim dividend of 5.2p, bringing total dividends for the six months to 30 March 2020 to 10.4p per share, an increase of 6.1% on the 9.8p paid for the six months to 30 March 2019. This second interim dividend will be paid on 26 June 2020 to Shareholders on the Register on 5 June 2020, with an associated ex-dividend date of 4 June 2020. The Board's intention is that the third interim dividend, which will be paid in September, will also be 5.2p per share.

In my Statement in the 2019 Annual Report, I said that the Board anticipated being able to increase the dividend in 2020 to a minimum of 21.4p per share. In these extraordinary times, and given that the indication is that this will not be covered by the income generated by the portfolio, the Board has revised its target and is keen to provide clarity to investors. It currently intends to pay a full year dividend of 20.6p per share, an increase of 0.1p on the payment in 2019. This would mean that the fourth interim dividend would be 5.0p per share. The Board will keep the matter under review but will not confirm this final payment until the accounts are finalised in November.

Gearing

As a result of the reduction of the value of the portfolio, the terms of the revolving credit facility with Banco Santander were renegotiated and the new terms were announced on 19 March 2020. The facility has been reduced to £20m, from £40m previously, and is fully drawn. The margin has increased from 100 basis points over LIBOR to 130 basis points and the loan covenants have also been amended and now require that the Company's gross assets will not be less than £100m (previously £150m). At 31 March 2020 net gearing amounted to 11.3% of assets, compared to 13.7% this time last year. It should be noted that, at least in the short-term, the weighted average cost of borrowing has declined as the emergency cuts in base rates announced by the Bank of England in March have more than offset the increase in the margin.

Outlook

Britain today is two months into what the Bank of England has forecast to be the deepest recession since the early 18th century. Few other countries have statistical records as long as this, but for all 2020 is clearly going to be a very poor year economically. The next few months will bring an abundance of terrible corporate news. As yet, we cannot tell when the recovery will begin to show itself or how vigorous it will be, but the government has disclosed an outline of its plans for a relaxation of the lockdown and some of the businesses which have had to close since March will be restarting operations shortly.

We must hope that the same spirit of co-operation and determination that has been displayed so far can be maintained as the economy is gradually brought back to life, even though this will likely be a lengthy and frustrating process. The Board hopes to have a clearer view of the prospects for 2021 when we next report to you in November.

Richard Burns,

Chairman

18 May 2020

INTERIM BOARD REPORT

Directors' Responsibility Statement

The Directors are responsible for preparing the Half Yearly Report in accordance with applicable law and regulations. The Directors confirm that to the best of their knowledge:

- The condensed set of financial statements has been prepared in accordance with Financial Reporting Standard 104 (Interim Financial Reporting) and gives a true and fair view of the assets, liabilities, financial position and profit or loss of the Company;

- The Interim Board Report (constituting the interim management report) includes a fair review of the information required by DTR 4.2.7R of the Disclosure Guidance and Transparency Rules, being an indication of important events that have occurred during the first six months of the financial year and their impact on the condensed set of financial statements, and a description of the principal risks and uncertainties for the remaining six months of the year; and

- The financial statements include a fair review of the information required by DTR 4.2.8R of the Disclosure Guidance and Transparency Rules, being related party transactions that have taken place in the first six months of the financial year and that have materially affected the financial position or performance of the Company during that period, and any changes in the related party transactions described in the last Annual Report that could do so.

Principal Risks and Uncertainties

The Board has an ongoing process for identifying, evaluating and managing the principal risks and uncertainties of the Company and has carried out a robust review. The process is regularly reviewed by the Board. Most of the Company's principal uncertainties and risks are market related and are no different from those of other investment trusts that invest primarily in the UK listed market. These are set out within the Strategic Report contained within the Annual Report for the year ended 30 September 2019 and comprise the following risk categories:

- Investment Performance;

- Operational Risk;

- Governance Risk;

- Discount / Premium to NAV; and

- Legal and Regulatory Risk.

The Board notes that there are a number of contingent risks stemming from the COVID-19 pandemic that may impact the operation of the Company. These include investment risks surrounding the companies in the portfolio such as employee absence, reduced demand, reduced turnover, supply chain breakdowns and suspension of dividends. The Board has been proactive in engaging with the Manager to ensure that the Company continues to be managed in accordance with the investment objective and policy, and in the best interest of stakeholders. The Manager continues to review carefully the composition of the Company's portfolio and to be pro-active in taking investment decisions where necessary. Operationally, COVID-19 is also affecting the suppliers of services to the Company including the Manager and other key third parties. To date these services have continued to be supplied seamlessly and the Board will continue to monitor arrangements in the form of regular updates from the Manager.

In all other respects, the Company's principal risks and uncertainties have not changed materially since the date of the 2019 Annual Report.

Going Concern

In accordance with the FRC's Guidance on Risk Management, Internal Control and Related Financial and Business Reporting, the Directors have undertaken a rigorous review of the Company's ability to continue as a going concern.

The Company's assets consist substantially of equity shares in companies listed on recognised stock exchanges and in most circumstances are realisable within a short timescale. The Company has adequate resources to continue in operational existence for the foreseeable future and the ability to meet all its liabilities and ongoing expenses from its assets.

The Directors are mindful of the principal risks and uncertainties disclosed above, including COVID-19, and review on a regular basis forecasts detailing revenue and liabilities and the Company's operational expenses. Having reviewed these matters, the Directors believe that the Company has adequate financial resources to continue its operational existence for the foreseeable future and at least 12 months from the date of this Half Yearly Report. Accordingly, they continue to adopt the going concern basis in preparing the Half Yearly Report.

For and on behalf of the Board

Richard Burns,

Chairman18 May 2020

INVESTMENT MANAGER'S REPORT

UK market review

Global equity markets were generally buoyant during the first four months of the period as investors took encouragement from dissipating US-China trade tensions and a US Federal Reserve rate cut. The UK market responded positively to a landslide Conservative majority in the General Election in December and stocks with exposure to the UK domestic economy benefited from the decisive Conservative election victory.

Sentiment turned sour in late February when it became apparent that COVID-19 was becoming a global pandemic. A global recession became inevitable once governments announced lockdowns to limit the spread of the virus. The UK lockdown, announced on 23 March 2020, caused the economy to go into an induced coma. This led to a spate of profit warnings, dividend cuts and calls for additional capital by companies. The market quickly priced in these negatives. For the three months to the end of March, the FTSE All-Share Index was down by 22% on a total return basis - its most significant quarterly decline since the Black Monday sell-off in 1987. 

As pessimism set in, large-cap defensive sectors fared less badly than small and mid-cap cyclical sectors. The worst-affected sectors over the period were those where social interaction is fundamental to their business and which were consequently most directly affected by the lockdown and which saw an almost total collapse in their revenues, such as Travel & Leisure and General Retailers. Oil stocks fell as the oil price collapsed, driven by lower activity levels and an ongoing dispute between Saudi Arabia and Russia, while Banks fell on fears of a spike in loan impairments.

Portfolio performance

The portfolio's performance can be split into two discrete periods. The period started well, with December proving to be a particularly strong month for performance as our UK domestic holdings rallied strongly on the decisive Conservative election majority.

The portfolio's performance deteriorated markedly from mid-February as the full consequences of COVID-19 started to become apparent. Our portfolio was not well positioned for such a bleak and unprecedented event. Investor sentiment reversed quickly. UK domestic stocks, which investors had been buying for a recovery following the General Election, fell sharply. The vast majority of our under-performance came from owning companies that were directly impacted by the lockdown, in particular housebuilder Vistry, cinema operator Cineworld, transport operator National Express and travel business TUI. The underweight position in defensive stocks such as AstraZeneca and Reckitt Benckiser also detracted from performance, albeit far less significantly. There were only a few stock-specific disappointments during the period; the main one being oil producer Tullow Oil which announced a poor production update.

Partially offsetting these negatives, the portfolio benefited from owning financial businesses CMC Markets which enjoyed very strong volumes, John Laing Group whose pipeline of new investments surpassed expectations and Chesnara whose operations and capital position remained solid. All three companies announced an increase in their dividends in March, highlighting their resilience to COVID-19. The holding in SSE also benefited performance as the market responded positively to the sale of its wholesale energy business. Each of these positions helped generate some positive performance, but not enough to offset the impact of the stocks directly hit by COVID-19.

Revenue Account

Dividends distributed by companies in the portfolio in the period were £4.7m, which was 5.8% less than the £5.0m received at the same time last year.

During the period, 93% of the dividend income came from recurring rather than special dividends. Although the value of special dividends increased in the period year on year, in light of COVID-19, we do not expect to see further special dividends in the second half of the financial year.

The market backdrop has changed drastically since the advent of COVID-19. Dividend cuts have become very widespread with over half of FTSE 100 companies and over three quarters of FTSE 250 companies cutting. We have undertaken a line by line review of the portfolio, weighing the income prospects of our holdings based on their trading and balance sheet outlook. We have adjusted the portfolio by adding to existing holdings or buying new holdings in companies with the most resilient dividend prospects. Conversely we have sold some holdings in companies that are unlikely to be able to restore the dividend in the foreseeable future. We expect that around 60% of our holdings will continue to pay dividends despite COVID-19 and we would expect our income to fall less dramatically than the FTSE All-Share index, partly thanks to not owning some of the highest profile dividend cutters such as the large-cap banking stocks. Looking ahead, we expect the revenue account to recover as dividends are reinstated thanks to improved earnings visibility post-lockdown (especially companies that had cut for precautionary reasons) and also because we have added to attractively valued resilient dividend stocks.

Activity

Purchases

Our portfolio activity during the six month period reflected the opportunities arising as a result of political and economic uncertainty. The run-up to the UK General Election in December was characterised by nervousness towards UK domestic stocks. We therefore started a new holding in housebuilding business Vistry (previously known as Bovis) which undertook an equity placing to fund the purchase of Galliford Try's housebuilding and partnerships businesses. We considered the deal to be attractive, with forecast cost synergies from the integration set to drive double digit earnings growth. We also started a new holding in utility business Centrica where we saw early signs of an operational turnaround, as reflected in stabilising customer numbers, increasing energy services revenues and success delivering cost efficiencies.

The period also offered opportunities to buy solid international companies trading at attractive valuations. These included paper and packaging business Mondi whose consistently high returns are a function of its low cost of production and high quality assets. We also added to our holding in mining company Rio Tinto which appears well positioned given its position at the bottom end of the cost curve and to tobacco companies British American Tobacco and Imperial Brands whose revenue growth should benefit from ongoing price hikes and improving volume growth trends.

Sales

During the period we received bids for two of our holdings - real estate company Hansteen and insurance administrator Charles Taylor. Both were opportunistic bids by private equity, underlining the attractive valuations of neglected UK small cap stocks.

We also sold a number of industrial stocks whose full valuations appeared to offer limited upside potential, especially in the context of weakening order trends. These included ventilation business Volution, engineering business IMI and heat treatment business Bodycote. We also moderated our financials weighting by selling our holding in insurance business Prudential the solvency of whose US annuity business, Jackson National, might be jeopardised by the widening in corporate credit spreads.

Outlook

The portfolio is positioned in two clusters of stocks in the light of COVID-19:

1. Resilient income stocks:

Recognising the importance to Shareholders of generating an attractive level of income, we have focused on identifying attractively valued stocks that should prove resilient in their dividend-paying ability. We estimate that these stocks represent just over half of the portfolio.

We expect these businesses to trade robustly in 2020 despite COVID-19, allowing them to continue paying attractive dividends. These stocks will have two benefits to Shareholders. First, they will support our revenue account. Second, in a world of dividend scarcity, it is likely that these stocks will see their valuations re-rate even if markets remain subdued. Examples of resilient income stocks we have added during March include BAT, Rio Tinto, Moneysupermarket and Hastings.

2. Interrupted income stocks:

COVID-19 has caused widespread dividend cuts. While dividend cuts are never welcome, the share price response to this news has often been savage. This requires us to take a view on whether the market has over-reacted. We recognise that the hiatus in economic activity is an issue for companies with vulnerable balance sheets. The judgement that needs to be made is to assess how a company's cash flows will be affected and whether it can weather a period of short-term balance sheet pain. Our research incorporates an assessment of each company's financial position. This requires nuanced analysis, stock by stock. On this basis we have differentiated between companies we believe have the potential to make a healthy recovery, such as GVC, DFS and MJ Gleeson, and weaker companies that may struggle, such as Saga, TUI and Cineworld. Companies that make it through to the other side of a crisis will tend to emerge with an improved competitive position which can justify a meaningful valuation re-rating.

Investor uncertainty over the economic effects of COVID-19 caused an emotional response in March, with many of our holdings falling by over half within a matter of weeks as markets priced in a deep recession causing a prolonged period of depressed revenues and balance sheet stress. The level of despondency appears at least as bad as the financial crisis in 2008/09, with no shortage of economists publishing reports predicting the most painful recession in living memory. While such reports make uncomfortable reading, it is important to remember that markets tend to move several months ahead of economic data. Just as in 2009, we believe that extreme negative sentiment has created asymmetrical risk/reward for investors willing to remain focused on stock-level opportunities. As panic subsides, we expect investor time horizons to lengthen. 

Share prices respond to incremental change. Once negative outcomes are priced in, share prices can go up even if the news flow is only marginally less negative than feared. It would be misguided to wait for the news flow to turn outright positive. Therefore we believe it makes sense to look forward and ask whether the reality will justify the pessimism that is priced into valuations.

While it is impossible to predict the shape of the economic recovery, we can be confident that the disruption to economic activity caused by COVID-19 will ease as lockdown restrictions are gradually lifted. Decisive government action will help to bridge the private sector through this period of exceptionally weak activity. With each incremental easing measure, economic activity is likely to pick up. Given that the economy virtually ground to a halt in April, we are set to see a month-on-month improvement in economic activity as soon as the easing measures start. On a quarter-on-quarter basis, economic activity should start to show a sequential improvement in Q3. Investors will not wait for year-on-year growth to turn positive before they start to buy cyclicals.

On a longer-term view, the challenge will be how to pay down the deficit. It is likely that the Government will favour debt monetisation, followed by a period of inflation designed to erode this debt, rather than increasing taxes. The combination of a recovery in economic growth and tolerance of higher inflation is a benign environment for equities, in particular the domestic cyclicals that are currently trading on valuations which price in a sustained period of depressed profitability. Many of these domestic cyclicals will emerge from the crisis in better shape with increased market share. This is what makes this environment a particularly rich hunting ground for investors looking over to the other side of the current turmoil.

Looking ahead, we are confident that the portfolio is well positioned. From an income perspective, we have been adding to some of our resilient income stocks and we also expect a resumption of dividend payments as soon as the outlook improves. Although the revenue account will be significantly lower than we reported last year, the Company is in a relatively comfortable position in respect of dividend payments to Shareholders, having built up significant reserves in recent years.

From a capital growth perspective, we see significant potential for share prices to appreciate as valuations respond to economic recovery once the intensity of the virus reduces and lockdowns are eased.

Thomas Moore,

Portfolio Manager

18 May 2020

CONDENSED STATEMENT OF COMPREHENSIVE INCOME

CONDENSED STATEMENT OF FINANCIAL POSITION

CONDENSED STATEMENT OF CHANGES IN EQUITY

NOTES TO THE FINANCIAL STATEMENTS (UNAUDITED)

For further information, please contact:

James Thorneley

Press Office

Aberdeen Standard Investments Tel: 020 7463 6323

Evan Bruce-Gardyne

Client Director, Investment Trusts

Aberdeen Standard Investments Tel: 0131 372 1692