Henderson Smaller Companies Ord HSL

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1 Page 1 of 7 Morningstar Research Report Text as of 20/11/2017, Data as of 09/04/2018 Morningstar Benchmark FTSE Small Cap Ex Invest Trus Morningstar Category TM UK Small-Cap Equity Last Closing Price GBP Last Closing NAV GBP Discount/Premium % Latest Published NAV Latest Published NAV Date 29/03/2018 Traded Currency GBX Yield 2.22 Dividend Frequency Semi-Annual Total Assets Mil Net Assets Mil Market Cap Mil Net Gearing % 10 Avg Daily Shares Traded Mil (3 month) 0.09 Inception Date 16/12/ k 80k 60k 40k 20k 10k Returns Price NAV Category Index 4k 0 Discounts -10 Premium Discount -20 Average Line YTD Performance % Fund Price Fund NAV /- Category /- Benchmark Morningstar Analyst: David Holder, Senior Analyst The conduct of Morningstar's analysts is governed by Morningstar's Code of Ethics, Securities Trading and Disclosure Policy, and Morningstar Manager Research Integrity Policy. For information regarding conflicts of interest, please click Executive Summary People: Neil Hermon brings great experience in small-cap investing and a long tenure at this fund. The team also includes Colin Hughes, who has over 40 years of investment experience, and Indriatti van Hien, who was appointed deputy fund manager in June Parent: Merger complete, Neutral Parent rating maintained. Board: The board of five, which has undergone some change in the recent past, brings a variety of relevant experience to bear here. They are all shareholders, which we like to see. Process: Quality at the right price is the moniker here. Hermon follows a low-turnover process focused on four key measures. He will invest selectively in AIM, and the resultant portfolio has a distinct mid-cap bias when compared with the peer group. Performance: Investors able to tolerate the volatility have been well rewarded through Hermon's tenure, albeit the ride hasn't always been smooth. However, he has outperformed the OEIC, benchmark, and category peers over the short, medium, and longer term. Fees: The base management fee is very competitive, but despite this we think that the performance fee element could be structured in a more shareholder-friendly way. Role in Portfolio For investors with a broadly spread portfolio this fund offers diversification and specialist exposure to U.K. small and midsized companies which may well complement existing investments. Given the nature of returns here investors should be willing to accept periods of volatility and have a longer-term investment horizon. Morningstar Opinion 20 Nov 2017 Henderson Smaller Companies offers investors an excellent choice for investment into U.K. small and mid-sized companies. The smaller companies team at Henderson, which sits within the broader U.K. equity team, benefits from the very experienced duo of Neil Hermon and Colin Hughes. Hermon has been manager of the trust since 2002 and has invested in U.K. smaller companies since His accountancy background beginning with E&Y in 1989 is, we feel, very pertinent for smaller companies' investment whilst Hughes has 45 years of investment experience. Indriatti van Hien, who was appointed deputy fund manager in June 2016, is also an accountant by training, as is Shivam Sedani, who joined the team in a relatively junior capacity in January We are comfortable that the team is more than adequately resourced given the experience available and the process that screens down the investable universe of opportunities. The investment process is rigorous and established. Initially the universe is screened for suitable liquidity (minimum market cap is generally be around GBP 100 million) and then four key measures (Model, Management, Money, and Momentum) are applied to the remaining stocks. Company meetings and broker input, together with a valuation and macro sanity check, complete the process. Hermon has +/- 4% at the stock and +/- 10% latitude at the sector level versus the index. The resultant portfolio has a distinct growth tilt. Hermon is valuationconscious but is willing to pay up for higherquality earnings growth characteristics. This approach has delivered strong returns over his tenure; however, investors should be mindful of the volatile nature of returns. Despite the U.K. smaller companies opportunity set, the portfolio derives some 48% of end market sales from overseas broadly spread between Asia/emerging markets, North America, and Europe. At the margin the team has been working on reducing pure U.K. domestic plays. One of the portfolio's largest holdings in NMC Health illustrates this point well, as it provides medical services throughout the UAE, which has organic growth opportunities driven by supportive demographics. Recent new positions include diverse ideas such as the non-cyclical U.S.- focused litigation business of Burford Capital and the more cyclical SIG, where the team believe that a new but experienced management team can be the catalyst for a change in fortunes. We think that the fund is a strong candidate for those investors seeking exposure to a broad range of U.K. smaller companies from AIM through to the FTSE 250. The team is stable and the manager vastly experienced, which leads to a consistent and effective process. In line with our increased conviction we are upgrading the to Silver from Bronze.

2 Page 2 of 7 Morningstar Research Report Text as of 20/11/2017, Data as of 09/04/2018 People Manager Neil Hermon Manager Start 01/11/2002 Avg. Manager Tenure 15.4 Years Other Funds Managed Neil Hermon has been at the helm of this fund since November Having originally trained as an accountant with E&Y in 1989, he joined General Accident in 1993 (now Aviva) and became a UK equity smaller-companies analyst. In 1994 he took on his first fund management charge there and in 1996 he became head of the team. In 2002 he moved to Henderson to be head of the UK Smaller Companies team and in 2004 he was made head of pan-european smaller companies at the firm. A restructure of the entire equities division at the start of 2013 means Hermon is now co-head of the UK equities team comprising eight; however he still interacts with the pan-european small-cap team of two. Prior to Hermon taking charge, this fund was predominantly a technology trust which was restructured after the TMT bubble collapsed, and Hermon took over when he joined the firm shortly after. In addition (since August 2016) Hermon has managed the Henderson UK Alpha fund, a multi-cap product, alongside Indriatti van Hien. The team at Henderson manages GBP 900 million in UK Smaller companies' assets including this investment company, an OEIC mirror, a small long/short sleeve for another mandate and a segregated mandate. The team in total numbers four including the experienced Colin Hughes, whilst Indriatti van Hien was appointed deputy fund manager on this fund in June Finally Shivam Sedani joined the team in a relatively junior capacity in January Parent Fund Advisor Domicile Website Janus Henderson Investors UK ts/smaller-companies-trust In October 2016, Janus and Henderson announced they intended to merge. The deal completed at the end of May 2017 with the new group named Janus Henderson Investors. The business aims and rationale for combining the two entities were clear. Both firms had been looking to diversify their product ranges and increase the scope of distribution, and this merger achieves those objectives. They both also recognised the benefits of scale in a world of increasing regulation and scrutiny with regard to pricing, with the combined entity having assets under management of USD 331 billion (31 March 2017), but no long-term fee cuts have been announced. The previous firms' CEOs are co-leaders of the new group, and Enrique Chang, ex-janus head of investments, is the overall CIO. This provides some potential for change to the Henderson culture, but Chang had a positive impact on the Janus equity team and some senior members from the Henderson investment team still have a voice, so there is opportunity for best practices to win out. We have seen some departures, but the fact that investment team overlap was relatively limited has been a positive. There are, however, likely to be further changes as the group strategy takes shape, not least in terms of the CEO role, which the board is expected to review in three years' time. We continue to monitor this situation and maintain a Neutral Parent rating. Board of Directors Tender Offer Buyback Authorization No Yes The board comprises five members who have an average tenure on the board of over five years. The chairman Jamie Cayzer-Colvin took on this role in September 2011 after being on the board for just four months. He is on the board of a number of other trusts, most notably the self-managed Caledonia Investments, where he has been involved in the investment strategy since All five directors are deemed independent and all are shareholders which we like to see as it aligns their interests with those of their investors. There has been turnover in the board constituents in the recent past with the retirement of the Hon James Nelson in October 2013 in addition to the three former directors who have retired in the last five years, all of whom had long tenures here. In addition Keith Percy retired from the board in September 2016 after 10 years' service to be replaced by Victoria Sant, who was an investment manager at the Wellcome Trust for 10 years. Sant is also a senior adviser at the Investor Forum with a focus on liaising with U.K.-listed companies on strategic and governance issues. The board also has a good balance of investment and industry experience. They meet six times a year and, in conjunction with the manager, they set and review gearing levels in the fund and provide Hermon useful strategy guidance.

3 Page 3 of 7 Morningstar Research Report Text as of 20/11/2017, Data as of 09/04/2018 Process: Investment Approach Investment Objective: To maximise shareholder''s total returns by investing in smaller companies those are quoted in the United Kingdom. Hedging Policy Tactical Use of Cash Process: Portfolio Positioning Morningstar Holdings Based Style Map Deep Val Core Val Core Core Grw High Grw Giant Large Mid Small Micro NULL No The investment objective is to maximize shareholders' total returns by investing in Smaller Companies. The benchmark is the Numis Smaller Companies Index (ex Investment Trusts) Index. The investment universe is some 1,000 companies (including AIM) which reduces by half once this is screened for liquidity. This group is then subject to financial statement analysis and broker research with the resultant universe of around 200 stocks then subject to the 4Ms process. 4Ms refers to Model, Management, Money, and Momentum. Within Model they consider competitive advantage and enduring franchise. Management focuses on the management structure, strategy, motivation, vision, governance, and record. Money refers to the financial strength, structure of the company including the balance Hermon is willing to pay up for quality growth and consequently the portfolio tends to be slighter more expensive optically than the index (2017 portfolio P/E: 17.9x versus the index of 14.4x) but with higher earnings characteristics (2017 earnings growth estimates: 15% versus 5%). The portfolio will tend to have in the region of stocks with relatively low average portfolio turnover of around 20% per year, reflecting an average five-year holding period and a run the winners approach, which can increase the average sheet and cash flow. Ideally the company is selffinanced. Finally Momentum references their belief that earnings surprises and business momentum tend to persist with the reverse also true. They will use broker estimates and models whilst testing the various assumptions and meet management several times a year. Both Hermon and van Hien are accountants so are well versed at analyzing balance sheets and accounts. Finally the process considers liquidity, the macro perspective, and valuation. Hermon takes a pragmatic approach to value including metrics such as P/E, EV/EBITDA/free cash flow, and dividend yield. Free cash flow is always important and a diminishing figure here could indicate changing fortunes. market cap. Positions are initiated at 0.5% with the final size determined by conviction, benchmark weight, and liquidity. Hermon tends to avoid Biotech or blue sky technology companies either because they are not profit-making or the technology makes them too opaque to analyze. Stocks are sold within six months of entry into the FTSE 100, if the valuation becomes unjustified or if elements of the 4M investment process deteriorate. World Regions Assets % Greater Europe United Kingdom Europe-Developed 0.49 Europe-Emerging 0.00 Africa/Middle East 2.62 Americas 0.00 North America 0.00 Latin America 0.00 Greater Asia 0.66 Japan 0.00 Australasia 0.00 Asia-Developed 0.66 Asia-Emerging 0.00 Not Classified 0.00 Asset Allocation Top 10 Holdings 30/09/2017 % Assets Long Short Net Cash Equity Bond Other % Assets Bellway PLC 3.45 NMC Health PLC 3.41 Renishaw PLC 2.53 Clinigen Group PLC 2.44 Intermediate Capital Group PLC 2.31 Melrose Industries PLC 2.28 Paragon Banking Group PLC 2.05 Victrex PLC 1.86 Sanne Group PLC 1.57 Playtech PLC 1.54 Sector Weightings % Equity h Cyclical 52.1 r Basic Materials 9.6 t Consumer Cyclical 20.9 y Financial Services 14.4 u Real Estate 7.2 j Sensitive 38.5 i Communication Services 0.9 o Energy 2.9 p Industrials 18.5 a Technology 16.2 k Defensive 9.4 s Consumer Defensive 1.9 d Healthcare 7.4 f Utilities 0.0

4 Page 4 of 7 Morningstar Research Report Text as of 20/11/2017, Data as of 09/04/2018 NAV Performance Analysis Data as of Trailing Returns Price Total Rtn % +/- Bmark 3 month Month Year Year Ann Year Ann Over Hermon's tenure since November 2002 the fund has outperformed its Morningstar category and benchmark by more than 4 and 3 percentage points, respectively, on an annualised basis, to October He has also comfortably outperformed both cumulatively over 10, five, and three years, respectively. Pleasingly the trust has also beaten its OEIC counterpart since November 2002, which is a strong indictment of the benefits of the closed ended structure in these more illiquid markets albeit with higher levels of volatility. Performance has been driven by stock positioning, and for the sector has shown notable consistency, illustrating the all-weather nature of the portfolio. The use of gearing has also been accretive to performance in recent years. Trailing Returns NAV Total Rtn % +/- Bmark +/- Cat %Rnk In Cat 3 month Month Year Year Ann Year Ann Calendar Total Returns Fund(price) Fund(NAV) YTD -20 Discount / Premium Data as of Discount / Premium % 6 Mo 1Yr 3Yr High Average Low Z-Statistic Risk & Return Data as of Morningstar Rating Return Risk Rating 3 Year Avg Above Avg 5 Year Avg High 10 Year Above Avg High Overall Above Avg High There is no formal discount control mechanism in place here although every three years there is a continuation vote (passed in Sept 2016). 55 million shares have been bought back over the last 15 years with little long term effect on the discount. The board are keen that the shares offer liquidity to investors and are cognizant of the costs involved in repurchases and so are reluctant to buy back except in extremis. The fund's 10 year The fund demonstrates a risk profile that's higher than its Morningstar Category; over three, five, and 10 years its standard deviation (a statistical measure of risk) is higher than the Morningstar category and benchmark. However, the fund's Sharpe ratio illustrates that risk has been used to good effect here for investors. The unconstrained nature of the process leads to tracking error in the 6%-7% range and active share of 72%. The average discount now stands at around 18% with the current discount of 10% (November 2017). Investors should be aware that in times of market stress or when the asset class is deeply out of favour that the discount can move aggressively wide which amplifies the risk for investors should they become forced sellers at an inopportune time. portfolio is well diversified at a stock level, with around 117 names. The top 10 holdings (as at September 2017) account for 23% of total assets. However, investors can expect notable sector biases relative to the category, and the manager isn't afraid to take non-benchmark positions in AIM listed companies (September 2017: 17%) and run his winners into the FTSE 250. Volatility Ratios 3 Yr NAV 5 Yr NAV Standard Deviation Mean Sharpe Ratio Sortino Ratio Risk vs Index 3 Year 5 Year Alpha NAV Beta NAV R-Squared NAV Treynor Ratio NAV

5 Page 5 of 7 Morningstar Research Report Text as of 20/11/2017, Data as of 09/04/2018 Fees Management Fee % 0.35 Ongoing Charge ex Perf Fee % 0.43 The management agreement provides a formal review every 3 years of the fee arrangement. The previous management fee was 0.45% with a performance fee applicable of 15% of the outperformance of the benchmark (limited to 2 million) based over 12 months with no High Water Mark applicable. From June 2015 the fee has been reduced to 0.35% with Henderson due 15% of the outperformance over the benchmark in any one year, capped at 0.9%. Should the NAV end the year lower than at the beginning then no performance fee will be eligible however past underperformance is carried forward as is past outperformance. The performance fee arrangement could be improved in our opinion if the review period was longer than a year and if a hurdle was incorporated, but the reduction in the headline management fee to very low levels makes this a competitively priced fund overall. The ongoing charge for fiscal year 2017 was 0.43% (1.01% inc performance fee) (2016: 0.44%, with no performance fee applied). Gearing Total Assets Mil Net Assets Mil Dividends Dividend History YTD Dividend Special Dividend Total Gearing is decided upon by Hermon in concert with the board and is determined by stock selection with an element of top-down consideration. In May 2016 the company redeemed its 10.5% GBP 20 million debenture and replaced it with GBP 30 million of unsecured debt at 3.33% through Metlife on a 20-year term enabling substantial interest savings. In February 2017 the company arranged a flexible facility with Scotiabank for GBP 40 million, subsequently increased to GBP 60 million. The maximum gearing level is 30% and it has ranged from 5% to 18% during The manager is aiming to produce total returns in excess of the benchmark index, so that includes an element of income. Until 2000, the board usually paid the annual dividend in two instalments, but this was when it was primarily a technology trust; since 2001 it has been one payment with Hermon's tenure. With the current structure he would expect that the neutral gearing level would be in the 5%-10% region. He requires board approval to draw upon the additional flexible borrowing facility over and above the current debenture. He would not feel comfortable using CFDs in the portfolio and he has never held net cash as he feels investors allocate to the fund on the basis that they wish to gain exposure to U.K. Smaller Companies. Current net gearing is 9% (November 2017). the occasional special dividend. For fiscal 2017 a dividend of 18p (2016: 15p) per share was declared fully covered by earnings of 19.6p (2016: 15.9p). Since 2003 the dividend has grown by a compounded rate of 29%. The current dividend yield is 2.1% (November 2017).

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