At one time Edinburgh Fund Managers’ shares traded at £7. It looked as though the good times would last forever. Today the shares sell at around 80p but now the company has found a white knight to stop them going down the pan

By Ian Fraser

Published: Sunday Herald

Date: September 7th, 2003

THE names gave little away. “Lothian” was up against it and had entered talks to be acquired by “Egyptian”. But “Shetland”, in partnership with “Stellar”, was keen to get its hands on the Scottish county, Lothian. Now, Shetland and Stellar have ridden to Lothian’s rescue and all who reside there will live happily ever after. Or will they?

This may look like gobbledegook, but the code names were introduced by Martin Gilbert, chief executive of Aberdeen Asset Management (Shetland), after he concocted his cunning plan to take over Edinburgh Fund Managers (Lothian) back in early July. At the time the beleaguered EFM was already “in play”, having reportedly entered takeover talks with Isis Asset Management.

The idea of a joint bid for EFM first cropped up at a lunch Gilbert was having with his friend John Duffield, chief executive of rival asset manager New Star (Stellar) at the London eatery Signor Saffis.

“We started talking about EFM, and I said how about a joint bid,” recalled Gilbert, who on Friday was cock-a-hoop after picking up £2 billion of assets to manage for what appears to be an outlay of around £7 million. “He [Duffield] said he would be interested in buying out the retail funds and the whole thing just fell into place.”

The pieces clicked two months later, at around 3.45am last Friday morning, after advisers at Dickson Minto in Edinburgh, and Ernst & Young and Hawkpoint Partners in London hammered out a press statement during an extended conference call that was agreeable to all parties — and which would present the overall £36m deal in the most positive light. As part of the deal, AAM agreed to put £9m into EFM’s final salary pension fund in the three years following completion.

At a guess, around one-third of EFM’s remaining 110 jobs in Edinburgh are likely to be saved as a result of the deal, with all those involved in managing the company’s nine remaining investment trusts secure in their jobs. But Gilbert, who addressed the troops in EFM’s Donaldson House HQ at 9.30am on Friday morning, was unable to give firm guarantees about numbers.

He said: “Clearly in any merger of fund management companies there are going to be redundancies when you put the two teams together.”

Insiders point to the way that jobs were retained, and lost, in Glasgow after Murray Johnstone was acquired by AAM in October 2000.

EFM’s Dundee-based back office, which employs 50 people, is thought to have a slightly rosier future. It is likely to have an enlarged role within the Aberdeen group. Gilbert said: “Dundee is a very good operation, the clients like it.” But he said it was too early to say whether it would have an enlarged role within the AAM group.

Gilbert is clearly satisfied that AAM now has a sizeable presence in Scotland’s four largest cities and that it has become the UK’s largest manager of investment trusts.

Charles Williams, managing director of Hawkpoint Partners, which handled the sale on behalf of EFM, was delighted that EFM had been salvaged.

He said: “EFM was once a great company and I am personally pleased that we have managed to find a solution that balances the needs of all the stakeholders. Given all the uncertainty EFM has been through, this is a very good deal for shareholders.” Shareholders in the Edinburgh company now have until October to weigh up the merits of the deal.

But the carve-up by Gilbert and Duffield is still an extraordinarily disappointing outcome for a business which, as recently as year 2000, had the potential for greatness — and which for many years was chaired and then deputy chaired by the de facto “clan chief” of Scottish capitalism, Sir Angus Grossart.

Ironically Iain Watt, the man accused of running EFM into the rocks and who was its chief executive until last November, told the Sunday Herald back in December 2001 that, “Aberdeen is not in a position to do it. They have tremendous problems of their own”.

Like many Scottish fund management groups EFM grew out of the private client department of a law firm — in this case Edinburgh-based Shepherd and Wedderburn.

The spin-off, led by Alan McInroy, opened for business in 1968, with the American Trust (now reborn as Edinburgh US Tracker) already under its belt. The fund manager initially excelled in investing in Japan.

Graeme Maclennan — a former joint managing director — did well for investors by piling into the Japanese stock market as it gained momentum in the run up to the bursting of the Tokyo bubble in 1989. “That’s what enabled EFM to take off,” says one ex-insider. “In the 1980s 50% of our assets were invested in the Japanese market.”

The insider added that EFM was “by the far the buzziest and most exciting fund management firm to be in in the late 1980s.” It was also a pioneer, at least in Scotland, in launching unitised, as opposed to closed-end, funds.

Insiders believe one reason for EFM’s instability, and ultimate near collapse, was that it became a quoted company. EFM floated on the alternative investment market in 1983 and four years later listed on the main London Stock Exchange just after Margaret Thatcher’s “Big Bang” deregulated the stock market.

Privately-owned fund management firms (such as Baillie Gifford & Co and Martin Currie) do not come under such intense scrutiny. As a plc, EFM also had to contend with sudden and often damaging changes of ownership. “The firm always ended up with one dominant shareholder on the register whose interests rarely coincided with its own” said a former insider.

In addition to the uncertainties created a sequence of dominant shareholders — which included, in succession, American Trust, British Investment Trust and Hermes — EFM did not really help itself. A dangerous cocktail of bad management and a lack of strategic direction contributed to the fact that a business once worth nearly £200m has been sold for £36m worth of AAM’s paper.

Iain Watt, chief executive from 1991 until 2002, had a particularly unfortunate effect on the company. One observer believes that non-executive director Sir Angus Grossart should have recognised Watt’s shortcomings and edged him out ahead of the shareholder coup, which cost both Grossart and Watt their jobs in November 2002.

The source said: “In his continual backing of Watt — even after Watt had utterly lost the confidence of his own staff — Angus has a lot to answer for. As a non-executive director he ought to have been more responsive to the shareholders.”

Following a 600p per share bid made in July 2001 by Tony Watson, chief executive of Hermes, Grossart and the group’s then chairman John Wright are said to have argued internally that the offer was far too low to accept. Others say they were deluding themselves if they believed EFM could have commanded more, and were arguably failing in their fiduciary duties as directors by rejecting it as “derisory”.

One ex-colleague said: “Iain was a great leader when things were going well. But he was the worst sort of leader when we were on the back foot.”

Watt became increasingly introverted towards the end of his calamitous reign. He would go up in the glass-sided lift in EFM’s Donaldson House offices in the morning but cloistered himself away all day in his office, only emerging again to go back down the lift at the end of play, according to former colleagues. For months he was not even on speaking terms with his number two, chief investment officer, Mike Balfour.

One insider added: “Towards the end he became incapable of making decisions. At that stage he would discuss absolutely everything with Grossart before making up his mind.”

Another obvious problem was that EFM was too thinly spread for an investment house which even in its peak year had just £8.6 billion under management. In addition to its core investment trusts, EFM was at one time attempting to run venture capital money through its acquisition of Northern Venture Managers, manage institutional pension funds, run unit trusts, emerging market funds and it also acquired a fund business called Edinburgh Portfolio. One former insider says: “EFM was far too broadly-based. It was so broadly based that it was unable to excel in any area.”

This led to a third problem, one which is ultimately fatal in any fund management group – inadequate investment performance.

EFM’s balanced fund has consistently been ranked in the bottom 10% by Russell Mellon/Caps. The fund ranked 74th out of 88 in 2002. It was 71st out of 75 over three years and 59th out of 65 over five years. And the Edinburgh Investment Trust only managed to make a cumulative return of 132% in the 10 years to March 2002. This compared with 209% for a typical UK equity focused investment trust, according to Standard & Poor’s.

Funds under management barely grew. Admittedly they did rise from £3bn in 1995 to £8.6bn in 2001. But that occurred on the back of EFM’s 1996 acquisition of Dunedin Fund Managers, for which EFM is widely considered to have overpaid. The shares peaked at £7.86 in 1995. It is, therefore, all the more ironic that, after pulling off the Dunedin acquisition, Watt boasted: “The bad news is behind us. We are moving forward.”

The same sort of sentiment was prevalent last November. After staff learned of the sensational boardroom putsch which cost Grossart and Watt their jobs, there was a spontaneous cheer in Donaldson House.

There were some who believed that the two 38-year-old executives, Anne Richards and Rod McRae, who took over from Watt, might rebuild the firm and usher in a bright new future. Some shareholders, including 29.3% holder Hermes, were prepared to give Richards and McRae their head.

But a string of body blows since, most notably the loss of the contract to manage flagship Edinburgh Investment Trust (worth around £5m per year in fees) and the departure of head of UK equities Robert Waugh, conspired to thwart that. EFM rapidly became a company on life support as its staff awaited news of who their new owners would be.

For Gilbert, the deal is expected to go some way towards cleansing his image as “the unacceptable face of capitalism”, a label he earned during his grilling by the Treasury select committee during the split-capital investment trust scandal.

There is a danger that this could become a Pyrrhic victory for Gilbert. At least some of the nine investment trusts that are still managed by EFM might not take kindly to coming under the aegis of an investment house which is seen by some as having a tarnished reputation.

Gilbert said: “I can’t speak for the boards of the trusts. They are all very independent. But we have held a series of presentations with them and they are minded to be supportive. It is a bloody good deal for EFM. Duffield gets the bit he wanted and we get the closed end business.”

So Shetland rules, okay?

RISE AND FALL: HOW EFM SNATCHED DEFEAT FROM THE JAWS OF VICTORY

1969: Edinburgh Fund Managers grew out of Shepherd & Wedderburn. In 1985 Iain Watt joins as director and head of asset allocations.

Mar 1994: Shares surge to 588p as profits soar to £9.8m and continue to rise

Mar 1996: EFM’s £86m Dunedin acquisition

Mar 1997: EFM’s British Investment Trust liquidated

Mar 1998: Profits tumble to £14m from £18m.

Shares slide to 317p March 2000: Dot.com bubble bursts May 2001: John Wright replaces Colin Ross as chairman. Tony Watson of Hermes joins board.

Sept 2001: Shares crash 20% as profits slashed.

Nov 2002: Palace coup removes chief executive Iain Watt. John Wright and Sir Angus Grossart step down from board.

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Posted by Ian Fraser on Sep 7 2003. Filed under Article Library. You can follow any responses to this entry through the RSS 2.0. You can leave a response or trackback to this entry