RNS number:5322U

23 November 2023

Sequoia Economic Infrastructure Income Fund Limited

(the "Company")

Interim Results for the six months ended 30 September 2023

KEY HIGHLIGHTS

·      Resilient portfolio generating substantial cash despite macroeconomic challenges, outperforming wider credit markets

o  Stable NAV, at 92.88 pence per ordinary share (31 March 2023: 93.26) 

o  Total return on NAV of 3.3% for the period in line with long term returns expectations of 7-8%

§ This substantially outperformed Gilts over the same period (-7.7% total return) and consistent with leveraged loans and high yield bonds

o  Sustained income and cash flow supports decision taken in November 2022 to raise the dividend by 10% with effect from February 2023

·      Maintaining credit quality of the portfolio while still maintaining an attractive yield

o  Well diversified portfolio of private debt investments secured by infrastructure assets in low risk-jurisdiction with no single investment accounting for more than 3.9% of NAV

o  59.4% of the portfolio in defensive sectors including telecommunications, accommodation, utilities and renewables

o  53.5% of the portfolio in senior and 45.6% in mezzanine ranked secured loans

o  Improved the portfolio's overall ESG by allocating capital to higher-rated opportunities and selling off legacy investments     

·      Portfolio income expected to grow

o  Short weighted-average life loan life of 3.6 years enables timely redeployment of capital into higher yielding opportunities

o  54.4% floating rate investments, capturing short-term rate rises and reducing interest rate sensitivity

o  Enhanced lending margins and more favourable credit terms contributing to the overall performance have arisen from challenging market conditions reducing options for raising capital

·      Strong pipeline of investment opportunities, focused on resilience and credit quality

o  Diverse array of attractive potential investments currently under consideration

o  Commitment to maintaining selective approach to new investments, favouring highly defensive sectors with high barriers to entry that provide essential services and that are expected to benefit from an improving economic backdrop

o  Focused on senior secured loans that also maintain or improve portfolio diversification

·    Proactive approach to share price and discount management 

o  Increase in rating of the shares improved to a 10.4% discount (31 March 2023: 13.8%), driven by  share price growth to 83.20p (31 March 2023: 80.40p)

o  Significant strategic share buy-back programme

o  Directors and Investment Adviser team members participated in share purchases during the period reflecting their confidence in the Company

Robert Jennings, Chair, commented:

"I am delighted to announce another robust performance despite a challenging economic backdrop over the last six months. Through the actions that the team has taken, the business enjoys considerable flexibility in facing future challenges and opportunities. The substantial amount of cash generated by the portfolio has enabled the Company to continue its balanced approach to capital deployment. All Fund leverage has been repaid; the share buy-back has continued; and the Investment Adviser has been able to deploy capital selectively in a good number of new, high-quality investments.

"This is my last set of results as Chairman of SEQI before I step down at the end of December. I do so confident that SEQI is well positioned for the future."

Randall Sandstrom, Director and CEO/CIO, Sequoia Investment Management Company said:

"Whilst the global outlook remains uncertain, there are reasons to be cautiously optimistic that we are closer to entering a less malign economic environment. The portfolio is well positioned to continue to provide security with our ongoing commitment to prioritising quality, diversity, and cash generation. Inflation is falling in the US, UK and Europe and consumer spending in the US is driving strong economic growth. However, our investment strategy remains focused  on positioning the portfolio against potential further downturns through investments in economic infrastructure assets with highly defensive characteristics, maintaining credit quality and delivering attractive and sustainable returns."

INVESTOR PRESENTATION

The Investment Adviser will host a presentation on the annual results for investors and analysts today at 10:00am GMT. There will be the opportunity for participants to ask questions at the end of the presentation. Those wishing to attend should register via the following link:

https://brrmedia.news/SEQI_HYR

The presentation will be hosted by Randall Sandstrom, Matt Dimond and Reem ElAshmawy. Steve Cook is currently on medical leave.

Copies of the Interim Report will shortly be available on the Company's website www.seqifund.com and on the National Storage Mechanism.

For further information, please contact:

About Sequoia Economic Infrastructure Income Fund Limited

The Company seeks to provide investors with regular, sustained, long-term distributions and capital appreciation from a diversified portfolio of senior and subordinated economic infrastructure debt investments. The Company is advised by Sequoia Investment Management Company Limited.

Chair's statement

"Our business has emerged in good shape and through the actions that the team has taken, enjoys considerable flexibility in facing future challenges and opportunities."

It is my pleasure to present to you Sequoia Economic Infrastructure Income Fund Limited's (the "Company" or "SEQI") Interim Report for the six‑month period ended 30 September 2023.

Overall, the portfolio remains resilient, and continues to generate substantial amounts of cash despite ongoing macroeconomic challenges. Inflation was high during the period, interest rates rose, and economic growth remained sluggish. Our robust performance against this backdrop is evidence of our key portfolio attributes, including wide diversification, with the average loan only representing about 2% of the portfolio, and a relatively short average maturity, which allows loan repayments to be redeployed into higher yielding opportunities. The Company has maintained its "balanced" approach to capital deployment: all fund leverage has been repaid; the share buy-back has continued; and the Investment Adviser has been able to deploy capital selectively in a number of high-quality new investments. We strongly believe that this is a sensible approach and delivers flexibility in a period of uncertainty and elevated volatility. Our solid results for this half year, and the increase in our dividend with effect from the payment in February 2023, bear this out.

NAV and share price performance

Over the first half of this financial year, the Company's NAV per ordinary share fell by approximately 0.4%, from 93.26 to 92.88. Over the same period, the Company paid dividends of 3.4375p per ordinary share, consistent with our increased full year target dividend of 6.875p, resulting in a total NAV return of 3.3% (not annualised).

This performance was a much better return than Gilts over the same period and is comparable to the returns seen on other types of debt investments such as leveraged loans and high yield bonds. Since its IPO the Company has outperformed comparable asset classes by a significant margin. For example, £100 invested in high yield bonds at the time of the Company's IPO would now be worth £121.33; £100 invested in a 10-year Gilt would now be worth £110.95; while the same amount of money invested by the Company would now be worth £137.55 (in all cases assuming that income is reinvested).

During the half year, the Company's share price improved from 80.40p to 83.20p, reflecting a narrowing of the discount to NAV from 13.8% to 10.4%. After taking account of dividends, this resulted in a total return² over the six months to 30 September 2023 on the ordinary shares of 7.9% (not annualised).

While the share price clearly reflects the wider malaise in the UK listed fund sector (and especially so for alternative assets such as private debt, infrastructure and renewable energy), the Company has continued to support NAV per share through the buy-back programme. Commencing in July 2022 we have strategically bought back shares in the market, and the Directors and certain members of our advisory team have demonstrated their faith in the business by purchasing shares in their own capacity. Over the half year, the Company bought back 53,649,927 shares, making it one of the largest buy-back programmes across listed alternative assets on the LSE.

We do not believe that the levels of discount to NAV that we have seen reflect the Company's long-term prospects, the resilience of its investment portfolio, or its ability to generate attractive returns for our shareholders, and we anticipate that if unwarranted levels of discount occur, we will continue to buy shares in the market as appropriate.

The Board also notes the potential for a positive shift, as we move into 2024, in the external capital market dynamics which have impacted on SEQI and the broader investment company market over the last 18 months, and which have contributed to this unusual period of share price discounts to NAV. We would expect that, as the interest rate cycle peaks in our target markets, this will result in some reversal of investment capital outflows - which have generally been moving away from liquid alternatives and into government bonds and money market instruments.

Portfolio performance

As explained above, the NAV over the period was approximately flat, which reflects the resilience of our portfolio in the context of a challenging economic environment where rising interest rates have been a persistent headwind.

One significant advantage we have over many funds in the alternative funds sector is the flexibility embedded in our portfolio: our investments are typically of short duration, with a weighted average life of less than four years. As a consequence, our portfolio is highly cash generative, which has allowed us to support our share buy-back programme, to repay all the Fund's leverage and to reinvest capital into new, attractive investment opportunities. This is a significant differentiator of our Fund relative to other illiquid alternatives in the market.

Regarding credit risk, there are a few notable points that should be borne in mind. Firstly, the portfolio is highly diversified, with the average loan only representing about 2% of the total portfolio and the largest 4.3%. This means that if a loan goes bad, at worst it has only a limited impact. Nonetheless, as with any portfolio of sub-investment grade loans, there will inevitably be some borrowers who experience financial difficulties.

Secondly, the historical experience is that, when loans to infrastructure projects default, lenders on average enjoy a high level of recovery, compared to other forms of corporate credit. The combined effect of these two factors is that the financial impact of bad debts on portfolio performance has been limited: the "loss rate" for the portfolio (being credit losses, annualised and expressed as a percentage of the amount lent) is only 0.58%. This compares to an estimated 1.6% annual loos rate for broader corporate bonds of a similar credit quality.

At our half year end, only 3.1% of the portfolio is in a full restructuring, with a further 8.5% subject to a higher-than-normal level of scrutiny. These levels are only marginally higher than at the end of the previous financial year.

When a loan defaults or the borrower gets into difficulty, our Investment Adviser works diligently to ensure that the Company maximises its recovery.

Investment market outlook

The economic outlook in the US, UK and other developed economies where the portfolio is invested remains challenging, but there are reasons to be cautiously optimistic. Inflation is now falling quite rapidly in the US, UK and Europe. Interest rates set by Central Banks may have peaked in most of the jurisdictions where the Company invests. In the US, consumer spending is driving strong economic growth. Without wanting to sound falsely optimistic, these trends give hope that we may be close to entering a less challenging economic environment.

However, we have not invested on the basis of such optimism. In fact, our strategy has been to find investments which will be resilient even if things do not improve. For a significant period now the Investment Adviser has focused on making senior secured - rather than subordinated - loans, and has favoured sectors of the infrastructure market with defensive characteristics rather than cyclical sectors.

We are of the view that the time is now right to lock in some of the high rates currently being earned on our floating rate loan portfolio, and shortly after the period end the Company entered into our first fixed floating swap transaction. The effect of this transaction will be to enhance our dividend cover ratio over the next seven years if policy interest rates fall from their current levels.

Dividend

Portfolio interest income has grown strongly over recent years, as the interest earned on our floating rate loans has increased, and income from our recent investments reflects today's higher interest rate environment. This enabled the Company to increase its dividend with effect from January 2023 by 10% to 6.875p per ordinary share. In this half year, our dividend remains fully cash covered by a factor of 1.08x. This is within the range of historical levels of circa 1.05x to 1.10x, despite lower returns from the Company's net cash, and the absence of accretion from any leverage.

Our expectation is that portfolio income will continue to grow, as existing loans mature, and proceeds are redeployed in today's higher rate environment. If this transpires, the Board will reflect again on how best to return value to Shareholders. For the time being though, with our share price disappointingly continuing to languish at a significant discount to NAV, we believe it is appropriate to focus surplus income on our share buy-back programme.

Governance matters

a. Environmental, social and governance ("ESG")

We remain focused on and committed to our ESG strategy, despite recent market volatility and ongoing economic uncertainty. Investing our Shareholders' capital in a responsible way and engaging on ESG topics with the companies that we lend to remain core parts of our investment philosophy. We continue to use our proprietary methodology to assess carefully a number of E, S and G metrics to produce an ESG score for every portfolio asset and potential investment in our pipeline. We aim to use this part of our due diligence process to target higher-scoring assets and avoid or dispose of assets that we deem to be less sustainable. However, we recognise the importance of transition assets and borrowers who themselves have a transition strategy, which can result in lower ESG scores at the point of investment but should result in a score increase over time. This, in combination with our other ESG initiatives, should result in an increasing ESG score for our portfolio of assets. Noting factors that are outside of the Fund's control, such as exchange rates and early unanticipated repayments, we have generally been successful in doing so consistently since the methodology was adopted. This period marks another gradual increase in our average ESG score across the portfolio. This principally stemmed from the disposal of low-scoring assets and an active and accelerating step-up in our engagement efforts with borrowers in this half year. We seek to continually evolve our approach to ESG in a fast-moving backdrop. This period, we updated our ESG scoring framework to keep abreast with best practices and latest thinking - most notably this meant reassessing the sustainability profile of the nuclear sector, as described in the sustainability report below.

In the most recent Annual Report, we published our second Task Force on Climate-Related Financial Disclosures ("TCFD") report as well as our first periodic disclosure under the Sustainable Finance Disclosure Regulation ("SFDR") as an Article 8 fund. Over the coming years, we will see an increasing level of disclosure and reporting on ESG matters under a range of different frameworks. We believe that transparent and reliable reporting plays a significant role in the progression of responsible investing, but it is not without challenges for a debt fund. We invest internationally and are discovering that the quality of ESG reporting is not consistent across different geographies. In addition, smaller borrowers especially lack the resources needed to be able to measure certain datapoints. However, we are working with our borrowers to gather the necessary quantitative data that will be required in the future. We aspire to be a pioneer in the listed debt fund sector with regard to the quality and accuracy of our ESG reporting to investors.

b. Risk

Over recent months we have undertaken a review of how we monitor risks internally. As a result of this review, we have made improvements to the Company's Risk Register. Better defined risk classifications, finer definitions of risk levels, and indications on direction of travel make the document easier to use and more informative. In the future, we will modify the format and expand the information contained in the principal risks sections of our Annual and Interim reports. We believe that these changes will facilitate and benefit risk management of our operations and will provide Shareholders with a better understanding of the Company's risk profile.

c. Shareholder information

Another significant initiative which the Company  has recently undertaken has been to improve the quality of its dialogue with current and prospective Shareholders. In respect of this, we were delighted to win the AIC award for the Best Investor Factsheet. It has always been a strength of our communications programme that we update NAV on a monthly basis following a rigorous process of review by our external valuation agent, PwC. In times when interest rates and the conditions in credit markets are changing rapidly, we believe the emphasis that we place on providing timely and accurate updates is of great value to the market as a whole and, for that matter, to the Board.

d. Board

We have announced that James Stewart, who joined our Board two years ago, will take over from me as Chair of the Board with effect from the start of 2024, and that I will be stepping down at that time. This development has been planned for a while and I am delighted that James is to be my successor as he is ideally suited to the role.

As previously reported, we have undertaken an extensive external search to recruit an additional Director. This process attracted a number of high calibre applicants and we are now close to finalising this appointment.

Concluding comments

It has been a great privilege to serve as inaugural Chair of SEQI for the last nine years. In that time, I have witnessed a talented group of people within our Investment Adviser and other key service providers come together to plan, form and manage the first (and still the only) exclusively debt-backed infrastructure fund listed on the London market. On several occasions in earlier reports, I noted how impressed I was by how well and effectively the key individuals at a number of disparate organisations who support your Company have pulled together as a team. To all of you, thank you for the vital contributions you have made.

I also wish to thank my fellow Board colleagues, both past and present, and our consultants for the support and contributions they have all made over the years, which have allowed our Board to function well and effectively.

Over the past three years, with the combination of the pandemic, followed by the sharp rise of sovereign interest rates, our investment thesis, processes, portfolio and service providers have been thoroughly stress-tested. Our business has emerged in good shape and through the actions that the team has taken enjoys considerable flexibility in facing future challenges and opportunities. The basis for improving shareholder returns as markets recover is, I believe, fully in place by virtue of the well-balanced and diversified portfolio, exceptional and experienced team across all critical disciplines and balance sheet strength. I am confident that in due course this will allow you, our Shareholders, who have supported us through the last nine years and most particularly through the recent tough period, to reap the rewards of your patience and loyalty.

Robert Jennings

Chair

23 November 2023

Investment Adviser's report

"While the global outlook remains uncertain, the portfolio is well-positioned…  There are reasons to be cautiously optimistic that we are closer to entering a more benign economic environment."

The Investment Adviser's objectives for the year

Over the course of the first half of the financial year, Sequoia Investment Management Company Limited ("Sequoia" or the "Investment Adviser") has had the following objectives for the Company:

Economic infrastructure is a diverse and highly cash‑generative asset class

Economic infrastructure debt is a type of investment that is widely acknowledged for its stability and dependability. This asset class exhibits a set of key characteristics that makes it appealing to investors. Firstly, it is characterised by high barriers to entry, making it challenging for new entrants to penetrate the market, which, in turn, provides a protective shield for existing investors. Secondly, the cash flows generated by economic infrastructure debt are typically steady and foreseeable, ensuring a reliable income stream for investors. This is primarily attributed to the essential nature of the services, which ensures a constant level of demand. Finally, the physical assets supporting economic infrastructure debt serve as tangible collateral, providing a means to secure the investment.

These features have resulted in economic infrastructure debt becoming an increasingly sought-after asset class for investors seeking a stable income source and a trustworthy long-term investment.

Economic infrastructure debt spans sectors like transportation, utilities, power, telecommunications, and renewables. These sectors often rely on long-term concessions or licenses, with revenues tied to demand, usage, or volume. In contrast, social infrastructure, like parks and hospitals, receives compensation merely for the availability of physical assets.

To mitigate demand risk, economic infrastructure projects are typically less leveraged than social infrastructure, maintain higher equity buffers, conservative credit ratios, robust loan covenants, and more significant asset backing for lenders. This principle has held steady throughout the first half of the financial year, guiding the Fund's investment strategies.

Despite market volatility during the period, the Fund proactively positioned its portfolio defensively against potential downturns. Measures taken include a focus on senior debt and on non-cyclical industries. These actions have helped to mitigate risks from the current inflationary market conditions and other global uncertainties, such as the ongoing war in Ukraine and the conflict in the Middle East.

Furthermore, as sustainability remains a prominent investment focus, the Fund recognises that investing in new economic infrastructure is often pivotal for implementing the latest technologies and manufacturing processes into established industries. This opens the door to an array of ESG-incorporating investment opportunities, benefiting not only the Fund's portfolio but also the modernisation of sectors traditionally marked by formidable barriers to entry.

The market environment during the period

While infrastructure debt benefits from inherent revenue stability, the Fund's valuations are not unaffected by the record movements observed in the financial markets over the last six months, particularly the rapid decline in government bond prices. For context, the FTSE All-Share Index, representing the overall London equity market, increased by 1.2% over the last six months, while the FTSE 250, tracking mid-cap companies, declined by 1.5% during the period. 10-year Gilts (UK government bonds) decreased by 7.7%, leveraged loans increased by 3.3%, and high yield bonds rose by 3.8%. These figures include dividends or interest income, providing annualised total returns for the period.

The US, UK, and Europe have seen their respective inflation figures fall further in the last six months from the peaks observed in the last fiscal year. However, the current narrative driving the underperformance of government bonds is no longer a continuation of interest rate hikes from central banks, as these are assumed to have reached, or be close to, their terminal value. Instead, the focus has shifted to the sustainability of a high-interest rate environment given each region's respective economies, and the timing of any fall in rates.

The performance of the Fund's private debt portfolio is sensitive to fluctuations in interest rates and credit spreads within liquid markets. On the one hand, the valuation of the Fund's investment holdings may be adversely impacted by downturns in government debt, high yield bond or leveraged loan markets - in general though, such fluctuations are unrealised mark-to-market changes that will reverse as our loans approach their maturity date. On the other hand, the Fund derives real advantages from these adverse market conditions. Infrastructure businesses have faced limited options for capital raising, which increased the Fund's pricing power. This, in turn, resulted in enhanced lending margins, more favourable credit terms, or a combination of both, ultimately contributing to the Fund's overall performance. Therefore, despite market challenges, the Fund's infrastructure debt investments continue to offer investors an appealing risk-return profile.

Market backdrop

Inflation

What is happening?

Inflation is past its peak levels in all of the Fund's investment jurisdictions, as disinflation takes hold in most developed markets globally.

Why this matters to SEQI?

As inflation drops, term interest rates would be expected to fall, which makes alternative investments such as infrastructure more attractive compared to liquid credit. Also, lower inflation leads to less cost pressure during the construction of a project, decreasing construction risk, all else being equal.

Interest Rates

What is happening?

Short-term interest rates are expected to have reached their peak rates in the US, UK and Europe.

Why this matters to SEQI?

The portfolio's floating rate investments will start to de-risk as their borrowing costs peak. A lower interest rate environment is also supportive of fixed rate loans and bonds, which would be expected to help the pull-to-par of our fixed rate assets. Further, as short-term rates begin to fall, yield curves will become less inverted or turn positive again, supporting a bid for risk in the market.

Commodity prices

What is happening?

The Commodity Research Bureau Index has peaked ahead of inflation rates in the US due to built-up demand during the Covid pandemic.

Why this matters to SEQI?

Goods make up a large portion of inflation, and as commodity prices cool, inflation can be expected to soften, lowering the cost of construction and taking pressure off interest rates, all else being equal.

Portfolio overview

During the first six months of the financial year, our continuing strategic approach revolved around the ongoing construction and management of a well-diversified portfolio of private debt investments secured by infrastructure assets situated in low-risk jurisdictions. Our primary objective has been to uphold our targeted returns while placing a strong emphasis on mitigating undue credit and ESG risk. Throughout this timeframe, we remained committed to the prudent investment strategies established in 2019. These strategies encompass retaining a significant portion of the portfolio in defensive sectors, giving precedence to senior debt over mezzanine debt, and either maintaining or incrementally enhancing the credit quality of the portfolio.

In response to the market challenges, our diversified approach to private debt investment has proven effective in delivering robust returns and adeptly managing risk. Consequently, we have been able to capitalise on fresh opportunities for financing high-quality infrastructure projects. By steadfastly adhering to this strategy, we maintain a high level of confidence in our capacity to consistently provide attractive returns to our investors while skilfully mitigating risk in this demanding market. Current portfolio highlights reflecting the impact of these efforts include:

·      59.4% of the portfolio in defensive sectors. These include telecommunications, accommodation, utilities, and renewables, which are viewed as defensive because they provide essential services, often operate within a regulated framework and have high barriers-to-entry.

·      32.5% of the portfolio in the telecommunications sector that continues to perform as previous PIK assets become cash-paying and the appetite for infrastructure such as data centres grows.

·      53.5% of the portfolio in senior and 45.6% in mezzanine ranked secured loans, as opposed to more of a 50-50 blend to position the portfolio for a slow-growth environment.

·      Improved credit quality of the portfolio over the last 12 months without a reduction in targeted yields. Our policy not to invest in CCC profile loans remains in place.

·      Continued low modified duration of 1.5, with 54.4% of the portfolio in floating rate deals and 45.6% in short-term fixed rate assets and a current low portfolio weighted-average life of 3.6 years.

The Fund's investment portfolio is diversified by borrower, jurisdiction, sector and sub-sector, with strict investment limits in place to ensure that this remains the case.

The Fund maintains a distinct emphasis on investing in regions characterised by stability and minimal risk, in alignment with its established investment criteria. This leads the Fund to restrict its investment activities to countries meeting established standards, such as being classified as investment-grade. The Fund's investment strategy revolves around the identification of opportunities offering favourable risk-adjusted returns while prudently avoiding potential obstacles, notably regulatory and legal risks.

At the core of the Fund's strategy is a primary focus on private debt, which constitutes almost all of its portfolio. This strategic approach is driven by the fact that private debt typically offers an "illiquidity premium", i.e. a higher return compared to liquid bonds with similar characteristics. Given the Fund's predominant "buy and hold" investment approach, capturing this illiquidity premium is deemed a prudent strategy. Research from the Investment Adviser confirms the existence of this additional premium, suggesting that infrastructure private debt instruments tend to yield 1-2% more than similar publicly rated bonds.

NAV and Fund performance

The Fund adopts a prudent stance in its investment endeavours, particularly with regard to the risk associated with greenfield construction projects. Although the Fund is open to allocating up to 20% of its NAV for lending to such ventures, its actual exposure to assets under construction as of 30 September 2023 stood at 11.2% of its overall portfolio. The Fund exercises careful discretion in project selection, exclusively investing in those where it perceives that it is adequately compensated for the moderate construction-related risks it undertakes. Additionally, the Fund maintains stringent criteria for evaluating the inherent strength of the borrower's business or project to ensure effective risk mitigation.

Over the last six months, the Company's NAV per share decreased from 93.26p per share to 92.88p per share ex-dividend, driven by the following effects:

The total return on the NAV was equal to 3.3% over the period, equivalent to 6.6% p.a. This is broadly in line with the Company's long-term return expectations of 7-8% p.a. Once again, the portfolio has outperformed other investments over the period including the FTSE All-Share Index by 2.1%, the FTSE 250 by 4.8% and 10-year Gilts by 11.0%, while performing in line with leveraged loans and falling slightly behind high-yield bonds by 0.5%.

As evident from the table provided above, the principal factor that positively influenced NAV performance was the interest income derived from investments. Slightly offsetting some of this income, the Company's investments suffered a small decline in values, mostly as a result of rising discount rates, with only a third of the portfolio valuation movements being attributable to the Company's non-performing loans. It is worth noting that such mark-to-market price declines represent unrealised losses and are anticipated to gradually reverse over time, as loans approach their maturity date (the "pull-to-par" effect).

The Investment Adviser believes that the portfolio is well positioned to continue to outperform the liquid credit markets for the following reasons:

·      private debt has higher yields than liquid credit, for a like-for-like credit quality;

·      debt supported by infrastructure exhibits resilience due to higher asset backing. This resilience is evident in the Fund's lower loss rates compared to broader liquid credit, again, when considering equivalent credit quality.

·      mitigation of interest rate sensitivity through a significant proportion of floating rate debt in the portfolio (54%), resulting in a low level of sensitivity to changes in interest rates;

·      relatively short debt maturities, allowing the fund to rapidly recycle capital in the currently attractive lending markets; and

·      a high level of portfolio diversification by sector, sub-sector and jurisdiction, thereby minimising the impact of single asset-, sector- and country-specific political and economic risks.

Share performance

As at 30 September 2023, the Company had 1,681,169,626 ordinary shares in issue (31 March 2023: 1,734,819,553). The closing share price on that day was 83.2p per share (31 March 2023: 80.40p per share), implying a market capitalisation for the Company of approximately £1.4 billion, a slight increase of circa £3.9 million compared to six months ago.

After taking account of the two quarterly dividends amounting to 3.4375p per ordinary share, the share price total return over the period was 7.9%, equivalent to an annualised total return of 15.8%. The observed 2.8p increase in the share price over the first two quarters of the year was driven by two factors:

·                  the change in NAV as discussed above; and

·                  an improvement in the rating of the shares from a 13.8% discount to a 10.4% discount.

A significant contributing factor to the share price discount is the negative market sentiment surrounding alternative assets, including debt funds. This, in the opinion of the Investment Adviser, arises in part from concerns around persistent inflation and low growth, combined with some loss of trust in the accuracy of alternative fund valuations generally. The Investment Adviser wishes to reassure investors that the Fund's valuations are performed independently and reflect the true value of its assets, and unlike the majority of private equity, infrastructure equity and real estate equity funds, are published on a monthly basis. However, outflows of capital from investors, reallocating from liquid alternatives into government bonds and money market instruments which offer recently increased levels of yield, have exacerbated the problem, as 'forced sellers' have driven share prices across the sector lower; although we see some recent stabilisation in this effect as policy interest rates across key markets seem to have peaked.

Both the Investment Adviser and the Company's Directors view the current share price discount to NAV as disproportionate. They are of the opinion that it fails to reflect the investment portfolio's potential to deliver attractive risk-adjusted returns during uncertain economic periods, its shorter investment duration and robust NAV approach. With this belief, the Fund continues to repurchase its ordinary shares, considering them undervalued, which provides NAV accretion for current shareholders. Within the last six months alone, the Company has repurchased 53,649,927 shares. The share buy-back programme was first announced to Shareholders in July 2022, and the Company has since bought back a total of 87,069,372 shares, close to 5% of its total outstanding shares, as at 30 September 2023. This has provided Shareholders with an increase in NAV per share of 0.6p since the buy-back programme was implemented.

Dividend cover

The Company has paid 3.4375p in dividends during the last six months in accordance with its target.

The Company's dividend cash cover was 1.08x for the first half of the financial year. This is lower than in the previous year, for the following reasons:

·      The Company has crystalised less capitalised interest compared to last year, namely around £5 million in the period compared to £20 million in the prior year. However, this non-materialised PIK interest will be received at a later date as investments repay;

·      The Company has increased its dividend target from last year as the Board was confident in the level of income produced by the portfolio. Given that the Company's dividend remains comfortably cash-covered, the portfolio's floating rate assets have successfully offset the higher dividend payments; and

·      The Company has repaid its Revolving Credit Facility ("RCF") balance in full whilst building up increased levels of liquidity. As a result, the income generated by the spread between RCF utilisation cost and yield on investments funded by such drawings has not been captured in the period.

Overall, the above-mentioned factors are either transient, or the result of other positive developments for the Company.

Fund performance

1.  Relates to the portfolio of investments held in the Subsidiaries

Portfolio characteristics

As can be seen in the table above, the Fund has reduced its number of investments from 68 to 57 within the last six months. The Investment Adviser has selectively decided not to redeploy some of the capital received from maturing assets, instead using these proceeds to de-lever the Fund, increase the liquidity available to the Company and buy back shares while they are trading at a discount. The decrease in investments has been actively managed so as not to impact the diversification the Fund provides to its investors; the portfolio remains invested in 8 different sectors and has increased its sub-sector count to 27 from 26 at the prior year end. Furthermore, some of the exited positions were construction assets, which has allowed the Company to de-risk the portfolio even further.

Credit performance

Looking at the overall portfolio, the credit performance remained positive over the course of the last six months. Given that the portfolio is comprised of high-yielding debt instruments, one would expect a small portion of investments to encounter some credit challenges over the course of their lifespan. The Company's experience to date is that credit losses have only been a modest drag on investment returns, contributing to a loss rate of approximately 0.58% per annum. This compares well to non-financial corporate debt of a similar credit rating, where the historical annual loss rate is approximately 1.6%.

Lenders have a duty of confidentiality to the companies that they lend to, and so it is the Company's policy not to discuss underperforming loans by name, other than where the borrower has entered into an insolvency process (such as administration in the UK, or Chapter 11 in the US). It is easy to see how a public discussion of an underperforming business could exacerbate its problems, for example by making it harder to retain employees or secure new contracts.

Progress continues to be made on managing the Company's loans in restructuring or receiving enhanced scrutiny. Overall we do not foresee that the NAV will be materially impacted by these ongoing discussions.

However, although the current economic environment has its challenges, infrastructure has been resilient and the overall credit quality of the Company's investment portfolio remains high. Inflation is falling (especially in the US), energy markets are normalising and interest rates appear to be at or near their peak levels. These stabilising macro-economic themes provide a foundation for steadier credit markets and are further explored in the "Market backdrop" section.

Balance sheet management

Over the six months following the end of the previous financial year, the Fund has successfully repaid all of its outstanding revolving credit facility loans. Initially, it had a net leverage position of £113.1 million, which included a £181.8 million draw on the Company's revolving credit facility and a cash reserve (including cash held in the Subsidiaries) of £68.7 million as at 31 March 2023. This position has since transitioned to an undrawn revolving credit facility and a cash balance of £141.7 million. While the Fund has actively been building its liquidity, it does not intend to maintain these high cash levels, in order to avoid unnecessary cash drag. The increased cash balance was largely due to the complete repayment of a significant loan on the final business day of the period. The current high liquidity position offers the Fund the flexibility to allocate capital as needed while also reducing volatility related to its financial obligations. The Investment Adviser therefore continues to originate deals in the credit market on a daily basis and currently manages a dynamic pipeline of potential deals that have been pre-screened for suitability of over £400 million. Given the current portfolio composition, the Fund is actively originating in sectors that would benefit from increased exposure such as Transport Systems and Transport Vehicles. Further details can be found in the "Strong pipeline of opportunities" section of the Investment Adviser's Report.

Portfolio valuation

Currently, the average single B or higher-rated loan in the portfolio is marked at a price of about 95 pence in the pound; this mostly reflects the higher interest rates and credit margins used to value the loan, compared to those available in the market at the time the loan was made.

Over time, as loans marked down due to the above-mentioned effects approach their repayment dates, we will see their valuations accrete back up to 100 pence in the pound - this is the so-called "pull-to-par" effect.

These NAV estimates are calculated on the basis that interest rates and bond yields remain constant and do not take into account NAV-accretive mechanisms other than the pull-to-par; the only variable is the passage of time.

Non-performing loans are excluded from the calculation. In monetary terms, the pull-to-par is expected to be material over the next three years:

Origination activities

The Fund's investment strategy targets assets in both the primary and secondary debt markets, with each offering unique advantages. Investing in the primary market allows the Fund to earn upfront lending fees and tailor its investments to meet specific requirements. Acquiring assets in the secondary market facilitates the rapid deployment of capital into seasoned assets with proven performance records.

Primary market origination

The Fund maintains its focus on the primary loan markets, which continue to present significant opportunities. The Investment Adviser actively sources bilateral loans and participates in "club" deals where a small group of lenders collaborates. In addition, the Fund has engaged in more widely syndicated infrastructure loans.

Primary market loans are appealing due to their favourable economics. As the lender, the Fund benefits from upfront lending fees and increased flexibility in negotiating terms. As the Fund has grown, its primary market investment activity has expanded and now accounts for the vast majority (82.9%) of the portfolio.

Secondary market origination

While the primary market remains a focal point, the Fund also acquires certain investments from banks or other lenders in the secondary markets. This approach allows for the swift deployment of capital, as primary market transactions in infrastructure debt can often be time-consuming to execute. It also provides the Fund with more liquid assets, offering flexibility when there's a need for increased liquidity.

Furthermore, secondary market loans come with a performance history that enables credit analysis based on actual results rather than financial forecasts. Research indicates that infrastructure loans typically see improvements in credit quality over time. Therefore, in many cases, secondary loans have enhanced credit quality since their initial origination.

Strong pipeline of opportunities

While the Investment Adviser has primarily concentrated on monitoring existing positions, it also has a diverse array of appealing potential investments, some of which are currently under consideration. The conjunction of weak high yield bond and leveraged loan markets, combined with the prevailing risk aversion in bank lending, has resulted in borrowers being more receptive to the enhanced pricing power wielded by alternative debt providers. This environment allows for more advantageous terms to be negotiated compared to what is typically available during periods of abundant bank lending. These favourable conditions translate into benefits for investors, including higher interest rates, fees, improved covenants, and enhanced collateral provision.

Our strategy revolves around capitalising on these advantageous lending conditions while adhering to the late-cycle strategies previously mentioned. This approach, in the current market climate, offers higher yields for assets of the same quality compared to the previous year or similar yields with improved asset quality. In line with this approach, we are considering a diverse pool of investments in our pipeline with yields ranging from 8% to 12%.The Investment Adviser is content with the current yield composition of the portfolio, and has a predominant focus on enhancing asset quality. Preference is therefore given to assets with the following characteristics:

·      Senior debt, as it offers additional security through collateral backing.

·      Defensive sectors, or borrowers with a high degree of contractual or predictable income, as opposed to businesses sensitive to economic cycles.

·      Assets that maintain or improve portfolio diversification.

·      Operational projects, as they provide better visibility into cash flows compared to construction projects.

·      BB-rated or better implied credit quality.

Given this selective approach to new investments, we find ourselves declining over 90% of the lending opportunities we encounter. Nonetheless, our portfolio is well-positioned to provide security in the face of volatile markets ahead, with our ongoing commitment to prioritising quality, diversity, and cash generation.

Allocation of capital in today's market

Since the end of the last financial year, several loans have been sold or redeemed, the proceeds of which the Fund has used to fully repay drawings on its RCF. We plan to utilise the resulting strong balance sheet to explore new lending opportunities that align with the previously mentioned criteria. Additionally, we aim to continue our share buy-back program, especially in light of the continuing discount of our share price to NAV.

Sequoia Investment Management Company Limited

Investment Adviser

23 November 2023

Unaudited condensed interim statement of comprehensive income

For the period from 1 April 2023 to 30 September 2023

All items in the above statement derive from continuing operations.

Unaudited condensed interim statement of changes in Shareholders' equity

For the period from 1 April 2023 to 30 September 2023

Unaudited condensed interim statement of financial position

At 30 September 2023

The Unaudited Condensed Interim Financial Statements were approved and authorised for issue by the Board of Directors on 23 November 2023 and signed on its behalf by:

Fiona Le Poidevin

Director

Unaudited condensed interim statement of cash flows

For the period from 1 April 2023 to 30 September 2023

1.  Excludes non-cash transactions.