Ethical Performance
inside intelligence for responsible business


hunting for value among the European small caps

December 2007

The lack of research into the sustainability performance of companies with a market capitalization below €10billion has created an opportunity for the Dutch bank Kempen, says Mike Scott

Kempen, a small Dutch merchant bank that was taken over by Van Lanschot, the oldest independent bank in the Netherlands, at the start of 2007, invests in its own image – its focus is on European small-cap companies.

This asset class provides the perfect opportunity to find value and investment opportunities, according to David Simon, managing director, who is based in the Edinburgh office. Kempen runs five SRI mandates in total, including the Orange Sense Fund, which won Morningstar’s Award for the best European Equities investment fund 2006.

In a universe of 5000 European small-cap companies (with a market capitalization of €250million–€10bn), there is very limited independent research from third parties. ‘This asymmetry of information creates real opportunities,’ Simon says. Many of the companies are too small or their shares are illiquid, leaving 1500 investible companies.

‘We look at factors such as return on capital and cashflow – companies with a high return on capital are usually high quality,’ says Simon. ‘We also look out for companies where the shares are cheap but change is about to happen.’ An example is the Swiss private bank Julius Baer, where a new management team was integrating three acquisitions after a tough time in the early part of the decade. ‘The market was due to grow, the bank was building its business in Asia and management has exceeded what it promised,’ he says.

After due diligence by the seven financial researchers and the four-strong SRI team, and exclusions based on weapons, nuclear power, tobacco, animal testing, genetic modification and pornography, companies then go through another screening process, explains Fiona MacRae, SRI portfolio manager. ‘We have a questionnaire that companies have to fill in. This focuses on business ethics and social and environmental performance.’ The questionnaire is scored by SNS, a leading Dutch SRI analyst. To meet the bank’s investment criteria, it has to pass on at least two of the three sustainability factors. ‘It is very important that it is independent so the fund manager cannot influence the choice. If a company does not pass, we just cannot have it in the fund – even if we really like it,’ Macrae adds.

However, the bank can buy stocks on a provisional basis that don’t quite meet the criteria. ‘We try to work with them to improve their policies. If there is no improvement then we have to sell,’ says MacRae. ‘Many companies have potential to improve – often it is just about putting a formal statement on paper.’

Once companies have overcome the hurdles, they have to be rescored every three years. As a result, each fund has a concentrated portfolio of only 30–40 holdings and turnover is relatively low – in Kempen’s flagship fund, the turnover ratio is only 16 per cent.

The bank focuses on Western Europe and it is overweight in German stocks, with the UK, Greece and Italy also well represented but not many companies from France. ‘It is hard to find companies that pass the screening,’ says Simon. Sectors that are well represented include infrastructure and support services. ‘There is a lot of work required on infrastructure in Europe. We don’t invest in what may work, only in what does work,’ he concludes.

Top five holdings:
Coca Cola Hellenic Bottle 4.3%
Hochtief 3.9%
Leonie 3.7%
Carbon Lorraine 3.3%
Julius Baer Holding 3.2%


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