Middlefield Canadian Income PCC - Annual Financial Report

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Middlefield Canadian Income PCC
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Middlefield Canadian Income PCC (the "Company")
Including Middlefield Canadian Income – GBP PC (the “Fund”), a cell of the Company
Registered No: 93546
Legal Entity Identifier: 2138007ENW3JEJXC8658

ANNUAL FINANCIAL REPORT

The information set out in this announcement is the Company’s full unedited annual financial report (audited) for the year ended 31 December, 2020 (the "AFR").

The AFR is expected to be printed and posted to all shareholders within April, 2021. The Company will also make the AFR available in the ‘Reports and Filings’ section of the Company’s website at http://www.middlefield.co.uk/mcit.htm in the coming days and the Company will make a further announcement once the AFR has been uploaded to the Company’s website and to the National Storage Mechanism, www.morningstar.co.uk/uk/nsm.

For further information about this announcement contact:

Chris Bougourd
JTC Fund Solutions (Guernsey) Limited
Assistant Secretary
Tel.: 01481 702400

Dean Orrico
President
Middlefield International Limited
Tel.: 01203 7094016

MIDDLEFIELD CANADIAN INCOME PCC

Including MIDDLEFIELD CANADIAN INCOME – GBP PC,

a cell of the Company

ANNUAL REPORT AND AUDITED FINANCIAL STATEMENTS

For the year ended 31 December 2020

Table of Contents

Strategic Report

Key Information

4

Historical Performance

5

Chairman’s Statement

6

Investment Manager’s Report

10

Top Holdings

12

ESG Policy

15

Business Model

19

Biographies

24

Corporate Information

27

Corporate Report

Statement of Directors Responsibilities

41

Directors’ Remuneration Report

43

Corporate Governance Statement

45

Report of the Audit Committee

55

General Shareholder Information

58

General Data Key Investor Document and Related Data

59

Independent Auditor’s Report on the Fund

60

Financial Statements

Statement of Financial Position of the Fund

67

Statement of Comprehensive Income of the Fund

68

Statement of Changes in Redeemable Participating Preference Shareholders’
Equity of the Fund

69

Statement of Cash Flows of the Fund

70

Notes to the Financial Statements of the Fund

71

Independent Auditor’s Report on the Company

87

Statement of Financial Position of the Company

90

Notes to the Financial Statements of the Company

91

Definitions

92

Alternative Performance Measures

93

Key Information

Middlefield Canadian Income Trust

Targeting high levels of stable income and capital growth, this Trust is primarily focused on Canada’s highest quality large cap businesses. This Trust is run by a private and independent asset manager located in Toronto, Canada and has delivered consistent and material income for UK investors for more than a decade.

Objective

The Fund seeks to provide shareholders with high levels of dividend income as well as capital growth over the long term.

Reasons to Buy

Unique

The UK’s only listed Canadian equity fund focused on high income –admitted to the FTSE UK All-Share Index in 2011.

Proven

+14 year track record of outperformance since inception, delivered by a private and independent investment manager based in Toronto, Canada.

Diversification

UK investors are underexposed to Canadian equities – Canada is one of the largest investable economies in the developed world.

High Income

Canadian equities offer high yields compared to other developed markets and have a history of growing dividend payments.

Stability

Canada is a member of the G7 and offers one of the most stable political and financial systems in the world.

Governance

Independent Board of directors re-elected by shareholders annually to protect their interests.

STRATEGIC REPORT

Historical Performance

Performance Since Inception to 31 December 2020

Notes:

  1. Net asset value total returns (in Sterling, net of fees and including the reinvestment of dividends).

  2. The Fund’s benchmark, the S&P/TSX High Dividend Index, has been currency adjusted to reflect the Canadian Dollar (“CAD”) returns from inception to October 2011 (while the Fund was CAD hedged) and Sterling (“GBP”) returns thereafter.

Recent Performance

1 Mth

3 Mth

6 Mth

YTD

1 Year

Share Price

5.3%

14.7%

16.3%

-2.6%

-2.6%

NAV

0.0%

9.5%

10.3%

-7.2%

-7.2%

Benchmark

-0.6%

12.0%

13.8%

-8.5%

-8.5%

S&P/TSX Composite Index

1.1%

7.4%

10.4%

4.3%

4.3%

Long-Term Performance

3 Year cumulative

3 Year annualised

5 Year cumulative

5 Year annualised

Since Inception

Share Price

7.0%

2.3%

59.5%

9.8%

122.7%

NAV

3.4%

1.1%

51.3%

8.6%

137.2%

Benchmark

1.1%

0.4%

68.0%

10.9%

102.3%

S&P/TSX Composite Index

14.9%

4.7%

82.5%

12.8%

113.0%

Source: Middlefield, Bloomberg. As at 31 December, 2020

Past performance is not a guide to the future. The price of investments and the income from them may fall as well as rise and investors may not get back the full amount invested. All price information is indicative only.

STRATEGIC REPORT

CHAIRMAN’S REPORT

INTRODUCTION

It is my pleasure to introduce the 2020 Annual Financial Report for Middlefield Canadian Income PCC (“MCI” or the “Company”) and its closed-end cell known as Middlefield Canadian Income – GBP PC (the “Fund”). The Fund invests in a broadly diversified portfolio, primarily comprised of Canadian and U.S. equity income securities, with the objective of providing shareholders with high dividends as well as capital growth over the longer term.

INVESTMENT PERFORMANCE

Due to the economic challenges caused by the COVID-19 pandemic and the corresponding negative impact on equity income investments, the Fund’s NAV total return declined 7.2% and the share price total return declined 2.6% in 2020. Both outperformed the Benchmark total return of -8.5% for the year, extending the Fund’s longstanding track record of relative outperformance. Since inception in 2006, the Fund has generated a cumulative return of 137.2%, which compares favourably to the Benchmark’s return of 102.3% and the Canadian S&P/TSX Composite Index’s return of 113.0%.

The Fund’s investment strategy is well-suited for long-term investors seeking cash flow from a diversified portfolio of stable, profitable businesses. The Board has regular contact with the Investment Manager, Middlefield Limited, to discuss broad strategy and review investment policies, gearing and sector allocations. We remain satisfied that the Investment Manager is applying the strategy consistently and professionally and will continue to deliver good performance.

INVESTMENT MANAGEMENT

The portfolio is actively managed, giving the Investment Manager the ability to tactically shift the Fund’s composition as market dynamics change. In response to the pandemic and unprecedented market volatility, we implemented measures to reduce risk and protect the valuation. As market conditions improved in the latter part of the year, portfolio changes were made to position the Fund to participate in the market’s recovery. More specifically, the Fund significantly increased its exposure to Financials and Real Estate, two sectors which are highly leveraged to a recovery in economic activity.

Fund Sector Weights Compared to Benchmark as at 31 December 2020

Sector

Fund

Benchmark

Over/Underweight

Real Estate

29.6%

6.5%

23.1%

Financials

28.7%

30.9%

-2.2%

Utilities

15.8%

12.9%

2.9%

Pipelines

8.4%

16.5%

-8.1%

Technology

6.6%

0%

6.6%

Communication Services

5.1%

10.6%

-5.5%

Healthcare

4.0%

0.5%

3.6%

Materials

1.8%

5.1%

-3.3%

STRATEGIC REPORT (continued)

CHAIRMAN’S REPORT (continued)

INVESTMENT MANAGEMENT (continued)

Sector

Fund

Benchmark

Over/Underweight

Consumer Discretionary

0.0%

3.1%

-3.1%

Consumer Staples

0.0%

0.2%

-0.2%

Energy

0.0%

12.1%

-12.1%

Industrials

0.0%

1.5%

-1.5%

Total

100.0%

100.0%

Source: Middlefield, Bloomberg

The background to the Fund’s performance is considered in depth by Mr Dean Orrico in the Investment Manager’s accompanying report.

SHAREHOLDER ENGAGEMENT

The Fund’s share register remained stable throughout the year, supported by long-term institutional shareholders and a growing base of retail investors. At the beginning of 2020, the shares were trading at a discount to NAV of 14.4%. The discount narrowed to 10.54% by the year end, which was satisfactory considering the extraordinary market volatility faced by the Fund throughout the year. In January 2021, the Fund’s Senior Independent Director-designate Richard Hughes and I met with several of our largest investors to receive direct feedback on the Fund and the Investment Manager. In general, our shareholders are happy with the stability of the dividend paid and the Fund’s long-term track record of outperformance. They also provided their thoughts on how we can narrow the discount to NAV in order to grow the size of the Fund. I consider this latter issue to be one of our highest priorities.

In order to achieve this objective, we have implemented a strategy to expand the Fund’s awareness and profile within the retail investor community. These efforts included several online webinars and events, thought leadership articles highlighting the Fund’s concentrations in utilities, financials and real estate as well as exclusive interviews between Dean Orrico and CEOs of a number of our key portfolio holdings, all of which can be found on the Fund’s website under Media. In 2021, we are expanding these initiatives through ongoing improvements to the Fund’s website as well as implementing a comprehensive digital marketing campaign.

GEARING

The amount of gearing employed by the Fund has been tactically managed and can be a useful tool to control risk. As markets sold off in Q1 2020, net gearing was reduced from 18% at the end of January to a net cash position exceeding 10% by the end of March. Gearing was gradually reintroduced as markets began to recover due to bold measures enacted by governments and central banks to stem the economic impacts of the pandemic and increased further in Q4 2020. At year end, the Fund’s net borrowings were equal to 14.9% of net assets.

STRATEGIC REPORT (continued)

CHAIRMAN’S REPORT (continued)

EARNINGS AND DIVIDENDS

The Company’s earnings per share totalled 3.61p. Four quarterly interim dividends of 1.275p per share were paid on 30 April 2020, 31 July 2020, 30 October 2020 and 29 January 2021. This is in line with the payments made in the previous financial year. As a result of the pandemic, the Fund adopted a more defensive posture, resulting in lower than typical earnings generation for the year. These actions were taken to preserve capital given the extreme levels of market volatility experienced during the latter part of Q1 2020 and Q2 2020.

During the year, approximately two-thirds of dividend-paying FTSE 350 firms cut or eliminated distributions. The Canadian market, on the other hand, fared significantly better with only approximately 20% of dividend-paying issuers on the Toronto Stock Exchange cutting or eliminating dividends over the same time frame. This demonstrates the resiliency of Canada’s leading equity income companies. In fact, only two of MCI’s portfolio constituents cut their dividend in 2020. As the Canadian economy moves toward pre-pandemic output, we expect dividend coverage to increase significantly in 2021 and, as a result, the Board considers it appropriate to maintain the current dividend for the new financial year.

BOARD COMPOSITION

As was previously reported, in October 2020 I assumed the role of Chairman following the retirement of Mr Nicholas Villiers after 14 years as a director, the final six years of which were spent as Chairman. We thank Mr Villiers for his wise counsel and contributions through the years and wish him well in all his future endeavours. Furthermore, Thomas Grose will be stepping down from the Board and his role of Audit Committee Chairman in June of this year. I would like to sincerely thank him once more on behalf of shareholders and my fellow Directors for his considerable contribution to the Company and his many years of exemplary service.

Mr Raymond Apsey was appointed as a non-executive director of the Company on an interim basis with effect from 3 September 2020 after Mrs Joanna Dentskevich resigned from the Board with effect from 30 June 2020. Mr. Apsey previously served as a non-executive director of the Company from its incorporation in 2006 until 13 June 2019 and agreed to re-join the Board in order to satisfy the Jersey Financial Services Commission’s requirement for the Company to have at least two Jersey-resident directors.

The Company’s search for a permanent Jersey-based Director concluded in early 2021. In February, we announced that Ms Kate Anderson had agreed to join the Board as a non-executive subject to receiving approval from the Jersey Financial Services Commission, which approval was received on 12 April 2021. Ms Anderson is a partner of Voisin Law in Jersey and head of the regulatory and collective investment fund and the banking and finance practices. Mr Apsey is scheduled to retire from the Board when Ms Anderson is formally approved by investors at the 2021 Annual General Meeting.

We are also pleased to announce that Mrs Janine Fraser, who was among the leading candidates in our search for a new director, has agreed to join as an apprentice to the Board. Mrs Fraser is resident in Jersey with over 20 years accounting experience and is currently the Financial Controller of West Park Financial Management Services.

STRATEGIC REPORT (continued)

CHAIRMAN’S REPORT (continued)

OUTLOOK

We remain positive on the outlook for the global economy in 2021. Vaccination efforts are gaining momentum globally which should support an ongoing recovery in economic activity and consumer spending. The IMF is projecting the global economy to grow at 5.5% in 2021 and we expect economic growth in Canada to be in line with this estimate.

In addition, given the continuing high level of volatility the market is experiencing, it is comforting to note that the Fund returns exceeded the key indices in both recent periods of market retrenchment in October 2020 and February 2021.

In summary, we believe the portfolio is well positioned to generate much more competitive total returns this year and believe the Fund’s current trading price represents excellent value.

The Board joins me in thanking you for your continued support and we look forward to a time later in the year when we can again meet in person.

Michael Phair
Chairman

15 April 2021

STRATEGIC REPORT (continued)

Investment Manager’s Report

Global equities performed well in 2020 after rebounding from a steep market sell-off during the first quarter. In GBP, the MSCI World, the S&P 500 and the S&P/TSE Composite (TSX) indices generated total returns of 13%, 14.8% and 4.3%, respectively. While COVID remains a major concern, we are encouraged by the ongoing rollout of approved vaccines and are looking forward to an economic rebound in 2021 and beyond.

The Fund increased its exposure to select Canadian-listed securities during the second half of the year and finished with approximately 85% of its investments allocated to Canada. The Canadian economy entered the pandemic from a position of strength, which has helped support bold policy responses to protect businesses and consumers. In November 2020, the federal government announced it will spend $100 billion to help the nation recover from the pandemic - the largest economic relief package since the Second World War. The wide-ranging plan includes targeted relief for hard-hit business sectors, investments in the healthcare sector and distribution of vaccines. The vaccination rollout is advancing with Johnson & Johnson’s becoming the fourth to receive approval from Health Canada, prompting the Province of Ontario to accelerate its timeline for administering at least one dose to all willing citizens by June. The government’s fiscal stimulus measures are further supported by the attractive structural characteristics of the Canadian economy. Canada’s banking system is well-capitalized and has proven resilient over previous economic crises as well as the COVID-19 pandemic. In addition, Canada possesses a highly educated work force and is home to one of the world’s most robust information technology industries. It is also important to note that the TSX has become much more diversified over the past 10 years. For example, Energy and Materials, in aggregate, currently represent 25% of the TSX compared to 47% in 2010. Over the long-term, we believe that Canada will benefit from increased economic diversification and an increase in immigration.

Joe Biden was elected President in November 2020 and the Democrats won narrow control of the Senate in January 2021, representing a major shift in US politics. The new Administration has made an early impact, passing a U.S.$1.9 trillion coronavirus relief bill which includes extra unemployment benefits, rental assistance, COVID-19 vaccination funds and direct payments. Biden is calling this the “first step in a two-step plan to build a bridge to the other side of the crisis.” The second step will involve major investments in infrastructure, with a particular focus on clean energy. While Democrat control raises the possibility of more regulation and higher taxes to fund these initiatives, we expect the presence of a number of independently minded senators on both sides of the aisle will mitigate the risk of sweeping tax and regulatory changes.

In terms of risks, the continued expansion of valuations could increase the risk of equity market volatility over the next several months. In addition, while we do not expect central banks to tighten policy in the short-term, better-than-expected economic growth could lift yields on longer duration government bonds, thereby undercutting equity multiples.

Notwithstanding its focus on high-quality dividend paying entities, the Fund is well-positioned to benefit from a rebound in global economic activity in 2021 while providing some stability against potential market volatility. Sectors and industries that underperformed in 2020 as a result of strict lockdown measures and travel restrictions should perform well as the world moves past the pandemic. Real Estate and Financials, the two largest sector weights in the portfolio, experienced outsized negative impacts from the pandemic in 2020 and significantly lagged the broader market. We view both sectors as attractive in 2021 due to their high dividend yields and potential for substantial capital appreciation.

STRATEGIC REPORT (continued)

Investment Manager’s Report (continued)

The Canadian Real Estate sector generated a total return of -8.7% in 2020, reflecting the extremely challenging and unpredictable operating environment for many property owners. However, the returns within the various sub-sectors varied widely. Retail and office REITs generated total returns of -21.3% and -26% due to forced store closures and mandatory work from home orders. In contrast, industrial REITs, whose tenants include logistics and distribution companies, generated a total return of 13.8% during the year as a result of the growth in E-commerce. Industrial REITs should continue to benefit from steady rental rate increases in 2021 and beyond due to the ongoing adoption of E-Commerce and the mounting imbalance between growing demand and limited supply of new warehouse space. While the Fund continues to hold industrial REITs, we have recently increased our exposure to more cyclical real estate issuers. Many well-capitalized, high-quality retail REITs focused on suburban open-air shopping centres continue to trade at significant discounts to their net asset values, despite near-perfect rent collection, robust development pipelines and success in renewing leases at higher prices. Due to the arrival of multiple highly effective vaccines, together with a low interest rate environment and ongoing government stimulus, we expect these companies to outperform with the recovery in economic activity.

In Q2 2020, the Fund began to gradually increase its exposure to Financials as it became apparent that Canadian households would largely emerge from the pandemic on a solid footing. From approximately 10% of the portfolio in April, Financials finished the year representing nearly 30% of the Fund, making it the second largest sector weighting behind Real Estate. In light of their relatively high capital ratios, low payout ratios and discounted valuations, we determined that Financials were an extremely attractive way to leverage the expected growth in economic activity. This thesis began to play out in the latter part of the year as the Canadian Financials sector generated a total return of 16.7% during the fourth quarter, led by core portfolio positions such as Bank of Nova Scotia (+26.4%), Bank of Montreal (+26%) and Toronto Dominion Bank (+18.1%). Canadian banks beat estimates by an average of 17% in the final fiscal quarter of 2020, driven primarily by ongoing performance in their capital markets and wealth management businesses. We remain positive on the sector given the relatively elevated levels of household savings as well as the steepening of the yield curve which should support the profitability of their loan book.

2008-2009 Global Financial Crisis

2020 COVID-19 Pandemic

Country

Index

# of Listed Bank Constituents

# of Banks that Cut or Suspended Dividends

% of Cuts or Suspensions

# of Listed Bank Constituents

# of Banks that Cut or Suspended Dividends

% of Cuts or Suspensions

Canada

S&P/TSX

8

0

0%

8

0

0%

U.K.

FTSE350

7

3

43%

11

11

100%

U.S.

S&P500

14

13

93%

18

1

6%

All figures as of 21 December 2020

STRATEGIC REPORT (continued)

Investment Manager’s Report (continued)

Utilities finished the year as the Fund’s third largest sector weighting. The Fund’s exposure to the sector is concentrated in companies focused on renewable power generation, which provides both high levels of income and the potential for capital appreciation. BloombergNEF, a research organization dedicated to the energy industry, expects more than $35 trillion in clean power investments by 2050, making this a very attractive investment sector over the long term. Canada is home to several world-class renewable power producers, including Brookfield Renewables (BEP), which has installed capacity of more than 20 gigawatts (“GW”) across five continents and is planning to build 1GW of new capacity every year. BEP generated an impressive total return of 79% in 2020 and was one of the Fund’s top performing stocks. Northland Power (NPI), one of the Fund’s long-held core positions, generated a total return of 73%. NPI is the world’s fourth largest offshore wind company by installed capacity and plans to more than triple its generation base by 2025. Notwithstanding risks such as rising interest rates and increasing competition for renewable power projects, the long-term growth prospects for Canadian renewable power producers remains extremely attractive.

The Canadian dollar depreciated 1.03% relative to the British Pound in 2020. The U.S. dollar depreciated 3.00% to the British Pound over the same period. We expect the weakness in the greenback to persist into 2021, especially given the massive infrastructure spending programs on tap for the Biden Administration. Historically, investments in Canadian equities have served as a hedge against a declining U.S. dollar, which has in the past shown a negative correlation to commodity prices.

Top Holdings

The table below shows the largest ten positions held within the Fund’s portfolio as at 31 December 2020:

Company

Sector

% of Equities

Canadian Imperial Bank of Commerce
CIBC is one of Canada’s largest banks, offering asset management, ret