In her latest fund profile of the Liontrust UK Micro Cap fund, Juliet Schooling Latter, Research Director at FundCalibre says that micro-caps are not for the faint hearted but they also offer outstanding growth opportunities.
“Net outflows create marginal sellers and marginal sellers drive valuation de-rating.”
The above statement continues to blight the potential of the UK’s smallest companies. It’s almost a decade since Brexit began to cloud the UK economy – Covid, rising rates, wars and the recent sell-off in AI have all contributed to a challenging environment for the UK’s burgeoning businesses.
Flows have been leaving the UK in favour of global funds, while the reduction in exposure within UK pension funds continues to hurt UK businesses further down the market-cap scale.
These outflows driving valuation de-ratings have been felt hardest the further you look down the UK small-cap spectrum.
Figures show median returns for UK small-caps remained positive for companies with a valuation between £250 million to £1.5 billion in 2025, yet those below £250 million produced negative returns of over 2% (-1.5% in 2026 year-to-date)*.
“The further you go down the market-cap the more amplified the impact of flows is to a business – if it gets below £100m it is really pronounced because of the illiquidity of those shares.”
That’s according to Alex Game, lead manager of the Liontrust UK Micro Cap fund. The fund recently celebrated its 10th anniversary, meaning it has lived its life on a tangent with the aforementioned clouds hanging over the economy.
The fund uses the ‘Economic Advantage Process’, which was born out of the ‘Cross Report’ first written by fund manager Anthony Cross.
The key belief is that only distinctive and hard-to-replicate intangible assets can form the basis of a sustainable competitive advantage.
It is a process which has proved successful on both the Liontrust UK Smaller Companies and Special Situations funds.
This fund only invests in profitable companies – which also have at least one intangible asset – these include a strong distribution network, high recurring revenues or a strong brand. The team also looks for director ownership of at least 3% of the company.
The sweet spot for eligible companies is those with a market-cap between £175 million and £275 million.
Global Financial Crisis prices but with excellent fundamentals
Alex believes the headwinds facing the fund mean it is now an extremely attractive investment – pointing to multiples not seen for this segment of the market since the Global Financial Crisis (GFC), despite strong underlying fundamentals.
The numbers support this – the fund is currently trading on a P/E of 10.5x (18.1x is the average over the life of the fund). At 3.6%, the dividend yield is double the average historically, while free cash flow yield is almost double the average (9.5% vs. 5.4%). EV/EBTIDA of 8.8 is also low (12.6)*.
Alex says you cannot rule out further deterioration of the macroeconomic picture – with earnings coming under greater pressure – but says the margin for safety is fairly high given the already depressed valuations.
“The GFC was the worst-case scenario – and what we saw was earnings fall and a de-rating from a high to low point.
Even if earnings were hit – which we do not see because all our businesses are well-capitalised and in growth markets – you won’t have the same downside from valuations.
It is a really compelling case to buy into this attractive underlying compounding earnings and cashflow streams at valuations not seen for a very long time,” Alex says.
M&A activity has been ongoing for the portfolio, with five bids over the past year, ranging from a 15-40% premium, something Alex says is likely to continue at these depressed valuations.
He also says there are a number of opportunities dropping into their universe from above (businesses with a market-cap typically in excess of £275 million) due to the challenges facing UK small-caps in general.
He says there is the best part of 400 stocks in their universe, with 120 meeting their specialised criteria – meaning their bench is not short of options.
He points to a number of specific holdings at standout prices. Examples include Active Ops, which sells software into banks and insurance businesses – to drive productivity gains. He says it has performed very well in the past few years and is now in profit and producing double-digit growth rates from an organic base.
“Active Ops sold off aggressively in the latest volatility – it went from about 280p and is now at 196p – so a big drawdown from where the share price was a few months ago, but it is still delivering good growth.
The directors own 12% of the business which has allowed them to have a long-term view in terms of investing,” Alex says.
Another is Calnex Solutions, which sells testing equipment to telecommunications companies. Alex says not only have they started to see a recovery but they have used the downturn to help telcos expand into defence and data centre markets.
Alex says the shares were down around 70% from where they were a few years ago but the evidence is that the cycle is turning in their favour – something further boosted by their move into these growth markets.
A good example further down the market-cap spectrum is Facilities by ADF, which rents assets to the film production market.
With a market cap of just £12 million, Alex says they have faced headwinds from film and actor strikes, resulting in lower film productions, but they are starting to see increased demand and growth again.
Currently sitting at 25%, technology has been a big part of the portfolio historically. Alex says the team are aware of the impact of AI on the software market – noting that they also have significant exposure to hardware companies in this sector.
He says: “We are very comfortable with our software exposure as many invest in their own AI strategies and are well-capitalised to sell mission-critical software to end clients and have strong databases as well.”
Alex believes the portfolio is in excellent shape – pointing to resilient businesses that have continued to grow despite these headwinds, while others are starting to benefit from cyclical recoveries in their markets.
He believes the portfolio now has a plethora of growing, well-capitalised businesses, willing to invest in their own growth at prices not seen for the asset class in almost 20 years.
Micro-caps are not for the faint hearted but they also offer outstanding growth opportunities. We like the team’s disciplined process, with the fund only focusing on companies which already generate a profit.
I distinctly remember co-manager Victoria Stevens’ description as “We don’t mind ‘jam tomorrow’, as long as we’ve got bread and butter today.” Let’s hope the jam is not too far away.
*Source: Liontrust Asset Management, April 2026
Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Juliet’s views are her own and do not constitute financial advice.
Main image: water, artiom-vallat-YVStngSE5KU-unsplash
