article , video 06-16-2016

What Does Increased M&A Activity Signal?

Portfolio Manager Jay Kaplan sees the first quarter's increase in small-cap mergers and acquisitions (M&A) activity as a favorable signal for contrarian value investors.

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M&A in Royce Small-Cap Value Fund

In the first quarter there was M&A in the portfolio, for the first time in a while. Even though M&A in the industry was at record levels in 2015, the Small-Cap Value Fund really didn't benefit much from that; most of that M&A was in really big companies.

In the first quarter we saw M&A here and that's very promising, so what does that tell us? I think it tells us a few things but, most importantly, the signal is that our companies are really good and finally strategic buyers mostly are seeing value in what we do, and that value is going to be recognized.

M&A Example: The Fresh Market

Here's a great example of the M&A that we've had. It's a shorter term idea. Our turnover tends to be three years so we have a lot of patience but sometimes things happen sooner than you think.

Late last year I started to buy the Fresh Market. It's a grocery store operator. They operate smaller stores. They're kind of high-priced specialty; you go for a special occasion.

You don't do your regular grocery shopping at the Fresh Market. The Fresh Market became public a few years ago and was sold to Wall Street as a growth stock. So the idea at Fresh Market was open as many stores as fast as you can and grow the earnings as fast as you can. They tried that. That didn't work out so well. They went into some markets. They had to pull out and, to make a long story short, the problem they had was their prices were too high. So their prices were too high.

Their margins were too high; they were over-earning. The CEO got fired. A new CEO got hired and the founder announced that he wanted to buy the company. Somewhere right before the firing of the CEO, we got involved because the stock had come down really hard as the same store sales went negative.

We accumulated the stock. They hired JPMorgan; they ran a process; they got a lot of bids – Apollo and the founder took the company private. It exceeded our price target. It was a win. It was a win faster than our usual win but sometimes M&A is a very happy event.

Important Disclosure Information

Percentage of Fund Holdings as of 3/31/2016 (%)

  Fresh Market
Small-Cap Value 0.00

There can be no assurance that any of the securities mentioned in the interview will be included in these portfolios in the future. References to specific securities in this interview are not intended as recommendations and should not be relied upon as the basis for anyone to buy, sell, or hold any security.

Royce Small-Cap Value Fund invests primarily in small-cap stocks, which may involve considerably more risk than investing in larger-cap stocks. In addition, as of 03/31/16 the Fund invested a significant portion of its assets in a limited number of stocks, which may involve considerably more risk than a more broadly diversified portfolio because a decline in the value of any of these stocks would cause the Fund’s overall value to decline to a greater degree.(Please see "Primary Risks for Fund Investors" in the prospectus.) The Fund may invest up to 25% of its net assets in foreign securities (measured at the time of investment), which may involve political, economic, currency, and other risks not encountered in U.S. investments. (Please see "Investing in Foreign Securities" in the prospectus.)

The thoughts and opinions expressed in the video are solely those of the persons speaking as of April 12, 2016 and may differ from those of other Royce investment professionals, or the firm as a whole. There can be no assurance with regard to future market movements.

This material is not authorized for distribution unless preceded or accompanied by a current prospectus. Please read the prospectus carefully before investing or sending money. Smaller-cap stocks may involve considerably more risk than larger-cap stocks. (Please see "Primary Risks for Fund Investors" in the prospectus.)

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