Our Small-Cap Premier Strategy debuted at the end of 1991 in our Royce Premier Fund. In this piece, Portfolio Managers Lauren Romeo and Steven McBoyle detail what makes this Strategy unique among our domestic offerings.

What Is the Small-Cap Premier Strategy?

Distilled to its essence, the Strategy focuses on small-cap companies with high returns on invested capital or ROIC, that we believe can compound value by reinvesting their current earnings back into the business at high rates of return over the long run.

More expansively, this approach seeks leading companies with high ROIC and durable business models that also possess sustainable competitive advantages. The emphasis is on quality businesses that can generate excess free cash flow with attractive reinvestment opportunities—and whose stocks are selling at valuations that we believe do not fully reflect their long-term business prospects.

The ideal purchase candidates are what we call “Quality Compounders”—small-cap companies with unique business models that have established histories of high returns on capital and high reinvestment rates. Particularly in light of the market’s recently increased volatility, we think that rock solid businesses with a domestic focus may potentially provide a cushion against the gyrations driven by ongoing economic and geopolitical uncertainty.

When screening for companies, we use the following criteria:

Premier Financial Characteristics

• High Returns on Invested Capital
• Little or No Debt
• Consistent Free Cash Flow Generation
• High Reinvestment Rates

Premier Business Model Attributes

• Favorable Market Structure
• Dominant Market Share
• Discernible Value Propositions That Are Difficult to Replicate
• High Customer Switching Costs
• Recurring Revenue
• Asset Light

Each purchase candidate that possesses these attributes is then put through an Enterprise Quality Assessment (“EQA”) in which we evaluate whether or not the company has what we think is a superior and durable business model, has a history of effective capital allocation, practices solid and quality corporate governance, and has talented and reliable management.

The rationale for quality investing within the small-cap space originated in our conviction—which was not widely shared in the early 1990s—that the small-cap universe was home to such companies. (It’s worth mentioning that there are currently 1,130 companies with earnings in the Russell 2000 versus only 900 in the large-cap Russell 1000 Index.) As the years went by, other investors saw that this was a sound approach. In fact, high ROIC companies within the small-cap Russell 2000 Index have enjoyed higher 10-year average annualized returns than the overall index, as seen in the chart below.

High-Quality Companies Outperformed...
10-year Average Annualized Return from 6/30/01 through 6/30/26¹

¹Average of monthly rolling average annual total returns over specified periods
²The top quintile of securities within each Russell 2000 FactSet sector, sorted by ROIC. Return on invested capital is calculated by dividing a company’s past 12 months of operating income (Earnings Before Interest and Taxes) by its average invested capital (total equity, less cash and cash equivalents, plus total debt, minority interest, and preferred stock). The portfolio calculation is a simple weighted average that excludes cash, all non-equity securities, investment companies, and securities in the Financials sector with the exceptions of the asset management & custody banks and insurance brokers sub-industries. As of 6/30/26, 34% of High Quality Small Cap and 39% of the Russell 2000 were excluded from the ROIC calculations.

Interestingly, these high-ROIC small-cap companies also have had more attractively cheap valuations, based on one of our favorite valuation metrics, enterprise value over earnings before interest and taxes, or EV/EBIT. The chart below shows that the top quintile of ROIC with the Russell 2000 were far less expensive than their index peers at the end of June.

... With Lower Valuations

¹The top quintile of securities within each Russell 2000 FactSet sector, sorted by ROIC.

This combination of high company quality and attractive valuations helps to explain how Royce Premier Fund outperformed the Russell 2000 during all nine downturns of 15% or more from the index’s prior historical high since the Fund’s inception (12/31/91) and how it lost less than its small-cap benchmark in 11 out of 16 down quarters over the last five years.

Company Example

For an example of a Quality Compounder, we chose Quaker Houghton (NYSE: KWR), a long-time Premier holding that produces, develops, and markets industrial chemical products, including heat treatment, metal forming, forging, and tin plating fluids, as well as cleaners, casting lubricants, greases, ground control agents, and metal rolling oils. We like the company as it’s an asset light business that exhibits strong customer loyalty, and high recuring revenues as it sells low-cost of ownership consumables that are mission critical to its customers.

We also like that the remarkable resilience that Quaker demonstrated in 2024-25 despite significant headwinds. The company effectively navigated a challenging macroeconomic environment characterized by weaker industrial activity in certain key markets (such as the U.S. and Europe), fluctuating raw material costs, tariff-driven uncertainty, and customer production downtimes in the auto and metalworking industries. Even amid several quarters of declining industry volume trend, however, Quaker was able to maintain stable volumes year-over-year and quarter-over-quarter, a testament to its strong execution and ability to secure new business wins across all regions of the globe.

We have also been pleased with the way that Quaker’s management approached M&A activity during that challenging period: Quaker’s pace of purchases picked up materially in 2024-25, with both bolt-on and larger acquisition opportunities. Specifically, Quaker made five acquisitions, with Dipsol Chemical, a leading supplier of surface treatment and plating solutions and service providers, being the most recent, largest, and most strategic. While these acquisitions have put debt on the balance sheet, Quaker remains conservatively capitalized, boasts a low asset-to-equity ratio, and continues to generate free cash flow.

So far in 2026, operating results have been steadily improving. Organic sales volumes increased 3% year-over-year in 1Q26, driven by new business wins. The news was even better in the second quarter: sales volumes climbed 7% year-over-year and 7% sequentially, with growth across all three geographic segments. New business wins were again the primary driver, with second-quarter volumes increasing 4% in the Americas, 7% in EMEA, and 10% in the Asia/Pacific region. As a result, 2Q26 revenue increased 10% year-over-year, while adjusted EBITDA rose 13%. These results offered more proof of Quaker’s ability to attract new business and grow volumes even amid a still-mixed global industrial environment.

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