James Barker

Australian small cap industrials are emerging from one of their most volatile years in recent memory, with Ellerston Capital pointing to a combination of AI infrastructure spending and a deepening national productivity problem as reasons the sector is entering what they describe as “its most attractive set-up in years.”

The Ellerston Australian Emerging Leaders Strategy returned 17.1 per cent net over the June quarter, outpacing the S&P/ASX Small Ordinaries Accumulation Index by 13.8 percentage points and the Small Industrials Index by 8.7 percentage points.

James Barker and Jack Briggs, portfolio managers on the Ellerston Australian Emerging Leaders Strategy, say the quarter marked a turning point not just in performance but in market leadership.

“After a year dominated by resources, Small Industrials beat the Small Ordinaries by 5.1 percentage points in the quarter alone,” Barker says. “That rotation matters because it suggests the market is turning back towards fundamentals rather than commodity price momentum.”

Briggs says the dominant theme running through the strategy’s investment universe is the build out of AI infrastructure and electrification. “Order books at electrical services and data centre contractors are now extending into 2028 and 2029,” he says. “That’s a level of forward visibility these businesses have rarely had.”

Underpinning this thesis is a bleaker macro backdrop. Australia has just recorded its first negative decade of productivity growth on record, averaging -0.2 per cent a year across FY21 to FY25, with FY25 alone down 0.7 per cent. Real income per person has barely moved in six years.

“When output per hour worked is flat, a company can only grow revenue by employing more people,” Barker says. “Costs rise in step with sales, margins compress and growth becomes something a business has to buy rather than something it generates.

“Artificial intelligence is the most credible circuit breaker available and that smaller companies are structurally better placed to capture the benefit than large incumbents.”

Adoption remains early with around 12 per cent of Australian businesses, but Briggs says that should be read as opportunity rather than shortcoming.

“The bulk of the productivity gain has yet to be captured. And because smaller companies don’t carry the legacy systems and restructuring drag that slow larger businesses down, the margin gain from AI adoption falls disproportionately to them,” says Briggs.

Barker adds, “This is a rare case where Australia is not simply a price taker in a global technology cycle. We won’t own the platforms, but we do own the two legs that follow; the build out itself and the productivity gain from adoption. Both are investable and both sit in the same part of the market.”

The strategy holds several companies it regards as direct beneficiaries of the build out, including Southern Cross Electrical Engineering and GenusPlus Group, alongside SKS Technologies and Mayfield Group across its wider coverage universe.

On the adoption side, Briggs points to holdings such as Vista Group as examples of software businesses with proprietary data and embedded workflows that the market, in his view, “wrongly assumes generic AI models can replicate.”

“The companies that convert AI adoption into operating leverage will simply grow faster than the economy around them,” Briggs says. “And almost none of them sit in the ASX 20. This is why the opportunity is difficult to access through index exposure.

“Around 68 per cent of the ASX 200 sits in banks, resources, property, supermarkets and utilities. Which we see the industries of the last boom, while information technology makes up roughly 3 per cent of the index, against about a third of the S&P 500. Neither the infrastructure builders nor the AI adopters we hold sit in the top 20 stocks by market capitalisation.”

The return dispersion has been stark. In FY26, the ASX 200 returned 6.1 per cent and the Small Ordinaries 8.1 per cent, against 28.6 per cent for Australian micro and small caps, ahead of the S&P 500 and in line with the Nasdaq. Large caps, meanwhile, are trading on roughly 21 times forward earnings for around 11 per cent growth, a multiple that is expensive relative to what is on offer further down the market.

The strategy targets Australia’s emerging leaders, which make up about 757 listed companies with market capitalisations between $50 million and $2.5 billion. This segment is both the broadest and least-researched part of the ASX, with many companies carrying little or no broker coverage.

They also point to a long run record of active management adding value in the segment.

Over the past 20 years, top-quartile small-cap managers have delivered approximately 4.7 per cent per annum of alpha and were positive at the one, three, five, 10 and 20-year horizons, a record top-quartile large-cap managers have not matched against the ASX 300 at any horizon.

“That reflects a structural inefficiency that’s best captured through deep fundamental research,” Barker says.

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Source: Ellerston Capital, FactSet, June 2026.

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James Barker

AI infrastructure, electrification and under-researched companies are creating one of the strongest opportunities in Australian micro and small caps in years, says Ellerston Capital.

While Australia’s largest listed companies continue to dominate investor portfolios, Ellerston Capital believes the country’s most compelling future growth opportunities are increasingly being found further down the market-cap spectrum.

According to James Barker and Jack Briggs, Portfolio Managers of the Ellerston Australian Micro Cap Fund, and Ellerston Australian Emerging Leaders Fund (respectively), structural themes including artificial intelligence (AI), electrification and digital infrastructure are driving earnings growth in businesses largely absent from the S&P/ASX 20.

The opportunity comes as Australia’s economic growth outlook remains subdued, forcing investors to look beyond traditional large-cap exposures in search of companies capable of delivering sustained earnings growth.

“The businesses building the infrastructure behind AI are where we’re finding some of the most exciting opportunities locally,” says Barker.

“Investors can gain very little exposure to these themes through the S&P/ASX 20. Many of the companies benefiting most from these structural shifts are operating in the micro and small-cap universe.”

The Ellerston Australian Micro Cap Fund has demonstrated the strength of this approach, returning 27.8% over the 12 months to 31 May 2026, outperforming the S&P/ASX Small Ordinaries Accumulation Index by 16.6%. Since inception in May 2017, the Fund has delivered 16.0% per annum, compared with 7.2% per annum for its benchmark.

AI infrastructure driving the next investment cycle

Rather than investing directly in AI software developers, Ellerston has focused on businesses enabling the rapid expansion of Australia’s digital infrastructure.

“Companies including

• SKS Technologies (ASX: SKS),
• Mayfield Group Holdings (ASX: MYG),
• Southern Cross Electrical Engineering (ASX: SXE) and
• GenusPlus Group (ASX: GNP)

have all benefited from increasing investment in hyperscale data centres, power infrastructure and electrical networks,” says Barker.

“Order books across many of these businesses have expanded significantly, providing greater earnings visibility than has historically been available in the sector.

“The market is still underestimating the duration of this investment cycle,” says Barker. “We’re seeing project pipelines extending into 2028 and 2029, which gives these businesses far stronger revenue visibility than they had only a few years ago.”

The Ellerston team also believes Australia’s ongoing electrification program, including upgrades to transmission infrastructure, renewable energy projects and increased electricity demand from data centres, will continue supporting earnings growth for many years.

Finding opportunities before the market does

Unlike Australia’s largest companies, many micro and small-cap businesses receive little or no broker research coverage, creating opportunities for specialist active managers.

Rather than relying on macroeconomic forecasts, the investment team employs a research-intensive, bottom-up approach to uncover opportunities across Australia’s under-researched micro and small-cap universe. Frequent company meetings, deep industry analysis and rigorous fundamental research are central to identifying businesses capable of delivering long-term earnings growth before they become widely recognised by the market.

Barker says maintaining a capacity-constrained strategy remained central to the investment philosophy.

“We’ve deliberately built these funds around investment performance rather than gathering assets under management,” he says.

“Being capacity constrained allows us to invest in businesses much earlier in their growth journey and build meaningful positions before they become too large for many institutional investors.”

The approach has also enabled the team to identify emerging companies benefiting from long-term structural themes before they become widely recognised by the broader market.

Stock picking, not macro forecasting

FY26 demonstrated how quickly market leadership can change. Early in the financial year, lower interest rates and improving housing activity supported consumer-facing businesses such as Autosports Group (ASX: ASG) and Cedar Woods Properties (ASX: CWP). However, three consecutive interest rate increases later in the year shifted investor sentiment, prompting the team to reduce exposure to more economically sensitive businesses.

Rather than attempting to forecast macroeconomic outcomes, Ellerston says portfolio decisions remain driven by bottom-up company analysis.

“Our investment process starts with identifying quality businesses,” says Briggs. “If the fundamentals change, we’ll adjust our portfolio accordingly.”

Backing Australia’s next generation of leaders

Among the team’s strongest performers has been SKS Technologies (ASX: SKS), which Ellerston first invested in during July 2024 at around $1.30 per share. The company has since benefited from surging demand for hyperscale data centres and AI infrastructure, with increasing project wins driving substantial earnings growth.

Another high-conviction holding is Wagners Holding Company (ASX: WGN), where Ellerston sees a multi-year investment opportunity supported by Queensland’s population growth, infrastructure spending and preparations for the Brisbane 2032 Olympic Games. The company’s Composite Fibre Technologies business also provides additional exposure to Australia’s electrification rollout through advanced utility poles and transmission infrastructure.

Long-term holding Servcorp (ASX: SRV) represents a different type of opportunity. The founder-led flexible workspace business has more than doubled earnings over the past three years while maintaining a strong balance sheet, illustrating the team’s preference for companies capable of compounding earnings over extended periods.

Another example is Shape Australia (ASX: SHA), which Ellerston identified as a misunderstood business. While often categorised alongside traditional construction companies, the team recognised its lower-risk refurbishment and fit-out model, strong repeat customer base and growing exposure to sectors including education, healthcare and data centres.

The next opportunity may be hiding in plain sight

While AI infrastructure and electrification remain long-term investment themes, Ellerston believes the next wave of opportunities may emerge from sectors that have recently fallen out of favour.

Industrial companies, selected financials and consumer discretionary businesses have all experienced meaningful valuation compression following interest rate increases.

Companies such as Plenti Group (ASX: PLT) and Baby Bunting Group (ASX: BBN) are now attracting increased research attention from the team as valuations become increasingly compelling.

Rather than attempting to identify the exact market bottom, Barker and Briggs are focused on identifying businesses where improving fundamentals are yet to be reflected in share prices.

Looking beyond Australia’s largest companies

For Barker and Briggs, the case for Australian micro and small caps has rarely been stronger.

After several years of lagging large caps, Australian micro and small caps are trading below their long-term relative valuation against the ASX 200. Combined with strengthening structural growth themes, the sector presents an attractive entry point for long-term investors.

Barker says, “Investors looking beyond the ASX 20 aren’t simply buying smaller companies. They’re accessing businesses exposed to some of the fastest-growing parts of the Australian economy. For active investors prepared to do the research, that’s where we believe many of Australia’s future market leaders will be found.”

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