Monday, 2 March 2015

Delistings: trust issues

Good article in The Financial Times: "Management Buyouts: Trust issues".

Management Buyouts are sometimes called delisting exercises in the Malaysian context.

In a typical company, investors wonder if the chief executive is competent. A tougher question emerges when the chief owns a big chunk of the shares: is the boss trustworthy? This week the founder of electronic music festival company SFX Entertainment, Robert Sillerman, offered to buy out the 60 per cent of the company he does not own, for $4.75 per share. The shares traded at $12 at the end of 2013. Still, the offer may well succeed - the bosses of Dole Food and Dell both won approval for their recent buyouts.

The dilemma with management buyouts is this: the boss has the inside perspective on the value of the company. Knowing where the bodies are buried puts them in a position to exploit the ignorance of Joe Public. Aggrieved shareholders of Dole Food claimed that its chief executive, who owned a 40 per cent stake, took advantage of a lull in the share price. In the case of Dell, the recent strong rally in the shares of HP - a very similar business - suggests Mr Dell timed his purchase well.

Shareholders have some protection against exploitation. Independent directors can negotiate on the behalf of public shareholders. Deals can require a majority of unaffiliated shareholders to vote in favour. Management buyouts often face a higher standard of review in deals in case of a legal challenge. Increasingly, shareholders demand "appraisal rights", where a judge decides if the deal price was fair.

Still, companies with big insider shareholders do not necessarily underperform in aggregate. A 2012 study by ISS found single-class "controlled" companies (where control is defined as ownership of 30 per cent of the shares) outperformed non-controlled companies as well as dual class controlled companies. The theory behind investing in companies where the chief executive has a big stake is that management and shareholders have the same interests. That is not always how it works in practice.

The above mentioned protection against exploitation in the Malaysian context:
  • Independent directors are not known for standing up against the boss: they are chosen by the boss and their fees are paid by him. Also, independent directors could simply be the golf buddies or former classmates of the boss. There are some exceptions, but they are rare, and (often) not published. Enforcement against independent directors for failing their fiduciary duty in this matter is almost non-existent, I can't recall a single case.
  • Legal challenges are very rare, they can be costly, taking a long time to conclude, not a good prospect for minority shareholders who will anyhow have a problem to band together like in a class action suit.
  • Appraisal rights: they depend on an independent valuation. Unfortunately, I have seen too many "independent" valuations that were extremely favourable for the boss. Enforcement agencies (SC and BM) often do not like to question these valuations, is my experience, even when they appear to be highly unfair. Some independent valuers have been punished, but very rarely so.
In other words, unless there are some vocal fund managers who own at decent stake of the company, it is usually a very unequal fight. Bosses are of course very aware of this. 

The perils of Private Placements

This blog has warned many times about the perils of Private Placements (PPs).

Rita Benoy Bushon, CEO of MSWG, wrote an excellent article about this matter in Focus Malaysia:

In short:
  • Why the need for PPs?
  • Why not consider a rights issue in which all parties can participate?
  • No transparency regarding the placees of PPs.
  • The discount widens if the share price rises (and the PP can be aborted if the share price decreases).
  • The urge for a limit on the size of a PP, say 10% of the shareholding through regulatory approval.

I like to add that minority shareholders in unlisted companies are often protected through the "right of first refusal", any new shares have to be offered first to the existing shareholders, who can take it up pro rata to their shareholding.

Sunday, 1 March 2015

Berkshire Hathaway: 50 years of Value Investing

Berkshire Hathaway, the conglomerate managed by Warren Buffett and Charlie Munger, published its much anticipated 2014 year report. It is the 50th since Buffett took control of the company. A true monument of value investing.

At the end of the day, the only thing that counts is the long term returns, and they are extremely impressive:

Berkshire Hathaway always uses "marked to market" for listed securities despite their limitations, Maybulk and Noble might want to take note:

It is the hallmark of the great manager to admit mistakes, Buffett does not try to hide the mistake he made regarding Tesco, about which I wrote here and here.

The last three sentences are a proof of the amazing stock picking abilities of Buffett and Munger.

Reviews about the year report can be found at Fortune, Forbes and The New York Times.

Saturday, 28 February 2015

Maybulk: large paperlosses on its investment in POSH (2)

In my previous post on this matter, I wrote:

"... if Maybulk decided to mark its investment in POSH against the market price (which sounds pretty reasonable to me), then it has to account for a one-off loss of RM 540 Million."

Maybulk announced its quarterly results and, as expected, the company did not mark its investment in POSH down against the market price. Although POSH's share price keeps on going down (at the moment it is SGD 0.52, 55% below the IPO price), Maybulk in actual fact managed to book a paper profit on its investment.

That does sound rather puzzling, how can one book a profit on an asset that only goes down in value?

The "trick" is that the SGD is going up compared to the RM. Maybulk is taking that into consideration, but not the (much larger) decrease in price of POSH's share.

The value of POSH in Maybulk's account is now a whopping RM 1,334 Million. However, the market value is only about RM 533M, a difference of about RM 800 Million.

In other words: although Maybulk's investment in POSH has been most disappointing, the share price of POSH has tumbled, the dividends received by Maybulk have been peanuts, "the share of results of an associate" (due to POSH's profit) has been small (and anyhow a non-cash item) and there is no clear exit down the road, Maybulk still continues to book paper profits on it.

According to Maybulk its own shareholders equity is close to RM 2.0 Billion. If we subtract the above RM 800 Million from it, then the adjusted net asset value is close to RM 1.2 Billion, about 40% less.

Maybulk's current market cap is RM 1.28 Billion, much closer to the adjusted net asset value than Maybulk's value. It seems the market values Maybulk according to its adjusted NAV, not the NAV in its books. That says something.

I am pretty sure that Maybulk's accounting is all according to the international accounting standards, and that the auditors will sign off on them.

Those standards are definitely not mine, I think they are pretty ridiculous. I think that if an asset is valued in a normal functioning market then that value gives a much better reflection than some paper value derived from the amount invested corrected for the share of results and currency fluctuations.

At the very minimum, Maybulk should inform its shareholders about the huge gap between the valuation in its books versus the valuation according to the market. Unfortunately, Maybulk's transparency has "not exactly" been great, and this rather obvious comparison is not made.

Will the 2014 year report give more information on this subject? I doubt it, but hope to stand corrected.

To add to the rather bleak situation, things don't look rosy in the near future either: "The Board expects 2015 to be a testing year for the group."

Maybulk announced a dividend of only 1 cent. It has 151M cash versus RM 347 M borrowings due to its continued investments in POSH.