Thursday 28 February 2013

Guinness Peat Group PLC (ASX: GPG)

GPG is a listed investment vehicle in wind-down mode. All of the assets are being sold and shareholders will be left with a 100% stake in Coats. This is a true cigar-butt story and money  can be made if the sum of the parts is greater than the purchase price. 

In my last post (click here for the article) I provided an analysis of GPG excluding Coats and I promised to provide an analysis of Coats in this next post. GPG has since come out with preliminary full year numbers (to 31 December) and an updated investment position. Before looking at Coats, let's do a quick update of the remaining balance sheet. 

GPG excluding Coats

The balance sheet excluding Coats is shown in the table below:


As GPG points out, the pension figure can change substantially as the amounts are discounted using high quality bond rates; which can change substantially. It is also worth noting the AUD is slipping against the GBP; so that is another source of risk for Australian investors. I have included an estimation of future corporate costs, which amount to A$30m (assuming $3m per month for the rest of CY2013). Based on these factors, I arrive at an estimated NTA of A39c.

Coats

GPG has a book value of £48m or about A5c per share. The composition of that  book value is assets: £481m, debt -£226m employee benefit obligations -£207m. Given there have been significant write-downs on the balance sheet, it is likely the book value understates the true value of Coats - the big question is how much. It's worth having a look at the question backwards: what does Coats need to be worth as a minimum for us to buy GPG at the current price of 48c? Let's assume we want to make 15%*; that means we need to value GPG at 55c and therefore Coats needs to be worth at least 16c (55c - 39c) or $245m/£166m net of all liabilities.

Pre-exceptional items (including a monster EU fine), Coats generated NPAT of £32m. Historical sales and profits of Coats have actually been pretty good and considering the economic tough times it has held up well. Management has indicated a restructuring program is working well; but we've all heard that one before! However, would I choose to buy a company that isn't really growing and I don't understand particularly well? No. So the investment case for GPG is to grab Coats at such a discount I don't really need to care whether it is a great company or not. On a very simplistic basis, I wouldn't want to pay a PE of more than 4-5 in order to get a good margin of safety and allow the PE to expand once we end up with a sole investment in Coats. So, assuming £32m is maintainable and applying a PE of 5 means we have a required valuation of $236m/£160m or 15c. On that basis, we will make our money on a PE expansion basis when GPG is converted purely into a Coats investment.

To be frank, I'm not sure if I have missed something in this analysis. It's not as simple as buying cash or property on the cheap. The potential upside might be around 58-63c if everything holds up well at Coats. I'm going to mull this position over before buying.

Tuesday 12 February 2013

Guinness Peat Group PLC (ASX: GPG)

This is quite a long tale, so I am splitting this analysis over two posts: analysing GPG ex COATS and then analysing COATS itself.

GPG was the vehicle for rockstar corporate raiders Sir Ron Brierly and Gary Weiss. A good interview of Gary Weiss can be read in the book Masters of the Market. GPG is listed on the ASX, NZX and LSE.

GPG holds a motley collection of listed and un-listed investments. The company is in the process of winding up the company by selling off its investments while at the same time buying back its own shares and debt. At the end of this lengthy process, shareholders will be left with a share in Coats PLC: a company that makes threads and yarns of all things. 

I have worked through the balance sheet to update it for recent asset sales and share buy-backs. In some areas my numbers are rough and ready and I have not included an allowance for any income dividends from its investments. This at least helps build in a margin of safety. Given the rise in stock markets, some of the underlying investments have increased in value, which has been a positive for GPG shareholders. The attached spreadsheet shows my workings.



In summary, I estimate GPG has AUD 40c in NTA. The current price is 48.5c. I get the feeling I am late to this party and have quite possibly missed the easy runs in this case. So the question I ask myself now is whether I am prepared to pay 8.5c for COATS? Well, stay tuned for the next update on GPG and we will discuss further.

Kristian 

Sunday 10 February 2013

Real Estate Capital Partners Trust (ASX: RCU)

Real Estate Capital Partners Trust (ASX: RCU)

Major shareholder Greg Woolley has revealed his hand (that was fairly obvious): he and his posse wish to use the rump of RCU as a platform to build a new investment business. The exact nature of the new business has not been revealed and will be put to vote at a unit holder meeting in March. RCU has been sold down to 43c as result. Some have been speculating a capital raising may be forthcoming, but that's exactly what I would like to see: it will shake out even more small shareholders from the stock presenting a further buying opportunity at hopefully an even bigger discount to cash/assets. As I have been disclosing, I am buying RCU on the way down and I keeping plenty of cash ready to buy at lower levels and/or a capital raising. And if you don't believe me, there are also plenty of 'in the know' investment bankers in this stock and I am betting they would also like to see lower prices. 

Kristian 

Saturday 9 February 2013

Wesfarmers Partially Protected Shares (ASX: WESN)

I love this type of structure. 

I own WESN and just wish I could find more investments like it. I've looked all over the world and so far come up empty handed. WESN aren't particularly cheap anymore, but nevertheless the structure of the issue itself is superb; it provides 100% upside exposure just like an ordinary share, but has built-in partial downside protection. 

Let me explain. 

WESN are issued by Wesfarmers Ltd (ASX: WES). As a very loose analogy, WES might be thought of as a mini Berkshire Hathaway or conglomerate. WES has a great long term track record of identifying opportunities across various industries: mining, insurance, agriculture, investment banking, home improvement and supermarkets. The vast bulk of WES earnings are now made up of Coles supermarkets and I have long been a backer of the their change strategy. Many analysts thumbed their noses at Coles chances of the turnaround given Woolworths Ltd (WOW) had for more than 10 years ruled supreme in the Australian grocery scene. But the solution was fairly simple: get the right products on the shelves and make the prices competitive! 

As part of the Coles takeover, WES issued another class of equity: WESN. WESN rank equally with WES shares and receive exactly the same dividend and franking credits. WESN will mature, at which each WESN share will convert into one WES share. In addition, depending on the WES share price, WESN shareholders may receive more than one WES share. 

Okay, let's break that down a little further. The latest maturity date is November 2015. Maturity can occur on early November anniversaries, however the S&P ASX200 Industrials Index needs to close above 6,500. It is currently 3,781. So its safe assuming the later maturity date. If WES closes below $34.49 at maturity, an additional 0.25 WES shares will be issued to WSN holders on top of their one WES share. If WES closes above $43.11, no additional shares will be issued and if the price closes in between those two price points, additional shares are issued on a sliding scale basis. 

WES and WESN have had a terrific share price run of late. WES trades at $38.63 and WESN trades at $39.62. The historic dividend is $1.65 or $2.36 including franking credits and I fully expect the dividend to increase over time. The current grossed up yield of WESN is therefore 5.9%; almost double that of the RBA cash rate. However, that yield isn't particularly fantastic relative to Telstra Ltd (TLS), the banks and plenty of other stocks. Buying WESN at these prices does mean making a degree of trade off between income and some downside protection. In the following analysis I have modelled some different scenarios as to the assumed closing price of WES in November 2015. I have assumed no dividend growth, which I believe is conservative: 

Final WES Share Price ($) (A) Additional Shares (no.) Additional Shares ($) (B) Value of Shares (A+B) Dividends p.a. * Yield p.a. 
15.00 0.25 3.75 18.75 2.36 -15.9%
16.00 0.25 4.00 20.00 2.36 -14.3%
17.00 0.25 4.25 21.25 2.36 -12.7%
18.00 0.25 4.50 22.50 2.36 -11.2%
19.00 0.25 4.75 23.75 2.36 -9.8%
20.00 0.25 5.00 25.00 2.36 -8.3%
21.00 0.25 5.25 26.25 2.36 -6.9%
22.00 0.25 5.50 27.50 2.36 -5.6%
23.00 0.25 5.75 28.75 2.36 -4.3%
24.00 0.25 6.00 30.00 2.36 -3.0%
25.00 0.25 6.25 31.25 2.36 -1.8%
26.00 0.25 6.50 32.50 2.36 -0.5%
27.00 0.25 6.75 33.75 2.36 0.7%
28.00 0.25 7.00 35.00 2.36 1.8%
29.00 0.25 7.25 36.25 2.36 3.0%
30.00 0.25 7.50 37.50 2.36 4.1%
31.00 0.25 7.75 38.75 2.36 5.2%
32.00 0.25 8.00 40.00 2.36 6.3%
33.00 0.25 8.25 41.25 2.36 7.3%
34.00 0.25 8.50 42.50 2.36 8.4%
35.00 0.23 8.11 43.11 2.36 8.9%
36.00 0.20 7.11 43.11 2.36 8.9%
37.00 0.17 6.11 43.11 2.36 8.9%
38.00 0.13 5.11 43.11 2.36 8.9%
39.00 0.11 4.11 43.11 2.36 8.9%
40.00 0.08 3.11 43.11 2.36 8.9%
41.00 0.05 2.11 43.11 2.36 8.9%
42.00 0.03 1.11 43.11 2.36 8.9%
43.00 0.00 0.11 43.11 2.36 8.9%
44.00 0.00 0.00 44.00 2.36 9.6%
45.00 0.00 0.00 45.00 2.36 10.4%
46.00 0.00 0.00 46.00 2.36 11.2%
47.00 0.00 0.00 47.00 2.36 12.0%
48.00 0.00 0.00 48.00 2.36 12.7%
49.00 0.00 0.00 49.00 2.36 13.5%
50.00 0.00 0.00 50.00 2.36 14.3%

A couple of observations:
  • If WES maintains its current price, the pre-tax return will be 8.9% p.a.
  • If WES drops to ~$26, we lose money

WES itself isn't particularly cheap these days: it trades on 19 forecast earnings. WOW trades on 17. I have been comfortable holding on at expensive multiples given the quality of the underlying business, however  I have been potentially suffering a case of myopia given that overseas equivalents such as Tesco Plc (LN: TSCO) has been trading at a much less demanding multiple of 11 following profit downgrades last year. Even supermarkets aren't guaranteed of permanently trading on big multiples. 

My conclusion: the structure of WESN is superb, however the valuation of WES is starting to get pricey. I am sitting on good gains in my portfolio and if anything I will trim a few back. I bought at levels less than the floor price, so the level of built-in protection I have is higher than current prices. Ideally I would like to see a good market pullback in order to pick some more up a bit more cheaply.  

Kristian

Monday 4 February 2013

Australian Foundation Investment Company Ltd Convertibles Notes (AFIG)

In my previous role, I covered this stock in detail. For those interested in a stock with very low downside potential while having the potential for decent upside may wish to keep AFIG on their radars. 

AFIG is issued by the Australian Foundation Investment Company (AFI). AFI is a Listed Investment Company (LIC) and is considered a blue-chip Australian LIC. Their portfolio consists almost entirely of big name Australian companies such as BHP Billiton Ltd (BHP) and the major Australian banks. As at 31 December, AFI had $5.430bn in assets and $319m in debt. From a creditors perspective AFI is safe. 

AFIG is quite a novel structure that I quite like from a risk/return perspective. AFIG have a face value of $100 and pay a fixed rate of 6.25% or $6.25 per note p.a. The maturity date is 28 February 2017. The notes will mature for $100 OR note holders have the option to convert into ordinary AFI shares at a rate of $5.09 per share. When AFIG were issued, AFI shares were well less than that value, however given the excellent performance of the S&PASX200 over the last 12 months, AFI shares have moved up to $5.44; therefore the call option embedded into AFIG are now well in the money. 

AFIG are currently $115.90. Are they worth buying? 

Scenario a) Let's look at the downside first. The likely worst case is that AFI slump over the next four years and we simply get our $100 back in 2017. Under this scenario the yield to maturity is 2.1% p.a. Not exactly inspiring; however that's the worse scenario. I would love to have had a minimum positive return on some of my previous trades! Scenario b) For the next scenario, let's just assume we convert now. AFIG can be converted at the semi-annual interest dates of 28 February and 31 August each year. Assuming the AFI price is the same at the end of this month, for each AFIG share we would receive $100/$5.09 = 19.6 AFI shares = $106.9 in value at $5.44 per share. Add in the $3.13 interest payment and we still lose quite a bit of money (5.1%) in a short period of time. This scenario isn't particularly relevant as we have the option of converting; if it doesn't make sense to convert we won't. Scenario c) let's pluck a few numbers out of the sky: assume AFI closes at $6 or $8 or $10  in February 2017 and we convert into ordinary shares. Including interest, the respective pre-tax rate of returns are 5.8%, 12.6% and 18.3% p.a. There is no particular reason I chose those numbers other than to demonstrate the potential blue-sky should the markets continue to do well from current levels.

AFI have recently announced a share buy-back which I find a little surprising given the level of the share price and underyling NTA. However AFI has a good long term track record, so it is reasonable to say they think there is upside in the share price. AFIG isn't a get-rich-quick scheme. But as a security with excellent downside protection and upside exposure, its a solid bet. I don't currently own AFIG, but may consider buying some in the future.



Internal Rate of Return (IRR) Comparison

I discussed the importance of IRR in a previous blog (Berkshire Hathaway Analysis: click here to read the article). In future posts, I will increase the number of variables to consider such as different tax rates and different growth/income assumptions, however for now I want to provide an IRR analysis of two different investments: shares and property. This analysis is slightly superficial and yes there will be many points of contention such as being able to add value to property etc. 

I'm located in Australia and will stick to Australian tax rates and investment examples for this analysis. I can see on my blogger stats that plenty of people from the USA are now starting to view the site (hi!) so I apologise if this doesn't appeal to you at the moment. Key Assumptions: 

  • The world doesn't blow-up
  • 30% flat tax rate on income
  • Neither shares or property are sold, therefore no capital gains tax to pay
  • No transaction costs
  • No depreciation allowance on property
  • Cash Deposit $100,000
  • Surplus income not re-invested
  • Holding period 10 years
  • Gear property at 80%
  • Gear shares at 40% (more conservative than property to allow for volatility)
  • Property: 
    • $500,000 purchase price
    • Interest rate of 5.5% p.a. on loan
    • Initial net rental yield 3.5%
    • Growth in capital and rent 5% p.a.
  • Shares:
    • Buy $167k of ANZ Group Shares
    • Interest rate of 7.5% p.a. on loan
    • Initial gross yield (including franking credits) of 7.8% p.a. 
    • Growth in capital and dividend 5% p.a. 
I have summarised the yearly cash-flows below:



Shares Property
Year 0 -100,000 -100,000
Year 1  6,057 -2,538
Year 2 6,535 -1,894
Year 3 7,038 -1,219
Year 4 7,566 -510
Year 5 8,120 234
Year 6 8,702 1,016
Year 7 9,313 1,837
Year 8 9,954 2,699
Year 9 10,628 3,604
Year 10 116,360 319,001



IRR 8.5% 12.2%

In this example, property beats shares. You can see the big gains are made in 10 years when the shares and property have grown in value. Because property involves larger exposure ($500,000 v $167k) thanks to more leverage, the same rate of capital growth allows it to trump shares hands-down. It also means property is more susceptible to changes in growth rates. In fact, it is by far the biggest component in determining long term success.

In Australia, high personal tax rates often means property is a superior investment. However, as we shall we in upcoming posts, shares can really shine in low tax rate environments and other circumstances. It also highlights the goals investors should have for different asset classes and it is my philosophy the two asset classes can work very well together. In the above example, I have made similar assumptions regarding growth rates between the asset classes, however if one asset class, or even one investment in general can generate superior capital growth than other available options, then the difference can be incredible over a long period of time. For example, if we can buy listed property at a significant discount to NTA, then we stand every chance of beating buying direct property. We don't need to be a slave to anyone particular asset class to be happy!

Kristian















Real Estate Capital Partners Trust (RCU)

Typical- first stock I discuss goes down! RCU closed at 45c on Friday. I'm buying more. Hopefully the price gets walloped so I can buy more cheaply. I believe the main risk we face is what the major shareholder has in mind for the cash-box, and I've no doubt that is why people are selling now. That doesn't phase me too much as I've seen plenty of these situations before and the key is to get a low average entry point. So like I say, the lower the price goes in the short term, the better for us.