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Tea with Ryan: SHC Capital Asia.

Wednesday, June 25, 2014

What you are going to read later on is a guest blog by Ryan who attended InvestX Congress recently and, in his words, is "trying to put to practice some of the stuff (he) learned there".
 
Originally sent to me as part of an email for private discussion, I had to admit that this is not something I am conversant with and asked if he would like me to publish this in my blog to see if it would attract some response from other readers. The aim is to generate some discussion.

For those who did not attend InvestX Congress, a "special situation" in investing could benefit investors even if, in Victor Chng's words, "the underlying fundamentals of the stock might not pass the typical value investing criteria but the special situation itself provides a nice opportunity for investors to profit."


So, have a read and if you have any thoughts you would like to share, please leave a comment:
 
SHC Capital Asia -
An Opportunity for "Special Situation" Investing?
 
What happened:
 
On the 18th of April, the company announced that it was in discussions about the potential sale of its entire business, triggering a 25% rise in share price from 20c to 25c. This follows an already strong year for the stock, rising steadily from as low as 13c in less than a year.
 
During the next couple of months, the stock went through a period of high volatility, with the price ranging from 20-30c, until on the 20th of June, the company announced the proposed disposal of SHC Insurance Pte Ltd.
 
The details:
 
The purchaser is ERGO International AG- a leading German Insurance company, with premium income amounting to €19bn, and over 50,000 employees. The million dollar number - the agreed consideration - turned out to be S$112.0 million - in cash. That works out to 36.6c per share. After lifting the trading halt, the stock traded in the range of 29-32c. Today, the shares closed at 30.5c, resulting in what I believe to be an opportunity for a short term (3-6 months) gain of 20%.
 
Further details on the deal:
 
The agreed consideration is based on the financial position of the company at the end of FY2012. Thus, any change in value of the company from then to the completion date of the deal will be compensated by ERGO. As of 1 January 2014, based on the audited shareholders’ equity, the purchase price will have increased to approximately S$117.5 million. Assuming the company had continued generating value at the same rate, and assuming the deal is completed by 30 June for simplicity's sake - the final consideration will work out to S$120.25 million. However, there are two additional costs involved, namely the transfer amount (1.025m), management retention (0.948m) and dividend (0.857m), which brings the final price to S$117.42 million.
 


Risks:
 
Since this is a direct play on the sale of the whole company business, the obvious risk is that of the sale falling through. There are two parts to this- the probability of the sale falling through, and the downside risks if indeed that happens.
 
First we'll look at the purchaser- it's a huge insurer under the Munich Re group, so we can safely assume this isn't some pump and dump scheme, and the purchaser really does want to make the purchase. The seller is See Hoy Chan, a reputable Malaysian developer. There is also a clear reason for the purchase - the purchaser wants to enter the growing Singapore insurance market. The conditions that needs to be satisfied:
 
(i)the approval of shareholders of the Company:
SHC Capital Holdings Pte Ltd and Allcare Investment Holdings Pte Ltd, which together hold 81.59% of the co. has promised to support the sale.
 
(ii) other than the MAS Approval, all other approvals and consents as may be necessary:
This seems likely as MAS has granted its approval in respect of the Proposed Disposal.
 
The rest are basically clauses ensuring that the co.'s accounts and indications in the discussions are true, and that they are not horsing around. I think there's no indication of why any of them should turn out to be an issue.
 
Now, let's look at the co. What if we bought now and the sale fell through, and we're stuck with the stock? The co. is an asset light business with recurring income from insurance premiums. Nearly all the assets are liquid - equities, bonds, fixed deposits, insurance premiums due, etc. The co. has essentially no debts, barring insurance contract provisions, which is money set out for expected claims.
 
 
Profit wise, $5.095, $5.932, $7,371 million from the 3 years since listing is growing steadily. At the current market cap of $88.7 million, the P/E is 12x - cheap considering how good the business is at creating a recurring stream of income, with little assets and no debt.
 
With this in mind, I feel that this is a great opportunity for a short term play - I highly doubt that there'll be the chance to hold this co. for long. The closing price today is 30.5c.
 
P/S: The co. plans to pay out around 30% of the final consideration as a special dividend, and use the rest of the cash for potential new business ventures. This makes it an excellent choice for a reverse takeover, as the shell can be used for quick and cheap listing, and the available cash can be used by a co. listing to expand their business (something most reverse takeover targets cannot provide, unlike IPOs). However, at the moment I'm happy to merely calculate valuation based on the cash after the sale is completed - 38.3c per share. That represents an upside of 25% based on today's closing price (30.5c).

Read Victor's article on "special situations investing": here.

Related posts:
1. InvestX Congress: Q&A.
2. InvestX Congress: Closing thoughts.

15 comments:

raf said...

Hi AK

So,isnt it the case that once sale is complete, our investment is basically in a company that owns one asset i.e.cash and what it does with it will be decided by the two major shareholders who control over 80%. At present all that the shareholders have been told is that 30% of cash will (at co's discretion) be paid as special dividend. If that does happen, we are still left wondering what they will do with the remaining 70%.

AK71 said...

Hi raf,

To me, that would seem to be the case. Balance cash, if the deal should materialise, would go to other business opportunities which are yet to be determined.

ryan said...

Hi raf,

Yes, after the deal is completed and 30% of the proceeds are distributed as a special dividend, the management will work on finding new business ventures.

From my understanding, the management will have one year to do so, failing which they'll have to distribute all the cash and delist. In addition, the cash will be held by a bank for safe-keeping, so we won't need to worry about the management misusing or running away with it.

ryan said...

I'll like to quickly touch on the basis of this blog post - the idea that cash on hand for a company should be valued at full, rather than at a discount. In a normal company where there are various assets and liabilities, based on the liquidity and valuation of the assets, a discount/premium for the liquidation value of the business may be given.

For example, say there is a company with a sole asset being a property. If the company decides to close down, this property may not be able to fetch its full value as there may be transaction costs, or a discount if the company had to sell it hurriedly. Thus, the fair value of the company will be less than the property value. On the other hand, if the property has not been revalued for some time, and the market price is now much higher, then we may attach a premium to it and value the company as a whole higher than its book value.

My assumption here is that for a company that owns purely cash, it should be valued at exactly how much cash it owns - because cash is basically the most liquid asset, with indisputably clear valuation.

Please let me know what you think about this, and whether it's a fair argument. I understand a certain amount of discount could be fair, based on the risk of management dishonesty and potential new business' failure. What would be a fair value for such a discount?

LacyKingKong said...

Hi Hi,

There is a clause in the SPA that indicates that the shares will not be traded after completion of the deal as it is now a Cash Only Company. The Company has stated that they, thru their sponsor, apply for SGX to allow the shares to be traded. Anyone know of examples of Cash only company being traded on the exchange?

Hi Ryan, your reasoning is fair. Cash is cash and there should not be much discount given to it.

I believe the company will use the proceeds to purchase business from their Sponsor. Not sure how much premium will be paid to their Sponsor. A bit of uncertainty over the use of the proceeds.

AK71 said...

Hi ryan,

Thanks for the elaboration. :)

In my opinion, buying in now, the biggest risk that investors have to bear is the chance that the deal does not go through.

I had a chance to chat with Victor regarding this and this was what he said as well.

In such an instance, the catalyst for the higher valuation evaporates and share price would most probably decline.

I see that the stock pays 0.28c in annual dividend. This translates to a dividend yield of 0.9% at the price of 31c a share. This dividend is probably sustainable but it seems inadequate to me if the deal should fall through a crack. A small consolation? ;)

lofan73 said...

i believe the deal will go thru. the teoh families have plans to do business and they r prudent wif money management. i understand this shc capital controlled by teoh chiang kai n his uncles. his brother,toh chiang quan owns paramount group n ecs in bursa n their dividen yield is ard 5%.currently,jeffrey chew from ocbc has joined them n wif his experience from banking industry, he will b definitely advising their group for extracting some values out of the companies. i will buy ths one

AK71 said...

Hi lofan,

The possibility of the deal not going through and a following decline in share price is the only risk I can see for anyone who chooses to buy in at this time. If the deal does go through, then, this could be a very rewarding investment. :)

Wei Xiong How said...

from the announcement on 1st July, it seems like there is S$8.4 million of Options Redemption Consideration and other costs and expenses which will result in NTA of about 32 cents per share. Maybe the discount is not so much afterall.

AK71 said...

Hi Wei Xiong,

This changes the valuation a bit. Something for Ryan to chew on. Thanks for the update. :)

Wei Xiong How said...

Shc ended at 0.285 today. Slowly losing steam. Vested at 0.31 :/

ryan said...

Hi Wei Xiong,

12c dividend declared - hope this cheers you up! :)

http://infopub.sgx.com/FileOpen/DeclarationOfInterimSpecialDividend_4Aug2014.ashx?App=Announcement&FileID=308168

Now that the deal is complete, the company is truly pure cash. I'm trying to come up with a good valuation for the listing status (as a shell for RTO or parent to inject a new business). The closest comparison I can find in the market is Jaya Holdings who recently divested the entire business. They now have net cash of $16M but are trading at $51M market cap on speculation of an impending RTO. That gives a rough "valuation" for the listing status of $35M - equivalent to 11c per share of SHC Capital Asia.

Is SHCCA thus worth 44c? Well, I seriously doubt so, but I'll wait and see what Mr Market throws at me!

P/S: AK, the delayed information about the bonus shares was indeed disappointing, but I'm glad it all worked out anyway. The importance of margin of safety I guess.

AK71 said...

Hi ryan,

Oh, for sure, anyone who got in earlier at much lower prices would be quite happy. :)

"Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results." Warren Buffett. ;)

choices said...

SHC capital close at 0.215 after xd. I bought before cd at 0.315. should I leverage and buy at current price 0.215? Ryan/AK, anyone? What is your view and advice? Tks!

AK71 said...

Hi choices,

I am not familiar with the stock and I do not have a position here. So, I am not the best person to comment on this.

However, I believe that one should buy if one believes that the stock is undervalued and/or there are visible growth catalysts that will grow its earnings. :)

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