Industrials

In this briefing:

1. Last Week in Event SPACE: Nintendo, Panalpina, Versum, Hanergy, Descente, Hopewell
2. Blue Bird (BIRD IJ) – Transport Wizzard with a Twist – On the Ground in J-Town
3. Topcon (7732 JP): Weak 3Q, Likely to Fall Short of FY Mar-19 Guidance
4. WABCO Confirms Being a Takeover Target of The Private German Auto Parts Maker, ZF

1. Last Week in Event SPACE: Nintendo, Panalpina, Versum, Hanergy, Descente, Hopewell

Last Week in Event SPACE …

• Nintendo Co Ltd (7974 JP)‘s offering and the buyback are strong symbols and practical examples of what the Corporate Governance Code wants to accomplish.
• Calling an EGM by the Ernst Göhner Foundation is both “sneaky” AND interesting (and bullish) news for the Panalpina Welttransport Holding (PWTN SW) offer by DSV A/S (DSV DC). 

• Merck KGaA (MRK GY) gatecrashes Versum Materials (VSM US)/Entegris Inc (ENTG US) friendly merger.

• Shareholders in Hanergy Thin Film Power (566 HK) face a “Hobson’s Choice” ahead of its forced delisting.

• With the combination of increased hostility leading to a greater likelihood of eventual private takeout, shorts will cover and foreigners may buy, squeezing existing Descente Ltd (8114 JP) minorities up and out.

• The IFA conclusion is flawed on Hopewell Holdings (54 HK)‘s low-ball Offer.

• Plus other events, CCASS movements and expected upcoming events for key M&A transactions.

(This insight covers specific insights & comments involving Stubs, Pairs, Arbitrage, share Classification and Events – or SPACE – in the past week)

Nintendo Co Ltd (7974 JP) (Mkt Cap: $33.3bn; Liquidity: $615mn)
Bank Of Kyoto (8369 JP) (Mkt Cap: $3.4bn; Liquidity: $7mn)

Nintendo announced (J) a Secondary Share Uridashi Offering of 2,428,700 shares by five shareholder banks, with an overallotment of 364,300 shares. This will be a little bit over 2% of shares outstanding. Applying a hypothetical 4% discount to the then-last traded price of ¥30,030/share, this is an ¥80bn Offering including greenshoe. On the same day, Nintendo announced (E) a share buyback program to buy up to 1 million shares or up to ¥33bn worth (whichever is reached first) to be commenced the day after settlement of the Offering.

• These banks (such as Bank of Kyoto) which have long-held policy cross-holdings in a Kyoto company with a diehard Kyoto cultural heritage (which can often include a diehard cross-holding culture) may have all succumbed to the new Corporate Governance Code. This is really important. 
• This deal is going to retail investors, quite specifically because Nintendo management and board view retail investors as both “sticky” investors and likely to largely follow management’s agenda in AGMs. Management might have misjudged how much this will get flipped.
  
• The big question here is whether the reasoning for selling is really because of the new focus on policy cross-holdings, or it is just Bank of Kyoto and other banks trying to top up profit before the end of the fiscal year, using heretofore unrealised gains. Given the size, it looks like the former though it will be difficult to get confirmation. Travis Lundy would want to be long Bank of Kyoto both outright and against the cross-holding portfolio.

link to Travis’ insight:
Nintendo Offering & Buyback: The Import & The Dynamics
Bank of Kyoto – Nintendo Sale A Portent of Changes To Come?

NTT Docomo Inc (9437 JP) (Mkt Cap: $72.4bn; Liquidity: $92mn)

NTT Docomo announced (E) that it would cancel 447,067,906 shares (11.82% of issued shares before the cancellation) of Treasury shares on the 28th of February. The buyback has already occurred. However, by the vagaries of TSE-calculated indices, they lead to index down-weightings (unless otherwise offset).

• This is a very large cancellation for a very large company, so it means a selldown of – by Travis’ estimate – 21.5-22.8mm shares at the close of trading March 28th. Traders looking to tilt short NTT Docomo or tilt long NTT short NTT Docomo will have that as a tailwind.

(link to Travis’ insight: NTT Docomo Share Cancellation)

Panalpina Welttransport Holding (PWTN SW) (Mkt Cap: $3.7bn; Liquidity: $21mn)

Panalpina’s largest shareholder with 45.9% of shares out, the Ernst Göhner Foundation (EGF), made a formal request to hold an EGM prior to the Annual General Meeting scheduled for early May 2019 so that the Articles of Association be changed – specifically Article 5 – such that the limit on transfer rights and voting rights be abolished and a “One Share One Vote” structure be adopted. The situation has been that Shareholders have their votes capped at 5% of shares outstanding EXCEPT FOR the votes of the EGF which were deemed “grandfathered” prior to the change. 

• EGF wants to pass this giving everyone their capital share percentage vote because the alternative is worse. Getting this passed would slightly change the outlook for a Panalpina/Agility deal or any deal which required significant issuance but it would mean that the EGF could continue to block any deal it did not like.  The thing is, there is nothing in the Articles of Association which grants EGF that “grandfathered” exemption.
• Cevian wants to block such this from going through, and to have the EGF capped at 5% like the Articles of Association suggest all should be. Cevian says that Panalpina has unlawfully maintained a grandfathering exemption from the 5% cap for the EGF. IF the EGF is capped, it means that effectively the EGF loses the ability to block deals they don’t like. 
• The situation is weird. It is possible that Panalpina is asking a convoluted and possibly unlawful voting structure with non-best-practice registration deadlines to vote on changing the vote structure. To Travis, this actually probably deserves a court challenge.

links to Travis’ insight:
Panalpina To Have EGM to Approve One Share One Vote.
The Mechanics of the Panalpina Vote

Versum Materials (VSM US) (Mkt Cap: $5.4bn; Liquidity: $60mn)

Merck KGaA (MRK GY), the German pharmaceutical and chemical company, gatecrashed the Entegris Inc (ENTG US) merger with Versum with the announcement of a $48/share (51.7% premium to the undisturbed) acquisition proposal. Late last month Versum and Entegris announced a $9bn (combined value) merger of equals whereby each VSM share would receive a fixed exchange ratio of 1.12 ENTG shares, resulting in VSM holders owning 47.5% of the combined company and ENTG holders owning the remaining 52.5%.

• It’s now in VSM’s court. Should it opt to ditch Entegris’ merger-of-equals proposal and side with Merck, it would incur a US$140mn termination fee or $1.28/share.
• John DeMasi reckons Merck’s proposal is superior, however a pure cash offer vs. stock swap are not directly comparable. The prospect of Entegris substantially increasing the exchange ratio or adding a chunk of cash to the merger consideration seems remote. John expects we will see a bump in Merck’s offer to make it friendly, and a recommended deal, in short order.

(link to John’s insight: Versum Materials – Entegris Beaten to the Punch by Merck KGaA)

Wabco Holdings (WBC US) (Mkt Cap: $7.1bn; Liquidity: $56mn)

Brake supplier, Wabco confirmed that it is in takeover talks with ZF Friedrichshafen, one of the leading auto parts suppliers in Germany.   ZF and Wabco jointly develop the Evasive Manoeuvre Assist system for trucks, combining Wabco’s braking and vehicle dynamics control systems alongside ZF’s active steering technology.

• The pushback is the Zeppelin Foundation, ZF’s controlling shareholder, and its aversion to taking on excess debt. Management and the foundation previously clashed over the €13.5bn TRW transaction in 2015.

(link to Lightstream’s insight: WABCO Confirms Being a Takeover Target of The Private German Auto Parts Maker, ZF)

Hanergy Thin Film Power (566 HK) (Mkt Cap/Liquidity: n.a) 

Back in October last year, Hanergy Mobile Energy Holdings Group Limited (HMEH), Hanergy Thin Film Power (566 HK)‘s majority shareholder, announced an intention to privatise the company at “no less than HK$5/share” via cash or scrip. Hanergy has now announced the intention of HMEH to privatise the company by way of a Scheme. The ultimate intention of HMEH still remains the listing of Hanergy’s business in China. The key issue, putting aside the fact Hanergy has been suspended for near-on four years, is that the scrip consideration has no assigned value.

• Long-suffering shareholders, who comprise 32.49% of shares out, have the dubious honour of holding SPV shares (with an as yet undermined jurisdiction), which may remain in A-share pre-listing purgatory; or should the Scheme fail/lapse, they will hold unlisted shares if Hanergy fails to resume trading by end-July 2019, as would be the case per recently introduced HKEx guidelines. Such an outcome affords HMEH the flexibility to potentially squeeze out minorities at a bargain price.
• It is not clear why the SFC is okay with this takeover proposal, apart from simply being open to any idea to remove Hanergy from the Exchange. At a guess, the SPV consideration structure (as opposed to a straightforward cash offer) is possibly geared to reduce shareholder rights compared to those available under Bermuda Companies Act, Bermuda being where Hanergy is incorporated.
• The Scheme doc, due out later this month, or early next, requires sign-off from the SFC. Presumably the SPV jurisdiction should at least be known by then. It is hard to believe an official takeover document would be dispatched boasting no determinate offer value in addition to unknown shareholder protection rights attached to the unlisted scrip.

(link to my insight: Hanergy’s Hobson’s Choice)

Descente Ltd (8114 JP) (Mkt Cap: $1.7bn; Liquidity: $5mn) 

Descente said will release its Mid-Term Plan early in an effort to encourage shareholders to not tender. For its part, Itochu has released an amendment to its original doc, saying Descente has been naughty (bad-mouthing Itochu to the press while in negotiations), and that it will wait until after the Tender Offer is completed to re-engage. Itochu effectively reserves the right to go full hostile.

• ANTA’s CEO was quoted in an interview saying ANTA supports Itochu’s tender offer and management restructuring and governance initiatives because they say they believe it will lift corporate value.  That means Itochu+ANTA have a functional majority if not absolute.
• This should raise back end values. Descente management is quite stuck here. To Travis, there is likely some upside optionality. Some may decide to stick with the company, raising pro-ration rates.

(link to Travis’ insight: Descente Descended and Itochu Angle Is More Hostile)

Hopewell Holdings (54 HK) (Mkt Cap: $4bn; Liquidity: $11mn) 

The Scheme Document for the privatisation of Hopewell Holdings (54 HK) has been dispatched. The court meeting will be held on the 21 March. The consideration will be paid (on or before) the 14 May.  

• The Offer Price representing a 43% discount to NAV, wider than the largest discount precedent in past nine years – the Glorious Property (845 HK) offer, which incidentally was voted down. The widest successful discount to NAV privatisation was 29.4% for New World China Land (917 HK) in 2016. And all precedent transactions (successful or otherwise) are PRC (mainly) property development related; except for Wheelock which operated property in Hong Kong (like Hopewell) and in Singapore, which was privatised at a 12.1% discount to NAV.
• Therein lies the dilemma – what is a fair and reasonable discount to NAV for a Hong Kong investment property play? With limited precedents, it is challenging to categorically reach an opinion. Therefore, the IFA concluded the Offer is reasonable by referencing the premium to last close and historical pricing. I would argue the Wu family has made a low-ball offer for what is essentially an investment property play with quantifiable asset value.
• A blocking sake is 5.9% or 51.6mn shares. First Eagle, which recently voted down the Guoco Group Ltd (53 HK) privatisation that was pitched at a ~25% discount to NAV, holds 2.7% (according to CapIQ). Trading at a wide gross/annualised return of 7.8%/45.4%, reflecting the risk to completion, and the significant downside should the scheme be voted down.

(link to my insight: Hopewell’s Egregiously Bad Offer, But What Can You Do?) 

DHG Pharmaceutical Jsc (DHG VN) (Mkt Cap: $668mn; Liquidity: $1.5mn) 

Taisho Pharmaceutical Holdings (4581 JP)announced it would launch another Tender Offer at VND 120,000 (3.5% premium to the previous close when the doc was prepared), this time to purchase up to 21.7% of the Vietnam-listed DHG, lifting its stake to 56.69%.

• The State Capital Investment Corporation (SCIC) owns 43.31%. IF the SCIC tenders, the minimum proration is 33.38%.  IF the SCIC does NOT tender their shares, this is effectively a full tender. All of your shares would be purchased.
• The very recent performance has been most curious. The last 11 days – before the announcement – have seen the stock move 37.6% on 9x average volume, with little to no news to drive it as far as Travis can tell. Looks some leakage ahead of the partial offer announcement.

• Travis thinks there is a non-negligible possibility that Taisho will have to bump their Tender Offer Price. And a non-negligible chance that SCIC tenders.

(link to Travis’ insight: Taisho To Launch Another DHG Pharma Tender)

Yahoo Japan (4689 JP) (Mkt Cap: $13.5bn; Liquidity: $53mn) 

OYO, the largest budget hotel network in India, announced a JV with Yahoo Japan to expand its co-living rental service, “OYO Living”, to Japan. OYO will own 66.1% while YJ will own the remainder of the JV, named “Oyo Technology & Hospitality Japan”. 

• Rebranded as “OYO Life”, the service would be the first of its kind, in the virtually non-existent co-living market in Japan. In Japan, apartments are usually compact single-occupier units as opposed to shared spaces, which might pose a problem for OYO’s co-living model. 

• Assuming the model is a success and OYO Life could ramp up its capacity to around 150,000 beds in Tokyo, which is around 5% of the total apartment stock in central Tokyo, this would contribute around ¥3bn (2% of net income in FY03/18) to Yahoo Japan’s net income. There is potential for further gains, however, this would depend on how ready Tokyo is to move into a “Co-Living” culture en masse.

(link to LightStream Research ‘s insight: Yahoo Japan’s JV with OYO Could Be Big, If Tokyo Is Ready to “Co-Live”)

Ruralco Holdings (RHL AU) (Mkt Cap: $335mn; Liquidity: $0.5mn)

Ruralco has announced it has entered into a Scheme Implementation Deed in which Nutrien Ltd (NTR CN) has agreed to take Ruralco private at $4.40/share – a 44% premium to last close and the one-month VWAP. A fully franked special dividend of A$0.90 will reduce the Scheme consideration. An interim dividend of A$0.10 will be added.

• Nutrien has first mover advantage, however a counter from Elders Ltd (ELD AU) is possible. The two companies have a history after Ruralco attempted to buy out Elders in 2012, but failed over a disagreement in pricing.
• ACCC should not be issue to this transaction. A 2013 ruling did not oppose a Ruralco/Elders tie-up, and a similar conclusion is expected for Nutrien.
• The gross/annualised spread of 0.2%/0.7% is unattractive. But at this deal price, Elders could still come over the top. Trading itself at 11.4x EV/EBITDA (according to CapIQ), upping the price by 10% would still be accretive to Elders.

(link to my insight: Nutrien’s Move On Ruralco Makes Agronomic Sense)

Yungtay Engineering (1507 TT) (Mkt Cap: $792mn; Liquidity: $1mn) 

Revealed in the release of notes about the Board approval of the Independent Review Committee’s review in late January was the news that Otis offered to buy the company for NT$63/share but it didn’t go anywhere. In addition, some directors – most likely the partisan ones installed in the failed board proxy fight last summer – objected to the lower minimum threshold, which is a sign they don’t want the deal to go through (because the lowering of that threshold is otherwise an unmitigated positive for minority investors).

• Despite stories of a suit of breach of trust against six directors for not entertaining or pursuing offers at NT$63 by Otis and/or Schindler, the company had not received any notification from judicial authorities and has not updated the market about Tender-related matters in the last two weeks.
• Travis thinks there is the small possibility of a bump to NT$63; but it is not a difficult deal to get done at the minimum threshold at NT$60.

(link to Travis’ insight: Yungtay Noises Haven’t Produced a Result Yet) 

Golden Land Prop Dvlp (GOLD TB) (Mkt Cap: $611mn; Liquidity: $1mn) 

Frasers Property (Thailand) Pcl (FPT TB) has announced a conditional voluntary tender offer for GOLD at Bt8.50/share, ~2.4% premium to last close. Frasers Property Ltd (FPL SP) owns 40.95% in FPT and also 39.92% in GOLD. FPT’s director Panote Sirivadhanabhakdi (the son of Charoen Sirivadhanabhakdi), via his majority-controlled vehicle Univentures Public (UV TB), holds 39.28% in GOLD. Panote is also the vice-chairman of GOLD.

• This tender offer therefore has been initiated to consolidate the Sirivadhanabhakdi family’s holding into GOLD. Presumably, both FPL and Univentures will tender into the Offer giving FPT a minimum holding of 80.2%. The tender offer will be unconditional.
• The intention to delist GOLD is evident although it will be challenging for FPT to secure 90%+ in the tender offer process, given the single-digit premium to last close, and the fact GOLD traded above the current terms as recently as early December. Getting to 90% requires almost 50% of the minority to submit their shares.
• Currently trading at a gross/annualized spread of 2.4%/5.9% assuming early August payment. Very tight, suggesting investors are more likely angling for the back-end.

(link to my insight: Golden Land: Less An Offer, More A Consolidation Of Interests) 

Sichuan Swellfun Co Ltd A (600779 CH)(Mkt Cap: $3.1bn; Liquidity: $28mn) 

Diageo announced it had approached the board of directors of Sichuan Swellfun with a proposal to increase its stake from 60% to 70% at RMB 45.00/share. This was a 19.33% premium to the last close and a 40.05% premium to the 30-day average.

• On a trading basis, this is somewhat interesting. If you are quite bullish the stock, you have a partial put (and you own it already). If you are tentatively bullish A-shares, this offers you a partial put, but there is a possibility that the RMB 45.00 price creates a kind of short-term cap just because it is a sticky price in peoples’ minds.
• Travis is not particularly bearish the stock despite the fact that the earnings forecasts have dropped a fair bit since he looked at this six months ago. The consensus EPS forecasts for Dec 2020 today are roughly the same as they were for Dec 2019 six months ago.

(link to Travis’ insight: Diageo Proposes Another Partial Tender for Sichuan Swellfun)

Briefly …

• Douglas Kim reported that Amazon.com Inc (AMZN US) and Comcast Corp Class A (CMCSA US) may enter the race and have submitted initial bids to acquire Nexon Co Ltd (3659 JP)/NXC Corp. (link to Douglas’s insight:  Nexon M&A: Amazon & Comcast Enter the Race – It Ain’t Over Till Its Over!)
• The new news on Kosaido Co Ltd (7868 JP) is that the independent statutory auditor Nakatsuji-san has officially expressed his opposition to the Tender Offer. With the shares 19% through terms despite what appears to be no increase by the main activist in the last two weeks, the likelihood retail will tender at ¥610/share looks low, and this seems a situation where the deal may fail unless there is a bump. (link to Travis’ insight: Kosaido (7868 JP) TOB Extended)
• On the 28 Feb, Bank Danamon Indonesia (BDMN IJ)‘s shares went ex-rights for shareholders looking to both vote on March 26th and, assuming the vote goes through, to elect to receive cash of IDR 9,590 instead of continuing to hold shares. BDMN shares are trading down, as expected, but Travis thinks they could fall further: there is no compelling reason to own the bank after it goes ex-rights to receive cash. (link to Travis’ insight: Bank Danamon Goes Ex-Rights)

PCCW Ltd (8 HK) / HKT Ltd (6823 HK)

FY18 results for PCCW, HKT, and PCPD are out. Plugging in the de-consolidated numbers, I estimate PCCW’s discount to NAV at ~37%, right on the 2 STD line. On a simple ratio (PCCW/HKT), it is again approaching an all-time low. 

• Still select media ops (Free TV and OTT), together with substantial losses booked to other businesses and eliminations, continue to weigh heavily on PCCW’s stub ops, recording negative EBITDA in FY18, reversing the positive figure recorded in FY17. FY16’s stub EBITDA was also negative.
• One positive takeaway is that the dividend pass through is holding at around 90%.

(link to my insight: StubWorld: PCCW Is “Cheap” but Stub Ops Are Deteriorating)

Korean Stubs Spotlight

Douglas provided the one-year share price comparisons of 30 Korean holdcos and the opcos as well as changes to the foreign ownership stakes of these companies YTD. Significant changes to the foreign shareholdings of these companies sometimes lead to opportunities in the holdco/opco pair trades. 

• Among these 30 pair, five recorded significant share prices divergence in the past year (by 30% or more): Hyosung Corporation (004800 KS) vs. Hyosung Advanced Materials C (298050 KS), BGF Retail (282330 KS) vs. BGF Co Ltd (027410 KS), Doosan Corp (000150 KS) vs. Doosan Heavy Industries (034020 KS), Cuckoo Holdings (192400 KS) vs. Cuckoo Homesys (284740 KS) and Orion Holdings (001800 KS) vs. Orion Corp (271560 KS).
• Among these 30 pairs, five experienced 2.0% or more changes in the difference of the holdco and opco’s foreign shareholding percentages: Doosan Corp (000150 KS) vs.Doosan Heavy Industries (034020 KS),  Halla Corp (014790 KS) vs.Mando Corp (204320 KS), Lotte Holdings (004990 KS) vs. Lotte Shopping Co (023530 KS), LS Corp (006260 KS) vs. Ls Industrial Systems (010120 KS) and SK Telecom (017670 KS) vs. SK Hynix Inc (000660 KS).

(link to Douglas insight: Korean Stubs Spotlight: Focus on Diverging Share Prices and Changes to Foreign Ownership)

• Sanghyun Park points out that Hyundai Motor Co (005380 KS)‘s Common vs. pref ratio is getting out of whack, possibly because of Elliott’s ₩4.5tn dividend demand. Both 1P and 2PB are sufficiently undervalued relative to the Common. The div yield difference to Common is also at the highest levels for both pref types. Sanghyun suggests shorting the Common and being long 1P or 2PB now. 1P is probably a safer bet, but 2PB is more liquid. (link to Sanghyun’s insight: Hyundai Motor Share Class: Time to Short Common & Long Pref)
• Sanghyun also points out Samsung Electronics (005930 KS) Common/1P price ratio gap is again above +100% of σ on a 20D MA in favour of Common. He recommends going long 1P and short Common for now. (link to Samsung Electronics Share Class: Long 1P / Short Common on Falling Memory Prices)

For the month of February, thirteen new deals were discussed on Smartkarma with a cumulative deal size of US$12.3bn. This overall number includes the “offer” for Hanergy Thin Film Power (566 HK) which has no value, as yet, attached to the scrip component. A firm number for Glow Energy Pcl (GLOW TB) has yet to be announced, which could result in a US$4bn+ deal. The average premium to last close for the new deals was 27.5%.

(link to my insight: M&A: A Round-Up of Deals in February 2019)

• Pioneer Corp (6773 JP) announced that the deal had received all relevant anti-trust approvals, and payment for shares by the Acquirer (BPAE) of the Third Party Placement was now expected to take place on March 8th. 

• Glow Energy Pcl (GLOW TB) announced it has entered an S&P to sell Glow SPP1 to B. Grimm Power Service for Bt3.3bn. The P/B was not provided. This is equivalent to ~2.5% of Glow’s market cap.

• Propertylink Group (PLG AU)‘s Offer has been extended to 8th March as they look to get to 90% and move to compulsory.

• Delta Electronics Thai (DELTA TB) has now clarified that the dividend will be added to the offer.

My ongoing series flags large moves (~10%) in CCASS holdings over the past week or so, moves which are often outside normal market transactions.  These may be indicative of share pledges.  Or potential takeovers. Or simply help understand volume swings. 

Often these moves can easily be explained – the placement of new shares, rights issue, movements subsequent to a takeover, amongst others. For those mentioned below, I could not find an obvious reason for the CCASS move.   

2. Blue Bird (BIRD IJ) – Transport Wizzard with a Twist – On the Ground in J-Town

A visit in Jakarta to the Blue Bird (BIRD IJ) office was well-timed as the company is close to the conclusion of two corporate actions, as well as an interesting extension to its relationship with Go-Jek Indonesia (1379371D IJ).

Both acquisitions are synergistic with its existing business and represent long-term opportunities rather than an immediate significant boost to earnings.

The company’s underlying fundamentals continue to improve with fleet utilisation up versus last year in 4Q18, as was the average revenue per taxi.

The company continues to see the benefits of its tie-up with Go-Jek, which will soon morph into something even more significant.

Blue Bird (BIRD IJ) remains an interesting way to play the rising levels of affluence amongst the rising middle classes in Indonesia. the company is close to completing two corporate actions including a new venture into the car auction business with Mitsubishi UFJ and the acquisition of an intercity bus company. It is also close to signing an extension and expansion of its relationship with Go-Jek, which will help to cement its position in the online ride-hailing space. Underlying fundamentals continue to improve both in terms of fleet utilisation and average revenue per taxi. According to Capital IQ consensus, the company trades on  14.9x FY19E PER and 13.7x FY20E PER, with forecast EPS growth of +16.2% and +8.9% for FY19E and FY20E respectively. The near-term completion of two corporate actions and an extension of its agreement with Go-Jek Indonesia (1379371D IJ) should provide positive catalysts for the share price coupled with improving ridership, average revenue per taxi, and fleet utilisation.

3. Topcon (7732 JP): Weak 3Q, Likely to Fall Short of FY Mar-19 Guidance

Topcon’s FY Mar-19 guidance looks over-optimistic. Operating profit was up 8.5% year-on-year on a 1.4% increase in sales in the nine months to December, but down 10.1% on a 2.3% decrease in sales in 3Q. To make management’s full-year targets, it would have to increase by 41.0% on a 6.8% increase in sales in 4Q. The sales of all three major product segments – Smart Infrastructure, Positioning and Eye Care – have been slow. Intra-company eliminations have undercut segment profits.

At ¥1,561 (Friday, March 1, close), the shares are selling at 23.6x our EPS estimate for this fiscal year and 9.8x projected EV/EBITDA. These multiples compare with 5-year historical lows of 16.1x and 6.8x. Japan Analytics’ calculation of Annual No-Growth Valuation shows further downside risk (see chart below). 

4. WABCO Confirms Being a Takeover Target of The Private German Auto Parts Maker, ZF

Last morning the listed brake supplier, Wabco Holdings (WBC US) confirmed that it is in takeover talks with one of the leading auto parts suppliers in Germany, ZF Friedrichshafen AG. Following the news of being possibly bought by a private company, WABCO’s stock surged almost 10% during the day, reaching USD130.5 by the day’s close.  This positive market reaction for WABCO was purely based on its confirmation about having preliminary takeover discussions with its rival company, ZF. There were no further details released on the possible deal price or about the plans that either company has after the takeover. Further, ZF in a news report stated that no decision has been taken yet and that it was the preliminary discussions that were being done. However, we do note the following:

• ZF is known to have made such strategic acquisitions in aiding the long-term development of the company. A similar strategic move was made by ZF back in 2015, when it took over TRW Automotive Holding to expand its exposure to sensors and electronic components.
• In June last year, ZF stated in a news report that it is not prioritising interest in brake suppliers, as its focus is to pursue investments in developing components to support next generation technologies and reported its plan to further invest more than EUR12bn into e-mobility and the autonomous driving field. This could indicate that WABCO takeover discussions may involve reasonable price discipline from ZF, and we would note that ZF had previously desired to acquire Wabco for about €6-8bn. However, we believe that the buyout does look attractive for both companies, especially for ZF, given the possible synergistic effects that could support ZF’s next gen technologies.
• In the last go around, ZF had just completed its acquisition of TRW and the balance sheet made a further large acquisition difficult. Now, much of the additional debt from the TRW has been digested and although levering up again could place considerable financial pressure on ZF in the short term, the company’s history makes up believe that it has the capability to handle any such pressure once synergies kick-in and restore its balance sheet in short order.

In this briefing:

1. Last Week in Event SPACE: Nissan, Naspers, Lynas, Xenith, Versum, Scout24, PCCW
2. Shaky Situations at DEMCO and Pranda
3. Havells India
4. SBS (2384) A Great Third Party Logistics Company Seeing Good Organic Growth as Well as Via M&A.
5. Xenith Is Running Out Of Excuses

1. Last Week in Event SPACE: Nissan, Naspers, Lynas, Xenith, Versum, Scout24, PCCW

Last Week in Event SPACE …

• The fog lifts, slowly, on Nissan Motor (7201 JP), but merger talks will have to wait until the company gets its governance in order, and a full-on merger seems remote at best.
• The value enhancement to Naspers Ltd (NPN SJ) from spinning off and separately listing its stake in Tencent Holdings (700 HK) is not apparent.
• Trading around its “undisturbed” levels, Lynas Corp Ltd (LYC AU) looks like a short after rejecting Wesfarmers Ltd (WES AU)‘s left-field unsolicited proposal.
• The gloves are off as Merck KGaA (MRK GR) announced an unsolicited $48/share cash tender offer for Versum Materials (VSM US). 
• With the ACCC’s blessing, now is a good time for Xenith Ip (XIP AU) to jettison Qantm Intellectual Property (QIP AU) and engage with IPH Ltd (IPH AU).
• While the deal for Scout24 AG (G24 GR) is likely to get up, someone else coming over the top at this late stage is not impossible.
• PCCW Ltd (8 HK) is “cheap” relative to HKT Ltd (6823 HK) – a catalyst to narrow the discount would be helpful.

• Plus other events, CCASS movements and upcoming key dates for M&A transactions.

(This insight covers specific insights & comments involving Stubs, Pairs, Arbitrage, share Classification and Events – or SPACE – in the past week)

Nissan Motor (7201 JP) (Mkt Cap: $32bn; Liquidity: $98mn)

Both Mio Kato, CFA and Travis Lundy tackled a report in the FT suggesting that Renault “aims to restart merger talks with Nissan within 12 months” and the long-awaited release of Nissan’s Special Committee for Improving Governance (SCIG) report.

• Governance weakness under Ghosn was inexcusably bad. Worse than previously reported. Ghosn unilaterally decided the compensation of directors, top management and himself, while Kelly held broad sway over essentially everyone else, acting as a gatekeeper even against auditors and the accounting department. And it appears that there is zero understanding at Renault that Renault itself is not blameless for bad governance at Nissan over the years. The SCIG recommendations to the board now are, on the whole, pretty decent.
• If France and Renault “push” for a merger, Nissan will continue to push back for the foreseeable future. As the governance report shows, the house is nowhere near being in order. All that has happened is that the steps which need to take place for it to be put in order have been identified.
  
• Where Mio and Travis diverge – click to both insights below – is that Mio thinks a breakup of the alliance is more likely than a merger near term, especially if Paris continues to ignore Nissan’s priorities and constantly push for a merger ASAP.  He does not feel scale is quite as necessary as people seem to assume, as long as you have access to a strong supply chain.
• Travis thinks an outright merger is also unlikely, as the trust is not there, but is a big fan of the existing single platform design to lower costs and reduce parts count. There would be no need to replicate the R&D for parts and platforms across multiple marks, so he thinks the production alliance stays in place even if the capital alliance does not move further.

Links to:
Mio’s insight: Nissan: Atrocious Governance Should Be Rectified Before Even Thinking of a Merger.
Travis’ insight: Nissan Governance Structure Report Out: Fog Dissipating Slowly. Sunny in Summer. Storms Next Winter?

Samsung Electronics (005930 KS) (Mkt Cap: $265bn; Liquidity: $464mn)

Sanghyun Park concluded the market had misinterpreted Amazon’s server DRAM demand cut in 4Q18. It wasn’t a sign of falling demand nor is there any convincing sign of server DRAM demand drop-off. It’s more a technical issue and by the time SamE gets the optimization issues right, server DRAM demand of Amazon and Google will return, stabilising DRAM prices.

• And that demand may come sooner, potentially by the end of 2Q. This will lead to a ₩4tn quarterly addition to the current street consensus, which backs out a current PER of ~9x.
• SamE is up since Micron announced it plans to reduce its output of DRAM and NAND by ~5% this year. From a Common-1P perspective, Sanghyun recommends going long the Common.

(link to Sanghyun’s insight: Samsung Electronics DRAM Economics: Adj. Valuation Shows Upside Potential at Current Price)

Briefly …

Aqila Ali discusses Denso Corp (6902 JP) investment in Airbiquity Inc, one of the leading companies in the connected vehicle services sector and one of the companies that has continuously developed automotive telematics technology. This proposal follows its investment in Quadric.io this year. Denso is in full swing in the development of its autonomous driving business and next-generation technologies development, and it wouldn’t be a surprise to see Denso emerge as the first mover in next-generation technologies such as AD and connectivity solutions. (link to Aqila’s insight: Denso Continues to Strengthen Its Investment CASE with Acquisitions)

Lynas Corp Ltd (LYC AU) (Mkt Cap: $1bn; Liquidity: $7mn)

Wesfarmers Ltd (WES AU) surprised the market and announced a non-binding proposal to acquire Lynas at A$2.25/share (cash) by way of a scheme.  This is a 44.7% premium to the one-day price and a 36.4% premium to the 60-day price. However, it is a 0% premium to the price at which Lynas was trading on 3 December 2018, the day before the Malaysian government imposed two pre-conditions on the rolling over of the processing licence (later in 2019), and it is a 3.2% premium to the one-year average as of 4 December 2018. Lynas rejected the proposal the next day.

• Lynas shares have, since mid-December, been trading as if there is significant risk to the renewal of their operating license in Malaysia. 

• This is a long-term bet by Wesfarmers. But seeing it through would require that Lynas shareholders decide once Malaysia has approved the renewal of their license that this business won’t be able to see better margins ahead the way there was a dream to see them a year ago.  Travis did not think that the increased buying on the dip by Greencape Pty and FIL since the Dec 4th announcement are omens of a desire to sell at A$2.25. 
• A priori, the bid by Wesfarmers does not increase the likelihood of a good outcome on the Malaysian regulatory front. And it disappears if Lynas can’t sort its problems satisfactorily. Therefore, it is not clear what value the bid brings to Lynas shares today. If neither the outcome’s probabilities nor the outcome’s price levels change, the bid should have no material impact on Lynas shares.
• At the time of his report, Travis thought this would be a short if the stock pops to the very high A$1 range or A$2.00 area. One caveat to shorting too low: if you think WES would conceivably bid quite a bit higher to enable Lynas to have a processing plant and battery plant at WES in Australia and maintain processing in Malaysia, that might be a different story.
  

(link to Travis’ insight: Wesfarmers Puts Out A Bid for Lynas)

Xenith Ip (XIP AU) (Mkt Cap: $115mn; Liquidity: $1mn)

The ACCC said will not oppose a tie in between IPH Ltd (IPH AU) and Xenith. Xenith acknowledged the ACCC decision resolves a major uncertainty, but stops short of supporting IPH’s offer as there still exist a number of concerns as detailed in its 19 March announcement.

• None of these remaining concerns raised by Xenith appear deal-breakers, and Xenith’s general pushback fails to mention the benefits of leveraging off IPH’s Asia-based presence, IPH’s superior liquidity (versus QANTM limited liquidity), together with the certainty of value under IPH’s offer via the large cash portion.
• With IPH’s 19.9% blocking stake, the QANTM/Xenith scheme is a non-starter. Xenith still should engage with IPH, whose offer provides a gross/annualised spread of 7.5%/24.5% – a decent risk/reward – assuming late July completion. The scheme meeting to decide on the QANTM Offer, scheduled for the 3 April, has now been postponed.

(link to my insight: Xenith Is Running Out Of Excuses)

China Power New Energy Development Co (735 HK) (Mkt Cap: $581mn; Liquidity: $1mn)

SOE State Power Investment Corporation (SPIC) is seeking to privatise China Power New Energy Development Co (735 HK) by way of a Scheme at $5.45/share, a 41.9% premium to last close and a 78.1% premium to the 30-day average. A scrip alternative (6 New shares for one Scheme shares) into an unlisted vehicle under SPIC is also available, but presumably just for SOE shareholders. China Three Gorges, CPNED’s largest shareholder with 27.10%, have given an irrevocable undertaking to vote for the Scheme and to elect the share alternative.

• This looks like a pretty clean, straightforward privatization. It is priced above the highest close since its listing by way of introduction on the 18 July 2017, while the excitement over the potential injection of all nuclear power assets and businesses from State Nuclear Power Technology Company has been removed after the restructuring was cancelled in July last year.
• Clarity is required as to whether China Three Gorges can vote at the court meeting. Based on the Code, it appears evident they cannot. In addition, the final dividend is expected to be added to the offer price, but again, the announcement is not explicit on this.
• The stock is currently trading at an attractive gross/annualised spread of 7.5%/25.7% conservatively assuming a late July completion, and inclusive of the final dividend. 

(link to my insight: China Power New Energy To Be Delisted After SOE Injection Abandoned)

Versum Materials (VSM US) (Mkt Cap: $5.4bn; Liquidity: $79mn)

Merck KGaA (MRK GR) has launching an unsolicited, fully financed tender offer on VSM at $48/share cash, a 52% premium to VSM’s stock price on January 25, the day before it agreed to sell itself to Entegris Inc (ENTG US)‘s in an all-stock deal.

• Conditions include a minimum acceptance threshold (a majority of shares), the rejection of ENTG’s offer, HSR/CFIUS clearance, plus the usual MACs. Merck does not rule out an increase in the Offer price.
• The shareholder vote on the VSM/ENTG is scheduled for April 26^th, 2019. The record date to vote is April 2, 2019. This means the last day to buy and participate was this past Friday.
• Merck said “the Versum board’s hasty rejection of our proposal and unwillingness to engage in discussions with us has forced us to take this proposal directly to shareholders. … Tell the Versum board to start doing its job and put your interests first.”

(link to John DeMasi‘s: Versum Materials – Merck KGaA Dials Up the Pressure and Launches Unsolicited Tender Offer (Part III))

Scout24 AG (G24 GR) (Mkt Cap: $5.6bn; Liquidity: $20mn)

A combination of Blackstone and Hellman & Friedman LLC launched an non-LBO LBO for Scout24 in mid-January at €43.50/share (€4.7bn), which was about an 8% premium to the then-current market price, which had already been juiced because of speculation starting after the FT article in late December. Scout24’s Board rejected the Offer.  The two buyers came back in mid-February with a Takeover Offer priced at €46.00/share. Both Scout24’s Management Board and Supervisory Board agreed to support the offer. The BidCo has now officially launched its Tender Offer.

• The unusual thing about this deal is that the two PE firms are looking to buy a minimum of 50% plus one share, and leave the company listed. The stock has been trading above terms since the new €46 bid. It appears the idea is that another bidder might come in over the top. Travis tends to think the occasional trading at just above €46 is due to arbitrageurs looking at this as a put option. Plus, the lack of additional noise means another bid may not be forthcoming. 
• Because Scout24 is basically a pure play inline classifieds business, it gets a decent multiple (17x 2019e EV/EBITDA). That said, it is not overwhelmingly expensive for a business which has strong network effects and significant ability to create niche marketplaces using existing technology/IP.
• Travis would see nothing wrong with selling in the market here, but as an arb, he is still a buyer at €46.01/share.

(link to Travis’ insight: Scout24 Tender Offer Launched: Price Still Not Quite Full)

Naspers Ltd (NPN SJ) / Tencent Holdings (700 HK)

Naspers announced the intended listing of its international internet assets on Euronext Amsterdam “no earlier than H2 2019“, together with a secondary, inward listing on the Johannesburg Stock Exchange. The Newco spin-off will include Naspers’ holdings in listcos Tencent and Mail.Ru (MAIL LI), together with ex-South African internet assets. Naspers will maintain a 75% stake in Newco plus Takealot, Media24, and net cash.

• Newco’s discount is likely to be narrower than Naspers presently, on account of the smaller free float, and >$2.26bn of investment just from index funds. It will however, still be a Tencent holding vehicle, while Newco’s assets comprise ~94% of Nasper’s assets.
• The remaining Naspers, post-spin off could have a wider discount – or “discounts on discounts”.  It will be one layer removed from what investors are most interested in – the Tencent holding. As witnessed in other holdco restructurings, providing additional clarity on investments/holdings within a company via spin-offs does not necessarily translate to the parent company’s discount narrowing. 
• Assigning a 20-25% discount to the Newco and keeping the discount constant (optimistically) at Naspers, gives a negative ~7-13% return.  I simply don’t see the value enhancement here, while there is no change in governance and no monetisation at the parent level.

(link to my insight: StubWorld: Naspers Embeds Another Layer Into Tencent)

PCCW Ltd (8 HK) / HKT Ltd (6823 HK)

Using a Sum of the Parts analysis, Curtis Lehnert calculated the current discount to NAV to be 37%, the widest level it has been since at least 2015, and approaching the -2 standard deviation level relative to its 6 month average.

• The current dividend yield on PCCW was 6.62% vs. 5.55% for HKT. That 1% yield differential is also near the widest since HKT’s listing in 2011.
• As Curtis notes, a catalyst for re-rating is hard to find. Still, he argues that the discount has widened out so much that the statistical advantages of mean reversion are in your favor.

(link to Curtis’ insight: TRADE IDEA – PCCW (8 HK) Stub: The Li Legacy Lives On)

• Hong Kong International Construction Investment Management Group Co., (687 HK)‘s SPA has completed – you can see the movement in shares on CCASS – triggering the MGO.

  Separately – and as expected – the composite document issuance for HKCIM has been delayed until (on or before) the 18 April.

• Eclipx (ECX AU) has rallied after a market update confirming it will sell two divisions (Grays and Right2Drive) and use the proceeds to pay down corporate debt.

• Ophir Energy (OPHR LN)‘s shareholders approved Medco Energi Internasional T (MEDC IJ)‘s Offer. Completion of the Offer remains subject to the receipt of clearances from the relevant authorities in Tanzania and not losing all or substantially all of its Bualuang interests in Thailand.

• 9.12% of shares out have tendered into Delta Electronics Thai (DELTA TB)‘s Offer, bringing the Offeror’s total holding to 30.05%. 
• The Offer docs for Healthscope Ltd (HSO AU) have been pushed out to the 24 April so as to incorporate the Scheme and Takeover Documents into a single integrated booklet.

My ongoing series flags large moves (~10%) in CCASS holdings over the past week or so, moves which are often outside normal market transactions.  These may be indicative of share pledges.  Or potential takeovers. Or simply help understand volume swings. 

Often these moves can easily be explained – the placement of new shares, rights issue, movements subsequent to a takeover, amongst others. For those mentioned below, I could not find an obvious reason for the CCASS move.   

2. Shaky Situations at DEMCO and Pranda

We visited two companies with very different trajectories. 

• Renewable power specialist DEMCO is struggling, despite doing really well in the past, while jeweler Pranda, once struggling, is on the recovery path.
• DEMCO reported gross profit and revenue decline of 8% and 7% respectively. Their earnings more than doubled, but that’s solely due to dividends from Wind Energy, an investment that cost them Bt800m and is embroiled in scandal.
• Pranda’s operating cash flows surged from Bt12m to Bt230m, as they restructured their store network.
• We’d still be caution on PDJ, as management doesn’t feel the restructuring is over. More stores could be closed down in the future.

3. Havells India

As the summer sets in, we visit distributor and retailers of air conditioners in our home town Vadodara, Gujarat where temperatures soar really high in summer and air conditioning is becoming a necessity.  Our checks are focused on Havells India (HAVL IN) and its’ consumer brand Llyod. Our takeaways from visits suggest celebrity endorsements unlikely to work, competition intensifying with the entry of Daikin in the mass premium segment, Ifb Industries (IFBI IN) joins the price war with its ACs, the season is off to a muted start due to prolonged winters.  At current price of INR 776, risk-reward offered is not in favour for Havells investors with a medium-term horizon. Using consensus estimates and average 3 year forward PE of 41x, target price works out to be INR 807. Investors will be better off waiting for an attractive entry point.

4. SBS (2384) A Great Third Party Logistics Company Seeing Good Organic Growth as Well as Via M&A.

It is seeing decent organic growth, led by a focus on third party logistics (3PL). This will carry on. The recently acquired Ricoh Logistics should eventually see margins improve as it is integrated into SBS. This year’s operating profit forecast of Y9bn (+10%) is conservative. An increase of Y1bn this year will come from Ricoh Logistics alone, and then we have organic growth. In our view operating profit will be at least Y10bn. There is the unrealised profit on land, which add some Y85bn to a company whose market cap is Y71bn. Despite the outperformance over the last 12 months, this remains a decent long-term domestic buy, and one in which foreigners still own only 12%. The shares trade on 13x 12/19 assuming an operating profit of Y10bn. 

5. Xenith Is Running Out Of Excuses

When IPH Ltd (IPH AU) gate-crashed Xenith Ip (XIP AU)/Qantm Intellectual Property (QIP AU)‘s marriage of equals, submitting a scheme proposal comprising cash (A$1.28) and IPH shares (0.1056 IPH shares) or A$1.97/share, versus QANTM’s all-cash offer (1.22 QANTM), the key risk to IPH’s Offer was ACCC opposing its Offer. As announced today, ACCC will not oppose.

This decision was largely expected and previously discussed here. Although IPH, QANTM, and Xenith are the only three ASX-listed intellectual property companies, privately owned companies collectively hold a larger market share – and growing – compared to the three listcos. The ACCC agrees and signed off on an IPH/XIP tie-up as it did on the 21 March, by not opposing the merger of XIP and QANTM.

XIP acknowledged the ACCC decision resolves a major uncertainty, but stops short of supporting IPH’s offer as there still exists a number of concerns as detailed in its 19 March announcement. IPH responded to those concerns on the 20 March. These include:

1. Shareholders of Xenith will hold an immaterial % of the merged IPH entity compared to QANTM.
   • IPH’s scrip portion accounted for (then) 35% of its Offer (now ~37%), shares which have superior liquidity versus QANTM given IPH’s position in the ASX200. 
   • The cash portion also provides added certainty on value into the Offer compared to QANTM’s all scrip offer.
2. The control premium as at 11 March is insufficient.
   • Probably the most contentious concern. QANTM’s all-scrip offer on the 27 November backed out an indicative offer price of $1.598/share or a 28.4% premium to last close.
   • IPH’s $1.97/share indicative offer (a 60% premium to XIP’s undisturbed price, and a 31% premium to the independent expert’s mid-point fair value (page 55)) compared to QANTM’s indicative offer of $2.03 immediately before IPH’s announcement.
   • Circumstances have changed materially since, with IPH’s cash/scrip offer now worth $2.02 as I type, versus $1.67 for QANTM.
     

     

     Source: CapIQ
3. The increased execution risk concerning ACCC. Now a non-issue.
4. It is questionable whether employees, controlling 40% of Xenith, would support the offer.
   • Employees are free to decide on what they consider to be the most compelling Offer. IPH has offered to hold discussions with XIP employees. 
5. CGT rollover will likely be lower via the large cash element under IPH’s offer vs. QANTM’s all scrip offer.
   • Maybe. Possibly. An all-scrip offer typically affords greater rollover relief. Nevertheless, Xenith is trading below its 2015 IPO price of $2.72/share.

With IPH’s 19.9% blocking stake, the QANTM/Xenith scheme is a non-starter. Xenith still should engage with IPH. The scheme meeting to decide on the QANTM Offer is scheduled for the 3 April.

In this briefing:

1. Blue Bird (BIRD IJ) – Transport Wizzard with a Twist – On the Ground in J-Town
2. Topcon (7732 JP): Weak 3Q, Likely to Fall Short of FY Mar-19 Guidance
3. WABCO Confirms Being a Takeover Target of The Private German Auto Parts Maker, ZF

1. Blue Bird (BIRD IJ) – Transport Wizzard with a Twist – On the Ground in J-Town

A visit in Jakarta to the Blue Bird (BIRD IJ) office was well-timed as the company is close to the conclusion of two corporate actions, as well as an interesting extension to its relationship with Go-Jek Indonesia (1379371D IJ).

Both acquisitions are synergistic with its existing business and represent long-term opportunities rather than an immediate significant boost to earnings.

The company’s underlying fundamentals continue to improve with fleet utilisation up versus last year in 4Q18, as was the average revenue per taxi.

The company continues to see the benefits of its tie-up with Go-Jek, which will soon morph into something even more significant.

Blue Bird (BIRD IJ) remains an interesting way to play the rising levels of affluence amongst the rising middle classes in Indonesia. the company is close to completing two corporate actions including a new venture into the car auction business with Mitsubishi UFJ and the acquisition of an intercity bus company. It is also close to signing an extension and expansion of its relationship with Go-Jek, which will help to cement its position in the online ride-hailing space. Underlying fundamentals continue to improve both in terms of fleet utilisation and average revenue per taxi. According to Capital IQ consensus, the company trades on  14.9x FY19E PER and 13.7x FY20E PER, with forecast EPS growth of +16.2% and +8.9% for FY19E and FY20E respectively. The near-term completion of two corporate actions and an extension of its agreement with Go-Jek Indonesia (1379371D IJ) should provide positive catalysts for the share price coupled with improving ridership, average revenue per taxi, and fleet utilisation.

2. Topcon (7732 JP): Weak 3Q, Likely to Fall Short of FY Mar-19 Guidance

Topcon’s FY Mar-19 guidance looks over-optimistic. Operating profit was up 8.5% year-on-year on a 1.4% increase in sales in the nine months to December, but down 10.1% on a 2.3% decrease in sales in 3Q. To make management’s full-year targets, it would have to increase by 41.0% on a 6.8% increase in sales in 4Q. The sales of all three major product segments – Smart Infrastructure, Positioning and Eye Care – have been slow. Intra-company eliminations have undercut segment profits.

At ¥1,561 (Friday, March 1, close), the shares are selling at 23.6x our EPS estimate for this fiscal year and 9.8x projected EV/EBITDA. These multiples compare with 5-year historical lows of 16.1x and 6.8x. Japan Analytics’ calculation of Annual No-Growth Valuation shows further downside risk (see chart below). 

3. WABCO Confirms Being a Takeover Target of The Private German Auto Parts Maker, ZF

Last morning the listed brake supplier, Wabco Holdings (WBC US) confirmed that it is in takeover talks with one of the leading auto parts suppliers in Germany, ZF Friedrichshafen AG. Following the news of being possibly bought by a private company, WABCO’s stock surged almost 10% during the day, reaching USD130.5 by the day’s close.  This positive market reaction for WABCO was purely based on its confirmation about having preliminary takeover discussions with its rival company, ZF. There were no further details released on the possible deal price or about the plans that either company has after the takeover. Further, ZF in a news report stated that no decision has been taken yet and that it was the preliminary discussions that were being done. However, we do note the following:

• ZF is known to have made such strategic acquisitions in aiding the long-term development of the company. A similar strategic move was made by ZF back in 2015, when it took over TRW Automotive Holding to expand its exposure to sensors and electronic components.
• In June last year, ZF stated in a news report that it is not prioritising interest in brake suppliers, as its focus is to pursue investments in developing components to support next generation technologies and reported its plan to further invest more than EUR12bn into e-mobility and the autonomous driving field. This could indicate that WABCO takeover discussions may involve reasonable price discipline from ZF, and we would note that ZF had previously desired to acquire Wabco for about €6-8bn. However, we believe that the buyout does look attractive for both companies, especially for ZF, given the possible synergistic effects that could support ZF’s next gen technologies.
• In the last go around, ZF had just completed its acquisition of TRW and the balance sheet made a further large acquisition difficult. Now, much of the additional debt from the TRW has been digested and although levering up again could place considerable financial pressure on ZF in the short term, the company’s history makes up believe that it has the capability to handle any such pressure once synergies kick-in and restore its balance sheet in short order.

In this briefing:

1. Blue Bird (BIRD IJ) – Transport Wizzard with a Twist – On the Ground in J-Town
2. Topcon (7732 JP): Weak 3Q, Likely to Fall Short of FY Mar-19 Guidance
3. WABCO Confirms Being a Takeover Target of The Private German Auto Parts Maker, ZF
4. The Mechanics of the Panalpina Vote

1. Blue Bird (BIRD IJ) – Transport Wizzard with a Twist – On the Ground in J-Town

A visit in Jakarta to the Blue Bird (BIRD IJ) office was well-timed as the company is close to the conclusion of two corporate actions, as well as an interesting extension to its relationship with Go-Jek Indonesia (1379371D IJ).

Both acquisitions are synergistic with its existing business and represent long-term opportunities rather than an immediate significant boost to earnings.

The company’s underlying fundamentals continue to improve with fleet utilisation up versus last year in 4Q18, as was the average revenue per taxi.

The company continues to see the benefits of its tie-up with Go-Jek, which will soon morph into something even more significant.

Blue Bird (BIRD IJ) remains an interesting way to play the rising levels of affluence amongst the rising middle classes in Indonesia. the company is close to completing two corporate actions including a new venture into the car auction business with Mitsubishi UFJ and the acquisition of an intercity bus company. It is also close to signing an extension and expansion of its relationship with Go-Jek, which will help to cement its position in the online ride-hailing space. Underlying fundamentals continue to improve both in terms of fleet utilisation and average revenue per taxi. According to Capital IQ consensus, the company trades on  14.9x FY19E PER and 13.7x FY20E PER, with forecast EPS growth of +16.2% and +8.9% for FY19E and FY20E respectively. The near-term completion of two corporate actions and an extension of its agreement with Go-Jek Indonesia (1379371D IJ) should provide positive catalysts for the share price coupled with improving ridership, average revenue per taxi, and fleet utilisation.

2. Topcon (7732 JP): Weak 3Q, Likely to Fall Short of FY Mar-19 Guidance

Topcon’s FY Mar-19 guidance looks over-optimistic. Operating profit was up 8.5% year-on-year on a 1.4% increase in sales in the nine months to December, but down 10.1% on a 2.3% decrease in sales in 3Q. To make management’s full-year targets, it would have to increase by 41.0% on a 6.8% increase in sales in 4Q. The sales of all three major product segments – Smart Infrastructure, Positioning and Eye Care – have been slow. Intra-company eliminations have undercut segment profits.

At ¥1,561 (Friday, March 1, close), the shares are selling at 23.6x our EPS estimate for this fiscal year and 9.8x projected EV/EBITDA. These multiples compare with 5-year historical lows of 16.1x and 6.8x. Japan Analytics’ calculation of Annual No-Growth Valuation shows further downside risk (see chart below). 

3. WABCO Confirms Being a Takeover Target of The Private German Auto Parts Maker, ZF

Last morning the listed brake supplier, Wabco Holdings (WBC US) confirmed that it is in takeover talks with one of the leading auto parts suppliers in Germany, ZF Friedrichshafen AG. Following the news of being possibly bought by a private company, WABCO’s stock surged almost 10% during the day, reaching USD130.5 by the day’s close.  This positive market reaction for WABCO was purely based on its confirmation about having preliminary takeover discussions with its rival company, ZF. There were no further details released on the possible deal price or about the plans that either company has after the takeover. Further, ZF in a news report stated that no decision has been taken yet and that it was the preliminary discussions that were being done. However, we do note the following:

• ZF is known to have made such strategic acquisitions in aiding the long-term development of the company. A similar strategic move was made by ZF back in 2015, when it took over TRW Automotive Holding to expand its exposure to sensors and electronic components.
• In June last year, ZF stated in a news report that it is not prioritising interest in brake suppliers, as its focus is to pursue investments in developing components to support next generation technologies and reported its plan to further invest more than EUR12bn into e-mobility and the autonomous driving field. This could indicate that WABCO takeover discussions may involve reasonable price discipline from ZF, and we would note that ZF had previously desired to acquire Wabco for about €6-8bn. However, we believe that the buyout does look attractive for both companies, especially for ZF, given the possible synergistic effects that could support ZF’s next gen technologies.
• In the last go around, ZF had just completed its acquisition of TRW and the balance sheet made a further large acquisition difficult. Now, much of the additional debt from the TRW has been digested and although levering up again could place considerable financial pressure on ZF in the short term, the company’s history makes up believe that it has the capability to handle any such pressure once synergies kick-in and restore its balance sheet in short order.

4. The Mechanics of the Panalpina Vote

This insight is a kind of public service announcement for investors looking at the Panalpina Welttransport Holding (PWTN SW) situation as it might affect the likely upcoming Extraordinary General Meeting that the Ernst Göhner Foundation requested of Panalpina, and to which Panalpina has acquiesced. The agenda item of the EGM requested is to implement a “One Share One Vote” system. 

Activist Cevian has come out against the proposal by the Ernst Göhner Foundation. This sounds counterintuitive except for one odd legal angle.

The Foundation’s ostensible goal is to ensure that the vote is “fair” so that Cevian and Artisan Partners can vote their full stake after having been capped at 5% for many years because of Article 5 in the Panalpina Articles of Association. The more cunning aspect of this is that, as per the Panalpina announcement…

In a letter addressed to Panalpina’s Board of Directors, minority shareholder Cevian had recently questioned the practice to fully admit EGF with all its voting rights at the Company’s shareholders’ meetings. Cevian took the position that the voting restriction of 5% must be applied to all shareholders and, hence the voting power of EGF must be reduced to 5%. An ad hoc board of independent directors (BoiD) consisting of five directors (without representatives of EGF and Cevian) and chaired by Thomas E. Kern, is currently evaluating the situation based on expert opinions submitted by each of EGF and Cevian and based on independent expert advice obtained by the BoiD.

The Foundation knows that their position may be legally weak, and their position could be capped at 5% rather than grandfathered. Indeed, the “independent expert advice” obtained by Cevian includes the opinions of “four leading Swiss stockbrokers” who had come to the conclusion that the Foundation had been unlawfully excluded from the 5% cap, according to this Reuters article on the 26th. The company states that the Ernst Göhner Foundation is and has been exempted from this rule because of “grandfathering” because it owned the shares before the implementation of the rule, but there is nothing in the Articles of Association which grants the EGF that exemption. The full Cevian press releases in English and German are available through their spokesperson and are attached below (at the bottom of the insight).

Another Reuters article discussed the situation, with quotes from Cevian, and added this tidbit at the end.

An ad hoc board of independent directors consisting of five directors, without representatives of EGF and Cevian…will review the proposal and decide how the voting on it will take place at the extraordinary general meeting,” spokeswoman Edna Ayme-Yahil said.

Investors should note…..

The last paragraph of Article 5 of the Panalpina Articles of Association says “No entries shall be made in the register of shareholders following the dispatch of the convocation to the Shareholders’ Meeting until the day after the Shareholders’ Meeting.” This is a little different than is the case for many large Swiss companies where they give the convocation and investors may subsequently register their shares.

In Panalpina’s case, if you are not registered by the time the company sends out the convocation, there is no requirement for the company to admit your shares to the register even if there is plenty of time to do so (though the Board can make exceptions to the entry restriction).

For investors interested in or concerned about the situation, there are measures which may be advisable to implement ASAP to ensure you can vote.

In this briefing:

1. Tesla – Truth and Consequences
2. Descente Descended and Itochu Angle Is More Hostile

1. Tesla – Truth and Consequences

Tesla’s problems aren’t going away, they’re escalating:

• Elon Musk is in trouble again with the SEC;
• Tesla’s brand-new general counsel is leaving after just two months on the job;

• Consumer Reports withdrew its recommendation on the flagship Model 3 due to serious quality and reliability concerns–not actually surprising given increasing risks I have tracked  with Tesla quality controls curtailed and flawed cars increasingly delivered to customers (see “Musk and Weird Q3 Developments Are Driving Investors to Telsa’s Rivals” and “Tesla – Dave’s Not Here, and Musk Won’t Leave” and “Tesla: Down to the Wire”).

• The 2018 10-K filing confirms Tesla’s operations still are not generating consistently sustainable profits or cash flow unvarnished by substantial boosts from accounting maneuvers and unusual items as seen with the “miracle” third quarter (see “Great Magic Trick Tesla; Now Do it Again“)
• Which is bad news for first quarter results already foundering with pricing cuts, rising costs, unhappy customers, and escalating demand pressure;
• Plus liquidity strain worsened by $920 million in cash due to go out on March 1st to pay off maturing convertible bonds.
• Tesla Shanghai Gigafactory construction is underway and yet still not fully funded after at least six months of negotiations with bankers, and thus may also be developing differently versus what Tesla has presented (adding to my previously noted concerns in “Tesla – Shanghai Surprise“).

The common theme here is that all these problems were preventable, avoidable, and unnecessary. 

That’s not going away any time soon–as long as Musk remains in complete control.

How long will that be? 

Good question–Read on as Bond Angle analysis continues.

2. Descente Descended and Itochu Angle Is More Hostile

Descente Ltd (8114 JP) has been in the press quite a bit in recent days with management commentary about how the company and directors disagree with the Tender Offer launched by Itochu Corp (8001 JP) to raise their stake from 30% to 40% and how it could lead to conflict of interest and worsening management, lower morale for employees, and a loss of independence.

Management, former management, and former employees have all joined the party. Wednesday saw a significant sell-down of shares to a post-Tender Offer low, but it was not clear why.

Descente had, on the 26th, noted in a puff piece in the Nikkei that it would move up the release of its next Mid-Term (Three Year) Plan (normally due in May this year), and it would focus on growing direct sales in China through more stores, growing sales in the US through adding products to the list (currently the major product in North America is skiwear), selling LeCoq Sportif in Indonesia and Munsingwear in Vietnam. WHEN is unknown, but the explicit goal is to encourage shareholders to keep their shares rather than tender them to Itochu.

Today saw a new filing from Itochu in which it amended its original announcement, claimed Descente’s activity in the media was additional and additive to the Target Company Position Statement filed on 7 February, and for that reason, their activity had not been appropriately disclosed to shareholders. Furthermore, Itochu noted that while the jibber-jabber had been going on the last two-plus weeks, Descente had asked Itochu to negotiate post-Tender management structure plans, and Itochu had agreed. Itochu and Descente talked for 9 days from 11-20 Feb but Descente was bad-mouthing Itochu in the press at the same time. That induced Itochu to stop talks. And late today, the Nikkei has released a 27 February interview with the CEO of ANTA, Itochu’s longtime textile partner in China and a 6.86% holder of Descente shares, where he says that he supports Itochu’s tender offer, will not sell their shares in Descente, and would support Itochu efforts to restructure management. 

These three new developments change things in interesting ways, in my opinion pushing Descente’s own plans closer to Itochu’s, and introducing the possibility of significantly more hostility to come, with a much higher likelihood Itochu can win the proxy wars to come. 

In-depth analysis below the fold.

Previous insights on the situation and its runup are listed below.

In this briefing:

1. Tesla – Truth and Consequences
2. Descente Descended and Itochu Angle Is More Hostile
3. Harmonic Drive: Measuring the Potential Downside Risk

1. Tesla – Truth and Consequences

Tesla’s problems aren’t going away, they’re escalating:

• Elon Musk is in trouble again with the SEC;
• Tesla’s brand-new general counsel is leaving after just two months on the job;

• Consumer Reports withdrew its recommendation on the flagship Model 3 due to serious quality and reliability concerns–not actually surprising given increasing risks I have tracked  with Tesla quality controls curtailed and flawed cars increasingly delivered to customers (see “Musk and Weird Q3 Developments Are Driving Investors to Telsa’s Rivals” and “Tesla – Dave’s Not Here, and Musk Won’t Leave” and “Tesla: Down to the Wire”).

• The 2018 10-K filing confirms Tesla’s operations still are not generating consistently sustainable profits or cash flow unvarnished by substantial boosts from accounting maneuvers and unusual items as seen with the “miracle” third quarter (see “Great Magic Trick Tesla; Now Do it Again“)
• Which is bad news for first quarter results already foundering with pricing cuts, rising costs, unhappy customers, and escalating demand pressure;
• Plus liquidity strain worsened by $920 million in cash due to go out on March 1st to pay off maturing convertible bonds.
• Tesla Shanghai Gigafactory construction is underway and yet still not fully funded after at least six months of negotiations with bankers, and thus may also be developing differently versus what Tesla has presented (adding to my previously noted concerns in “Tesla – Shanghai Surprise“).

The common theme here is that all these problems were preventable, avoidable, and unnecessary. 

That’s not going away any time soon–as long as Musk remains in complete control.

How long will that be? 

Good question–Read on as Bond Angle analysis continues.

2. Descente Descended and Itochu Angle Is More Hostile

Descente Ltd (8114 JP) has been in the press quite a bit in recent days with management commentary about how the company and directors disagree with the Tender Offer launched by Itochu Corp (8001 JP) to raise their stake from 30% to 40% and how it could lead to conflict of interest and worsening management, lower morale for employees, and a loss of independence.

Management, former management, and former employees have all joined the party. Wednesday saw a significant sell-down of shares to a post-Tender Offer low, but it was not clear why.

Descente had, on the 26th, noted in a puff piece in the Nikkei that it would move up the release of its next Mid-Term (Three Year) Plan (normally due in May this year), and it would focus on growing direct sales in China through more stores, growing sales in the US through adding products to the list (currently the major product in North America is skiwear), selling LeCoq Sportif in Indonesia and Munsingwear in Vietnam. WHEN is unknown, but the explicit goal is to encourage shareholders to keep their shares rather than tender them to Itochu.

Today saw a new filing from Itochu in which it amended its original announcement, claimed Descente’s activity in the media was additional and additive to the Target Company Position Statement filed on 7 February, and for that reason, their activity had not been appropriately disclosed to shareholders. Furthermore, Itochu noted that while the jibber-jabber had been going on the last two-plus weeks, Descente had asked Itochu to negotiate post-Tender management structure plans, and Itochu had agreed. Itochu and Descente talked for 9 days from 11-20 Feb but Descente was bad-mouthing Itochu in the press at the same time. That induced Itochu to stop talks. And late today, the Nikkei has released a 27 February interview with the CEO of ANTA, Itochu’s longtime textile partner in China and a 6.86% holder of Descente shares, where he says that he supports Itochu’s tender offer, will not sell their shares in Descente, and would support Itochu efforts to restructure management. 

These three new developments change things in interesting ways, in my opinion pushing Descente’s own plans closer to Itochu’s, and introducing the possibility of significantly more hostility to come, with a much higher likelihood Itochu can win the proxy wars to come. 

In-depth analysis below the fold.

Previous insights on the situation and its runup are listed below.

3. Harmonic Drive: Measuring the Potential Downside Risk

With Harmonic Drive Systems (6324 JP) having rebounded as much as 56% from its trough this year, risk-reward looks decidedly less attractive now. While we had been somewhat constructive on the name due to order looking like they have a hit bottom, a closer analysis of the breakdown of orders has us thinking that a potential rebound could underwhelm relative to the markets revenue expectations and that the stock’s premium multiple could leave it more vulnerable than more modestly priced peers.

In this briefing:

1. Shaky Situations at DEMCO and Pranda
2. Havells India
3. SBS (2384) A Great Third Party Logistics Company Seeing Good Organic Growth as Well as Via M&A.
4. Xenith Is Running Out Of Excuses
5. DHICO Rights Offer: Arb Yields for Early Arb Traders & Trade Approach for Late Arb Traders

1. Shaky Situations at DEMCO and Pranda

We visited two companies with very different trajectories. 

• Renewable power specialist DEMCO is struggling, despite doing really well in the past, while jeweler Pranda, once struggling, is on the recovery path.
• DEMCO reported gross profit and revenue decline of 8% and 7% respectively. Their earnings more than doubled, but that’s solely due to dividends from Wind Energy, an investment that cost them Bt800m and is embroiled in scandal.
• Pranda’s operating cash flows surged from Bt12m to Bt230m, as they restructured their store network.
• We’d still be caution on PDJ, as management doesn’t feel the restructuring is over. More stores could be closed down in the future.

2. Havells India

As the summer sets in, we visit distributor and retailers of air conditioners in our home town Vadodara, Gujarat where temperatures soar really high in summer and air conditioning is becoming a necessity.  Our checks are focused on Havells India (HAVL IN) and its’ consumer brand Llyod. Our takeaways from visits suggest celebrity endorsements unlikely to work, competition intensifying with the entry of Daikin in the mass premium segment, Ifb Industries (IFBI IN) joins the price war with its ACs, the season is off to a muted start due to prolonged winters.  At current price of INR 776, risk-reward offered is not in favour for Havells investors with a medium-term horizon. Using consensus estimates and average 3 year forward PE of 41x, target price works out to be INR 807. Investors will be better off waiting for an attractive entry point.

3. SBS (2384) A Great Third Party Logistics Company Seeing Good Organic Growth as Well as Via M&A.

It is seeing decent organic growth, led by a focus on third party logistics (3PL). This will carry on. The recently acquired Ricoh Logistics should eventually see margins improve as it is integrated into SBS. This year’s operating profit forecast of Y9bn (+10%) is conservative. An increase of Y1bn this year will come from Ricoh Logistics alone, and then we have organic growth. In our view operating profit will be at least Y10bn. There is the unrealised profit on land, which add some Y85bn to a company whose market cap is Y71bn. Despite the outperformance over the last 12 months, this remains a decent long-term domestic buy, and one in which foreigners still own only 12%. The shares trade on 13x 12/19 assuming an operating profit of Y10bn. 

4. Xenith Is Running Out Of Excuses

When IPH Ltd (IPH AU) gate-crashed Xenith Ip (XIP AU)/Qantm Intellectual Property (QIP AU)‘s marriage of equals, submitting a scheme proposal comprising cash (A$1.28) and IPH shares (0.1056 IPH shares) or A$1.97/share, versus QANTM’s all-cash offer (1.22 QANTM), the key risk to IPH’s Offer was ACCC opposing its Offer. As announced today, ACCC will not oppose.

This decision was largely expected and previously discussed here. Although IPH, QANTM, and Xenith are the only three ASX-listed intellectual property companies, privately owned companies collectively hold a larger market share – and growing – compared to the three listcos. The ACCC agrees and signed off on an IPH/XIP tie-up as it did on the 21 March, by not opposing the merger of XIP and QANTM.

XIP acknowledged the ACCC decision resolves a major uncertainty, but stops short of supporting IPH’s offer as there still exists a number of concerns as detailed in its 19 March announcement. IPH responded to those concerns on the 20 March. These include:

1. Shareholders of Xenith will hold an immaterial % of the merged IPH entity compared to QANTM.
   • IPH’s scrip portion accounted for (then) 35% of its Offer (now ~37%), shares which have superior liquidity versus QANTM given IPH’s position in the ASX200. 
   • The cash portion also provides added certainty on value into the Offer compared to QANTM’s all scrip offer.
2. The control premium as at 11 March is insufficient.
   • Probably the most contentious concern. QANTM’s all-scrip offer on the 27 November backed out an indicative offer price of $1.598/share or a 28.4% premium to last close.
   • IPH’s $1.97/share indicative offer (a 60% premium to XIP’s undisturbed price, and a 31% premium to the independent expert’s mid-point fair value (page 55)) compared to QANTM’s indicative offer of $2.03 immediately before IPH’s announcement.
   • Circumstances have changed materially since, with IPH’s cash/scrip offer now worth $2.02 as I type, versus $1.67 for QANTM.
     

     

     Source: CapIQ
3. The increased execution risk concerning ACCC. Now a non-issue.
4. It is questionable whether employees, controlling 40% of Xenith, would support the offer.
   • Employees are free to decide on what they consider to be the most compelling Offer. IPH has offered to hold discussions with XIP employees. 
5. CGT rollover will likely be lower via the large cash element under IPH’s offer vs. QANTM’s all scrip offer.
   • Maybe. Possibly. An all-scrip offer typically affords greater rollover relief. Nevertheless, Xenith is trading below its 2015 IPO price of $2.72/share.

With IPH’s 19.9% blocking stake, the QANTM/Xenith scheme is a non-starter. Xenith still should engage with IPH. The scheme meeting to decide on the QANTM Offer is scheduled for the 3 April.

5. DHICO Rights Offer: Arb Yields for Early Arb Traders & Trade Approach for Late Arb Traders

• As well expected, DHICO was heavily shorted yesterday, ex-rights day. We had a heavy buying movement by short-term arb traders at both local and foreign on DHICO right before ex-rights. As shown in the second table, yesterday’s shorting was mostly done by short-term traders again both local and foreign alike.
• These early arb traders had presumably bought DHICO shares at ₩8,076 on Mar 25~26. They then disposed shares at ₩6,974 yesterday. They then shorted the same amount of shares additionally at ₩6,983. As a result, at ceiling price ₩5,550 their yield is virtually fixed at 4.10%. If the offering price goes down to the bottom of ₩5,000 which is a very high possibility at this point, their yield will go up as high as 10.91%.
• For those who haven’t made early moves, there are now two options to play this event. You can either trade now and hope that subscription right price won’t hit breaking price level or wait until Apr 19~25 subscription rights period for a perfectly risk-free entry point. At the current price ₩6,800, breaking price for subscription rights is still at a comfortable level. That is, I’d make trades right now by shorting DHICO shares.

→ DHICO price just got down nearly 3%. At this reduced price, below are updated numbers for late arb traders’ arb yield. To me, it still seems we won’t be in a losing position if we make trades now. But we’d better hurry up.

In this briefing:

1. Tesla – Truth and Consequences
2. Descente Descended and Itochu Angle Is More Hostile
3. Harmonic Drive: Measuring the Potential Downside Risk
4. Sunpower: Excellent FY18 Results; Strong Outlook for FY19. Fair Value Remains 1 SGD (70% Upside)

1. Tesla – Truth and Consequences

Tesla’s problems aren’t going away, they’re escalating:

• Elon Musk is in trouble again with the SEC;
• Tesla’s brand-new general counsel is leaving after just two months on the job;

• Consumer Reports withdrew its recommendation on the flagship Model 3 due to serious quality and reliability concerns–not actually surprising given increasing risks I have tracked  with Tesla quality controls curtailed and flawed cars increasingly delivered to customers (see “Musk and Weird Q3 Developments Are Driving Investors to Telsa’s Rivals” and “Tesla – Dave’s Not Here, and Musk Won’t Leave” and “Tesla: Down to the Wire”).

• The 2018 10-K filing confirms Tesla’s operations still are not generating consistently sustainable profits or cash flow unvarnished by substantial boosts from accounting maneuvers and unusual items as seen with the “miracle” third quarter (see “Great Magic Trick Tesla; Now Do it Again“)
• Which is bad news for first quarter results already foundering with pricing cuts, rising costs, unhappy customers, and escalating demand pressure;
• Plus liquidity strain worsened by $920 million in cash due to go out on March 1st to pay off maturing convertible bonds.
• Tesla Shanghai Gigafactory construction is underway and yet still not fully funded after at least six months of negotiations with bankers, and thus may also be developing differently versus what Tesla has presented (adding to my previously noted concerns in “Tesla – Shanghai Surprise“).

The common theme here is that all these problems were preventable, avoidable, and unnecessary. 

That’s not going away any time soon–as long as Musk remains in complete control.

How long will that be? 

Good question–Read on as Bond Angle analysis continues.

2. Descente Descended and Itochu Angle Is More Hostile

Descente Ltd (8114 JP) has been in the press quite a bit in recent days with management commentary about how the company and directors disagree with the Tender Offer launched by Itochu Corp (8001 JP) to raise their stake from 30% to 40% and how it could lead to conflict of interest and worsening management, lower morale for employees, and a loss of independence.

Management, former management, and former employees have all joined the party. Wednesday saw a significant sell-down of shares to a post-Tender Offer low, but it was not clear why.

Descente had, on the 26th, noted in a puff piece in the Nikkei that it would move up the release of its next Mid-Term (Three Year) Plan (normally due in May this year), and it would focus on growing direct sales in China through more stores, growing sales in the US through adding products to the list (currently the major product in North America is skiwear), selling LeCoq Sportif in Indonesia and Munsingwear in Vietnam. WHEN is unknown, but the explicit goal is to encourage shareholders to keep their shares rather than tender them to Itochu.

Today saw a new filing from Itochu in which it amended its original announcement, claimed Descente’s activity in the media was additional and additive to the Target Company Position Statement filed on 7 February, and for that reason, their activity had not been appropriately disclosed to shareholders. Furthermore, Itochu noted that while the jibber-jabber had been going on the last two-plus weeks, Descente had asked Itochu to negotiate post-Tender management structure plans, and Itochu had agreed. Itochu and Descente talked for 9 days from 11-20 Feb but Descente was bad-mouthing Itochu in the press at the same time. That induced Itochu to stop talks. And late today, the Nikkei has released a 27 February interview with the CEO of ANTA, Itochu’s longtime textile partner in China and a 6.86% holder of Descente shares, where he says that he supports Itochu’s tender offer, will not sell their shares in Descente, and would support Itochu efforts to restructure management. 

These three new developments change things in interesting ways, in my opinion pushing Descente’s own plans closer to Itochu’s, and introducing the possibility of significantly more hostility to come, with a much higher likelihood Itochu can win the proxy wars to come. 

In-depth analysis below the fold.

Previous insights on the situation and its runup are listed below.

3. Harmonic Drive: Measuring the Potential Downside Risk

With Harmonic Drive Systems (6324 JP) having rebounded as much as 56% from its trough this year, risk-reward looks decidedly less attractive now. While we had been somewhat constructive on the name due to order looking like they have a hit bottom, a closer analysis of the breakdown of orders has us thinking that a potential rebound could underwhelm relative to the markets revenue expectations and that the stock’s premium multiple could leave it more vulnerable than more modestly priced peers.

4. Sunpower: Excellent FY18 Results; Strong Outlook for FY19. Fair Value Remains 1 SGD (70% Upside)

Sunpower Group (SPWG SP) has seen an incredible transformation over the past 24 months. Since the entry of two respected PE funds (DCP and CDH) the company has de-emphasized its historical M&S business and pushed full throttle on its GI (Green Investments) portfolio.

The efforts of this shift to GI are now bearing fruit with FY18 revenues increasing by 66% to 3.26 billion RMB, EBITDA rising by 113.5% to 496 million RMB (15.2% EBITDA margin) and underlying NPAT rising by 87% to 268 million RMB. Most importantly, the quality and visibility of its cash flows have improved.

It is rare to find companies that give you 3-year NPAT forecasts but Sunpower did this with the issuance of its second CB late 3Q18. Instead of using stale sell-side consensus forecasts we now focus on these public forecasts to guide investors what Sunpower’s fair value is depending on the PE multiple that investors apply.

My Fair Value estimate of 1 SGD remains unchanged (based on 15x FY21 EPS and company meeting its FY21 NPAT targets as communicated in CB2 prospectus).

In this briefing:

1. Descente Descended and Itochu Angle Is More Hostile
2. Harmonic Drive: Measuring the Potential Downside Risk
3. Sunpower: Excellent FY18 Results; Strong Outlook for FY19. Fair Value Remains 1 SGD (70% Upside)

1. Descente Descended and Itochu Angle Is More Hostile

Descente Ltd (8114 JP) has been in the press quite a bit in recent days with management commentary about how the company and directors disagree with the Tender Offer launched by Itochu Corp (8001 JP) to raise their stake from 30% to 40% and how it could lead to conflict of interest and worsening management, lower morale for employees, and a loss of independence.

Management, former management, and former employees have all joined the party. Wednesday saw a significant sell-down of shares to a post-Tender Offer low, but it was not clear why.

Descente had, on the 26th, noted in a puff piece in the Nikkei that it would move up the release of its next Mid-Term (Three Year) Plan (normally due in May this year), and it would focus on growing direct sales in China through more stores, growing sales in the US through adding products to the list (currently the major product in North America is skiwear), selling LeCoq Sportif in Indonesia and Munsingwear in Vietnam. WHEN is unknown, but the explicit goal is to encourage shareholders to keep their shares rather than tender them to Itochu.

Today saw a new filing from Itochu in which it amended its original announcement, claimed Descente’s activity in the media was additional and additive to the Target Company Position Statement filed on 7 February, and for that reason, their activity had not been appropriately disclosed to shareholders. Furthermore, Itochu noted that while the jibber-jabber had been going on the last two-plus weeks, Descente had asked Itochu to negotiate post-Tender management structure plans, and Itochu had agreed. Itochu and Descente talked for 9 days from 11-20 Feb but Descente was bad-mouthing Itochu in the press at the same time. That induced Itochu to stop talks. And late today, the Nikkei has released a 27 February interview with the CEO of ANTA, Itochu’s longtime textile partner in China and a 6.86% holder of Descente shares, where he says that he supports Itochu’s tender offer, will not sell their shares in Descente, and would support Itochu efforts to restructure management. 

These three new developments change things in interesting ways, in my opinion pushing Descente’s own plans closer to Itochu’s, and introducing the possibility of significantly more hostility to come, with a much higher likelihood Itochu can win the proxy wars to come. 

In-depth analysis below the fold.

Previous insights on the situation and its runup are listed below.

2. Harmonic Drive: Measuring the Potential Downside Risk

With Harmonic Drive Systems (6324 JP) having rebounded as much as 56% from its trough this year, risk-reward looks decidedly less attractive now. While we had been somewhat constructive on the name due to order looking like they have a hit bottom, a closer analysis of the breakdown of orders has us thinking that a potential rebound could underwhelm relative to the markets revenue expectations and that the stock’s premium multiple could leave it more vulnerable than more modestly priced peers.

3. Sunpower: Excellent FY18 Results; Strong Outlook for FY19. Fair Value Remains 1 SGD (70% Upside)

Sunpower Group (SPWG SP) has seen an incredible transformation over the past 24 months. Since the entry of two respected PE funds (DCP and CDH) the company has de-emphasized its historical M&S business and pushed full throttle on its GI (Green Investments) portfolio.

The efforts of this shift to GI are now bearing fruit with FY18 revenues increasing by 66% to 3.26 billion RMB, EBITDA rising by 113.5% to 496 million RMB (15.2% EBITDA margin) and underlying NPAT rising by 87% to 268 million RMB. Most importantly, the quality and visibility of its cash flows have improved.

It is rare to find companies that give you 3-year NPAT forecasts but Sunpower did this with the issuance of its second CB late 3Q18. Instead of using stale sell-side consensus forecasts we now focus on these public forecasts to guide investors what Sunpower’s fair value is depending on the PE multiple that investors apply.

My Fair Value estimate of 1 SGD remains unchanged (based on 15x FY21 EPS and company meeting its FY21 NPAT targets as communicated in CB2 prospectus).

In this briefing:

1. Descente Descended and Itochu Angle Is More Hostile
2. Harmonic Drive: Measuring the Potential Downside Risk
3. Sunpower: Excellent FY18 Results; Strong Outlook for FY19. Fair Value Remains 1 SGD (70% Upside)
4. S&P 500 and S&P 600 Testing Resistance

1. Descente Descended and Itochu Angle Is More Hostile

Descente Ltd (8114 JP) has been in the press quite a bit in recent days with management commentary about how the company and directors disagree with the Tender Offer launched by Itochu Corp (8001 JP) to raise their stake from 30% to 40% and how it could lead to conflict of interest and worsening management, lower morale for employees, and a loss of independence.

Management, former management, and former employees have all joined the party. Wednesday saw a significant sell-down of shares to a post-Tender Offer low, but it was not clear why.

Descente had, on the 26th, noted in a puff piece in the Nikkei that it would move up the release of its next Mid-Term (Three Year) Plan (normally due in May this year), and it would focus on growing direct sales in China through more stores, growing sales in the US through adding products to the list (currently the major product in North America is skiwear), selling LeCoq Sportif in Indonesia and Munsingwear in Vietnam. WHEN is unknown, but the explicit goal is to encourage shareholders to keep their shares rather than tender them to Itochu.

Today saw a new filing from Itochu in which it amended its original announcement, claimed Descente’s activity in the media was additional and additive to the Target Company Position Statement filed on 7 February, and for that reason, their activity had not been appropriately disclosed to shareholders. Furthermore, Itochu noted that while the jibber-jabber had been going on the last two-plus weeks, Descente had asked Itochu to negotiate post-Tender management structure plans, and Itochu had agreed. Itochu and Descente talked for 9 days from 11-20 Feb but Descente was bad-mouthing Itochu in the press at the same time. That induced Itochu to stop talks. And late today, the Nikkei has released a 27 February interview with the CEO of ANTA, Itochu’s longtime textile partner in China and a 6.86% holder of Descente shares, where he says that he supports Itochu’s tender offer, will not sell their shares in Descente, and would support Itochu efforts to restructure management. 

These three new developments change things in interesting ways, in my opinion pushing Descente’s own plans closer to Itochu’s, and introducing the possibility of significantly more hostility to come, with a much higher likelihood Itochu can win the proxy wars to come. 

In-depth analysis below the fold.

Previous insights on the situation and its runup are listed below.

2. Harmonic Drive: Measuring the Potential Downside Risk

With Harmonic Drive Systems (6324 JP) having rebounded as much as 56% from its trough this year, risk-reward looks decidedly less attractive now. While we had been somewhat constructive on the name due to order looking like they have a hit bottom, a closer analysis of the breakdown of orders has us thinking that a potential rebound could underwhelm relative to the markets revenue expectations and that the stock’s premium multiple could leave it more vulnerable than more modestly priced peers.

3. Sunpower: Excellent FY18 Results; Strong Outlook for FY19. Fair Value Remains 1 SGD (70% Upside)

Sunpower Group (SPWG SP) has seen an incredible transformation over the past 24 months. Since the entry of two respected PE funds (DCP and CDH) the company has de-emphasized its historical M&S business and pushed full throttle on its GI (Green Investments) portfolio.

The efforts of this shift to GI are now bearing fruit with FY18 revenues increasing by 66% to 3.26 billion RMB, EBITDA rising by 113.5% to 496 million RMB (15.2% EBITDA margin) and underlying NPAT rising by 87% to 268 million RMB. Most importantly, the quality and visibility of its cash flows have improved.

It is rare to find companies that give you 3-year NPAT forecasts but Sunpower did this with the issuance of its second CB late 3Q18. Instead of using stale sell-side consensus forecasts we now focus on these public forecasts to guide investors what Sunpower’s fair value is depending on the PE multiple that investors apply.

My Fair Value estimate of 1 SGD remains unchanged (based on 15x FY21 EPS and company meeting its FY21 NPAT targets as communicated in CB2 prospectus).

4. S&P 500 and S&P 600 Testing Resistance

We believe the market is at short-term overbought extremes and is contending with resistance. Resistance levels we are monitoring include 2,810-2,817 on the S&P 500 and the 200-day moving average on the S&P 600 Small Cap index… see charts below. We would welcome some consolidation or a mild pullback which would be a healthy correction of the current extended market conditions.

In today’s report we highlight attractive Groups and stocks within Manufacturing and Technology: Construction Equipment, Industrial Rental Equipment, Data Storage Solutions & Devices, Small-Cap, and Software, Financial Mgmt. Solutions.