Japan

In this briefing:

1. Stake in Quadric.io Following Renesas; Denso Attempts to Keep Chip Makers Close to Achieve AD Aims
2. Monex Group (8698 JP): Upside Is Unlikely Due to Weak Cryptocurrency Markets
3. Baltic Dry – It’s That Time of Year. Again. [2019 Version]
4. Indonesia Upstream Gas Asset Sale: Positive Read-Through to Other SE Asia Gas Companies
5. Suruga Bank Bottom Projection

1. Stake in Quadric.io Following Renesas; Denso Attempts to Keep Chip Makers Close to Achieve AD Aims

It was reported last Thursday that Denso Corp (6902 JP) through its wholly-owned subsidiary NSITEXE, Inc. acquired a stake in quadric.io, a fabless semiconductor start-up company based in Burlingame, California. It seems that the company has begun its planned investments for 2019. Last year, Denso increased its stake (from 0.5% to 5%) in chipmaker- Renesas Electronics (6723 JP) to support its progress of ADAS and related technology. We also mentioned in our insight, Denso Prepares for the Future; Investments in Tohoku Pioneer EG Following JOLED and ThinCI, that Denso has been making a series of investments to prepare itself for being the leading software solution provider alongside its hardware expertise, supporting its change in business model. Last year, NSITEXE invested in ThinCi, its partner, since 2016, in the development of a Data Flow Processor (DFP) designed to help autonomous vehicles make quick decisions in complicated and fast-evolving situations. Denso/NSITEXE’s investment in quadric.io has a similar goal. The investment in quadric.io is said to help the start-up in its development of edge processing units (EPUs), which are high-performance semiconductors that could be used as a foundation for enabling automated driving technology.

2. Monex Group (8698 JP): Upside Is Unlikely Due to Weak Cryptocurrency Markets

In our previous note, Monex Group (8698 JP): Weak Fundamentals Deter the Possibility of a Further Upside, we suggested that despite the partial resumption of Coincheck’s services, further upside for Monex Group Inc (8698 JP) is unlikely due to weak cryptocurrency markets.

Since then, Monex’s share price (which was around JPY500 in mid-November 2018) has fallen to JPY367 as of 8th February 2019. This is only marginally above the pre-acquisition (of Coincheck) price of JPY344 (on 2nd April 2018). In the meantime, Bitcoin (XBTUSD CURNCY)  has also fallen from around USD6,000 in mid-November to around USD3,500 at present.

3. Baltic Dry – It’s That Time of Year. Again. [2019 Version]

This insight starts with a bit of history. It is entirely extraneous to the data, but I think the history is kind of fun (iron ore, Baltic Dry, and shipping has been a ‘hobby’ of mine for years). If you want to get right to the data, go to the Thin Red Line.

On the 24th of May, 1744, an announcement appeared in The Daily Post (The Daily Poſt) that the Virginia and Maryland coffee house in Threadneedle Street, London (just east of the Bank of England) had changed its name to Virginia and Baltick Coffee House.

This is to give notice that the House, late the Virginia and Maryland Coffee-house in Threadneedle Street, near the Royal Exchange, is now open’d by the Name of the Virginia & Baltick Coffee-house, where all Foreign and Domestick News are taken in ; and all Letters or Parcels, directed to Merchants or Captains in the Virginia or Baltick Trade will be carefully deliver’d according as directed, and the best Attendance given, by Reynallds and Winboult. 

Note, Punch made in any Quantity, in the greatest Perfection, without Adulteration, which is seldom found in any of the most noted Houses ; also Brandy, Rum, and Arrack (neat as imported) are sold in the Vaults under the Coffee-House, at the lowest Prices; where all Customers, we have had the Favour of serving at our late Warehouse in Leadenhall Street, we hope will continue to send their Orders as above.

We have receiv’d Advice, that Several Bags of Letters and Parcels are coming which are directed to be left at the above Coffee-House 

This was perhaps because Virginia and Maryland as a name was slightly redundant. Virginia and Maryland are next to each other (if you dropped cargo in Baltimore, you went past Virginia to get there). It was perhaps because trade with Russia and Baltic countries in tallow (from Russia) used to make candles and soap [more candles than soap as Georgian England was still under the idea bathing might invite the plague to enter the pores], flax, hemp (both from modern-day Estonia and Latvia, and Russia), and other goods was fast climbing after The Muscovy Company (originally founded as The Merchant Adventurers to New Lands in 1551 to look for a northeast passage to China) lost its monopoly (enjoyed since 1555) on English trade with Russia in 1698 (though the company’s activities had been somewhat or at times largely curtailed for 50 years after the execution of Charles I of England in 1648). 

In any case, the new name more accurately represented the business interests of those who congregated there.

The Virginia & Baltick was the place to source North Atlantic and Baltic cargoes, and cargoes rose in volume dramatically from the mid 1700s through the mid 1800s, with a drop only in the early 1810s.

In 1810, the Virginia & Baltick took over the premises of a nearby establishment called the Antwerp Tavern – also on Threadneedle – which was a considerably larger building (in the Hearth Tax (an annual levy of two shillings per annum, to make up the shortfall of ale and beer taxes paid to the sovereign) returns of 1662 it was noted as having 18 hearths). It was renamed the Baltic Coffee House then (it was also periodically the meeting place of the Albion Lodge of Masons). 

Long since replaced, as far as I can tell it was located on the SE corner of Threadneedle and the alley behind the Royal Exchange. By 1823, the wild speculations in commodities and the laxity of theretofore informal arrangements on the Second Floor made it imperative for the senior tallow chandlers, soapmakers, and cargo brokers to form a Member’s Club (limited to 300). Rules were established (they are below in the Appendix).

In 1857, the Virginia & Baltick established a company, The Baltic Company Limited, and arrangements were made to take over the lease of the South Sea House (original home to the South Sea Company) at the end of Threadneedle Street. In 1900, the Baltic Exchange was incorporated as a private limited company – the Baltic Mercantile And Shipping Exchange, Limited. and took over the London Shipping Exchange. In 1903, the company established its own purpose-built premises in St. Mary’s Axe. In 1992, an IRA bomb demolished 30 St. Mary’s Axe and a few years later, permanent premises were found at 38 St. Mary’s Axe. 

In 1985, the Baltic Exchange first calculated its Baltic Freight Index (now the Baltic Dry Index) as an “assessment” of conditions and charter rates amongst a panel of independent ship brokers across nearly two-dozen specific routes (all routes reported have year-round fixtures – not seasonal routes like the Great Lakes) and ship sizes (and since July 1, 2009 is an average of Handysize, Supramax, Panamax, and Capesize Timecharter averages), the data for which is then verified and averaged by the Exchange, and disseminated to members. The route specifics are quite detailed and require “massaging” in order to get normalized data from the specified delivery item (for Capesize Route C2, it is a 180kmt DWT ship on 18.2m SSW draft, max age 10yrs, LOA 290m, beam 45m, TPC 121, 198kcbm grain, 14 knots laden, 15 knots ballast on 62mt fuel oil (380cst) no diesel at sea with the route details as below). 

There are audits of the brokers, and no shipbrokers are allowed to have “money in the market.” A full index methodology document is available for those who care for it (message me for the PDF). 

It’s That Time Of Year, Again.

The Baltic Dry Index (BDIY INDEX) is an indicator published by The Baltic Exchange, in London, first distributed in 1985 and something which gained popularity as a tool for equity investors to “see” the bulk market in the early 2000s. 

The index has changed somewhat over the years with the current calculation starting in 2009. It is currently calculated as an average of the Capesize, Panamax, Supramax, and Handysize TimeCharter averages, with a slightly complicated weighting system across a variety of routes. An example for Capesize is in the Appendix (below the Rules & Regulations of the Baltic Coffee House of 1823). Most of the routes have a very heavy weighting to Asia. 75% of the weights of Capesize, Panamax, and Supramax have an Asia or Trans-Pacific end of leg to them (Handysize is 50% Asia end, 50% Europe end). 

The increased interest on the part of non-freight customers was because the advent of dramatic increases in raw materials imports to China in the early 2000s meant a significant squeeze on ship time. And because there is seasonality to China and its raw materials imports, more seasonality started showing up in the Baltic Dry Index.

Generically, when raw material pricing goes up because raw material demand goes up, bulker rates go up. When raw material pricing goes up because of natural disaster-induced shortages, the effect can be mixed. For example, if for whatever reason iron ore could not be shipped from Australia to China for a period, shipping costs might rise dramatically (if the materials themselves existed to be exported from elsewhere) simply because of greater ship time to export from say Tubarao to China than from Western Australia to China. Right now, the China-based cost to ship a tonne of iron ore from WA to China is less than US$5 while from Tubarao it is $13. If a serious Brazil export drop were to occur, iron ore would go up in price because of the near-term scarcity, but freight prices might not go up that much because the change in time per tonne required to ship would drop (though they might go up on a scarcity of appropriate ships).

In any case, that China seasonality has another very interesting and over-riding characteristic.

And it has to do with Chinese New Year.

4. Indonesia Upstream Gas Asset Sale: Positive Read-Through to Other SE Asia Gas Companies

We analyse the sale of a stake in the Mako gas field in Indonesia to Coro Energy PLC (CORO LN) by West Natuna Exploration Limited, majority owned by private Singapore company Conrad Petroleum and UK listed Empyrean Energy PLC (EME LN), which has a 10% stake. It has implications in terms of read-through valuations for other S.E. Asia focused energy companies especially those with Indonesian gas production such as Premier Oil PLC (PMO LN), Ophir Energy (OPHR LN) and Medco Energi Internasional T (MEDC IJ). 

5. Suruga Bank Bottom Projection

Daily cycle indicators display a topside cap for Suruga Bank Ltd (8358 JP) and turn barrier to press for new lows with ideal downside projection the focus to align with RSI and MACD targeted supports.

The rise from December 2018 is labeled as corrective and biased for a new low. Price cap will act as resistance for those who favor the short side here.

Previous supports at 603 and 590 have been broken and are now upside hurdles to contend with and use as inflection points.

Oversold cycle readings are taking shape in the form of daily bull divergence from price as the weekly cycle attempts to find a foot hold in coming months.

In this briefing:

1. Shimadzu (7701 JP): 3Q Results Suggest a Trading Range
2. Semiconductor Sales Dive A Record 7% MoM In December. 2019 Will Be A Low-To-No Growth Year.
3. Olympus: 3QFY03/19 Profits Decline on the Back of Litigation Related Costs
4. Softbank Buyback More Than It Appears To Be

1. Shimadzu (7701 JP): 3Q Results Suggest a Trading Range

Shimadzu’s 3Q results were good enough to reassure long-term investors, but not good enough to be called a buy signal. Sales and operating profit were up 4.5% and 4.6% year-on-year, respectively, in the three months to December, an improvement over 2Q but well below the double-digit increases recorded in 1Q and last fiscal year.  Forex losses and other factors led to a 2.2% decline in net profit. 

Sales were up in Japan, Europe and Asia ex-Japan and ex-China, but down in America,  China and Other Regions. Sales of core Analytical & Measuring Instruments were up 2.4%, operating profit on those sales was up 4.1% and the operating margin rose to +15.4% from +15.1% the previous year.

Sales of Industrial Machinery were down 5.7%, but operating profit on those sales was up 2.7% and the division generated a +9.7% operating margin vs. +9.0% the previous year. Sales of turbo-molecular pumps, primarily to semiconductor equipment makers, were down 14.3%.

Medical System sales were up 10.6% and the division generated a +1.5% operating margin vs. + 0.1% the previous year. Aircraft Equipment sales were up 12.1% but the division made a -0.5% operating loss vs. +1.2% profit the previous year. 

At ¥2,659 (Friday, February 8 closing price), the shares are selling at 24x our EPS estimate for FY Mar-19 and 12x EV/EBITDA. The five-year historical P/E range is 13x – 30x, the EV/EBITDA range is 6x – 16x. Over the next several quarters, we expect continued weakness in Industrial Machinery to offset single-digit growth in Instruments, keeping overall growth low. 

2. Semiconductor Sales Dive A Record 7% MoM In December. 2019 Will Be A Low-To-No Growth Year.

Global Semiconductor Sales for December 2018 amounted to $38.2 billion, down a record 7.0% MoM, according to the latest data published by the Semiconductor Industry Association (SIA). The December data reflects a sharp acceleration of a downward trend which began in November and comes as little surprise following an earnings season characterised by profit warnings led by industry giants such as Apple, Samsung and Nvidia. 

The December decline amounted to ~$3 billion in absolute terms, far less than the roughly $15 billion that failed to materialise in fourth quarter sector revenues and implying that substantial amounts of inventory still remain to be consumed from within the supply chain. 

As such we anticipate monthly semiconductor sales continuing to decline through April-May timeframe before stabilizing and returning to growth thereafter. We now anticipate growth to moderate significantly from the 13.7% experienced in 2018 to just 1% in 2019. 

3. Olympus: 3QFY03/19 Profits Decline on the Back of Litigation Related Costs

Olympus Corporation (7733 JP) reported its 3QFY03/19 results on Friday (08^th February) after markets closed. The third quarter revenue dropped 1.7% YoY while operating profit declined by a significant 21.5% YoY, which was 12% below consensus estimates. The operating profit margin for the quarter was 8.8% compared to 11.1% for the same period last year.

The cumulative nine-month results were not impressive either. Although revenue saw a marginal improvement of 1.6% YoY, operating profit declined by 66%, resulting in a 700 basis point decline in operating margin, which fell to just 3.5%. Revenue and operating profit missed consensus estimates by 0.4% and 10.4%, respectively.

The company shares are currently trading at JPY4,645 per share which we believe is overvalued based on our EV/EBIT valuation. The premium is not justified given the governance related issues and the scandals currently faced by the company. Further, Olympus’ financial performance has been disappointing recently, and the company’s largest segment is growing only at single-digits and the Imaging business continues to drag on company revenue and margins. The share price gained nearly 38% since the beginning of the year following the company’s announcement to transform its business and improve governance. In our view the potential for a transformation in governance and business practices is already fully-discounted in the share price.

4. Softbank Buyback More Than It Appears To Be

Softbank Group (9984 JP) last week announced its Q3 results. The stock popped 15+% quickly that day and stayed up all day long, closing at +17.7%. The next day was up small. Over the two days volume was 74.1 million shares. 

I expect the shares were up for two reasons.

1. People figured out Son-san could sell as well as buy. And the sale of NVIDIA Corp (NVDA US) shares was done very well. 
2. Softbank announced a buyback of ¥600 billion – its largest buyback ever. 

The first was surprisingly well-executed. The ownership and transfers of assets from Softbank to the Softbank Vision Fund are sometimes tough to follow, and this should give non-Softbank SVF investors some pause, but Softbank’s ability to get leverage on assets is good, and the collar transaction was – in the eyes of this former derivatives strategist – very well done.

The US$15bn+ gain in market cap over the next two days was probably 10 times the net income impact of the savings on the NVIDIA trade, which means investors are paying 10x earnings for the same thing to incrementally happen every year vs what they thought was going to happen before Thursday. Financial trading businesses have generally traded over time in the high single digit PERs because of the variability of results, so the jump was a little more than it should have been for that, especially if you think some years the “right” jump because of better-than-market execution will have less impact than $2.9bn.

So the rest was either due to other business going well, or the share buyback. At ¥600 billion and at Friday’s closing price, it is about 7 days worth of volume using the 3-month volume average prior to the earnings release and 8.6 days of volume using a one-year average. That means they could buy 10% of ADV every day for 70-86 trading days and complete the buyback, or it means they could buy 3.4% of the volume every trading day. 

That doesn’t seem like a lot. But it is.

In this briefing:

1. Itochu and Descente: Gloves Off

1. Itochu and Descente: Gloves Off

Descente Ltd (8114 JP) issued a 13-page statement yesterday in response to Itochu Corp’s (8001 JP) tender offer to raise its stake in the sports firm from 30.44% to 40%.

In brief: its gloves off and Descente is limbering up for a fight for its independence – an independence it has not had since the 1990s.

Itochu insists it is the answer to Descente’s weaknesses but Descente is having none of it, arguing that it is already implementing the strategies proposed by Itochu.

Descente’s statement of intent was followed by Descente’s labour union, All Descente, supporting Descente, saying Itochu’s bid was contrary to Descente’s long-term interests.

Descente may well hope for an MBO as a way out, and Itochu may want a third party to acquire Descente as Travis Lundy suggests. Either way, a quick resolution is needed if Descente is to take advantage of the upcoming sports boom in Japan.

The question remains as to whether Descente would benefit from independence or control by Itochu. To date, it is arguable that the very tension between Itochu’s demand for faster growth and higher profits and, on the other hand, Descente’s reining in of this demand in favour of long-term brand cultivation that has led to Descente’s recent growth path. Without this delicate balance of tensions, the whole edifice may sag.

In this briefing:

1. Japan: Results & Revisions Second Cut – Bottom Line Breakdown
2. Last Week in Event SPACE: Kosaido, Descente, Panalpina, Ophir, RPC, Baidu, CJ Corp
3. Descente’s Doleful Defense (Dicaeologia)
4. Nissan Governance Outlook – Foggy Now, Sunny Later
5. CyberAgent: Tumbling Dice

1. Japan: Results & Revisions Second Cut – Bottom Line Breakdown

BOTTOM LINE BREAKDOWN – 1,277 earnings results and/or revisions announcements were released last week in Japan covering 36% of listed market capitalisation. The good news is that aggregate trailing-twelve-month (TTM) Operating Income only declined by ¥300b. Less welcome is the ¥1.7t decline in TTM Net Income to which Toyota Motor (7203 JP), Honda Motor (7267 JP), Softbank Group (9984 JP), Hitachi (6501 JP) were the most significant contributors, each declining by more than ¥200b. Three ‘financials’, Nomura Holdings (8604 JP), Mizuho Financial Group (8411 JP), and Suruga Bank (8358 JP) subtracted ¥400b between them. Only Sony (6758 JP) and Toshiba (6502 JP) added more than ¥100b for the quarter. The substantial ‘gap’ between forecast and TTM Net Income has been reduced to just ¥600b, again confirming the reliability of corporate forecasting in Japan. The All-Market PER is now 13.5 times but will likely rise as aggregate Net Income falls further in the next two weeks.

2. Last Week in Event SPACE: Kosaido, Descente, Panalpina, Ophir, RPC, Baidu, CJ Corp

Last Week in Event SPACE …

• Something is up as Kosaido Co Ltd (7868 JP)‘s shares trade almost 40% through terms and back down – still 18% through terms.
• Descente Ltd (8114 JP)‘s management’s explanation why Itochu owning 40% would be bad is almost a paean to good governance, but the gloves are off.
• Panalpina Welttransport Holding (PWTN SW) is burdened with “social costs” in the near-term.
• Opportunistic yes, but Medco Energi Internasional T (MEDC IJ)‘s proposal for Ophir Energy (OPHR LN) is okay in a less-than-ideal situation.
• A possible last minute counter to Apollo’s disappointing offer for RPC Group PLC (RPC LN).
• The market is valuing Baidu Inc (ADR) (BIDU US) core ops as an “Old Economy” company with little to no growth prospect.
• Plus 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)

Kosaido Co Ltd (7868 JP) (Mkt Cap: $176mn; Liquidity: $1.2mn)

When Bain announced its MBO for Kosaido at ¥610/share, Travis Lundy concluded (in his insight Smallcap Kosaido (7868 JP) Tender Offer: Wrong Price But Whaddya Gonna Do?) that it was a lowball bid and a virtual asset strip in progress. The kind of thing which gives activist hedge funds a bad name, but when cloaked in the finery of “Private Equity”, it looks like the renewal of a business. The share price jumped from the 400s to just under the Tender Offer Price, traded there for several days, then a week after it started trading at or near arb terms, the share price suddenly jumped through terms and headed higher.

• Travis’ inclination at Thursday’s price (¥775/share) is that at a 30% discount to book, there could be enough here to entice someone to split the company up at a slightly better level, but he doubts that it is worth 1x book. Given the headaches involved in making this company worth more than book, it would be worth less than book now. If the Info business can be rescued, then it is cheap. If it cannot, it is not.
• Because “management-friendly” shareholders currently hold at least 40% and probably more like 50+%, Travis thinks Murakami-san will find it really tough to mount, or get someone else to mount, a truly hostile action. 
• Perhaps Murakami-san’s goal here is to block the deal then get management to use debt to buy out other people and expand the funeral parlour business, then get a strategic to buy the whole thing out. It could be, but Travis doesn’t think chasing the market at 25-30% above where Murakami-san got in is a good risk.

Since Travis wrote, Murakami-san’s vehicles have added another 1.24% to reach 9.55% of shares out. The last set of shares was purchased at an average of ¥652/share.

(link to Travis’ insight: Kosaido: Activism Drives Price 30+% Through Terms)

Descente Ltd (8114 JP) (Mkt Cap: $1.8bn; Liquidity: $4.3mn)

This past Thursday 7 February, Descente announced a weak Position Statement (Against) (in Japanese) the Itochu Corp (8001 JP) Tender Offer with a 28-page supporting powerpoint deck (also in Japanese). Descente appears to have no ability to defend itself, and its claim that a large shareholder like Itochu could damage corporate value by weakening governance is effectively a statement that others (like perhaps Wacoal) would too, so only a full takeover makes sense under that defense.

• Descente management’s explanation for why Itochu owning 40% would be bad is almost a paean to good governance. If the influence of suppliers and customers in the shareholder register is bad, it is bad – whether friendly to management or not. Conflict of interest can happen via entrenchment.
• The lack of a white knight proposed and effective “I got nothing, but please don’t tender” response is bearish for the shares. if management is right and Itochu’s presence at 40% will lower corporate value, the back end might be worth less than ¥1,871/share where it was trading pre-tender. That would mean the fair value of shares now would still be below here.
• If Itochu gets its 40% and ANTA votes with Itochu, it is highly possible that the two could effect dramatic change at the management and board level. That would be very hostile and corporate Japan would have something to say about that. Travis says “I am not sure Itochu would go that hostile immediately.”
• Michael Causton just wrote about Descente’s rejection of the Itochu tender saying “The Gloves Are Off”. He notes there is a perception of a cultural difference between Descente’s brand cultivation and Itochu Textile’s hands-off approach to brand management, but notes that the differences between Descente and Itochu need to be resolved quickly in order to optimally ramp up brand awareness and sales points ahead of the Rugby World Cup in Japan this year, the Olympics, next year, and the World Masters Games the year after. 

links to:
Travis’ insight: Descente’s Doleful Defense (Dicaeologia)
Michael’s insight: Itochu and Descente: Gloves Off

ND Software (3794 JP) (Mkt Cap: $212mn; Liquidity: $0.04mn)

ND Software (NDS) announced a MBO sponsored by both the existing president, who owns 20%, and J-Will Partners to take the company private at ¥1700/share, which is a 28.7% premium to last trade and comes out to be ~7.2x trailing 12-month EV/EBITDA. The deal comes with a 66.7% minimum threshold for completion, after which there will be a two-step squeeze-out, as is the norm in deals like this. Looks straightforward, but …

• Sometime activist Symphony Financial Partners (SFP) holds around 20% in NDS. If on board, this this deal is almost done because 31.26% is already pledged to tender, Symphony’s stake would make it 51.5%. Other presumably management-friendly shareholders own another 10%, and employees own about 7%. If Symphony is on board, that easily clears the 67% hurdle. If SFP are not on board, they own about 60% of what is necessary to block this deal.  And they could buy on market to raise their stake further. 
• Travis would not want to sell out his shares tomorrow at ¥1699/share. Or even ¥1701. He thinks there is a chance that the loose float is scooped up by shareholders or players who might want to increase their stake and see if this deal can be bumped. 

(link to Travis’ insight: ND Software (3794 JP) TOB for an MBO – Fireworks a Possibility)

Panalpina Welttransport Holding (PWTN SW) (Mkt Cap: $4.1bn; Liquidity: $20mn)

Palpina confirmed that the Ernst Göhner Foundation, Panalpina’s largest shareholder (46% of shares out) does not support the current non-binding proposal from DSV and that it supports Panalpina’s Board of Directors in pursuing an independent growth strategy that includes M&A. Panalpina’a stock tanked, but is trading only 3% below DSV’s indicative offer, and 20.5% above where the stock was trading in mid-January before DSV’s indicative non-binding proposal. 

• If management had said that they have a plan which is to grow themselves out of their current doldrums, and their largest shareholder supports that plan to stick with management and go slow, nothing will get done until the new chairman is installed in May at the AGM, and even then, given the Foundation’s position that they support management’s “independent growth strategy”, there is not much minority shareholders can do.
• This is an ongoing issue of governance. If the directors are effectively chosen by the Ernst Göhner Foundation, which supports the company’s independence, so they do too, minority shareholders serve no purpose other than to provide capital for the foundation to keep Panalpina listed.
• This doesn’t mean that there will be no deal, but it does mean there will be a lull unless someone else comes up with a more aggressive offer. Travis expects this is eventually worth another go but he would want to reload lower and/or later, or when Panalpina is in a better position after the full IT package is deployed.

Since Travis wrote, DSV has released earnings and said it is still significantly engaged in the bid, and comments from the chairman of the Ernst Göhner Foundation has made comments suggesting it is not wedded to the idea, so it comes down to price – someone has to pay now to get the benefits expected from the full IT package.

Travis pointed out in the discussions that interestingly, when DSV released earnings it did not announce a buyback, which would have been normal, leading some to speculate the company is saving its cash for another go at it.

(link to Travis’ insight: Largest Panalpina Shareholder to Other Shareholders: Get Stuffed) 

Ophir Energy (OPHR LN) (Mkt Cap: $204mn; Liquidity: $3mn)

On its fourth attempt Medco Energi Internasional T (MEDC IJ) receives board approval for its £0.55/share (66% premium to the closing price) offer for Ophir. The deal is conditional on receiving 75% shareholder approval, approval from the relevant authorities in Tanzania and Ophir not losing all or substantially all of its Bualuang interests in Thailand. It is expected that the Scheme will become effective in the first half of 2019.

• There is an opportunistic element to Medco’s tilt after Ophir recently announced the denial of the license extension for the Fortuna project by the Equatorial Guinea Ministry of Mines and Hydrocarbons. This resulted in a $300mn non-cash impairment. Ophir had previously written down $310mn on the same project back in September.
• Shareholders such as Petrus (~2.8% stake) won’t support the offer having announced in mid-Jan that Medco’s earlier £0.485/share proposal “massively under-values” Ophir.
• Reg approvals are not expected to be an issue  – the stake in Tanzania is for a 20% non-controlling interest, a similar % approved in a prior sale to Pavilion in 2015. There is no approval/consent required from the Thai authorities – it is in there really to cover the unlikely situation that for some reason the Thai authorities raise an objection.

• Ophir’s shares are trading at or close to terms. Given Medco’s numerous proposals in short succession – four in three months – a bump cannot be dismissed. And the recent disclosure of a new shareholder (Sand Grove) may warrant such an outcome. A firm offer is on the table backed by the Ophir’s board. I’d look to get involved a spread or two below terms. 

(link to my insight: Medco’s “Okay” Offer For Ophir After Fortuna Setback)

RPC Group PLC (RPC LN) (Mkt Cap: $4.2bn; Liquidity: $43mn)

On January 23, after months of media speculation, RPC announced a final cash offer by a unit of Apollo Global Management for £7.82/share by way of a scheme. Two institutional shareholders, Aviva, with 1.93% and Royal London Asset Management, with 1.44%, immediately expressed disappointment with the offer valuation.

• On January 31, Berry Global Group, a former Apollo  portfolio company, announced it was considering a possible cash offer for RPC and has requested due diligence. RPC responded with a release confirming it will engage with Berry in order to advance discussions in the interests of delivering best value to shareholders.
• The price being paid by Apollo is not very generous, though RPC’s sale process has been widely reported since September, 2018. Apollo’s ‘no increase’ declaration has made it easy for BERY to win this, provided no one else comes to the party. (I reached out to RPC who confirmed Apollo is restricted from countering a higher bid as it is bound by the language in the Offer announcement that the offer of £7.82 per share is final and will not be increased.) So there is limited upside from here unless you think someone else could join BERY as a late gatecrasher.
• Apollo’s offer provides an effective floor so there is limited downside from here, especially under strict UK rules which make it difficult for an acquirer to walk. John DeMasi recommend buying RPC on the possibility BERY comes out with a generous offer or another buyer shows up due to the undemanding valuation of Apollo’s offer.

(link to John’s insight: RPC Group PLC – It Ain’t Over ’til It’s Over)

Baidu Inc (ADR) (BIDU US) (Mkt Cap: $60.6bn; Liquidity: $490mn)

Johannes Salim, CFA tackled Baidu which he estimates is trading at a discount to NAV of 29% or ~2 SD below its 3-yr average NAV discount.

• It’s a weak-ish stub with 57%-owned video streaming subsidiary iQIYI Inc (IQ US) (which went public in 1Q18) and 19%-owned online travel agency, Ctrip.Com International (Adr) (CTRP US), together accounting  for 14% of NAV.
• BIDU’s core business (primarily online/mobile search services plus new initiatives such as Baidu Cloud and autonomous driving), accounts for 78% of NAV, with net cash a further 8% of NAV.
• Fundamentally, BIDU’s core business has grown healthily, with strong cash flows generation. Johannes estimates the market is unjustifiably valuing this business at US$49.3bn, or 8.7x 2019E EV/EBITDA or 11.2x 2019P, suggesting little to no growth prospect.

(link to Johannes’ insight: Baidu: Time to Swoop In, with NAV Discount Widening Substantially)

CJ Corp (001040 KS) (Mkt Cap: $3bn; Liquidity: $7.5mn)

Sanghyun Park recommends long Holdco and short the synthetic sub ((Cj Cheiljedang (097950 KS), CJ ENM (035760 KS), CJ CGV Co Ltd (079160 KS) and Cj Freshway (051500 KS) on a ratio of 50:40:7:3 ) at this point.

• By my calcs, CJ Corp is trading at a 52% discount to NAV compared to a 52-week average of 41%. CJ C and CJ ENM comprise 63% of NAV.
• Of note, the stub ops still account for 29% of NAV and primarily comprises the 55.13% stake in CJ Olive Networks and brand royalty, each accounting for ~13% of NAV.

(link to Sanghyun’s insight: CJ Corp Holdco/Synthetic Sub Trade: Current Status & Trade Approach)

Toyota Industries (6201 JP)(Mkt Cap: $15.8bn; Liquidity: $24mn)

Curtis Lehnert recommends closing the Toyota set-up trade, which hasn’t exactly been a storming one (4% or 1.96% on the gross notional).

• Toyota announced earning recently which (slightly) beat expectations slightly and the stock rallied in response. This move brought the discount to NAV in line with its 6-month average and has eroded the statistical edge of staying in the trade.
• The fundamentals for Toyota are still attractive, therefore it could be argued to hold the stub beyond these levels. However, Curtis has opted for the tactical route in the current environment and take profits when a statistical edge disappears.

(link to Curtis’ insight: TRADE IDEA – Toyota Industries (6201 JP): Close the Stub Trade)

Briefly …

• Sanghyun recommended a long 2PB and short 1P, after Hyundai Motor Co (005380 KS)‘s 1P/2PB price ratio touched 152% of σ on a 20D MA. This is the highest since late Nov last year. Hyundai Motor Share Class: Long 2PB / Short 1P Amid Restructuring Speculation
• Sanghyun also recommended go long Samsung Electronics (005930 KS)‘s1P and short Common, for a short term reversion as we enter the March shareholder meeting phase. Samsung Electronics Share Class: Long 1P / Short Common on BlackRock Showing

• Greencross Ltd (GXL AU) shareholders have approved the scheme of arrangement.

• MYOB Group Ltd (MYO AU) trades through terms after announcing Vinva is a new substantial holder.

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.   

3. Descente’s Doleful Defense (Dicaeologia)

The new Takeover Rules enacted in December 2006 (with one amendment to the SEL made in 2005 in direct reaction to the loophole used by Livedoor to acquire large stakes of Nippon Broadcasting System off-market to reach a level above one-third) are enshrined in the Financial Instruments and Exchange Act/Law (normally called “FIE”, “FIEA”, or “FIEL”), with the most relevant portions commencing with Article 27-2. These “TOB Rules” outlawed stealth acquisition off-market to “suddenly acquire” a large stake without passing through the market mechanism or conducting a Tender Offer. The principle of this was a sense of “fairness” such that minority investors had an equal opportunity to sell to someone who sought to have control or influence, and that it could not simply be arranged through collusive behavior. 

The first rule which mattered to Descente Ltd (8114 JP) was that the Board of the “Subject Company”, according to Article 27-10…

shall, pursuant to the provisions of a Cabinet Office Ordinance, submit a document which states its opinion on the Tender Offer and other matters specified by a Cabinet Office Ordinance (hereinafter referred to as the “Subject Company’s Position Statement”) to the Prime Minister within a period specified by a Cabinet Order from the date when the Public Notice for Commencing Tender Offer is made.

That period specified is 10 business days.

So by Thursday 14 February, Descente’s board was obliged to release a “Subject Company Position Statement” (意見表明報告書) saying whether it was for or against (or neutral or withholding an opinion about) the bid. It also had to state the reasons for its opinion, the process it took to come to those opinions, and whether it would take defensive measures against the bid (and other measures specified in the relevant Cabinet Order. This reporting obligation would allow Descente’s board to ask questions of the acquiror (to which the acquiror would be required to respond within five business days) and to ask for an extension of the Offer (which has a legal enforcement under certain conditions, which are not that difficult to meet).

Several days before that deadline, on Thursday 7 February, Descente Ltd (8114 JP announced its Position Statement (Against) (in Japanese) the Itochu Corp (8001 JP)‘s Tender Offer with a 28-page supporting powerpoint deck (also in Japanese).

The shares were down Thursday and Friday for a reason. 

If Descente Management and the Board hope that nobody will tender, because Itochu’s presence will cause harm to the medium-long-term corporate value of the company, Management and the Board are putting investors on the spot.

Shares were trading in the ¥1870s and Itochu is offering 50% more than that. Descente saying that corporate value in the medium-long term will be damaged means that should show up in the share price, and investors at the close Friday – after a day to digest the Descente response – believed ¥2520 was the right price if one included the economic effects of the Itochu tender offer. Obviously, that means they think it was worth less if they were not going to tender. 

Investors who want to sell all of their shares now could possibly do so at a 33% premium to where their shares were trading. 

Management and the Board proposing investors not avail themselves of an opportunity to sell shares to someone willing to pay 50% more than pre-tender price for a portion of their shares (or perhaps 33% more than pre-tender as of Friday’s close for more or all of it) needed to explain their own value proposition. Descente had an opportunity to present a “fair value” number from a valuation expert and hints at why they think the shares are worth as much or more over the medium-long term, giving economically-minded investors a reason not to tender. 

The “Subject Company Position Statement” did not do that. 

4. Nissan Governance Outlook – Foggy Now, Sunny Later

This past week saw developments which put the Nissan Motor (7201 JP) – Renault SA (RNO FP) relationship on a better path.

There are interesting noises around the likely arrival of Jean-Dominique Senard on the board of Nissan which the French state won’t like (because they won’t be getting the pony they want) but which would ultimately serve Renault’s interests better. 

Renault and Nissan are conducting a joint investigation into the Renault-Nissan Alliance BV entity which Carlos Ghosn also chaired, and Renault has passed a dossier of Ghosn’s personal expenses borne by Renault and the Alliance to French investigators.

A trial balloon was floated in the Nikkei suggesting the French government had said to the Japanese government it was open to Renault selling some Nissan shares and perhaps the state could lower its stake in Renault. This was “categorically denied” by the French with some haste but the idea of forming a holding company was categorically denied as acceptable by the French just under a year ago. Things have changed.

Governance changes are afoot, with a steady flow of developments likely coming in March, April, May, and June.

Below, a discussion of what the board looks like, will look like, and could look like in/after June and a discussion of the structure of possible capital changes.

5. CyberAgent: Tumbling Dice

Source: Japan Analytics

TUMBLING DICE – After ZOZO (3092 JP) (-52%) and Mercari (4385 JP) (-50%), CyberAgent (4751 JP) is the worst-performing large-cap Internet stock in Japan over the last seven months.  The company is the sector’s leading foreigner-held stock with over 48% (60%+ of the float) held by institutional investors such as Baillie Gifford (11.9%), JP Morgan AM (6.9%), Tybourne Capital (5.1%) and Blackrock Japan (5.0%). Having outperformed the sector and the market annually over the last nine years by 38% and 25%, respectively, over the seven months since the stock peaked in terms of our Relative Price Score on 13th July, CyberAgent shares have declined by 56%, underperforming the market by 48% and the sector by 37%.

PASSIVE PERILS – We will discuss the ‘perils ‘ of Passive TV in the DETAIL below. However, CyberAgent is yet another good example of the ‘perils’ of passive investing. On September 5th Nikkei Inc. announced that CyberAgent would replace Furukawa (5715 JP) in the Nikkei 225 index, with the inclusion occurring on October 1st. Since the ¥6050 intraday peak of the week before inclusion in the index, the shares have declined by 49% in 90 trading days.   

SUMMARY – CyberAgent’s business has three ‘pillars’, internet advertising, mobile gaming software, and media. The latter now includes the linear free-to-view AbemaTV business, which helped drive the share price to a post-listing high of ¥6930 in July 2018. Since then, business conditions for two of these ‘pillars’ have degraded significantly,  while the fledgeling TV business remains in ‘up-front’ investment mode. To cap what will be a turbulent year for CyberAgent, the company is moving into a new head office building in Shibuya called ‘Abema Towers‘ in March. We shall refrain from making any analogies to the Skyscraper Index. 

VISION SHIFT? – In previous years, CyberAgent had a clear vision statement – ‘To create the 21st century’s leading company’. The company’s recent performance has led to a change of tone, and CyberAgent is now rather more modestly just ‘Aiming to be a company with medium to long-term supporters’.  In the vein of the lyrics from the best song on the best Rolling Stones album, Exile on Main Street, the business has recently been at ‘all sixes and sevens and nines’. In the search for new ‘supporters’, we encourage CyberAgent to just ‘keep on rolling’, letting the dice fall where they may. 

In this briefing:

1. Shimadzu (7701 JP): 3Q Results Suggest a Trading Range
2. Semiconductor Sales Dive A Record 7% MoM In December. 2019 Will Be A Low-To-No Growth Year.
3. Olympus: 3QFY03/19 Profits Decline on the Back of Litigation Related Costs
4. Softbank Buyback More Than It Appears To Be
5. Last Week in GER Research: Softbank, Pinduoduo, and Koolearn

1. Shimadzu (7701 JP): 3Q Results Suggest a Trading Range

Shimadzu’s 3Q results were good enough to reassure long-term investors, but not good enough to be called a buy signal. Sales and operating profit were up 4.5% and 4.6% year-on-year, respectively, in the three months to December, an improvement over 2Q but well below the double-digit increases recorded in 1Q and last fiscal year.  Forex losses and other factors led to a 2.2% decline in net profit. 

Sales were up in Japan, Europe and Asia ex-Japan and ex-China, but down in America,  China and Other Regions. Sales of core Analytical & Measuring Instruments were up 2.4%, operating profit on those sales was up 4.1% and the operating margin rose to +15.4% from +15.1% the previous year.

Sales of Industrial Machinery were down 5.7%, but operating profit on those sales was up 2.7% and the division generated a +9.7% operating margin vs. +9.0% the previous year. Sales of turbo-molecular pumps, primarily to semiconductor equipment makers, were down 14.3%.

Medical System sales were up 10.6% and the division generated a +1.5% operating margin vs. + 0.1% the previous year. Aircraft Equipment sales were up 12.1% but the division made a -0.5% operating loss vs. +1.2% profit the previous year. 

At ¥2,659 (Friday, February 8 closing price), the shares are selling at 24x our EPS estimate for FY Mar-19 and 12x EV/EBITDA. The five-year historical P/E range is 13x – 30x, the EV/EBITDA range is 6x – 16x. Over the next several quarters, we expect continued weakness in Industrial Machinery to offset single-digit growth in Instruments, keeping overall growth low. 

2. Semiconductor Sales Dive A Record 7% MoM In December. 2019 Will Be A Low-To-No Growth Year.

Global Semiconductor Sales for December 2018 amounted to $38.2 billion, down a record 7.0% MoM, according to the latest data published by the Semiconductor Industry Association (SIA). The December data reflects a sharp acceleration of a downward trend which began in November and comes as little surprise following an earnings season characterised by profit warnings led by industry giants such as Apple, Samsung and Nvidia. 

The December decline amounted to ~$3 billion in absolute terms, far less than the roughly $15 billion that failed to materialise in fourth quarter sector revenues and implying that substantial amounts of inventory still remain to be consumed from within the supply chain. 

As such we anticipate monthly semiconductor sales continuing to decline through April-May timeframe before stabilizing and returning to growth thereafter. We now anticipate growth to moderate significantly from the 13.7% experienced in 2018 to just 1% in 2019. 

3. Olympus: 3QFY03/19 Profits Decline on the Back of Litigation Related Costs

Olympus Corporation (7733 JP) reported its 3QFY03/19 results on Friday (08^th February) after markets closed. The third quarter revenue dropped 1.7% YoY while operating profit declined by a significant 21.5% YoY, which was 12% below consensus estimates. The operating profit margin for the quarter was 8.8% compared to 11.1% for the same period last year.

The cumulative nine-month results were not impressive either. Although revenue saw a marginal improvement of 1.6% YoY, operating profit declined by 66%, resulting in a 700 basis point decline in operating margin, which fell to just 3.5%. Revenue and operating profit missed consensus estimates by 0.4% and 10.4%, respectively.

The company shares are currently trading at JPY4,645 per share which we believe is overvalued based on our EV/EBIT valuation. The premium is not justified given the governance related issues and the scandals currently faced by the company. Further, Olympus’ financial performance has been disappointing recently, and the company’s largest segment is growing only at single-digits and the Imaging business continues to drag on company revenue and margins. The share price gained nearly 38% since the beginning of the year following the company’s announcement to transform its business and improve governance. In our view the potential for a transformation in governance and business practices is already fully-discounted in the share price.

4. Softbank Buyback More Than It Appears To Be

Softbank Group (9984 JP) last week announced its Q3 results. The stock popped 15+% quickly that day and stayed up all day long, closing at +17.7%. The next day was up small. Over the two days volume was 74.1 million shares. 

I expect the shares were up for two reasons.

1. People figured out Son-san could sell as well as buy. And the sale of NVIDIA Corp (NVDA US) shares was done very well. 
2. Softbank announced a buyback of ¥600 billion – its largest buyback ever. 

The first was surprisingly well-executed. The ownership and transfers of assets from Softbank to the Softbank Vision Fund are sometimes tough to follow, and this should give non-Softbank SVF investors some pause, but Softbank’s ability to get leverage on assets is good, and the collar transaction was – in the eyes of this former derivatives strategist – very well done.

The US$15bn+ gain in market cap over the next two days was probably 10 times the net income impact of the savings on the NVIDIA trade, which means investors are paying 10x earnings for the same thing to incrementally happen every year vs what they thought was going to happen before Thursday. Financial trading businesses have generally traded over time in the high single digit PERs because of the variability of results, so the jump was a little more than it should have been for that, especially if you think some years the “right” jump because of better-than-market execution will have less impact than $2.9bn.

So the rest was either due to other business going well, or the share buyback. At ¥600 billion and at Friday’s closing price, it is about 7 days worth of volume using the 3-month volume average prior to the earnings release and 8.6 days of volume using a one-year average. That means they could buy 10% of ADV every day for 70-86 trading days and complete the buyback, or it means they could buy 3.4% of the volume every trading day. 

That doesn’t seem like a lot. But it is.

5. Last Week in GER Research: Softbank, Pinduoduo, and Koolearn

In this version of the GER weekly research wrap, we remind of our work on Softbank Group (9984 JP) before its 20% share rally which may have been prognosticated by its sweeping debt tender. Secondly, Arun updates on his excellent and contrarian call on Pinduoduo (PDD US) after its follow on placement announcement – of which he takes a more moderated view with the shares up 60% since IPO launch. Finally, we update on the IPO of Koolearn (1373356D HK) which provided an update to its prospectus.  A calendar of upcoming catalysts is also attached. 

More details can be found below. 

Best of luck for the new week – Rickin, Venkat and Arun

In this briefing:

1. Concordia Financial Group (7186 JP): Out of Focus
2. Capital Flows Return To Asia and India
3. Shiseido Company Limited: 4QFY2018 Results – Setting Expectations Too High
4. Chiba Bank (8331 JP):  Top Dog
5. Japan: Moving Average Outliers – Lasertec, SanBio, Digital Arts, Modec & Leopalace21

1. Concordia Financial Group (7186 JP): Out of Focus

CY2018 was not a good year for Concordia Financial Group, Ltd (7186 JP)  (CFG), the holding company for one of Japan’s largest regional banks, the Bank of Yokohama (BoY), and a small secondary regional bank, Higashi-Nippon Bank (HNPB).  Beset by a lending scandal at HNPB, which forced the bank’s president to step down, CFG’s share price remains some 30% below February 2018 levels, and has essentially traded sideways so far this year. 

CFG management’s attempts to placate disgruntled shareholders with stock buybacks and dividend payout increases have largely failed to impress.  3Q FY3/2019 profits declined by 8% year-on-year but relied heavily on non-core profit items: true core earnings collapsed 35.9%.  The Japanese banking sector remains unloved at present.  That said, currently trading on similar valuations to our much-preferred Chiba Bank (8331 JP) , CFG remains a liquid alternative to the ‘crowded trade’ of simply buying megabanks for exposure to the Japanese financial sector.  Patience, however, is the key word for investors here.  No harm in waiting to buy at a better entry price.

2. Capital Flows Return To Asia and India

• Latest January ‘flash’ data show cross-border capital returning to Asia
• Asian EM and India favoured
• Reinforces similar evidence in December and helps reverse big outflows a year ago
• Adds support to our view that Asia is leading the Global cycle higher

3. Shiseido Company Limited: 4QFY2018 Results – Setting Expectations Too High

Shiseido Co Ltd (4911 JP) reported its FY2018 results on 8^th Feb 2019. Shiseido’s revenue grew 8.9% YoY in FY 2018, marginally above our estimated growth rate of 8.7%. Shiseido’s EBIT increased by 34.7% in FY2018 primarily due to the gains made in the first 9 months of the year. However, in 4Q2018 the EBIT margin dropped to 2.4% from 3.6% in the same period last year. On a QoQ basis, margin drop was far more substantial as it declined more than 8.5% in 4QFY2018. Even though we were forecasting a decline in margins, we expected it to be a bit more gradual. Thus, Shiseido’s FY2018 EBIT fell short of our expectation. On the positive side, Shiseido also guided that they are increasing their semi-annual dividend by another JPY5.0 to JPY30.0 from 1HFY2019.

4. Chiba Bank (8331 JP):  Top Dog

Chiba Bank (8331 JP) , Japan’s 4^th-largest regional bank in terms of deposits, loans or total assets, reported consolidated recurring profits for the nine months to end-December 2018 (3Q FY3/2019) of ¥59.66 billion (down 10.6% YoY) and net profits of ¥41.44 billion (down 10.8% YoY) on marginally higher revenues of ¥180.20 billion (+1.3% YoY).  Results were influenced by higher funding costs and a sharp rise in credit costs that offset the benefits of strong growth in loan demand.  There was also some improvement in net interest income and securities trading profits, and a reduction in administrative expenses.  The Japanese banking sector is currently unloved by foreign investors. However, trading on a forward-looking PE ratio of 9.1x (using the bank’s own FY3/2019 guidance), a PBR of 0.52x and boasting the highest current market capitalisation of any Japanese regional bank of ¥553.9 billion (US$5.04 billion), Chiba Bank continues to offer good prospects of long-term growth and a strong profits ‘track record’ supported by the underlying strength of the Chiba prefectural economy.

5. Japan: Moving Average Outliers – Lasertec, SanBio, Digital Arts, Modec & Leopalace21

– MARKET COMPOSITE –

Source: Japan Analytics

RECOVERY TOPPING OUT – Both the market and our ‘percentage-above-moving-averages’ ratio peaked on 5th February and, as covered in our earlier Insight, Japan: Results & Revisions Second Cut – Bottom Line Breakdown,  both may now head lower and retest the Christmas lows.

– SECTORS –

SECTOR BREAKDOWN – The top six sectors measured by their percentage above the weighted average of 5-240 Days remain domestic and defensive. REITs, Information Technology, Media, and Utilities continue from our previous review with Transportation and Telecommunications replacing Restaurants and Healthcare. Equally predictable is the bottom half-dozen – Banks, Autos, Metals and Chemicals remain from two weeks ago, with Non-Bank Finance and Other Materials replacing Construction and Building Materials. 

– COMPANIES –

COMPANY MOVING AVERAGE OUTLIERS – As with the Market Composite and Sectors, the Moving Average Outlier indicator uses a weighted sum of each company’s share price relative to its 5-day, 20-day, 60-day, 120-day and 240-day moving averages. ‘Extreme’ values are weighted sums greater than 100% and less than -100%. We would caution that this indicator is best used for timing shorter-term reversals and, in many cases, higher highs and lower lows will be seen. Nevertheless, the list of negative outliers outperformed the list of positive outliers by 3% over the last two weeks with SanBio (4592 JP) falling by 72% and despite ZOZO (3092 JP) falling by a further 22%.

In the DETAIL section below, we highlight the current top and bottom twenty-five larger capitalisation outliers, as well as those companies that have seen the most significant positive and negative changes in their outlier percentage in the last two weeks and provide short comments on companies of particular note. Lasertec (6920 JP)  is currently the most ‘extreme’ positive outlier, and SanBio (4592 JP) is the most ‘extreme’ negative outlier, having topped the 13th January positive outlier list.

In this briefing:

1. Descente’s Doleful Defense (Dicaeologia)
2. Nissan Governance Outlook – Foggy Now, Sunny Later
3. CyberAgent: Tumbling Dice
4. Itochu and Descente: Gloves Off

1. Descente’s Doleful Defense (Dicaeologia)

The new Takeover Rules enacted in December 2006 (with one amendment to the SEL made in 2005 in direct reaction to the loophole used by Livedoor to acquire large stakes of Nippon Broadcasting System off-market to reach a level above one-third) are enshrined in the Financial Instruments and Exchange Act/Law (normally called “FIE”, “FIEA”, or “FIEL”), with the most relevant portions commencing with Article 27-2. These “TOB Rules” outlawed stealth acquisition off-market to “suddenly acquire” a large stake without passing through the market mechanism or conducting a Tender Offer. The principle of this was a sense of “fairness” such that minority investors had an equal opportunity to sell to someone who sought to have control or influence, and that it could not simply be arranged through collusive behavior. 

The first rule which mattered to Descente Ltd (8114 JP) was that the Board of the “Subject Company”, according to Article 27-10…

shall, pursuant to the provisions of a Cabinet Office Ordinance, submit a document which states its opinion on the Tender Offer and other matters specified by a Cabinet Office Ordinance (hereinafter referred to as the “Subject Company’s Position Statement”) to the Prime Minister within a period specified by a Cabinet Order from the date when the Public Notice for Commencing Tender Offer is made.

That period specified is 10 business days.

So by Thursday 14 February, Descente’s board was obliged to release a “Subject Company Position Statement” (意見表明報告書) saying whether it was for or against (or neutral or withholding an opinion about) the bid. It also had to state the reasons for its opinion, the process it took to come to those opinions, and whether it would take defensive measures against the bid (and other measures specified in the relevant Cabinet Order. This reporting obligation would allow Descente’s board to ask questions of the acquiror (to which the acquiror would be required to respond within five business days) and to ask for an extension of the Offer (which has a legal enforcement under certain conditions, which are not that difficult to meet).

Several days before that deadline, on Thursday 7 February, Descente Ltd (8114 JP announced its Position Statement (Against) (in Japanese) the Itochu Corp (8001 JP)‘s Tender Offer with a 28-page supporting powerpoint deck (also in Japanese).

The shares were down Thursday and Friday for a reason. 

If Descente Management and the Board hope that nobody will tender, because Itochu’s presence will cause harm to the medium-long-term corporate value of the company, Management and the Board are putting investors on the spot.

Shares were trading in the ¥1870s and Itochu is offering 50% more than that. Descente saying that corporate value in the medium-long term will be damaged means that should show up in the share price, and investors at the close Friday – after a day to digest the Descente response – believed ¥2520 was the right price if one included the economic effects of the Itochu tender offer. Obviously, that means they think it was worth less if they were not going to tender. 

Investors who want to sell all of their shares now could possibly do so at a 33% premium to where their shares were trading. 

Management and the Board proposing investors not avail themselves of an opportunity to sell shares to someone willing to pay 50% more than pre-tender price for a portion of their shares (or perhaps 33% more than pre-tender as of Friday’s close for more or all of it) needed to explain their own value proposition. Descente had an opportunity to present a “fair value” number from a valuation expert and hints at why they think the shares are worth as much or more over the medium-long term, giving economically-minded investors a reason not to tender. 

The “Subject Company Position Statement” did not do that. 

2. Nissan Governance Outlook – Foggy Now, Sunny Later

This past week saw developments which put the Nissan Motor (7201 JP) – Renault SA (RNO FP) relationship on a better path.

There are interesting noises around the likely arrival of Jean-Dominique Senard on the board of Nissan which the French state won’t like (because they won’t be getting the pony they want) but which would ultimately serve Renault’s interests better. 

Renault and Nissan are conducting a joint investigation into the Renault-Nissan Alliance BV entity which Carlos Ghosn also chaired, and Renault has passed a dossier of Ghosn’s personal expenses borne by Renault and the Alliance to French investigators.

A trial balloon was floated in the Nikkei suggesting the French government had said to the Japanese government it was open to Renault selling some Nissan shares and perhaps the state could lower its stake in Renault. This was “categorically denied” by the French with some haste but the idea of forming a holding company was categorically denied as acceptable by the French just under a year ago. Things have changed.

Governance changes are afoot, with a steady flow of developments likely coming in March, April, May, and June.

Below, a discussion of what the board looks like, will look like, and could look like in/after June and a discussion of the structure of possible capital changes.

3. CyberAgent: Tumbling Dice

Source: Japan Analytics

TUMBLING DICE – After ZOZO (3092 JP) (-52%) and Mercari (4385 JP) (-50%), CyberAgent (4751 JP) is the worst-performing large-cap Internet stock in Japan over the last seven months.  The company is the sector’s leading foreigner-held stock with over 48% (60%+ of the float) held by institutional investors such as Baillie Gifford (11.9%), JP Morgan AM (6.9%), Tybourne Capital (5.1%) and Blackrock Japan (5.0%). Having outperformed the sector and the market annually over the last nine years by 38% and 25%, respectively, over the seven months since the stock peaked in terms of our Relative Price Score on 13th July, CyberAgent shares have declined by 56%, underperforming the market by 48% and the sector by 37%.

PASSIVE PERILS – We will discuss the ‘perils ‘ of Passive TV in the DETAIL below. However, CyberAgent is yet another good example of the ‘perils’ of passive investing. On September 5th Nikkei Inc. announced that CyberAgent would replace Furukawa (5715 JP) in the Nikkei 225 index, with the inclusion occurring on October 1st. Since the ¥6050 intraday peak of the week before inclusion in the index, the shares have declined by 49% in 90 trading days.   

SUMMARY – CyberAgent’s business has three ‘pillars’, internet advertising, mobile gaming software, and media. The latter now includes the linear free-to-view AbemaTV business, which helped drive the share price to a post-listing high of ¥6930 in July 2018. Since then, business conditions for two of these ‘pillars’ have degraded significantly,  while the fledgeling TV business remains in ‘up-front’ investment mode. To cap what will be a turbulent year for CyberAgent, the company is moving into a new head office building in Shibuya called ‘Abema Towers‘ in March. We shall refrain from making any analogies to the Skyscraper Index. 

VISION SHIFT? – In previous years, CyberAgent had a clear vision statement – ‘To create the 21st century’s leading company’. The company’s recent performance has led to a change of tone, and CyberAgent is now rather more modestly just ‘Aiming to be a company with medium to long-term supporters’.  In the vein of the lyrics from the best song on the best Rolling Stones album, Exile on Main Street, the business has recently been at ‘all sixes and sevens and nines’. In the search for new ‘supporters’, we encourage CyberAgent to just ‘keep on rolling’, letting the dice fall where they may. 

4. Itochu and Descente: Gloves Off

Descente Ltd (8114 JP) issued a 13-page statement yesterday in response to Itochu Corp’s (8001 JP) tender offer to raise its stake in the sports firm from 30.44% to 40%.

In brief: its gloves off and Descente is limbering up for a fight for its independence – an independence it has not had since the 1990s.

Itochu insists it is the answer to Descente’s weaknesses but Descente is having none of it, arguing that it is already implementing the strategies proposed by Itochu.

Descente’s statement of intent was followed by Descente’s labour union, All Descente, supporting Descente, saying Itochu’s bid was contrary to Descente’s long-term interests.

Descente may well hope for an MBO as a way out, and Itochu may want a third party to acquire Descente as Travis Lundy suggests. Either way, a quick resolution is needed if Descente is to take advantage of the upcoming sports boom in Japan.

The question remains as to whether Descente would benefit from independence or control by Itochu. To date, it is arguable that the very tension between Itochu’s demand for faster growth and higher profits and, on the other hand, Descente’s reining in of this demand in favour of long-term brand cultivation that has led to Descente’s recent growth path. Without this delicate balance of tensions, the whole edifice may sag.

In this briefing:

1. Olympus: 3QFY03/19 Profits Decline on the Back of Litigation Related Costs
2. Softbank Buyback More Than It Appears To Be
3. Last Week in GER Research: Softbank, Pinduoduo, and Koolearn
4. Concordia Financial Group (7186 JP): Out of Focus
5. Capital Flows Return To Asia and India

1. Olympus: 3QFY03/19 Profits Decline on the Back of Litigation Related Costs

Olympus Corporation (7733 JP) reported its 3QFY03/19 results on Friday (08^th February) after markets closed. The third quarter revenue dropped 1.7% YoY while operating profit declined by a significant 21.5% YoY, which was 12% below consensus estimates. The operating profit margin for the quarter was 8.8% compared to 11.1% for the same period last year.

The cumulative nine-month results were not impressive either. Although revenue saw a marginal improvement of 1.6% YoY, operating profit declined by 66%, resulting in a 700 basis point decline in operating margin, which fell to just 3.5%. Revenue and operating profit missed consensus estimates by 0.4% and 10.4%, respectively.

The company shares are currently trading at JPY4,645 per share which we believe is overvalued based on our EV/EBIT valuation. The premium is not justified given the governance related issues and the scandals currently faced by the company. Further, Olympus’ financial performance has been disappointing recently, and the company’s largest segment is growing only at single-digits and the Imaging business continues to drag on company revenue and margins. The share price gained nearly 38% since the beginning of the year following the company’s announcement to transform its business and improve governance. In our view the potential for a transformation in governance and business practices is already fully-discounted in the share price.

2. Softbank Buyback More Than It Appears To Be

Softbank Group (9984 JP) last week announced its Q3 results. The stock popped 15+% quickly that day and stayed up all day long, closing at +17.7%. The next day was up small. Over the two days volume was 74.1 million shares. 

I expect the shares were up for two reasons.

1. People figured out Son-san could sell as well as buy. And the sale of NVIDIA Corp (NVDA US) shares was done very well. 
2. Softbank announced a buyback of ¥600 billion – its largest buyback ever. 

The first was surprisingly well-executed. The ownership and transfers of assets from Softbank to the Softbank Vision Fund are sometimes tough to follow, and this should give non-Softbank SVF investors some pause, but Softbank’s ability to get leverage on assets is good, and the collar transaction was – in the eyes of this former derivatives strategist – very well done.

The US$15bn+ gain in market cap over the next two days was probably 10 times the net income impact of the savings on the NVIDIA trade, which means investors are paying 10x earnings for the same thing to incrementally happen every year vs what they thought was going to happen before Thursday. Financial trading businesses have generally traded over time in the high single digit PERs because of the variability of results, so the jump was a little more than it should have been for that, especially if you think some years the “right” jump because of better-than-market execution will have less impact than $2.9bn.

So the rest was either due to other business going well, or the share buyback. At ¥600 billion and at Friday’s closing price, it is about 7 days worth of volume using the 3-month volume average prior to the earnings release and 8.6 days of volume using a one-year average. That means they could buy 10% of ADV every day for 70-86 trading days and complete the buyback, or it means they could buy 3.4% of the volume every trading day. 

That doesn’t seem like a lot. But it is.

3. Last Week in GER Research: Softbank, Pinduoduo, and Koolearn

In this version of the GER weekly research wrap, we remind of our work on Softbank Group (9984 JP) before its 20% share rally which may have been prognosticated by its sweeping debt tender. Secondly, Arun updates on his excellent and contrarian call on Pinduoduo (PDD US) after its follow on placement announcement – of which he takes a more moderated view with the shares up 60% since IPO launch. Finally, we update on the IPO of Koolearn (1373356D HK) which provided an update to its prospectus.  A calendar of upcoming catalysts is also attached. 

More details can be found below. 

Best of luck for the new week – Rickin, Venkat and Arun

4. Concordia Financial Group (7186 JP): Out of Focus

CY2018 was not a good year for Concordia Financial Group, Ltd (7186 JP)  (CFG), the holding company for one of Japan’s largest regional banks, the Bank of Yokohama (BoY), and a small secondary regional bank, Higashi-Nippon Bank (HNPB).  Beset by a lending scandal at HNPB, which forced the bank’s president to step down, CFG’s share price remains some 30% below February 2018 levels, and has essentially traded sideways so far this year. 

CFG management’s attempts to placate disgruntled shareholders with stock buybacks and dividend payout increases have largely failed to impress.  3Q FY3/2019 profits declined by 8% year-on-year but relied heavily on non-core profit items: true core earnings collapsed 35.9%.  The Japanese banking sector remains unloved at present.  That said, currently trading on similar valuations to our much-preferred Chiba Bank (8331 JP) , CFG remains a liquid alternative to the ‘crowded trade’ of simply buying megabanks for exposure to the Japanese financial sector.  Patience, however, is the key word for investors here.  No harm in waiting to buy at a better entry price.

5. Capital Flows Return To Asia and India

• Latest January ‘flash’ data show cross-border capital returning to Asia
• Asian EM and India favoured
• Reinforces similar evidence in December and helps reverse big outflows a year ago
• Adds support to our view that Asia is leading the Global cycle higher

In this briefing:

1. Shiseido Company Limited: 4QFY2018 Results – Setting Expectations Too High
2. Chiba Bank (8331 JP):  Top Dog
3. Japan: Moving Average Outliers – Lasertec, SanBio, Digital Arts, Modec & Leopalace21
4. Japan: Results & Revisions Second Cut – Bottom Line Breakdown
5. Last Week in Event SPACE: Kosaido, Descente, Panalpina, Ophir, RPC, Baidu, CJ Corp

1. Shiseido Company Limited: 4QFY2018 Results – Setting Expectations Too High

Shiseido Co Ltd (4911 JP) reported its FY2018 results on 8^th Feb 2019. Shiseido’s revenue grew 8.9% YoY in FY 2018, marginally above our estimated growth rate of 8.7%. Shiseido’s EBIT increased by 34.7% in FY2018 primarily due to the gains made in the first 9 months of the year. However, in 4Q2018 the EBIT margin dropped to 2.4% from 3.6% in the same period last year. On a QoQ basis, margin drop was far more substantial as it declined more than 8.5% in 4QFY2018. Even though we were forecasting a decline in margins, we expected it to be a bit more gradual. Thus, Shiseido’s FY2018 EBIT fell short of our expectation. On the positive side, Shiseido also guided that they are increasing their semi-annual dividend by another JPY5.0 to JPY30.0 from 1HFY2019.

2. Chiba Bank (8331 JP):  Top Dog

Chiba Bank (8331 JP) , Japan’s 4^th-largest regional bank in terms of deposits, loans or total assets, reported consolidated recurring profits for the nine months to end-December 2018 (3Q FY3/2019) of ¥59.66 billion (down 10.6% YoY) and net profits of ¥41.44 billion (down 10.8% YoY) on marginally higher revenues of ¥180.20 billion (+1.3% YoY).  Results were influenced by higher funding costs and a sharp rise in credit costs that offset the benefits of strong growth in loan demand.  There was also some improvement in net interest income and securities trading profits, and a reduction in administrative expenses.  The Japanese banking sector is currently unloved by foreign investors. However, trading on a forward-looking PE ratio of 9.1x (using the bank’s own FY3/2019 guidance), a PBR of 0.52x and boasting the highest current market capitalisation of any Japanese regional bank of ¥553.9 billion (US$5.04 billion), Chiba Bank continues to offer good prospects of long-term growth and a strong profits ‘track record’ supported by the underlying strength of the Chiba prefectural economy.

3. Japan: Moving Average Outliers – Lasertec, SanBio, Digital Arts, Modec & Leopalace21

– MARKET COMPOSITE –

Source: Japan Analytics

RECOVERY TOPPING OUT – Both the market and our ‘percentage-above-moving-averages’ ratio peaked on 5th February and, as covered in our earlier Insight, Japan: Results & Revisions Second Cut – Bottom Line Breakdown,  both may now head lower and retest the Christmas lows.

– SECTORS –

SECTOR BREAKDOWN – The top six sectors measured by their percentage above the weighted average of 5-240 Days remain domestic and defensive. REITs, Information Technology, Media, and Utilities continue from our previous review with Transportation and Telecommunications replacing Restaurants and Healthcare. Equally predictable is the bottom half-dozen – Banks, Autos, Metals and Chemicals remain from two weeks ago, with Non-Bank Finance and Other Materials replacing Construction and Building Materials. 

– COMPANIES –

COMPANY MOVING AVERAGE OUTLIERS – As with the Market Composite and Sectors, the Moving Average Outlier indicator uses a weighted sum of each company’s share price relative to its 5-day, 20-day, 60-day, 120-day and 240-day moving averages. ‘Extreme’ values are weighted sums greater than 100% and less than -100%. We would caution that this indicator is best used for timing shorter-term reversals and, in many cases, higher highs and lower lows will be seen. Nevertheless, the list of negative outliers outperformed the list of positive outliers by 3% over the last two weeks with SanBio (4592 JP) falling by 72% and despite ZOZO (3092 JP) falling by a further 22%.

In the DETAIL section below, we highlight the current top and bottom twenty-five larger capitalisation outliers, as well as those companies that have seen the most significant positive and negative changes in their outlier percentage in the last two weeks and provide short comments on companies of particular note. Lasertec (6920 JP)  is currently the most ‘extreme’ positive outlier, and SanBio (4592 JP) is the most ‘extreme’ negative outlier, having topped the 13th January positive outlier list.

4. Japan: Results & Revisions Second Cut – Bottom Line Breakdown

BOTTOM LINE BREAKDOWN – 1,277 earnings results and/or revisions announcements were released last week in Japan covering 36% of listed market capitalisation. The good news is that aggregate trailing-twelve-month (TTM) Operating Income only declined by ¥300b. Less welcome is the ¥1.7t decline in TTM Net Income to which Toyota Motor (7203 JP), Honda Motor (7267 JP), Softbank Group (9984 JP), Hitachi (6501 JP) were the most significant contributors, each declining by more than ¥200b. Three ‘financials’, Nomura Holdings (8604 JP), Mizuho Financial Group (8411 JP), and Suruga Bank (8358 JP) subtracted ¥400b between them. Only Sony (6758 JP) and Toshiba (6502 JP) added more than ¥100b for the quarter. The substantial ‘gap’ between forecast and TTM Net Income has been reduced to just ¥600b, again confirming the reliability of corporate forecasting in Japan. The All-Market PER is now 13.5 times but will likely rise as aggregate Net Income falls further in the next two weeks.

5. Last Week in Event SPACE: Kosaido, Descente, Panalpina, Ophir, RPC, Baidu, CJ Corp

Last Week in Event SPACE …

• Something is up as Kosaido Co Ltd (7868 JP)‘s shares trade almost 40% through terms and back down – still 18% through terms.
• Descente Ltd (8114 JP)‘s management’s explanation why Itochu owning 40% would be bad is almost a paean to good governance, but the gloves are off.
• Panalpina Welttransport Holding (PWTN SW) is burdened with “social costs” in the near-term.
• Opportunistic yes, but Medco Energi Internasional T (MEDC IJ)‘s proposal for Ophir Energy (OPHR LN) is okay in a less-than-ideal situation.
• A possible last minute counter to Apollo’s disappointing offer for RPC Group PLC (RPC LN).
• The market is valuing Baidu Inc (ADR) (BIDU US) core ops as an “Old Economy” company with little to no growth prospect.
• Plus 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)

Kosaido Co Ltd (7868 JP) (Mkt Cap: $176mn; Liquidity: $1.2mn)

When Bain announced its MBO for Kosaido at ¥610/share, Travis Lundy concluded (in his insight Smallcap Kosaido (7868 JP) Tender Offer: Wrong Price But Whaddya Gonna Do?) that it was a lowball bid and a virtual asset strip in progress. The kind of thing which gives activist hedge funds a bad name, but when cloaked in the finery of “Private Equity”, it looks like the renewal of a business. The share price jumped from the 400s to just under the Tender Offer Price, traded there for several days, then a week after it started trading at or near arb terms, the share price suddenly jumped through terms and headed higher.

• Travis’ inclination at Thursday’s price (¥775/share) is that at a 30% discount to book, there could be enough here to entice someone to split the company up at a slightly better level, but he doubts that it is worth 1x book. Given the headaches involved in making this company worth more than book, it would be worth less than book now. If the Info business can be rescued, then it is cheap. If it cannot, it is not.
• Because “management-friendly” shareholders currently hold at least 40% and probably more like 50+%, Travis thinks Murakami-san will find it really tough to mount, or get someone else to mount, a truly hostile action. 
• Perhaps Murakami-san’s goal here is to block the deal then get management to use debt to buy out other people and expand the funeral parlour business, then get a strategic to buy the whole thing out. It could be, but Travis doesn’t think chasing the market at 25-30% above where Murakami-san got in is a good risk.

Since Travis wrote, Murakami-san’s vehicles have added another 1.24% to reach 9.55% of shares out. The last set of shares was purchased at an average of ¥652/share.

(link to Travis’ insight: Kosaido: Activism Drives Price 30+% Through Terms)

Descente Ltd (8114 JP) (Mkt Cap: $1.8bn; Liquidity: $4.3mn)

This past Thursday 7 February, Descente announced a weak Position Statement (Against) (in Japanese) the Itochu Corp (8001 JP) Tender Offer with a 28-page supporting powerpoint deck (also in Japanese). Descente appears to have no ability to defend itself, and its claim that a large shareholder like Itochu could damage corporate value by weakening governance is effectively a statement that others (like perhaps Wacoal) would too, so only a full takeover makes sense under that defense.

• Descente management’s explanation for why Itochu owning 40% would be bad is almost a paean to good governance. If the influence of suppliers and customers in the shareholder register is bad, it is bad – whether friendly to management or not. Conflict of interest can happen via entrenchment.
• The lack of a white knight proposed and effective “I got nothing, but please don’t tender” response is bearish for the shares. if management is right and Itochu’s presence at 40% will lower corporate value, the back end might be worth less than ¥1,871/share where it was trading pre-tender. That would mean the fair value of shares now would still be below here.
• If Itochu gets its 40% and ANTA votes with Itochu, it is highly possible that the two could effect dramatic change at the management and board level. That would be very hostile and corporate Japan would have something to say about that. Travis says “I am not sure Itochu would go that hostile immediately.”
• Michael Causton just wrote about Descente’s rejection of the Itochu tender saying “The Gloves Are Off”. He notes there is a perception of a cultural difference between Descente’s brand cultivation and Itochu Textile’s hands-off approach to brand management, but notes that the differences between Descente and Itochu need to be resolved quickly in order to optimally ramp up brand awareness and sales points ahead of the Rugby World Cup in Japan this year, the Olympics, next year, and the World Masters Games the year after. 

links to:
Travis’ insight: Descente’s Doleful Defense (Dicaeologia)
Michael’s insight: Itochu and Descente: Gloves Off

ND Software (3794 JP) (Mkt Cap: $212mn; Liquidity: $0.04mn)

ND Software (NDS) announced a MBO sponsored by both the existing president, who owns 20%, and J-Will Partners to take the company private at ¥1700/share, which is a 28.7% premium to last trade and comes out to be ~7.2x trailing 12-month EV/EBITDA. The deal comes with a 66.7% minimum threshold for completion, after which there will be a two-step squeeze-out, as is the norm in deals like this. Looks straightforward, but …

• Sometime activist Symphony Financial Partners (SFP) holds around 20% in NDS. If on board, this this deal is almost done because 31.26% is already pledged to tender, Symphony’s stake would make it 51.5%. Other presumably management-friendly shareholders own another 10%, and employees own about 7%. If Symphony is on board, that easily clears the 67% hurdle. If SFP are not on board, they own about 60% of what is necessary to block this deal.  And they could buy on market to raise their stake further. 
• Travis would not want to sell out his shares tomorrow at ¥1699/share. Or even ¥1701. He thinks there is a chance that the loose float is scooped up by shareholders or players who might want to increase their stake and see if this deal can be bumped. 

(link to Travis’ insight: ND Software (3794 JP) TOB for an MBO – Fireworks a Possibility)

Panalpina Welttransport Holding (PWTN SW) (Mkt Cap: $4.1bn; Liquidity: $20mn)

Palpina confirmed that the Ernst Göhner Foundation, Panalpina’s largest shareholder (46% of shares out) does not support the current non-binding proposal from DSV and that it supports Panalpina’s Board of Directors in pursuing an independent growth strategy that includes M&A. Panalpina’a stock tanked, but is trading only 3% below DSV’s indicative offer, and 20.5% above where the stock was trading in mid-January before DSV’s indicative non-binding proposal. 

• If management had said that they have a plan which is to grow themselves out of their current doldrums, and their largest shareholder supports that plan to stick with management and go slow, nothing will get done until the new chairman is installed in May at the AGM, and even then, given the Foundation’s position that they support management’s “independent growth strategy”, there is not much minority shareholders can do.
• This is an ongoing issue of governance. If the directors are effectively chosen by the Ernst Göhner Foundation, which supports the company’s independence, so they do too, minority shareholders serve no purpose other than to provide capital for the foundation to keep Panalpina listed.
• This doesn’t mean that there will be no deal, but it does mean there will be a lull unless someone else comes up with a more aggressive offer. Travis expects this is eventually worth another go but he would want to reload lower and/or later, or when Panalpina is in a better position after the full IT package is deployed.

Since Travis wrote, DSV has released earnings and said it is still significantly engaged in the bid, and comments from the chairman of the Ernst Göhner Foundation has made comments suggesting it is not wedded to the idea, so it comes down to price – someone has to pay now to get the benefits expected from the full IT package.

Travis pointed out in the discussions that interestingly, when DSV released earnings it did not announce a buyback, which would have been normal, leading some to speculate the company is saving its cash for another go at it.

(link to Travis’ insight: Largest Panalpina Shareholder to Other Shareholders: Get Stuffed) 

Ophir Energy (OPHR LN) (Mkt Cap: $204mn; Liquidity: $3mn)

On its fourth attempt Medco Energi Internasional T (MEDC IJ) receives board approval for its £0.55/share (66% premium to the closing price) offer for Ophir. The deal is conditional on receiving 75% shareholder approval, approval from the relevant authorities in Tanzania and Ophir not losing all or substantially all of its Bualuang interests in Thailand. It is expected that the Scheme will become effective in the first half of 2019.

• There is an opportunistic element to Medco’s tilt after Ophir recently announced the denial of the license extension for the Fortuna project by the Equatorial Guinea Ministry of Mines and Hydrocarbons. This resulted in a $300mn non-cash impairment. Ophir had previously written down $310mn on the same project back in September.
• Shareholders such as Petrus (~2.8% stake) won’t support the offer having announced in mid-Jan that Medco’s earlier £0.485/share proposal “massively under-values” Ophir.
• Reg approvals are not expected to be an issue  – the stake in Tanzania is for a 20% non-controlling interest, a similar % approved in a prior sale to Pavilion in 2015. There is no approval/consent required from the Thai authorities – it is in there really to cover the unlikely situation that for some reason the Thai authorities raise an objection.

• Ophir’s shares are trading at or close to terms. Given Medco’s numerous proposals in short succession – four in three months – a bump cannot be dismissed. And the recent disclosure of a new shareholder (Sand Grove) may warrant such an outcome. A firm offer is on the table backed by the Ophir’s board. I’d look to get involved a spread or two below terms. 

(link to my insight: Medco’s “Okay” Offer For Ophir After Fortuna Setback)

RPC Group PLC (RPC LN) (Mkt Cap: $4.2bn; Liquidity: $43mn)

On January 23, after months of media speculation, RPC announced a final cash offer by a unit of Apollo Global Management for £7.82/share by way of a scheme. Two institutional shareholders, Aviva, with 1.93% and Royal London Asset Management, with 1.44%, immediately expressed disappointment with the offer valuation.

• On January 31, Berry Global Group, a former Apollo  portfolio company, announced it was considering a possible cash offer for RPC and has requested due diligence. RPC responded with a release confirming it will engage with Berry in order to advance discussions in the interests of delivering best value to shareholders.
• The price being paid by Apollo is not very generous, though RPC’s sale process has been widely reported since September, 2018. Apollo’s ‘no increase’ declaration has made it easy for BERY to win this, provided no one else comes to the party. (I reached out to RPC who confirmed Apollo is restricted from countering a higher bid as it is bound by the language in the Offer announcement that the offer of £7.82 per share is final and will not be increased.) So there is limited upside from here unless you think someone else could join BERY as a late gatecrasher.
• Apollo’s offer provides an effective floor so there is limited downside from here, especially under strict UK rules which make it difficult for an acquirer to walk. John DeMasi recommend buying RPC on the possibility BERY comes out with a generous offer or another buyer shows up due to the undemanding valuation of Apollo’s offer.

(link to John’s insight: RPC Group PLC – It Ain’t Over ’til It’s Over)

Baidu Inc (ADR) (BIDU US) (Mkt Cap: $60.6bn; Liquidity: $490mn)

Johannes Salim, CFA tackled Baidu which he estimates is trading at a discount to NAV of 29% or ~2 SD below its 3-yr average NAV discount.

• It’s a weak-ish stub with 57%-owned video streaming subsidiary iQIYI Inc (IQ US) (which went public in 1Q18) and 19%-owned online travel agency, Ctrip.Com International (Adr) (CTRP US), together accounting  for 14% of NAV.
• BIDU’s core business (primarily online/mobile search services plus new initiatives such as Baidu Cloud and autonomous driving), accounts for 78% of NAV, with net cash a further 8% of NAV.
• Fundamentally, BIDU’s core business has grown healthily, with strong cash flows generation. Johannes estimates the market is unjustifiably valuing this business at US$49.3bn, or 8.7x 2019E EV/EBITDA or 11.2x 2019P, suggesting little to no growth prospect.

(link to Johannes’ insight: Baidu: Time to Swoop In, with NAV Discount Widening Substantially)

CJ Corp (001040 KS) (Mkt Cap: $3bn; Liquidity: $7.5mn)

Sanghyun Park recommends long Holdco and short the synthetic sub ((Cj Cheiljedang (097950 KS), CJ ENM (035760 KS), CJ CGV Co Ltd (079160 KS) and Cj Freshway (051500 KS) on a ratio of 50:40:7:3 ) at this point.

• By my calcs, CJ Corp is trading at a 52% discount to NAV compared to a 52-week average of 41%. CJ C and CJ ENM comprise 63% of NAV.
• Of note, the stub ops still account for 29% of NAV and primarily comprises the 55.13% stake in CJ Olive Networks and brand royalty, each accounting for ~13% of NAV.

(link to Sanghyun’s insight: CJ Corp Holdco/Synthetic Sub Trade: Current Status & Trade Approach)

Toyota Industries (6201 JP)(Mkt Cap: $15.8bn; Liquidity: $24mn)

Curtis Lehnert recommends closing the Toyota set-up trade, which hasn’t exactly been a storming one (4% or 1.96% on the gross notional).

• Toyota announced earning recently which (slightly) beat expectations slightly and the stock rallied in response. This move brought the discount to NAV in line with its 6-month average and has eroded the statistical edge of staying in the trade.
• The fundamentals for Toyota are still attractive, therefore it could be argued to hold the stub beyond these levels. However, Curtis has opted for the tactical route in the current environment and take profits when a statistical edge disappears.

(link to Curtis’ insight: TRADE IDEA – Toyota Industries (6201 JP): Close the Stub Trade)

Briefly …

• Sanghyun recommended a long 2PB and short 1P, after Hyundai Motor Co (005380 KS)‘s 1P/2PB price ratio touched 152% of σ on a 20D MA. This is the highest since late Nov last year. Hyundai Motor Share Class: Long 2PB / Short 1P Amid Restructuring Speculation
• Sanghyun also recommended go long Samsung Electronics (005930 KS)‘s1P and short Common, for a short term reversion as we enter the March shareholder meeting phase. Samsung Electronics Share Class: Long 1P / Short Common on BlackRock Showing

• Greencross Ltd (GXL AU) shareholders have approved the scheme of arrangement.

• MYOB Group Ltd (MYO AU) trades through terms after announcing Vinva is a new substantial holder.

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.   

In this briefing:

1. Last Week in Event SPACE: Kosaido, Descente, Panalpina, Ophir, RPC, Baidu, CJ Corp
2. Descente’s Doleful Defense (Dicaeologia)
3. Nissan Governance Outlook – Foggy Now, Sunny Later
4. CyberAgent: Tumbling Dice
5. Itochu and Descente: Gloves Off

1. Last Week in Event SPACE: Kosaido, Descente, Panalpina, Ophir, RPC, Baidu, CJ Corp

Last Week in Event SPACE …

• Something is up as Kosaido Co Ltd (7868 JP)‘s shares trade almost 40% through terms and back down – still 18% through terms.
• Descente Ltd (8114 JP)‘s management’s explanation why Itochu owning 40% would be bad is almost a paean to good governance, but the gloves are off.
• Panalpina Welttransport Holding (PWTN SW) is burdened with “social costs” in the near-term.
• Opportunistic yes, but Medco Energi Internasional T (MEDC IJ)‘s proposal for Ophir Energy (OPHR LN) is okay in a less-than-ideal situation.
• A possible last minute counter to Apollo’s disappointing offer for RPC Group PLC (RPC LN).
• The market is valuing Baidu Inc (ADR) (BIDU US) core ops as an “Old Economy” company with little to no growth prospect.
• Plus 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)

Kosaido Co Ltd (7868 JP) (Mkt Cap: $176mn; Liquidity: $1.2mn)

When Bain announced its MBO for Kosaido at ¥610/share, Travis Lundy concluded (in his insight Smallcap Kosaido (7868 JP) Tender Offer: Wrong Price But Whaddya Gonna Do?) that it was a lowball bid and a virtual asset strip in progress. The kind of thing which gives activist hedge funds a bad name, but when cloaked in the finery of “Private Equity”, it looks like the renewal of a business. The share price jumped from the 400s to just under the Tender Offer Price, traded there for several days, then a week after it started trading at or near arb terms, the share price suddenly jumped through terms and headed higher.

• Travis’ inclination at Thursday’s price (¥775/share) is that at a 30% discount to book, there could be enough here to entice someone to split the company up at a slightly better level, but he doubts that it is worth 1x book. Given the headaches involved in making this company worth more than book, it would be worth less than book now. If the Info business can be rescued, then it is cheap. If it cannot, it is not.
• Because “management-friendly” shareholders currently hold at least 40% and probably more like 50+%, Travis thinks Murakami-san will find it really tough to mount, or get someone else to mount, a truly hostile action. 
• Perhaps Murakami-san’s goal here is to block the deal then get management to use debt to buy out other people and expand the funeral parlour business, then get a strategic to buy the whole thing out. It could be, but Travis doesn’t think chasing the market at 25-30% above where Murakami-san got in is a good risk.

Since Travis wrote, Murakami-san’s vehicles have added another 1.24% to reach 9.55% of shares out. The last set of shares was purchased at an average of ¥652/share.

(link to Travis’ insight: Kosaido: Activism Drives Price 30+% Through Terms)

Descente Ltd (8114 JP) (Mkt Cap: $1.8bn; Liquidity: $4.3mn)

This past Thursday 7 February, Descente announced a weak Position Statement (Against) (in Japanese) the Itochu Corp (8001 JP) Tender Offer with a 28-page supporting powerpoint deck (also in Japanese). Descente appears to have no ability to defend itself, and its claim that a large shareholder like Itochu could damage corporate value by weakening governance is effectively a statement that others (like perhaps Wacoal) would too, so only a full takeover makes sense under that defense.

• Descente management’s explanation for why Itochu owning 40% would be bad is almost a paean to good governance. If the influence of suppliers and customers in the shareholder register is bad, it is bad – whether friendly to management or not. Conflict of interest can happen via entrenchment.
• The lack of a white knight proposed and effective “I got nothing, but please don’t tender” response is bearish for the shares. if management is right and Itochu’s presence at 40% will lower corporate value, the back end might be worth less than ¥1,871/share where it was trading pre-tender. That would mean the fair value of shares now would still be below here.
• If Itochu gets its 40% and ANTA votes with Itochu, it is highly possible that the two could effect dramatic change at the management and board level. That would be very hostile and corporate Japan would have something to say about that. Travis says “I am not sure Itochu would go that hostile immediately.”
• Michael Causton just wrote about Descente’s rejection of the Itochu tender saying “The Gloves Are Off”. He notes there is a perception of a cultural difference between Descente’s brand cultivation and Itochu Textile’s hands-off approach to brand management, but notes that the differences between Descente and Itochu need to be resolved quickly in order to optimally ramp up brand awareness and sales points ahead of the Rugby World Cup in Japan this year, the Olympics, next year, and the World Masters Games the year after. 

links to:
Travis’ insight: Descente’s Doleful Defense (Dicaeologia)
Michael’s insight: Itochu and Descente: Gloves Off

ND Software (3794 JP) (Mkt Cap: $212mn; Liquidity: $0.04mn)

ND Software (NDS) announced a MBO sponsored by both the existing president, who owns 20%, and J-Will Partners to take the company private at ¥1700/share, which is a 28.7% premium to last trade and comes out to be ~7.2x trailing 12-month EV/EBITDA. The deal comes with a 66.7% minimum threshold for completion, after which there will be a two-step squeeze-out, as is the norm in deals like this. Looks straightforward, but …

• Sometime activist Symphony Financial Partners (SFP) holds around 20% in NDS. If on board, this this deal is almost done because 31.26% is already pledged to tender, Symphony’s stake would make it 51.5%. Other presumably management-friendly shareholders own another 10%, and employees own about 7%. If Symphony is on board, that easily clears the 67% hurdle. If SFP are not on board, they own about 60% of what is necessary to block this deal.  And they could buy on market to raise their stake further. 
• Travis would not want to sell out his shares tomorrow at ¥1699/share. Or even ¥1701. He thinks there is a chance that the loose float is scooped up by shareholders or players who might want to increase their stake and see if this deal can be bumped. 

(link to Travis’ insight: ND Software (3794 JP) TOB for an MBO – Fireworks a Possibility)

Panalpina Welttransport Holding (PWTN SW) (Mkt Cap: $4.1bn; Liquidity: $20mn)

Palpina confirmed that the Ernst Göhner Foundation, Panalpina’s largest shareholder (46% of shares out) does not support the current non-binding proposal from DSV and that it supports Panalpina’s Board of Directors in pursuing an independent growth strategy that includes M&A. Panalpina’a stock tanked, but is trading only 3% below DSV’s indicative offer, and 20.5% above where the stock was trading in mid-January before DSV’s indicative non-binding proposal. 

• If management had said that they have a plan which is to grow themselves out of their current doldrums, and their largest shareholder supports that plan to stick with management and go slow, nothing will get done until the new chairman is installed in May at the AGM, and even then, given the Foundation’s position that they support management’s “independent growth strategy”, there is not much minority shareholders can do.
• This is an ongoing issue of governance. If the directors are effectively chosen by the Ernst Göhner Foundation, which supports the company’s independence, so they do too, minority shareholders serve no purpose other than to provide capital for the foundation to keep Panalpina listed.
• This doesn’t mean that there will be no deal, but it does mean there will be a lull unless someone else comes up with a more aggressive offer. Travis expects this is eventually worth another go but he would want to reload lower and/or later, or when Panalpina is in a better position after the full IT package is deployed.

Since Travis wrote, DSV has released earnings and said it is still significantly engaged in the bid, and comments from the chairman of the Ernst Göhner Foundation has made comments suggesting it is not wedded to the idea, so it comes down to price – someone has to pay now to get the benefits expected from the full IT package.

Travis pointed out in the discussions that interestingly, when DSV released earnings it did not announce a buyback, which would have been normal, leading some to speculate the company is saving its cash for another go at it.

(link to Travis’ insight: Largest Panalpina Shareholder to Other Shareholders: Get Stuffed) 

Ophir Energy (OPHR LN) (Mkt Cap: $204mn; Liquidity: $3mn)

On its fourth attempt Medco Energi Internasional T (MEDC IJ) receives board approval for its £0.55/share (66% premium to the closing price) offer for Ophir. The deal is conditional on receiving 75% shareholder approval, approval from the relevant authorities in Tanzania and Ophir not losing all or substantially all of its Bualuang interests in Thailand. It is expected that the Scheme will become effective in the first half of 2019.

• There is an opportunistic element to Medco’s tilt after Ophir recently announced the denial of the license extension for the Fortuna project by the Equatorial Guinea Ministry of Mines and Hydrocarbons. This resulted in a $300mn non-cash impairment. Ophir had previously written down $310mn on the same project back in September.
• Shareholders such as Petrus (~2.8% stake) won’t support the offer having announced in mid-Jan that Medco’s earlier £0.485/share proposal “massively under-values” Ophir.
• Reg approvals are not expected to be an issue  – the stake in Tanzania is for a 20% non-controlling interest, a similar % approved in a prior sale to Pavilion in 2015. There is no approval/consent required from the Thai authorities – it is in there really to cover the unlikely situation that for some reason the Thai authorities raise an objection.

• Ophir’s shares are trading at or close to terms. Given Medco’s numerous proposals in short succession – four in three months – a bump cannot be dismissed. And the recent disclosure of a new shareholder (Sand Grove) may warrant such an outcome. A firm offer is on the table backed by the Ophir’s board. I’d look to get involved a spread or two below terms. 

(link to my insight: Medco’s “Okay” Offer For Ophir After Fortuna Setback)

RPC Group PLC (RPC LN) (Mkt Cap: $4.2bn; Liquidity: $43mn)

On January 23, after months of media speculation, RPC announced a final cash offer by a unit of Apollo Global Management for £7.82/share by way of a scheme. Two institutional shareholders, Aviva, with 1.93% and Royal London Asset Management, with 1.44%, immediately expressed disappointment with the offer valuation.

• On January 31, Berry Global Group, a former Apollo  portfolio company, announced it was considering a possible cash offer for RPC and has requested due diligence. RPC responded with a release confirming it will engage with Berry in order to advance discussions in the interests of delivering best value to shareholders.
• The price being paid by Apollo is not very generous, though RPC’s sale process has been widely reported since September, 2018. Apollo’s ‘no increase’ declaration has made it easy for BERY to win this, provided no one else comes to the party. (I reached out to RPC who confirmed Apollo is restricted from countering a higher bid as it is bound by the language in the Offer announcement that the offer of £7.82 per share is final and will not be increased.) So there is limited upside from here unless you think someone else could join BERY as a late gatecrasher.
• Apollo’s offer provides an effective floor so there is limited downside from here, especially under strict UK rules which make it difficult for an acquirer to walk. John DeMasi recommend buying RPC on the possibility BERY comes out with a generous offer or another buyer shows up due to the undemanding valuation of Apollo’s offer.

(link to John’s insight: RPC Group PLC – It Ain’t Over ’til It’s Over)

Baidu Inc (ADR) (BIDU US) (Mkt Cap: $60.6bn; Liquidity: $490mn)

Johannes Salim, CFA tackled Baidu which he estimates is trading at a discount to NAV of 29% or ~2 SD below its 3-yr average NAV discount.

• It’s a weak-ish stub with 57%-owned video streaming subsidiary iQIYI Inc (IQ US) (which went public in 1Q18) and 19%-owned online travel agency, Ctrip.Com International (Adr) (CTRP US), together accounting  for 14% of NAV.
• BIDU’s core business (primarily online/mobile search services plus new initiatives such as Baidu Cloud and autonomous driving), accounts for 78% of NAV, with net cash a further 8% of NAV.
• Fundamentally, BIDU’s core business has grown healthily, with strong cash flows generation. Johannes estimates the market is unjustifiably valuing this business at US$49.3bn, or 8.7x 2019E EV/EBITDA or 11.2x 2019P, suggesting little to no growth prospect.

(link to Johannes’ insight: Baidu: Time to Swoop In, with NAV Discount Widening Substantially)

CJ Corp (001040 KS) (Mkt Cap: $3bn; Liquidity: $7.5mn)

Sanghyun Park recommends long Holdco and short the synthetic sub ((Cj Cheiljedang (097950 KS), CJ ENM (035760 KS), CJ CGV Co Ltd (079160 KS) and Cj Freshway (051500 KS) on a ratio of 50:40:7:3 ) at this point.

• By my calcs, CJ Corp is trading at a 52% discount to NAV compared to a 52-week average of 41%. CJ C and CJ ENM comprise 63% of NAV.
• Of note, the stub ops still account for 29% of NAV and primarily comprises the 55.13% stake in CJ Olive Networks and brand royalty, each accounting for ~13% of NAV.

(link to Sanghyun’s insight: CJ Corp Holdco/Synthetic Sub Trade: Current Status & Trade Approach)

Toyota Industries (6201 JP)(Mkt Cap: $15.8bn; Liquidity: $24mn)

Curtis Lehnert recommends closing the Toyota set-up trade, which hasn’t exactly been a storming one (4% or 1.96% on the gross notional).

• Toyota announced earning recently which (slightly) beat expectations slightly and the stock rallied in response. This move brought the discount to NAV in line with its 6-month average and has eroded the statistical edge of staying in the trade.
• The fundamentals for Toyota are still attractive, therefore it could be argued to hold the stub beyond these levels. However, Curtis has opted for the tactical route in the current environment and take profits when a statistical edge disappears.

(link to Curtis’ insight: TRADE IDEA – Toyota Industries (6201 JP): Close the Stub Trade)

Briefly …

• Sanghyun recommended a long 2PB and short 1P, after Hyundai Motor Co (005380 KS)‘s 1P/2PB price ratio touched 152% of σ on a 20D MA. This is the highest since late Nov last year. Hyundai Motor Share Class: Long 2PB / Short 1P Amid Restructuring Speculation
• Sanghyun also recommended go long Samsung Electronics (005930 KS)‘s1P and short Common, for a short term reversion as we enter the March shareholder meeting phase. Samsung Electronics Share Class: Long 1P / Short Common on BlackRock Showing

• Greencross Ltd (GXL AU) shareholders have approved the scheme of arrangement.

• MYOB Group Ltd (MYO AU) trades through terms after announcing Vinva is a new substantial holder.

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. Descente’s Doleful Defense (Dicaeologia)

The new Takeover Rules enacted in December 2006 (with one amendment to the SEL made in 2005 in direct reaction to the loophole used by Livedoor to acquire large stakes of Nippon Broadcasting System off-market to reach a level above one-third) are enshrined in the Financial Instruments and Exchange Act/Law (normally called “FIE”, “FIEA”, or “FIEL”), with the most relevant portions commencing with Article 27-2. These “TOB Rules” outlawed stealth acquisition off-market to “suddenly acquire” a large stake without passing through the market mechanism or conducting a Tender Offer. The principle of this was a sense of “fairness” such that minority investors had an equal opportunity to sell to someone who sought to have control or influence, and that it could not simply be arranged through collusive behavior. 

The first rule which mattered to Descente Ltd (8114 JP) was that the Board of the “Subject Company”, according to Article 27-10…

shall, pursuant to the provisions of a Cabinet Office Ordinance, submit a document which states its opinion on the Tender Offer and other matters specified by a Cabinet Office Ordinance (hereinafter referred to as the “Subject Company’s Position Statement”) to the Prime Minister within a period specified by a Cabinet Order from the date when the Public Notice for Commencing Tender Offer is made.

That period specified is 10 business days.

So by Thursday 14 February, Descente’s board was obliged to release a “Subject Company Position Statement” (意見表明報告書) saying whether it was for or against (or neutral or withholding an opinion about) the bid. It also had to state the reasons for its opinion, the process it took to come to those opinions, and whether it would take defensive measures against the bid (and other measures specified in the relevant Cabinet Order. This reporting obligation would allow Descente’s board to ask questions of the acquiror (to which the acquiror would be required to respond within five business days) and to ask for an extension of the Offer (which has a legal enforcement under certain conditions, which are not that difficult to meet).

Several days before that deadline, on Thursday 7 February, Descente Ltd (8114 JP announced its Position Statement (Against) (in Japanese) the Itochu Corp (8001 JP)‘s Tender Offer with a 28-page supporting powerpoint deck (also in Japanese).

The shares were down Thursday and Friday for a reason. 

If Descente Management and the Board hope that nobody will tender, because Itochu’s presence will cause harm to the medium-long-term corporate value of the company, Management and the Board are putting investors on the spot.

Shares were trading in the ¥1870s and Itochu is offering 50% more than that. Descente saying that corporate value in the medium-long term will be damaged means that should show up in the share price, and investors at the close Friday – after a day to digest the Descente response – believed ¥2520 was the right price if one included the economic effects of the Itochu tender offer. Obviously, that means they think it was worth less if they were not going to tender. 

Investors who want to sell all of their shares now could possibly do so at a 33% premium to where their shares were trading. 

Management and the Board proposing investors not avail themselves of an opportunity to sell shares to someone willing to pay 50% more than pre-tender price for a portion of their shares (or perhaps 33% more than pre-tender as of Friday’s close for more or all of it) needed to explain their own value proposition. Descente had an opportunity to present a “fair value” number from a valuation expert and hints at why they think the shares are worth as much or more over the medium-long term, giving economically-minded investors a reason not to tender. 

The “Subject Company Position Statement” did not do that. 

3. Nissan Governance Outlook – Foggy Now, Sunny Later

This past week saw developments which put the Nissan Motor (7201 JP) – Renault SA (RNO FP) relationship on a better path.

There are interesting noises around the likely arrival of Jean-Dominique Senard on the board of Nissan which the French state won’t like (because they won’t be getting the pony they want) but which would ultimately serve Renault’s interests better. 

Renault and Nissan are conducting a joint investigation into the Renault-Nissan Alliance BV entity which Carlos Ghosn also chaired, and Renault has passed a dossier of Ghosn’s personal expenses borne by Renault and the Alliance to French investigators.

A trial balloon was floated in the Nikkei suggesting the French government had said to the Japanese government it was open to Renault selling some Nissan shares and perhaps the state could lower its stake in Renault. This was “categorically denied” by the French with some haste but the idea of forming a holding company was categorically denied as acceptable by the French just under a year ago. Things have changed.

Governance changes are afoot, with a steady flow of developments likely coming in March, April, May, and June.

Below, a discussion of what the board looks like, will look like, and could look like in/after June and a discussion of the structure of possible capital changes.

4. CyberAgent: Tumbling Dice

Source: Japan Analytics

TUMBLING DICE – After ZOZO (3092 JP) (-52%) and Mercari (4385 JP) (-50%), CyberAgent (4751 JP) is the worst-performing large-cap Internet stock in Japan over the last seven months.  The company is the sector’s leading foreigner-held stock with over 48% (60%+ of the float) held by institutional investors such as Baillie Gifford (11.9%), JP Morgan AM (6.9%), Tybourne Capital (5.1%) and Blackrock Japan (5.0%). Having outperformed the sector and the market annually over the last nine years by 38% and 25%, respectively, over the seven months since the stock peaked in terms of our Relative Price Score on 13th July, CyberAgent shares have declined by 56%, underperforming the market by 48% and the sector by 37%.

PASSIVE PERILS – We will discuss the ‘perils ‘ of Passive TV in the DETAIL below. However, CyberAgent is yet another good example of the ‘perils’ of passive investing. On September 5th Nikkei Inc. announced that CyberAgent would replace Furukawa (5715 JP) in the Nikkei 225 index, with the inclusion occurring on October 1st. Since the ¥6050 intraday peak of the week before inclusion in the index, the shares have declined by 49% in 90 trading days.   

SUMMARY – CyberAgent’s business has three ‘pillars’, internet advertising, mobile gaming software, and media. The latter now includes the linear free-to-view AbemaTV business, which helped drive the share price to a post-listing high of ¥6930 in July 2018. Since then, business conditions for two of these ‘pillars’ have degraded significantly,  while the fledgeling TV business remains in ‘up-front’ investment mode. To cap what will be a turbulent year for CyberAgent, the company is moving into a new head office building in Shibuya called ‘Abema Towers‘ in March. We shall refrain from making any analogies to the Skyscraper Index. 

VISION SHIFT? – In previous years, CyberAgent had a clear vision statement – ‘To create the 21st century’s leading company’. The company’s recent performance has led to a change of tone, and CyberAgent is now rather more modestly just ‘Aiming to be a company with medium to long-term supporters’.  In the vein of the lyrics from the best song on the best Rolling Stones album, Exile on Main Street, the business has recently been at ‘all sixes and sevens and nines’. In the search for new ‘supporters’, we encourage CyberAgent to just ‘keep on rolling’, letting the dice fall where they may. 

5. Itochu and Descente: Gloves Off

Descente Ltd (8114 JP) issued a 13-page statement yesterday in response to Itochu Corp’s (8001 JP) tender offer to raise its stake in the sports firm from 30.44% to 40%.

In brief: its gloves off and Descente is limbering up for a fight for its independence – an independence it has not had since the 1990s.

Itochu insists it is the answer to Descente’s weaknesses but Descente is having none of it, arguing that it is already implementing the strategies proposed by Itochu.

Descente’s statement of intent was followed by Descente’s labour union, All Descente, supporting Descente, saying Itochu’s bid was contrary to Descente’s long-term interests.

Descente may well hope for an MBO as a way out, and Itochu may want a third party to acquire Descente as Travis Lundy suggests. Either way, a quick resolution is needed if Descente is to take advantage of the upcoming sports boom in Japan.

The question remains as to whether Descente would benefit from independence or control by Itochu. To date, it is arguable that the very tension between Itochu’s demand for faster growth and higher profits and, on the other hand, Descente’s reining in of this demand in favour of long-term brand cultivation that has led to Descente’s recent growth path. Without this delicate balance of tensions, the whole edifice may sag.