Brief Japan: Mercari (4385) A Great Business but over Priced and more

In this briefing:

1. Mercari (4385) A Great Business but over Priced
2. TRADE IDEA – Amorepacific Stub (002790 KS): Buyback Helped, Close the Trade
3. Murakami-San Goes Hostile on Kosaido (7868 JP), Overbids Bain’s “Final” Offer
4. Starboard Value. The Game Changing Activist Investor That Doesn’t Take No For An Answer.
5. Descente Tamed, Itochu Delicacy Required And Investors Can Probably Wait

1. Mercari (4385) A Great Business but over Priced

Established in 2013, this has been a huge success story in Japan. The company operates the largest C to C mobile app that allows customers to trade in second hand goods with each other. Growth has been phenomenal. In the year to 6/15, Mercari had revenue of Y4.2bn, three years later (6/18) this had risen to Y35.7bn. This growth carries on, first half revenue this year to December 2018 rose 45% to Y23.7bn. It has begun an operation in the US, currently loss making, and has just introduced “Merpay”, a prepaid card incorporated into one’s mobile phone along the lines of Suica that allows users to purchase goods and pay bills. Funds can be deposited following a sale on Mercari’s site or transferred from a bank. Revenue will probably continue to grow at a rapid pace and whilst there are some that will jump on board, it is impossible to come up with any sensible valuation that can really justify a purchase here. There is no p.e.r. and the company will be loss making for the next couple of years. Its market cap of Y440bn means that it is trading on perhaps 6x 6/20 sales. On top of this, there are risks with regards to the viability of its US operation. Management appear to be aware to this and have set certain time limits for a turn around. There are many BUYS out on this name, thematically it has much going for it, but the valuation leaves us cold.

2. TRADE IDEA – Amorepacific Stub (002790 KS): Buyback Helped, Close the Trade

In my original insight on January 15, 2019 TRADE IDEA: Amorepacific (002790 KS) Stub: A Beautiful Opportunity, I proposed setting up a stub trade to profit from the mis-priced stub business of Amorepacific that was trading at its widest discount to NAV in at least three years. During the 65 calendar days that followed, Amorepacific Group (002790 KS) has gained 7.3% and the outperformed Amorepacific Corp (090430 KS) by 2.84%. The trade has reverted to average levels in a period of about two months and in this insight I will outline why I think the trade is over.

In this insight I will discuss:

• Performance of ALL my recommended stub trades
• a post-trade analysis on the Amorepacific stub

3. Murakami-San Goes Hostile on Kosaido (7868 JP), Overbids Bain’s “Final” Offer

I should have seen this coming. The asset is juicy enough, and they have a large enough stake, and the company is small enough, that this is an easy trade to do if you can get the funding. It makes eminent sense to be able to put the money down and go for it. 

I have covered this minor disaster of an MBO (Management BuyOut) of Kosaido Co Ltd (7868 JP) since it was launched, with the original question of what one could do (other than refuse). Famed/notorious Japanese activist Yoshiaki Murakami and his associated companies started buying in and then the stock quickly cleared the Bain Capital Japan vehicle’s bid price. The deal was extended, then the Bain bid was raised to ¥700/share last week with the minimum threshold set at 50.01% not 66.67% but still the shares had not traded that low, and did not following the news. But Bain played chicken with Murakami and the market in its amended filing, including the words 「公開買付者は、本開買付条件の変更後の本公開買付価格を最終的なものとし、今後、本公開買付価格を一切変更しないことの決定をしております。」which roughly translates to “The Offeror, having changed the terms, has made This Tender Offer Price final, and from this point onward, has decided to absolutely not raise the Tender Offer Price.”

So now Murakami-san has launched a Tender Offer of his own. Murakami-affiliated entities Minami Aoyama Fudosan KK and Reno KK have launched a Tender Offer at ¥750/share to buy a minimum of 9,100,900 shares and a maximum of all remaining shares. The entities currently own 3,355,900 shares (13.47%) between them – up from 11.71% reported up through yesterday [as noted in yesterday’s insight, it looked likely from the volume and trading patterns prior to yesterday’s Large Shareholder Report that they had continued buying]. 

Buying a minimum of 9,100,900 shares at ¥750/share should be easier for Murakami-san’s bidding entity than buying a minimum of 12,456,800 shares (Bain Capital’s minimum threshold) at ¥700/share, but the Murakami TOB Tender Agent is Mita Securities, which is a lesser-known agent and it is possible that the main agent for the Bain tender (SMBC Securities) could make life difficult for its account holders.

The likelihood that Murakami-san doesn’t have his bid funded or won’t follow through is, in my eyes, effectively zero. Tender Offer announcements are vetted by both the Kanto Local Finance Bureau and the Stock Exchange. You know this has been in the works for a couple of weeks simply because of that aspect. But one of the two documents released today includes an explanation of the process Murakami-san’s companies have gone through to arrive at this bid, and that tells you it may have gone on longer.

So what next? The easy answer is there is now a put at ¥750/share. Unless there is not. Weirder things have happened.

Read on…

And now there is more below.

4. Starboard Value. The Game Changing Activist Investor That Doesn’t Take No For An Answer.

New York based activist investor firm Starboard Value has been intricately involved in shaping the  fortunes and futures of two high profile technology companies in recent years, Marvell and Mellanox. The firm first to prominence some five years ago when they were the first among their peers to accomplish the extraordinary feat of replacing the CEO and entire board of Fortune 500 restaurant group Darden, while holding less than 10% of the company’s shares.

In the wake of their Darden coup, the firm has gone from strength to strength. To date the firm has taken positions in a total of 105 publicly listed companies, replacing or adding some 211 directors on over 60 corporate boards.

On March 7’th 2019, Starboard Value announced the acquisition of a 4% stake in US comms infrastructure firm Zayo. In the intervening period, Zayo’s share price has risen by 14% as canny investors scramble to partake in the goodness that will surely be extracted by the activist firm that simply doesn’t take no for an answer. 

5. Descente Tamed, Itochu Delicacy Required And Investors Can Probably Wait

I started writing this over the weekend after the results of the Itochu Corp (8001 JP) Tender Offer for 9.56% of Descente Ltd (8114 JP) were announced late Friday. 

Itochu planned on buying 7.21 million shares out of the 75.37mm shares which bear voting rights (as of the commencement of the Tender), and 15,115,148mm shares were tendered, which led to a pro-ration rate of 47.7% which was 0.3% below my the middle of my “wide range” expected pro-ration rate of 42-54% and 0.7% beyond the 44-47% tighter range discussed in Descente Descended and Itochu Angle Is More Hostile of 28 February.

Two more central ideas were discussed in that piece:

1. The hostility shown by Descente management during the Tender Offer had led Itochu to abandon discussions about post-tender management until after the Tender Offer was completed. Both sides indicated a willingness to pick up where things had left off – at Descente’s request – but Descente needed to stew a bit.
2. The revelation by ANTA Sports in an interview with the CEO in the Nikkei in late February that ANTA supported Itochu meant that the likelihood of Itochu NOT having enough votes to put through its own slate of directors was almost zero. At a combined 47.0% of post-Tender voting rights, if 94% or less of shares were to vote, it would mean Itochu could get the majority of over 50% and determine the entire slate of directors themselves. If there was another shareholder holding a couple of percent which supported Itochu, it would be a done deal even if everyone voted. And that 2-3% existed.

So… the threat that Itochu would hold an EGM to seat new directors to oblige a stronger course for management was a very strong probability. Management who was rabidly opposed to Itochu owning the stake could not very well bow down in front of Itochu post-tender just to save its own hide – not after the employee union and the OB group came out against. President Ishimoto had effectively put himself in an untenable position unless a miracle occurred because Itochu could not legally walk away from its offer, and Ishimoto-san was bad-mouthing Itochu even as they were negotiating during the Tender Offer Period. 

It was not, therefore, any surprise that President Ishimoto would step down. The surprise for me was that the news he would go came out as talks commenced over the weekend (but did not “bridge the gap” as the Nikkei reported), before we got to the first business day post-results. 

Talks apparently continue with no resolution, and the media reports offer no hint as to what the issues might be.