Category Archives: Opportunities

Special situation “Quickie”: Flughafen Wien AG (ISIN AT0000911805) partial Tender offer

Just by chance I looked at Flughafen Wien these days where since a few weeks an interesting situation is playing out.

Although Flughafen Wien is owned 50% by the Government and cannot be taken over, an Australian based Infrastructure fund called IFM made a partial tender offer for up to 29,9% of the shares.

Initially, IFM offered 80 EUR per share with a minimum threshold of 20% acceptance.

A few days ago, after pressure from soem shareholders, IFM increased the offer to 82 EUR and waived the 20% minimum threshold.

If I understood correctly, the new final date to tender the shares is December 18th. The money then is being paid within 3 working days, so before year end according to the official offer.

IFM seems to have secured around 12% from 2 funds already (Silchester, Kairos).

IFM seems to be a “reputable” investor, there seems to be no relevant operational risks for the offer from a technical point of view as far as I can tell.

However, the stock doesn’t trade at 82 EUR but rather at around 79,20 EUR per share:

This implies that investors expect 2 things

a) that more than 29,9% will be offered
b) and that the share price will fall after the offer below the offer price

Now we can play around a little bit to see if this is something worth betting on. We could start for instance assuming that the stock directly drops to 70 EUR after the offer expires.

Then we can calculate at the current price of 79,2 EUR an implicit or “break even” acceptance ratio:

79,20 = X*82 + (1-x)*70 = 76,67%.

So if 76,67% of the offers get accepted, the remaining not accepted stocks can drop to 70 EUR before one is making a loss on the transaction.

If all tendered shares are accepted, the max. profit would be 2,8 EUR per share or +3,54% for a period of 2 weeks.

Worst case: All minority shareholders tender (The Austrian government will definitely not tender…), then the lowest possible acceptance rate is 29,9/50 = 59,8% and the price falls directly to the value before the ofer (~61,50 EUR). Then the maximum loss per share would be -5,44 EUR or -7,4%.. At a more realistic drop to 70 EUR, the downside would be 2,02 EUR or -2,6%. This would be a positive expected value if the assumption of 70 EUR as a post tender price is correct.

I do think that this is a nice liltle side bet, so I will invest 2,5% of the portfolio at 79,25% into this little “special situation” with a time horizon of 2 weeks

One important note here: There is clearly a downside here and I would not recommend this to anyone who doesn’t regularily do such things, as the “single bet” might be not super attractive. However if one runs such bets on a continous basis (as I do, like MAN, Sky etc.), over time one will make money even with a few loosing trades.

E.ON Spin off plan – The final “Hail Mary” pass ?

According to Wikipedia, a “Hail Mary pass” is described as following

Originally meaning any sort of desperation play, a “Hail Mary” gradually came to denote a long, low-probability pass attempted at the end of a half when a team is too far from the end zone to execute a more conventional play, and that it took divine intervention for it to happen.

I have covered E.ON already a couple of times in the blog, with a first analysis, followed by a deeper look into their Nuclear decommissioning liabilites.

Finally, just a few weeks ago when the “spun” their Q3 results, I commented that E.ON is one of the prime examples of Management/Shareholder “disconnect”.

Now on Sunday, out of the blue, E.on came forward with an announcement to split themselves up into 2 parts, a “Renewable energy & Grid part” and a “Conventional part” including oil upstream nuclear power etc.

This was big news in Germany with a lot of press coverage and let to a nice “Bounce” in the share price on Monday:

Before I make some comments on the proposal, I found it quite interesting that another part of the press release had been pretty much ignored:

Fourth-quarter impairment charges of about €4.5 billion anticipated due to altered market environment
Outlook for 2014 EBITDA and underlying net income confirmed

Further down the “explain” it the following way:

Altered market environment necessitates in impairment charges

As part of the process of preparing the annual financial statements and the new medium-term plan, the E.ON Board of Management recently tested the Group’s assets for impairment. Beyond the roughly €700 million in impairment charges already disclosed in the first three-quarters, E.ON expects to record additional impairment charges of about €4.5 billion in 2014, primarily on its operations in Southern Europe and on generation assets. Although not cash-effective, the impairment charges will result in E.ON reporting substantial negative net income. However, E.ON expressly reaffirmed its forecast for full-year 2014 EBITDA and underlying net income.

Once again, EBITDA, which is relevant for the CEO bonus looks great, unfortunately shareholder’s equity will be further reduced by a cool 4,5 bn EUR, but the capital market either seemed to have not noticed this “small detail” or they are so enthusiastic about the spin-off.

The “Spin-off”

Spin-offs are generally considered interesting “special situation” investments. The underlying theory is the following: Many times, the capital markets seem not be able to price companies correctly, if the company either runs very different business lines or some of the business lines are performing badly. “Spinning off” underperforming divisions to shareholders then can unlock value because the capital market will value each part correctly and in sum this should be higher than the conglomerate. A secondary effect of spin offs is often that previously underperforming divisions freed from their previous owners often develop a unexpected positive dynamic, especially if the incentives for the management of the spin-off are correctly aligned.

Before moving into more details, let’s look once again in the original press release of EON:

The first step of the spinoff will involve E.ON transferring a majority of New Company’s capital stock to its shareholders, with the result that New Company will be deconsolidated. E.ON intends—over the medium term and in a way that puts minimum pressure on the stock price—to sell the shares of its remaining minority. This will enhance E.ON’s financial flexibility for future growth investments.

Why does EON only spin-off part of the “bad ship” ? Well, I guess the reason is simply that “E.On new” does not have enough capital to grow the renewable business on its own. It need the proceeds from the retained part in order to fund future investment.

In my opinion, this already lowers my enthusiasm for the deal, as the two parts are clearly not able to exist independently without an external capital injection. Economically, the sale of the remaining part is equivalent to a “backdoor capital injection”. This will clearly not be beneficial for the valuation of the “bad ship” part after the spin-off und limit the upside potential for some time.

Let’s look at the proposed structure of the spin-off next:

I didn’t listen to the Concall, but the slides for the new strategy can be found here. Before jumping into the presentation, let’s look what I have written almost 2 years ago:

– Nuclear is not coming back, that was more than 1 bn of EBIT which is missing going forward
– 60% of sales are actually energy trading revenues. The results of this “sector” look quite volatile
– they show huge swings in the net results of financial derivatives. In 2010 for instance, E.on showed a net gain of 2.5 bn against a 2011 loss of -1 bn .
– E.on has around 17 bn liabilities for nuclear waste etc. This liability is hard to analyse and could be grossly over-/understated. In the notes they state that the discount rate they use is 5.2%. I think this is a rather high rate. Combined with the long duration of those liabilities, there could lurk a potential multi billion hole there as well as in the 14 bn pension liabilities
– another “whopper” are the 325 bn EUR (yes that’s three hundred twenty five billion) of outstanding fossil fuel purchase commitments. Disclosure is rather limited here but I guess this is one of the big problem areas where they have locked in Russian NatGas purchases at too high rates

This is the plan from page 3 of the presentation:

E.on:
+ Renewables
+ Distribution/grid Germany / EU
+ “customer solutions” (whatever that means)
+ Turkey

NewCo (Bad ship):
– Generation (fossil, Nuclear)
– Hydro (why is this not renewable ?)
– E&P
– Global commodities
– Russia
– Brazil

So comparing my “problem list” from back then clearly shows, that ALL PROBLEMATIC areas would go to New Co.

Does this create value ?

I think some smart investment bankers have compiled valuations of utilities across Europe. This is a quickly compiled list of some utility and “utility like” companies across Western Europe:

Name Mkt Cap (EUR) EV/TTM EBITDA
     
ELIA SYSTEM OPERATOR SA/NV 2.443 12,3
RED ELECTRICA CORPORACION SA 9.973 11,5
NATIONAL GRID PLC 44.385 11,1
EDP RENOVAVEIS SA 4.726 10,7
SNAM SPA 14.196 9,9
EDP-ENERGIAS DE PORTUGAL SA 12.754 9,7
ENEL GREEN POWER SPA 9.135 9,6
A2A SPA 2.672 9,5
RWE AG 17.672 8,3
IREN SPA 1.221 8,0
GAS NATURAL SDG SA 22.771 7,8
E.ON SE 30.405 7,8
ACEA SPA 1.876 7,7
ENDESA SA 16.760 7,6
IBERDROLA SA 37.017 7,0
ENEL SPA 36.372 6,7
ACCIONA SA 3.427 6,3
EDF 45.477 4,9
GDF SUEZ 48.498 4,0

It is pretty easy to see that anything which sounds like “renewable” and/or “grid” trades at double-digit EV/EBITDAs whereas all the “integrated players” trade at medium to low single digit EV/EBITDA multiples.

So the idea behind this the proposed split seems to be clearly driven by the hope that the grid/renewable part will be valued at double-digit EV/EBITDA and the rest remain in the “integrated” valuation range.

The problem is of course, if the “bad ship” will actually trade at an integrated utility” multiple or not. My guess is: In the beginning, it will most likely not. I could also hardly imagine that the government will let the “bad ship” pay high dividends for a longer time because they will know that this is money which should be held for the nuclear liabilities.

Other considerations:

Looking into the past, E.ON has been spectacularly bad at reacting to changes and timing its strategic investment decision. They bought into Brazil right before their partner Batista went bankrupt, they missed the first 10 years of renewables etc etc.

If history is any guide, then the timing of the proposed split could indicate that maybe we have seen the worst and better times for conventional power generation lie ahead

It is also interesting that they said nothing about who will be running the two companies. Will the old guys remain at E.On ? This would be clearly negative

There could be some roadblocks on the way. The current German energy minister Gabriel seems to like the transaction (or doesn’ understand it) but there could be more resistance building up if people understand that the nuclear liabilities are dramatically under reserved. Also the pensioners of the “bad ship” could try to block the deal as having claims against the bad ship is clearly les valuable than for “E.On new”.

Summary & evaluation

The proposed split/spin-off of E.On was clearly a surprise. So far, the spin has worked and the stock market has liked this move. E.ON has outperformed the DAX and RWE by 7% since the announcement, which is a lot considering that they announced an unexpected 4,5 bn loss at the same time.

For me, E.On currently is clearly not a buy. On one hand, there is the risk that the spin-off does not work. Secondly, it is no real spin-off and depends on people actually buying the minority stake. Thirdly, just splitting the company in my opinion will not increase the value. If the same guys remain who made all the past mistakes, why should they suddenly be able to turn things around ?

On the positive side, the grid/renewable part could clearly be a take-over target, the bad ship however looks pretty toxic. For me, E.ON is still too much of a black box and without management change and better incentives, I could not see that much more upside. Still, I will keep them on my watch list as the prospoctus for the “Bad ship” IPO could be really interesting.

Coming back to the beginning of the post: Yes, E.ON has just thrown their final “Hail Mary” pass, but at the moment there is no way to tell if the ball even makes it to the end zone….

Short cuts: Sky Deutschland, Rhoen Klinikum, Bilfinger, Vossloh

Sky Deutschland

A short quiz: Can you spot the day when the 6,75 EUR offer expired ?

My initial strategy obviously didn’t work out. Now however I am wondering why I didn’t short Sky Deutschland instead before the offer expired. It seems to be clear now that the price didn’t move above 6,75 EUR during the offer period, because most people attach a fundamental value of less than 6,75 EUR to the shares. That would have been second level thinking, but I missed it.

I read somewhere that you should only sell a stock from a portfolio if you are ready to short it. That would have been the best approach here.

Rhoen Klinikum

Looking at the chart, my decision to take a profit at 23,15 EUR looks stupid:

The mechanics of the current “listed transferable tender rights” are the following: The less people who want to actually sell there shares, the lower the price of the tender rights and the higher the share price. As for now, it seems that not so many people want to sell. I have to confess that I got nervous when the price of Rhoen dropped after I bought on the first day ex rights.

In the future, I think it makes sense to wait longer and see how these special situation plays out. I think I waisted some “intrinsic optionality” by taking the small profit much too early.

Bilfinger

In August I looked at Bilfinger for the first time. My arguments against an investment back then were the following:

– some of the many acquisitions could lead to further write downs, especially if a new CEO comes in and goes for the “kitchen sink” approach
– especially the energy business has some structural problems
– fundamentally the company is cheap but not super cheap
– often, when the bad news start to hit, the really bad news only comes out later like for instance Royal Imtech, which was in a very similar business. I don’t think that we will see actual fraud issues at Bilfinger, but who knows ?

Yesterday, Bilfinger released Q3 numbers.

For me, it was therefore no big surprise that they had to write down in total of ~230 mn EUR. The market however seems to have been expecting other things as the extreme drop in the share price shows:

I think Bilfinger is now approaching the “very cheap” area and I will look at them a little closer in the next weeks.

Vossloh

Vossloh, another potential “turn around” story also released Q3 numbers a few days ago. Similar to Bilfinger, investors seemed to have been spooked by the numbers.

In my opinion, two issues might have irritated investors:

- new orders in Q3 were very weak (new orders in the first 6 months were very strong)
– management basically said that a “full” recovery can only be expected for 2017

Interestingly, the whole press release had a very negative tone, they make no attempt to strip out the one offs etc. etc. Maybe it is coincidence, but if I would want to talk the stock down in order to maybe buy the company cheaply, I would do it exactly that way…..

This is what I said in September:

Looking at the chart, this might not be unrealistic as the stock price is still in free fall and any “technical” support levels would be somewhere around 39 EUR per share if one would be into chart analysis. In any of those “falling knife” cases, patience is essential anyway.

Vossloh will therefore be “only” on my watch list with a limit of 42 EUR where I would start to buy if no adverse developments arise.

So we are now very close to my potential entry point. I will watch this as closely as Bilfinger. Both for Bilfinger and Vossloh, Iit will be interesting to see if there will be some year end tax loss selling.

Special situation: Citizens Financial Group (CFG) – Another interesting “forced IPO” ?

Summary:
The recently IPOed US bank Citizens Financial Group looks like a typical “forced IPO” from a troubled regulated financial conglomerate, similar to Voya & NN Group /ING. The current valuation shortly after the IPO would imply a decent upside (~50%) even if Citizens only manages to become an “average” US regional bank.

Citizen Financial Group went public on September 24th . The story of the US-based lender is similar to the NN Group IPO in which I have already invested.

In this case, parent company Royal Bank of Scotland (RBS), which has been bailed out by the UK government following the financial crisis, is forced to concentrate on its UK business. RBS then decided to ged rid of its US business via an IPO instead of a direct sale to another buyer. It seems to be that there were quite some interested buyers.

Very similar to ING and NN Group, RBS has time until 2016 to sell down the whole stake. That this is not easy was clearly shown as RBS had to price the IPO at 21,50 USD per share, below the inital range of 23-25 USD.

Compared to other regional US banks, the valuation based on book value (and tangible book value) looks attractive:

Name Price/ Book Price/ Tangible Book ROE Current
CITIZENS FINANCIAL GROUP 0,65 1,00 -15,82
REGIONS FINANCIAL CORP 0,79 1,14 7,19
ZIONS BANCORPORATION 0,87 1,05 5,66
SUNTRUST BANKS INC 0,91 1,41 6,38
HUDSON CITY BANCORP INC 0,98 1,01 3,92
KEYCORP 1,07 1,21 8,87
COMERICA INC 1,08 1,19 7,56
FIFTH THIRD BANCORP 1,12 1,35 13,39
NEW YORK COMMUNITY BANCORP 1,17 2,02 8,35
BB&T CORP 1,20 1,82 8,00
HUNTINGTON BANCSHARES INC 1,29 1,44 10,92
M & T BANK CORP 1,37 2,02 10,76
FIRST REPUBLIC BANK/CA 1,73 1,84 13,66
CULLEN/FROST BANKERS INC 1,82 2,43 9,66
SVB FINANCIAL GROUP 1,98 1,98 11,37
SIGNATURE BANK 2,43 2,43 13,26
Average 1,28 1,58 7,70

If we just assume an average multiple, there would be a 50% upside based on tangible book and a 100% upside based on total book value. The problem is of course: in order to reach this multiple you have to earn the average return on equity.

Looking into the IPO filings, we can clearly see that things didn’t work that well in the past. “Normalized” earnings were around 650 mn USD in the past or ~2-3% ROE which clearly would not justify a valuation at book value. Due to the low-interest rate environment, revenues decreased and in 2013, most likely to prepare the IPO, they made a massive goodwill impairment of around 4 bn USD in 2013.

Banks as investments

As there is no shortage of material against banking and the associated risks and evil spirit, I want to outline instead what I do like about banking and this situation:

- Traditional banking in my opinion is a solid and good business if run conservatively and responsibly. Many value investors would never invest in a bank, but I have no problem with this (Mr. Buffet neither as we all know)
– Traditional banking (and Citizens is a traditional bank) profits from higher interest rates. It is easier to put margins on the loan if the nominal rate is higher. So owning a bank is quite a good interest rate hedge
– mid size banks used to have a disadvantage over the large banks, especially with regard to funding. With all the new regulation aimed at the mega banks, I think there is a much better “equal level” playing field. I like good & cheap mid-sized banks.
– I could imagine that being on its own feet, Citizen’s management can react better to local challenges and develop its business than being part of a nationalized UK banking group under constant pressure. The “spin-off effect” could be at work here. Many of the directors have purchased shares directly after the IPO. The CEO owns shares in the amount of 6 mn USD.
– Citizen does have scale on a regional level which in my opinion is quite important (see page 152 of the S1 document) in order to achieve good ROEs
– the region where they are active (North east, New England) had less issues with the housing bubble, so theoretically loan quality should be OK. Most of their business is by the way in so called “recourse states” which adds to the incentive of actually paying back personal loans

Stock overhang

RBS still owns ~66% after the IPO and a subsequent share repurchase. 2016 is not that far in the future and placing another 10 bn of shares will not be a walk in the park, but on the other hand a lot of this could be reflected already in the share price. For me it is always interesting to see when typically sell-side analysts apply a discount due to “stock overhang”. As an “intrinsic” value investor, those situations are one of the clearest situations for market inefficiencies as the intrinsic value of a company does not change because of this.

Similar to ING, I think RBS did sell the first part cheaply in order to then (hopefully) sell into positive momentum. ING for instance managed to sell Voya down from over 60% to now 32% within 1 year and the stock still outperformed the indices.

My assumption is that RBS will not sell below tangible book value which is around the current stock price. If they sell below, they will lose available capital at RBS and therefore weaken their capital base and ratios. So a scenario where RBS sells down to very low levels far below the IPO price is in my opinion not realistic.

Valuation

I am clearly not in the position to judge if CFG is an “above average” bank. However, I think one can attach a high probability to the outcome that CFG will be an average bank. The nice thing about this is that there is significant upside already to the “average case”.

Therefore I would make the following, simplified case:

I assume that there is a 50% probability that within 3 years, CFG will be an “average” bank and trade at an average valuation. Conservatively I ignore goodwill and assume a target price of 1,6x current tangible book value in 3 years which would be ~ 40 USD per share.

To keep things simple, I further assume that there is a 25% chance that they will do really well and a 25% chance that they screw up. In the downside case, I will assume a 50% loss, in the upside case I will assume a valuation at 2x tangible book or around 50 USD.

So my “expected” value in 3 years time would be (0,5*40)+(0,25*11,5)+(0,25*50)= 35,4 USD. Based on the current price of around 22,80 USD, this gives me a potential annual return of ~15,4% which looks attractive to me for such a “special situation” investment.

Summary:

Citizens Financial “forced IPO” looks very similar to ING’s NN Group and Voya IPOs. I think this could be very attractive as even the assumption of Citizens becoming an “average ROE US regional bank” has significant upside. Despite or because of the assumed “stock overhang”, the mid-term risk/relationship looks attractive although, but similar to NN Group, one should not expect a quick win here.

I will therefore invest 2,5% of the portfolio into Citizens at current prices of around 22,80 USD.

P.S.: This will be my first US stock since a long time. I don’t have anything against US stocks, but often I do not find any kind of “edge”. In this case, I do have the feeling that banks are still highly unpopular as investments in general and that there is a good chance for some market inefficiency, even in the highly efficient US market.

Special situation quick check: Rhoen Klinikum (ISIN DE0007042301) – “Listed transferable tender rights”

Yesterday, Rhoen Klinikum released the details how they will buy back shares following the sale of most of their business to Fresenius (Rhoen was a very successful “busted M&A” special situation, previous posts can be found here)

They way they do it looks interesting and seems to be like a “reverse rights issue”. The instrument is called “Listed transferable tender right” and seems to work as follows:

- as of tomorrow, October 16th, each shareholder gets automatically one “tender right” per share
– those “tender rights” are traded separately at the stock exchange
– you need to have 21 tender rights in order to sell 10 shares
– the tender price is 25,18 per share
– the exercise period runs until November 12th, until then, the tender rights are traded
– already tendered shares will trade under a separate ISIN until November 14th
– the cash for tendered shares will be paid out on November 19th

As of today, the shares are trading at around 23,85 EUR. Following the logic of the subscription rights, one right should be worth

Edit: in the first version, I had the wrong formula. Thanks to a friendly reader, this is the correct formula:

(25,18-23,85)/((21/10)-1)= 1,21 EUR.

So tomorrow, the Rhoen shares should open (all other things equal) -1,21 EUR lower and the rights should trade at 1,21 EUR. Let’s see if there is a chance to find a little arbitrage here and there.

One strategy could be to buy the stock at the open, hoping that the “discount” will be eliminated quickly. A second one could be an arbitrage between the rights and the stocks. Finally, it could be worthwhile to look at the tendered shares as well.

Don’t ask me why they are doing it that way. I think it most likely optimizes the tax position of the large shareholders, especially for the founder Eugen Muench, who wanted to cash in his remaining 10%.

A final comment for clarification: No, this does not mean that Rhoen shares should trade at 25,18. The price chosen by Rhoen is relatively “arbitrary”, they could have used any other price as well.

Vossloh (DE0007667107) – another potentially interesting “Fallen Angel” with an activist angle ?

Vossloh AG is a mid-sized German company and calls itself “a leader in the rail infrastructure and rail technology”.

Looking at the stock chart we can clearly see that not everything is going well there:

Vossloh lost almost 50% from their peak 3 years ago. If we look at some profitability measures of the past 10 years we see an interesting pattern:

EPS Profit Margin ROE
30.12.2004 3,91 6,2% 18,5%
30.12.2005 3,08 4,8% 13,3%
29.12.2006 2,98 2,0% 5,7%
28.12.2007 4,26 7,0% 18,2%
30.12.2008 6,30 11,5% 31,1%
30.12.2009 6,57 7,5% 18,5%
30.12.2010 7,32 7,2% 19,0%
30.12.2011 4,32 4,7% 11,0%
28.12.2012 4,15 4,8% 12,4%
30.12.2013 1,00 1,1% 3,1%

Vossloh showed only little impact during the financial crisis but then results deteriorated. They showed a small profit for 2013, but for the first half-year 2014, they shocked everyone with an “Accounting Bloodbath”, showing a loss of ~12,20 EUR per share, wiping out all profits for the last 3 years and some more.

So what happened ?

This is a quote from the CEO letter of the 2010 annual report:

For the years ahead, we intend to accelerate our growth while sustaining the rate of profitability. It is especially in the international markets that we will be amplifying our presence and we will be scoring in particular with the new products. For 2011, we are targeting group sales of €1.4 billion and an EBIT above €160 million.

This is from the 2011 CEO letter, where profits already declined:

Dear Stockholders:
Following a series of very successful fiscal years marked by above-average growth rates Vossloh suffered setbacks in 2011. Contrary to our expectations, Group sales and earnings declined. The chief influencing factors were the slowdown in the progress of Chinese rail projects, which only became evident as the year proceeded, the suspension of shipments for a major project in Libya and, from the summer onward, weak demand in key European rail markets. Under these circumstances, the Rail Infrastructure division’s sales, which at around 65 percent of the Group’s continued to contribute the lion’s share of revenue, dropped for the first time in years, by some 13 percent. The sales shortfall at Vossloh Fastening Systems was especially severe at the Chinese location and could not be offset by business elsewhere. The Switch Systems unit also performed below expectations due to the military conflict in Libya, which prevented the planned extensive shipments to that country in 2011. In addition, in several European countries demand slackened and price pressure stepped up.

In 2012, the outlook for 2013 was not that good but still “solid”:

However again, they disappointed, as stated in the 2013 annual report:

There were two significant reasons for the downward development in 2013: For one, we were confronted with extensive non-recurring charges that were due to expenses for the final out-of-court settlement of a dispute in the Transportation division in an amount and extent that was not to be expected. For another, there were additional expenses in this division in connection with the processing of several projects, which entailed additional and unexpected losses of earnings. In contrast, the Rail Infrastructure division performed significantly better than expected, and revenues as well as the result increased significantly. The Fastening Systems business unit primarily contributed to this positive development.

Not too surprisingly, both, the CEO and COO stepped down in February making way for a new management. Normally, CEO hate to step down even after management disasters so what happened ?

The activist angle:

Vossloh had been more or less controlled by the founding Vossloh family for more than 100 years although they only owned around 34%. Since 2011 though, another strong shareholder emerged: Hermann Thiele, the owner of German unlisted company Knorr Bremse who had built up a stake of close to 30 % from 2011 to 2013.

Although Thiele is not widely known and keeps a low profile, he is one of the most succesful German entrepreneurs of the last 30 years. He bought Knorr Bremse in 1985 as one would call it a “leveraged management buyout” and then grew the company by a factor of 15-20 times over the last 30 years. Despite being a non-listed company, Knorr Bremse issues a relatively good annual report where onr can see that the company is spectacularly profitable. Net margins of 8-9% and cash adjusted ROICs of more than 30% are clearly an indicator that this guy seems to know what he is doing. Besides that, depending on how you value Knorr Bremse, he is also one of the richest persons in Germany.

A little side story: World famous BMW AG once was the engine subdivision of Knorr Bremse until 1922 when it was sold to an investor as they didn’t find the engine business interesting enough……

In 2013, he finally succeeded in being elected as boss of the supervisory board against the explicit wish of the founding family. The founding family finally sold most of their shares in late 2013. It was him who kicked out the old management and brought in 2 new guys, among them the new CEO Hans Schabert who used to run the rail operations of Siemens.

In one of Thiele’s rare interviews in 2013 he stated that Vossloh is his private investment. Although he likes the business, he doesn’t want to take full control and leave Vossloh listed.

As a supplier to the rail industry, he knows the sector pretty well. I could imagine that long-term this might help Vossloh to get back on track. However I do not believe that he will remain a minority shareholder for ever. I do think that sooner or later he will try to take control. There would be clearly synergies between Knorr Bremse and Vossloh as both have the same clients and Knorr is even a supplier to Vossloh’s locomotive unit.

The 6 months 2014 “accounting massacre”

If you ever want to see a “how book as many losses as possible” financial report then look at the recent 6 month report from Vossloh. The new management wasted no time and did not even wait until year-end in order to write down everything they could.

Even in the investor presentation, they don’t make the slightest attempt to normalize the result.

Digging deeper into the report, you will find among others:

- goodwill write offs
– inventory write downs
– extra provisions against “risks”
– and even a charge because they did an early retirement of a higher coupon debt facility, which is clearly earnings accretive in the future.

In their outlook the state that one can expect some more losses in 2014 but from 2015 on Vossloh will be profitable again. But they did not specifc how profitable. Operationally they made already some significant changes. So overall this looks a little bit similar to the Van Lanschot story. The new CEO (with the support of the Supervisory Board) has written off whatever he could in order to show increasing profits going forward.

However there could also be a problem here. At some point in time, Thiele could decide that he doesn’t want to share the upside of a turn-around with the other shareholders and try to take Vossloh private as cheaply as possible. Other than Cevian at Bilfinger, Thiel has no track record with capital markets and many “old school” German business tycoons do not care very much about minority shareholders. This is clearly a risk to be considered

What could be a “turned around” Vossloh be worth ?

This is an overview of average margins (10/15 Years) of Vossloh and its 3 listed European “pure play” competitors:

Avg NI Margin  
  10 Y 15 Y
Vossloh 5,67% 5,19%
CAF 5,40% 6,46%
Faiveley 6,50% 5,00%
Ansaldo 5,98% n.a.

Overall, I would say a 5,5% net profit margin on average is not unrealistic. Based on 2013 1.325 mn sales and assuming no growth, this could mean that Vossloh at some point in the future makes ~ 73 mn EUR profit or ~5,5 EUR per share If we assume a 12-15 P/E range, this would mean that a target share price of 66-82 EUR would be realistic.

Based on today’s price of ~49 EUR this would mean a potential upside of 35-68%. However one should assume that this turn-around needs at least 3 years. For a turn around, I personally would require a higher return than for a normal “boring” value stock as there is clearly a risk that the turnaround does not work out as planned.

If I assume a target return of 20% p.a., i would need to be sure that the price of Vossloh is in 3 years at around 85 EUR. This is clearly at the very upper end of my target range. So I would either need to have more aggressive assumptions or I would need a lower entry price. As a value investor, I would not want to bet on growth or on a shorter time frame for the turn around, so the only alternative is to wait for a lower entry price.

Taking the midpoint of my range from above at 74, I would be a buyer at ~42 EUR per share but not before.

How does this compare to the Bilfinger case ?

A few weeks ago, I was looking at a similar case, Bilfinger. Similar to Vossloh, an activist investor (Cevian) managed to get rid of the CEO and tries to turn around the company after mutliple earnings disappointments.

At a high level comparison I like Vossloh’s underlying business better. Bilfinger clearly has some structural issues especially with its power business where the underlying market (electrictiy) is undergoing a big fundamental change whereas the railway business to me seems fundamentally intact. On the other hand, Cevian as “activist” has a very good reputation and is easier to “handicap”. They will most likely treat minority shareholders fairly and do some kind of spin off etc. So the risk of getting screwed by the activist is lower.

In a dirct comparison however I would prefer the “activist risk” at Vossloh against the fundamental issues at Bilfinger. Additionally, the real “accounting bloodbath” at Bilfinger hasn’t happened yet.

Summary:

In general I think Vossloh could be an interesting turn around story, especially considering the involvement of German self-made billionaire Hermann Thiele. I do like the industry better than for instance Bilfinger. It is clearly cyclical but I don’t see any structural issues. On the other hand, the current price is too high with regard what I would expect for such a relatively high risk “turn around” investment. The “Mean reversion potential” at the current price is not high enough, I would need a ~20% lower share price to justify an investment.

Looking at the chart, this might not be unrealistic as the stock price is still in free fall and any “technical” support levels would be somewhere around 39 EUR per share if one would be into chart analysis. In any of those “falling knife” cases, patience is essential anyway.

Vossloh will therefore be “only” on my watch list with a limit of 42 EUR where I would start to buy if no adverse developments arise. Additionally I will need to check Vossloh against Alstom once

AGEAS (ISIN BE0974264930) – Potential litigation play ?

The company:

Ageas is a Belgium based insurance company and formerly known as “Fortis”, one of the biggest Eurpoean casualties of the financial crisis. Fortis, together with RBS and Santander tried to take over ABN Amro but especially Fortis then failed spectacularily and was saved by the Belgian Government and finally sliced and diced into Insurance and Banking, of which the banking part was sold to BNP Paribas.

Ageas itself is an interesting case, similar to NN Group, it is a strange collection of Belgium, UK, and Asian insurance companies plus some weird stuff at corporate level, resulting from the quite ugly split of a combined group into two separate businesses. However, a lot of the ugly stuff has already been cleared over the last few years and Ageas was looking like an almost “Normal” insurance company

The litigation

A few weeks ago, a Dutch court decided that Ageas is liable for misinforming Fortis shareholders in 2008:

The Amsterdam Appeals Court ruled that Fortis is liable for misleading investors by saying the firm was “financially stronger than ever” after a government bailout on Sept. 28, 2008, only to be replaced by a break-up plan five days later.

and further down:

Ageas should be able to meet a worst-case liability of 2.5 billion euros before taxes possibly stemming from the ruling, Matthias De Wit, a Brussels-based analyst at KBC, said in a note today. Still, potential indirect effects shouldn’t be ignored, he said.

Looking at the stockprice, we can estimate that the stock lost ~ 5 EUR per share:

With about 230 mn shares outstanding, the market seems to have implied ~ 1,1 bn EUR loss after tax. Ageas itself has provisioned around 130 mn EUR against this case.

Is this interesting ?

At the moment, it is hard to say. Ageas trades at ~0,62 times book value, which is relatively cheap. They are very active in repurchasing shares (sharecount decreased by -115 since 2011). I do like the insurance sector at the moment because its cheap and the problems (low interest rates etc.) are well known.

Insurance companies do have traditionally very good lawyers on their payroll and litigation is part of their business, so one can assume that they handle this very professionally. On the other hand, other than the CIR Spa case, there is no direct catalyst as the law suit can linger on quite some time.

Valuation wise, Ageas look similar to NN Group, actually, I could easily see those two Groups merging at some point in the future. My guess is that someone is maybe already working on the idea to form a strong Benelux players out of the available mid size companies (Delta lloyd, NN Group, Ageas, SNS).

Nevertheless, I do not think that AGEAS is a “Litigation play” at the moment, as I don’t have a good idea on the time line of the law suit. However it it looks like a pretty cheap insruance company with some upside potential, so I will keep it on my watchlist.

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