Monthly Archives: March 2014

MIFA AG (ISIN DE000A0B95Y8) – all that inventory and the supposedly largest bicycle company of the world

Disclosure: I do not have any interest in MIFA shares or bonds and I do not plan to invest, neither long nor short. This is a “for education purposes” analysis only..


MIFA is a German based manufacturer of bicycles. I had actually included them into the peer group when I looked at Accell, the Dutch bicycle company some time ago. The company went public in 2004. Its largest shareholders are the CEO (24%) and Carsten Maschmeyer, the billionaire former CEO of the controversial financial services company AWD.

A few days ago, they shocked their shareholders by sending out a press release which in my opinion is among the “all time greatest” press releases ever.


The headline was thee following:

DGAP-News: MIFA expands Management Board and announces prospective net loss for 2013

That doesn’t sound good but the highlights are within the release:

– Preliminary FY 2013 net loss of EUR 15 million

To put this in perspective, those are the accumulated earnings of MIFA since 2004:

MIFA Net income
2004 1,8
2005 1,7
2006 0,5
2007 -2,0
2008 1,2
2009 1,7
2010 0,4
2011 2,0
2012 -1,0
Total 6,3

So the loss is around 2,5 times their accumulated profits of their prior 9 years of operation. Not bad and shareholders didn’t seem to like that one:

Where it gets really interesting, is the explanation for the loss which really caught my interest:

 This net loss for the year is mainly attributable to a failure to meet sales revenue expectations during the 2013 financial year. Inventory positions were incorrectly booked in connection with the launch of a new accounting system in the second quarter 2013. The cost of materials was understated accordingly in the quarterly financial statements for the second and third quarters of 2013. As MIFA does not conduct inventory-taking during the course of the year, the company failed to identify the erroneous bookings until the preparation of the annual financial statements.

So what they are saying is: Sorry, we launched a new accounting system in Q2 2013 and screwed up our accounting for those last few quarters. This sounds unprofessional but rather innocent.

A quick attempt at some “forensic” accounting analysis:

Well, let’s have a quick look how this looks based on their own published numbers. If the cost of materials was the problem, we should easily see this in the share of material cost divided by sales. This is a table I have prepared over the last 15 quarters:


Cost of material against average Q
Q1 2010 71,3% -0,2%
Q2 2010 67,1% 1,5%
Q3 2010 63,6% -1,1%
Q4 2010 65,8% 6,1%
Q1 2011 74,3% 2,8%
Q2 2011 60,5% -5,1%
Q3 2011 69,8% 5,1%
Q4 2011 55,3% -4,4%
Q1 2012 71,3% 0,2%
Q2 2012 66,3% -0,7%
Q3 2012 68,3% -3,6%
Q4 2012 58,1% 1,7%
Q1 2013 69,0% -2,4%
Q2 2013 68,6% 2,9%
Q3 2013 57,2% -7,5%
avg Q1 71,5%  
avg Q2 65,6%  
avg Q3 64,7%  
avg Q4 59,7%

What I did is the following: I calculated the share of materials per quarter and then, as the bicycle business is cyclical, calculated averages per quarter. Then in a final step I subtracted the averages from the actual numbers to see the variation.

The table shows clearly, that variations of +/- 5% are not unusual. Indeed, Q3 2013 looks strange as the cost of material seems to be too low. But on the other hand, Q2 looks normal (material cost above average). So the “accounting software problem” seems to have kicked in only in Q3. However the impact of that problem is far from 15 mn EUR.

MIFA had around 20 mn “gross” sales. So if we assume that material costs would be average for Q3 at around 65%, then the impact of the new accounting system would have been around -1,5 mn EUR (pre tax). This is somehow less than the 15 mn loss (post tax) MIFA indicated.

So we can quickly summarize at this point: The new accounting system only explains around 1,5 mn EUR loss, not 15 mn.

Digging deeper: Inventory levels

So the question is: Where did the other 13,5 mn EUR loss come from ? Let’s have a quick look at their inventory levels.

Inventory/12 m sales vs 12 m ago
Q1 2010 43,7%  
Q2 2010 42,6%  
Q3 2010 40,9%  
Q4 2010 50,4%  
Q1 2011 56,4% 12,7%
Q2 2011 43,0% 0,4%
Q3 2011 39,1% -1,8%
Q4 2011 40,4% -10,0%
Q1 2012 57,8% 1,4%
Q2 2012 48,1% 5,1%
Q3 2012 53,4% 14,3%
Q4 2012 61,0% 20,6%
Q1 2013 77,7% 20,0%
Q2 2013 59,0% 10,9%
Q3 2013 64,2% 10,8%

This table shows per quarter the inventory level divided by 12 months trailing sales. Then in a second step, in order to eliminate the seasonal effect, I calculate the change per quarter from a year ago. As one can easily see, something seems to have changed in the second quarter 2012. Inventory levels went up and never came down. And just for reference: Accell manages to work with inventory levels of around 30% per year-end, half of what MIFA is showing.

What also seems to be a strange coincidence is the fact, that MIFA stopped to break down inventory in their 2013 quarterly reports. Before, they would split it out in finished but not sold products etc, whereas from Q1 2013 we only get one line for total inventory. A large inventory in my opinion is a big problem for a bicycle companies. Mostly, they renew their models annually. Full prices are only paid by customer in spring time, the later in the year the higher the discounts.Especially with Ebikes and their components, which improve a lot over the annual cycle, old stuff will require large discounts to sell them.

Finally a last look on the relationship actual sales vs. produced but not sold. Normally, due to the seasonality, MIFA would build up inventory (i.e. produce more than they sell) in Q4 and Q1 and then sell more than they produce in spring/summer (Q2 and Q3).

Total production Sales Unsold products
Q4 2011 11.435 7172 4.263
Q1 2012 40.731 38.297 2.434
Q2 2012 41.758 41.668 90
Q3 2012 17.426 17.463 -37
Q4 2012 13.782 13.836 -54
Q1 2013 43.025 35.954 7.071
Q2 2013 44.535 46.653 -2.118
Q3 2013 20.167 15.079 5.088

This table shows us that they had the usual inventory build up in Q4 2011 and Q1 2012 but that they failed to sell this in 2012. We then see a huge inventory build up again in Q1 2013 (on top of the large base). Then there was some selling again in Q2 2013, but the really strange thing is the inventory build up in Q3 2013.

So again, this underlines the impression that the problems started already in 2012 and that most likely the inventory is much to high.

Other stuff

When I quoted the press release above, I left out a few passages.

Mr. Wicht is currently unavailable to the company due to illness.

Mr. Wicht was the long time CEo and 24% owner. That he just dissapeared is not a good sign.

As far as the corporate bond that was issued in 2013 and existing bank credit facilities are concerned, it cannot be excluded that one or several of the financial covenants included
in the bond and credit facility terms cannot be complied with in the 2013 financial year. This might result in a special right of cancellation for the respective investors. If this were to occur, the company plans to convene a bondholders’ meeting to coordinate a corresponding amendment to the bond terms. The company would also examine other refinancing options in such an instance.

Oh oh, covenant breach, this does not sound very promising. I am pretty sure, bondholders and banks will not consent to anything, unless additional (dilutive) equity wil be injected.

And finally the “carrot on a stick”:

MIFA has made significant progress with its planned strategic partnership with Indian company HERO Cycles Ltd. (“HERO”). MIFA has signed a letter of intent with HERO that comprises a EUR 15 million investment by HERO. Further details relating to the transaction are subject to final due diligence, and to agreements where the parties are in advanced negotiations. Besides an equity investment, the strategic partnership includes an extensive cooperation venture between MIFA and HERO in the purchasing and product purchasing areas, especially in the case of electric bikes and motors. Legally-binding agreements with HERO are expected within the next few weeks. In terms of revenue, HERO is the world’s largest bicycle manufacturer.

Two comments here:

1. In technical terms, a letter of intent has no legal implications. Hero Cycle can walk away at any time if they don’t like the terms.

2. According to this report, Hery Cycles had sales of 1.450 “Crores” Indian rupees. One crore is 10 million so we are talking abot 14.5 bn Indian rupees of sales. Sounds like a lot, but with a 60:1 INR/USD exchange rate, we are talking only about 240 mn USD annual sales. So in terms of revenue, Hero Cycles is only around 60% the size of Accell. And the largest bicycle manufacturer in the world by sales is Giant from Taiwan with 1.8 bn sales or 7,5 times the sales of Hero cycles.

So the claim that Hero is the largest bicycle manufacturer is clearly wrong and in my opinion could be interpreted as misleading investors believing that there is a “deep pocket” Indian investor, whereas in reality, Hery cycles is only a relatively small company selling lots of ultracheap bicycles. If I calculated correctly, they are selling ~5 mn bicycles in India per year which results in an average selling price 44 USD per bicycle. I just found this link with the 2014 line up of Hero. Most of the models indeed are in the 40-50 USD per bicycle range. And by the way, the bicycle business in India doesn’t seem to be so great either at the moment.

And for the avoidance of doubt: Hery Cycles IS NOT part of the much bigger Hero Motor group. They do have the same founder but split up a few years ago.


I do not claim to really understand what MIFA was doing and I have no idea if they will survive or not. However, just by looking at their historical material costs and inventory level, it seems unlikely that the newly introduced accounting system could be responsible for a 15 mn loss. For me it is much more likely that the inventory build up at least since mid 2012 lead to overstated results over a longer period of time. The 15 mn loss announced seems to contain a significant write down on inventory as well. I could imagine that they might have to restate older financial statements as well.

For someone analyzing MIFA in detail, it would not have been that hard to see that something was going really wrong. Drastically increasing inventory levels in a seasonal business are always a really bad sign, at least as bad as increasing receivables.

For the shareholders and bond holders, there is still the hope that Hero Cycles from India might be the much needed saviour, although the false claims made in the press release should make one suspicious and I highly doubt that those guys have such “deep pockets”.

Let’s wait and see but this will not be easy for MIFA.

Update: Vetropack (CH0006227612)

Vetropack just released 2013 numbers and the annual report yesterday.

All in all, things don’t look so great. Sales increased 2%, however EBIT margins declined and net income declined significantly as the one-off gain from a property sale in 2012 could not be repeated. EPS (undiluted) was 137 CHF per share.

A quick reminder here: Vetropack reports in CHF but the majority of sales are non-CHF. In 2013, the Swiss frank depreciated against the EUR, so all things equal, even with constant EUR sales, Vetropack would show increasing CHF sales.

The stock market seems to have been expecting more, the share has dropped significantly over the last few week:

The biggest problem for Vetropack is clearly Ukraine, where they had ~15% of sales in 2013. They do not provide profits for their subsidiaries, so we do not know which margins come from what country. But clearly, with the currency devaluation (~-50% since the beginning of the year), in the best case, sales from Ukraine (and profits) will be -50% lower in 2014 than in 2013 just from the currency effect.

Looking into the 2013 annual report, we can see that most other subsidiaries are stagnating or only growing very slowly. interestingly, if we compare 2013 with the 2008 report, we can see that especially Switzerland has disappointed, with sales now -20% lower in 2013 than in 2008. Somehow, the increase int he Swiss franc seems to have been a big problem.

All in all, things don’t look very good. This is reflected also in the current valuation. At the current share price of ~1570 CHF, P/B is almost exactly 1, trailing P/E 11,4 and the dividend ~2,4%.

The only bright side was that cashflow looked rather OK in 2013. Operating CF of around 100 mn CHF minus Capex of 50 mn is ~50 mn free cash flow which has been distributed to shareholder to a large extent via divdends and teh stock repurchase last year. Net cash went down but this seems to be the result of a “Non core” purchase of a real estate company which came with some real estate loans (note 26 annual report). I would therefore exclude the 20 mn real estate debt from EV as the acquired assets are “extra assets”, not required to run the business.

Valuation & Competitors

That’s what i wrote back in “the old days”:

We can clearly see that for a margin of safety of 50% I would need to assume for instance a discount rate of 8% and a growth rate of 3%.

If history is any guide, Vetropack should be easily able to grow by 3%, having achieved much much mor in the past. Additionally, a 8% discount rate for a non-cyclical consumer product related company with net cash and an extreme conservative balance sheet should be reasonable.

This was based on 150 CHF free cash flow per share. 2013 FCF per share was around 122 CHF per share. So first mistake: Free cash flow did not increase by 3% from 150 CHF but did actually contract. Secondly, I used 8% as discount rate. As we see now, Vetropack’s regional exposure does not really warrant a lower discount rate than my simple 10%. So second mistake: The 8% discount rate was much too optimistic for a company with signficant “emerging markets” exposure.

If we look at the peers, both Zignano and Vidrala have been doing much better, at least over the last 2 years:

Both trade at siginficant higher valuations. Zignago at 20x trailing p/E, 8,5 EV EBITDA and 4,6x book, Vidrala at 18xP/E, 3x book and 7,8 x EV/EBITDA. MArgins are not that much higher for Zignago and Vidrala, but Return on invested capital (including debt) looks better. ROE anyway as both competitors use leverage. Both peer companies, despite being based in “PIIGS” countries managed to grow their top line better than Vetropack. Vidrala has grown sales by ~25% since 2008, Zignago by around 20%. Vetropack in comparison has grown sales (in EUR) since 2008 only by 15%, net income went down -10% vs. 2008.

But: Also for Zignago, net income went down -20% since 2008, only Vidrala could actually increase net income (after a small dip in 2011 and 2012). Although they seem to do almost all of their business in crisis ridden Spain, Portugal and Italy. So Vidrala clearly shows that you can do a solid job in this business even under adverse circumstances. Although valuations look stretched for both competitors.

Back to Vetropack: Starting with the current variables (1.575 CHF per share, 125 CHF FCF), I would need at a 10% discount rate ~4,5% FCF growth per annum to give me a 50% upside. This is clearly not going to happen soon. On the plus side, the downside is well protected via the (conservative) tangible book value which will most likely grow by mid single digits going forward.

So at the moment, I do not see a big upside or under valuation for stock, taking into account the higher risk profile of the stock.

The upside could come back, if Ukraine gets solved quickly and a lower discount rate could be justified. Another positive could be somehow lower costs but I would not rely on this. Finally, if they continue to buy back shares, then we could also see improving metrics per share but they didn’t announce anything yet.

What to do now ?

I am a little bit uncertain at the. I think I made a mistake in the beginning by using a discount rate which was too low and did not reflect the geopolitical risk profile of their subsidiaries. Now however, the Ukrainian risk seems to be priced in already to a large extent. As I am somehow more sympathetic to Emerging Markets in their currently depressed state, I am tending to keep Vetropack as a partial “Emerging markets / Ukraine bet” for the time being.

However, if I would find more and better EM bets, I might sacrifice Vetropack at some point in time.

Potential AirBerlin Delisting – Bad news for German stocks and its shareholders

Late last week, AirBerlin announced (more or less directly), among other stuff, that they plan to completely delist and transform themselves into a non traded “limited liability” company.

AirBerlin is a struggling regional German Airline, where Etihad, the Arabian airline has currently a 29% stake. Ethihad seems to be eager to increase their share to slightly below 50%, above that Airberlin would be at risk to lose valuable Airport slots etc. as they would not be considered a German/European airline anymore.

Normally, if you cross the threshold of 30%, you have to make a bid to all shareholders, usually related to an average price over the last 30 (or 0 ?) days or so.

In this case, the plan seems to be different. Ethihad and the management seem to want to take Airberlin private. In this case the tactic seem to be to scare investors away by delisting the shares and transform then into non-tradable stakes first, and then most likely come with a lowball bid for the remaining shareholders.

Looking at the stock chart, we can see that Air Berlins stock has been struggling anyway for a long time:

Funnily, the stock chart jumped shortly when the news came out but then went back down again rather quickly.

Why is this possible and where is the problem ?

Why did I say in the headline that this is bad news for stocks and ist shareholders ? Well, first of all, delisting a stock is definitely not a good thing for shareholders, all other things equal. Not being able to trade via an exchange means very limited liquidity. Limited liquidity or no liquidity means that holders either will require a higher discount to fair value or, as many funds etc. are not even be allowed to hold the stock and are forced to sell.

While this is a bad thing for existing shareholders, it is of course a good thing for a strategic investor, who does not need any liquidity in his position and wants to buy cheap. So “conspiring” with management in order to delist a company and drive down the acquisition price would be a very obvious strategy to take over companies cheaply.

In order to avoid this and protect especially small shareholders, there are usually regulations to prevent this. One case where I was directly involved last year for instance was EGIS, the Hungarian pharmaceutical company. There, the majority owner also threatened to take the company private in order to “motivate” small shareholders. But in Hungary, he would have needed at least 90% of the shareholder vote in order to do so. So he had to make a somehow fair offer at first before then being able to add his “going private” thread. This makes a huge difference.

So why the hell is this so easy in Germany ?

My guess is that this is a first test balloon, following to court decisions in Germany.

First, in 2012, the highest German court, the “Bundesverfassungsgericht” said that the listing of a share is not explicitly protected by the German constitution. As a result of this, late last year, the highest Civil court then decided in October 2013, a delisting can be decided without asking shareholders by the management of the company alone.

Until now, based on the so-called “Macrotron case”, companies had to offer a fair-value based cash compensation if the wanted to delist from the stock exchange.

I am not a lawyer, but in general this decision has clearly negatively impacted the right of minority shareholders. I do not know which are the possibilities to fight against those delistings, but it seems that it has become much harder and more difficult. So going back to the EGIS example: Minority shareholders in Hungary are much better protected against this as German shareholders.

Of course this is great news for M&A advisors, private equity funds or dominant shareholders etc., because it makes it easier to buy companies and kick out small shareholders at a low price.

On the other hand, in the long run, valuation levels for markets almost always reflect the rights of shareholders, especially minorities. If there are no rights (see Russia) than stocks will trade at a discount.

For me, this is a reason more to stay away from the rather expensive German stocks, especially if they have dominant shareholders who want to have the whole company cheaply.

If the AirBerlin case would be the blueprint for similar deals to come, this would be very negative for the valuations of similar German companies. One might even think about developing a short strategy for likely candidates. And yes, squeeze out speculations do not look so attractive anymore.

Book review: “The little book of Emerging Markets” – Mark Mobius

After starting to look into Emerging Market companies, I thought it might be a good idea to beef up my library with some books on that topic.

Mark Mobius, the author of the book is one of the most well-known EM investors of all time (although he looks a little bit like the bad guy from a James Bond movie):

Nevertheless, I bought the “Little book” as they are usually compact and easy to read.

The book starts with the general investment principles of Mobius, which are clearly derived from value investing “Graham-style” following his mentor John Templeton. He stresses low valuations, especially with regard to tangible book and wants companies to pay out dividends.

Similar to Howard Marks he deeply believes in the cyclicality of markets.

Within the book there are several stories about specific markets such as Czech Republic, Kazakhstan, China, Thailand and Russia, but most of this are anecdotes, entertaining but not very instructive. He mentions some specific investments (Siam Cement, China Telecom) but overall he remains mre on the general level.

The best part in the book are the last chapters where he provides some general advice how to invest in Emerging Markets. For him, investing in Emerging Markets is Contrarian Investing.

My highlight quote from the book is the following:

“If you see the light at the and of the tunnel, it might be already too late to invest”.

Other good quotes are:

“When everything else is dying to get in, get out. When everyone else is screaming to get out, get in”.

“When everyone else is getting all pessimistic, that’s usually when it is tim to turn optimistic”

“You’ve sometimes got to take pain in the short-term in order to outperform in the future”

“The first country to get hit , and hit hard, is typically the first one to recover”

Overall I liked the book as it is easy to read, although it doesn’t offer a lot of “depth” which, on the other hand, is not the goal of the “little book” series.

Maybe it is a kind of “confirmation bias” from my side, but somehow the book confirmed my view that it is now a good time to dig deeper into Emerging Markets.

A final warning at the end: Just for fun I looked up the long term performance of the Templeton Emerging MArkets Fund. Despite being hailed as a guru, the long term performance of Mark Mobius doens’t look very good:

Interestingly, the last 5 years or so the fund looks like a simple MSCI EM tracker fund (minus fees):

I have to verify this but in fund management, legends are often overrated…….


So this is part 2 of the post about Sistema, the Russian conglomerate, part 1 can be found here…

Sistema offers quite a lot of material for investors on their website, including some nice investor presentations, including a relatively recent one from November 2013. As with Koc Holdings, I found the material surprisingly good for a Russian conglomerate.

Some positive aspects (compared to other Russian companies):

+ clear financial targets in place (Cash flow to HoldCo, ROI above CoC)
+ focus on cash generation and shareholder return
+ compensation of management linked to share price development
+ clear split of corporate center financials esp. debt. Again, this is more transparent than for instance with the Belgian HoldCos I have been looking at

Interestingly they seem to follow a little bit the “Koc playbook” by teaming up with foreign companies and listing their subsidiaries. They do claim that the Sistema Holding company acts as a “private equity” investor, although some of their “Monetization strategies” (dividends) are not really private equity style. Also they can show some significant disposals, such as the Power Generation business last year or their insurance company in 2007, so “empire building” is clearly not their highest priority.

Major businesses:

Sistema has two major businesses which are both listed:

Bashneft, one of the larger Russian oil explorers and refiners active in Bashkortostan (west of the Ural, European part of Russia) & & the Arctic region.

MTS is a large Russian mobile phone company with more than 100 mn clients in Russia and neighbouring countries.

Bashneft is owned 75% by Sistema, MTS 53,4%. Now comes the interesting part: The value of the two stakes (MTS 5,5 bn EUR, Bashneft 5,4 bn EUR) is already significantly higher than Sistemas Market cap plus holding debt. With Holding debt of around 0.6 bn EUR, total Holding EV is 7,7 bn EUR vs 10,9 bn EUR market cap of those two holdings.

Their other participations include Rail cars, a toy retailer, a local power grid, a hospital chain, a retail bank, farmland,and finally a struggling Indian mobile operator. Most of the other stuff made losses at least in the first 6 months in 2013, but even if we attach zero value on that, Sistema trades at a significant discount to its sum of parts.

Most of the other businesses are relatively new, for instance the Rail car business has just been bought and combined in 2013. A very interesting subsidiary is the toy retailer Detsky Mir which seemed to have just more than doubled profits from 14,7 mn USD to 36 mn USD. This proves to a certain extent that they are able to grwo new bussinesses and create value. Assuming a 10X P/E multiple for a fast growing retailer, this would add another 250 mn EUR or so to the valuation. They initially planned to IPO Detsky Mir in March 2014, but I am not sure if they might postpone it for the time being.

The Bashneft acquisition in 2009

The EPS development of Sistema clearly correlates to a large extent with Bashneft and MTS plus any realized gains from disposals. If we look a the last couple of years, we can see that the overall increase in Sistema’s earnings per share correlates mostly with the significant increase in earnings at Bashneft. Bashneft has grown very quickly over the last years with a significant increase in output.

Much more interesting is the timing and the price paid. Sistema acquired the majority in Bashneft in March 2009 for 2,5 bn USD. Remember, this was the time when the Russian Index had lost 2/3 of his value within 15 months or so. In their 2009 annual report, one can clearly see that the transaction was a “bargain” purchase at around 50% of “tangible” book. If we look at Bashnefts financials, we can see that the timing was really good. According to the 2010 Bashneft presentation, Bashneft made around 420 mn USD profit in 2009, so Sistema was buying it around 6x P/E. Already a year later net income was around 1.4 bn, a nice 240% increase, and despite the rouble losses, Bashneft will again earn more than 1 bn USD in 2013. So clearly, this 2.5 bn USD investment has more than paid off for Sistema so far.

One interesting aspect about Bashneft: The reserve replacement ratio, which shows if an oil company is discovering more new oil than it takes out of the ground, is around 800-900% for Bashneft. To put this in perspective: Most major Oil companies have ratios slightly above 100%, BP’s for instance went down to 77% two years ago. So overall, Bashneft seems to be a pretty attractive asset for Sistema. Even Lukoil for instance, another big & cheap Russian oil company has a replacement ratio of only slightly above 100%.

Bashneft got the rights to 2 very promising oil fields in the region in 2010. According to this article, this might be part of a strategy not to allowing any Russian oil company becoming too big.

Although there are clearly risks as well. There seemed to be a rumour, that state controlled Rosneft was “interested” in Bashneft but this was denied by Sistema.

Bashneft itself last year paid significant divdends. The 220 rubles per share would be a dividend yield of more than 12% at current prices. This seems to be a confirmation of Sistema’s strategy to upstream cash into the holding. Unfortunately, Bashneft is only traded very illiquid outside Russia on the German stock exchange, with bid/ask spreads of around 10%. Otherwise, Bashneft would be a very interesting additional investment as well.

Rusneft transaction

Another example for a succesful “private Equity” style transaction ist a smaller Russian oil company, Rusneft. In 2010, Sistema bought 49% of the highly indebted company for 100 mn USD. 3 Years later in June 2013, Sistema sold the very same stake for 1,1 bn USD. An 11-bagger in three years, not that bad. One could consider this as a “proof of concept” regarding their private equity business model.

Comparison Sistema with Koc:

After investing in Koc Holding from Turkey, I think it makes sense to make a quick comparison:

– Sistema doesn’t have the same long-term track record as Koc (20 years against 3 generations)
– the Russian market is clearly even “more dangerous”
– Sistema is less diversified than Koc, mostly Oil and Telco
– until now no proof that they are a “value adding” HoldCo

+ they do not have a political problem with the current local leadership
+ no fx issues (oil revenues are in USD anyway), only small exposure to financials
+ Sistema is much much cheaper, both compared to sum of parts and P/E etc.
+ from a true contrarian perspective, Russia is even more interesting than Turkey
+ they seem to be able to pull off really lucrative deals like Rusneft and Bashneft with “eye watering” ROIs

Is a Russian stock really “investible”

This is a big question for me. A couple of months ago, I wrote a post why I would not invest in Greek stocks (mistake !) or German-Chinese companies (score).

Honestly, a Russian stock is clearly in general much more a “speculation” than a German or French one. Compared to Italian stocks however, I am not so sure anymore, as the EMAK and ASTM example clearly showed that Corporate Governance for instance in Italy is not that much developed.

The two most relevant questions in my opinion are:

a) Are the managers fraudsters or thieves ?
b) Can someone else easily interfere and take away assets etc. ?

In the case of Sistema, I do not have the impression that management are explicit fraudsters or thieves. I have certainly no prove for that, but the effort they make with con-calls etc. indicates a certain interest in shareholders and a higher share price. Ron Sommer, the former CEO of Deutsche Telekom is actually the boss of the supervisory board of MTS. They never sold any new shares to the market since the IPO, so the motivation behind the German-Chinese frauds seems not to be relevant here.

The majority owner Vladimir Yevtushenkov is clearly a typical “Russian Oligarch” (but he looks like Bill Gates 😉

However, he seems to be among the more “moderate” Oligarchs, as for instance this NYT article describes.

Another factor “pro” Sisteam is the fact, that both major subsidiaries are listed as well with separate, audited statements which increases transparency a lot and makes it easier to validate the “sum of parts” valuation. On the other hand one could argue: Why don’t they pay higher dividends ? They do have a dividend policy, however they promise to pay out only a minimum of 10% of what they can stream up to the HoldCo. According to this research from Gazprombank, rising dividends can be expected, but still we are talking only about 4-5% if this turns out to be correct. Not much for a company in a country with interest rates above 10%. On the other hand, if they are able to to investments like Bashneft and Rosneft, it doesn’t make a lot of sense to pay out huge dividends but rather to reinvest the money in such “multi baggers”.

The second point is harder to answer. It looks like that Sistema is at least on neutral to good terms with Putin. In the case of the Indian Mobile subsidiary for instance, Putin put the problems of Sistema on the table when he visited India in 2012. From the NYT article linked above, I think this quote from Sistema’s owner is revealing:

And business can only prosper, he added, if the size of business is commensurate with the owner’s political influence. “We didn’t understand it” at first, he said. “Many businessmen grew their portfolios very fast but didn’t understand that one must invest time in connections, human relations, invest in human capital.”

Mr. Evtushenkov is not alone in operating along Western lines. One Russian billionaire who also did was Mikhail Khodorkovsky, the oil tycoon arrested in 2003 who has been in jail ever since.

As Mr. Evtushenkov told the Russian Web television station Dozhd recently, he knew Mr. Khodorkovsky when the latter was a young man and worked for him at a Moscow plastics factory. “He was terribly hyper, ambitious,” Mr. Evtushenkov said — and thus, he implied, forgot the rule about operating commensurate with political influence.

This sounds like a guy who knows how to maneuver (so far) within the harsh Russian political and business climate. So the risk should be a lot lower than for instance for Pharmstandard, but clearly, a dispute with government (see Rosneft/Bashneft) or a more powerful oligarch could change this real quickly.

Does Value Investing and investing in countries like Russia contradict each other ?

I want to make one thing clear here: This is no Warren BuffetT “great investment”. It is maybe an “above average” or even “quality” company in a really tough country.

On a pure stand-alone basis, there is clearly no Margin of Safety. As discussed above, certain things outside the perimeter of the company could happen which could impair the value of the stock severely. On the other hand, Value Investing is not only about Warren BuffetT style concentrated portfolio of great companies. There is another style with a more diversified “deep value” approach. I think Sistema clearly fits the “Deep Value” bucket. With this approach however it would be stupid to invest a large portion of the portfolio into a single company. The “Margin of Safety” in those cases comes from investing in a “Bucket” of extremely cheap companies where you can afford that 20-30% will actually turn out worthless, 50-60% are doing Ok and the remaining 10-30% will turn out spectacular.

Sistema in my opinion is a potential stock with a low weight for such a contrarian Emerging Market “bucket”. Yes, a lot of things can happen, but the stock is so cheap that if things turn out positive, the stock could easily tripple or quadruple.

I do have sometimes the impression that especially in the last few years the “BuffetT & Munger” approach is hailed as the ONLY way of value investing. But there are a lot of other succesful investors you had very similar track records with radically different approaches. Among them for instance were John Templeton and Mark Moebius. This ise an excerpt of the 16 investing rules from Sir John Templeton:

3. Remain flexible and open-minded about types of investment.
4. Buy low.
5. When buying stocks, search for bargains among quality stocks.
6. Buy value, not market trends or the economic outlook.
7. Diversify. In stocks and bonds, as in much else, there is safety in numbers.

This is quite different to “buy concentrated and only what you know best”. Just out of interest I have looked into the Templeton Emerging Markets funds. Mark Moebius only owns two Russian stock, Sberbank with a weight of around 3% (7th largest position) and Lukoil (2,7%). Interestingly, Mark Moebius even seems to have a blog with a recent comment to Ukraine. Personally, I would not invest in Sberbank as this could be one of the easier targets for sanctions.

Timing and other considerations

Looking at the 5 year chart one could think that Sistema would have a lot of space to fall further:

But one should not forget that from 2009 to current, Sistema turned a 2.5 bn USD investment in Bashneft into a stake currently worth 7,5 bn USD….Clearly the risk is real that I am much too early.

To give an example: In February 2010 I wrote in my home forum that Public Power Co., the Greek utility looked like a good risk/return situation at around 12 EUR per share (and a P/E of <5). I even said that it looks like that the stock is bottoming out. This is the stock chart:

Although the stock is now back at that level, the stock bottomed out -90% lower at around 1 EUR per share. Luckily I got out pretty soon before disaster struck, but this should be clearly reminder that it can always get worse.

Where is my “edge” ?

Cleary, I do not have any direct “edge” with regard to Russian stocks. I do not speak Russian, I have never been there and I have only access to published reports and research. I am as far from being an insider as one can possibly be. On the other hand, I do have one valuable advantage (as any private invetsor): I do not need to explain this to clients or bosses. I do not have to fear to loose my bonus or even my job if anything goes wrong. Ok, the readers of my blog might think of me as a gambler and my portfolio will suffer but that’s about it.

The biggest risk

A final remark on risk. I have gone through many of the risks related to a Russian stock and I am sure I obly scratched the surface. Nevertheless, I think the biggest risk is not an escalation in the Ukraine. This would be rather a buying opportunity. The biggest risk in my opinion is a hard landing in China. Russia is completely dependent on their natural resources exports. Lower prices for Oil, natural gas etc. will kill the investment case for Sistema. So this is to watch out for.

Summary and what to do

The main attraction of Sistema is clearly the valuation, comparably transparent reporting, professional management and (for a Russian company) shareholder oriented approach. The downside is, on the other hand, that Russia is dangerous for investors which explains the low valuations along the curent political turmoil.

Koc from Turkey is clearly the better company, but Sistema is only half as expensive. In building up my “basket”, I think Sistema has a place, although with a relatively small weight.

Additonally and most important to me, Sistema has shown in the past that they are able to pull of ridicoulusly succesfull deals in tough times as Bashneft and esp. Russneft have shown. So the possibility is high that Sistema again might be actually a winner from the current Russian crisis if they are able to close some more deals at “rock bottom” valuation levels.

The only thing which is really annoying to me is the fact that the spread between the GDRs and the Russian shares has now reached ~13%, a lot higher than a few weeks ago. Still, I am prepared to get my feet wet and will therefore invest into a 1% position for the portfolio as part of my “Emerging Market” basket along Ashmore and Koc holding. The low percentage reflects the (much) higher risk for Russia.

Some links

The Graham Holding deal – another example why only Warren BuffetT can invest like Warren BuffetT.

The Emerging Market slowdown hits many “rich world” companies

HIGHLY RECOMENDED: I never knew that John Hempton from Bronte is actually publishing monthly letters and performance (Hat tip to Al Sting). Read all of them, for instance September 2013 on why they are short Swedish quality companies or how they got squeezed out from a crowded short.

The Aleph blog has a great series on how Berkshire Hathaway is actually structured. Part 2 with the somehow dodgy trust structure has been extremely interesting.

Wexboy on how to come up with investment ideas (Spoiler: read a lot and then some more…)

Finally, the always great Brooklyn investor with a nice analysis of DirecTV, the largest “non-BuffetT” position at Berkshire.

Emerging markets part 3: JSFC Sistema ADRs (ISIN US48122U2042) – Is a Russian company investible (1)?

This is the third installment of my little “Emerging Markets” series (part 1: Ashmore Plc, part 2: Koc Holding).

As the post got really long, I will divide it into 2 parts. Sorry for the “cliff hanger”….

Investing in Russia

Some readers may recollect that I invested into the Russian pharmaceutical company Pharmstandard last year and was very lucky to get out early before the stock subsequently lost more than 50%. My interpretation of this experience is that an actually relatively well-managed company got bullied into buying a worthless company and thereby shifting a lot of company funds to some shady people.

This should be a reminder that investing in Russia is somehow different. Although one shouldn’t be surprised too much about this. Russia is still at a very early stage in capitalism. It is only 20+ years since privatization started really kicking off. For me, the current state of Russia’s capital markets looks a little bit like the US in the 1910s and 1920s, the age of the famous “Robber Barons”. Bullying other people, “unfriendly” take overs using brute force were quite common in those times as well.

Russia itself is clearly different to any other country as well. In contrast to Turkey for instance, Russia is resource rich, on the other hand it looks like very poorly governed from the outside. Resource rich countries are always at risk to fall for the “resource curse”. This is how Wikipedia defines it:

The resource curse, also known as the paradox of plenty, refers to the paradox that countries and regions with an abundance of natural resources, specifically point-source non-renewable resources like minerals and fuels, tend to have less economic growth and worse development outcomes than countries with fewer natural resources. This is hypothesized to happen for many different reasons, including a decline in the competitiveness of other economic sectors (caused by appreciation of the real exchange rate as resource revenues enter an economy, a phenomenon known as Dutch disease), volatility of revenues from the natural resource sector due to exposure to global commodity market swings, government mismanagement of resources, or weak, ineffectual, unstable or corrupt institutions (possibly due to the easily diverted actual or anticipated revenue stream from extractive activities).

This sounds logical, although further down, Wikipedia cites some other studies which seem to contradict this to a certain extent.

So investing in Russia is clearly an adventure. But again, similar to Turkey, the problems are not a secret. The Russian stock market is currently the cheapest in the world, with a p/E of around 5x, P/B of 0,72 and a dividend yield of 4,3%. In EUR terms, the Russian stock Market lost -34,5% since the end of 2010 compared to +37% for instance for the DAX.

I have a compiled a short table, comparing performance (10 year, 5 Year, 3 Year, 1 Year) and valuation of different Emerging markets:

10 5 3 1   P/E P/B
MICEX 8,26% 18,09% -10,24% -18,12%   5,4 0,7
SENSEX 11,09% 14,26% -3,10% -5,02%   17,1 2,6
IBOV 9,33% 2,89% -20,78% -34,32%   17,1 1,1
SHCOMP 6,54% 2,38% -6,62% -14,04%   10,3 1,4
Turkey 8,92% 15,92% -7,31% -37,75%   8,8 1,3
Indonesia 17,87% 30,67% 2,43% -22,43%   21,3 2,6
Philipines 21,00% 32,37% 21,75% -15,48%   19,0 2,8

It is interesting to see that Russia didn’t do so bad over a 10 year horizon, but especially underperformed over the last 3 years. In contrast, the valuation level compared to other EM is really stunning. So one can assume that a lot of bad sentiment seems to be priced in.

Interestingly, I just came across this some recent study, which says that “traditional” value investing, i.e. buying contrarian and cheap, works very well in Emerging Markets, much better than small cap investing or momentum.

Fraud, quality of accounts etc.

Personally, I would not make general distinctions between EM countries, but rather on a company levels. I think fraud and fraudulent accounting is much more probable in those countries than in “developed” markets, although even in developed markets fraud might be more widespread that commonly believed. I think it is more important to look at individual companies and their track record in order to get an idea.

Another aspect is to look out for and avoid systemic fraud. I have written quite often about the so-called “German-Chinese” companies. In this case, Chinese companies sold shares abroad to raise “fresh” money mostly for old shareholders which then got transferred directly to mainland China. In many cases, if you looked at the balance sheet of those companies, there was no need to raise money at ridiculously low valuations as they were supposed to be super profitable and sitting on huge cash piles anyway. So not having a domestic listing and use foreign listings in order to help old shareholders cash out implies a high probability of fraud.

I would however make a distinction for companies which have a local listing and subsequently seek a foreign listing without issuing a ton of new shares or old shareholders cashing out. In many of those cases, companies do so in order to raise their profile and make the company more attractive to foreigners. When they do commit fraud, at least the have to face local law enforcement, no matter how weak that might be. For the German-Chinese companies in contrast, fraud has absolutely no consequences as defrauding Non-Chinese investors is not a crime in China. It looks even that in many Chinese fraud cases, authorities support the fraudulent companies in order to avoid a bad image.

Premium/Discount for Russian ADRs

For some reason, Russian ADRs in general seem to trade in relatively wide bands against local shares. At the time of writing, Sistema ADRs trade around 8-9% higher than local shares. Interestingly, there seems to be no real rule for a premium or discount. This is a list of the most traded Russian ADRs on the London exchange:

Last Px Premium Best
TMK-GDR REG S -0.79%

So Sistema trades at the 3rd largest premium, but honestly I have no idea why this is the case. For some reason, the ADR/local share arbitrage doesn’t seem to work here. The premium compared to the valuation is not huge but still should be kept in mind.

A few thoughts on Ukraine / Crimea

I don’t want to enter any political discussions here but just a few observations from my side:

– Crimea was for long time part of the Russian Empire
– It became part of Ukraine only in 1954 without being asked
– It already has an autonomous status within Ukraine

In my opinion, neither Russia nor Europe have a big interest in escalating this issue. Europe depends on the natural gas, oil and other resources from Russia and Russia depends on the money. For me from the outside this looks rather like a defensive move from the Russians in order not to loose their access to the Black Sea. But of course I could be dead wrong and this could also be the start for a real big crisis. No one knows.

Why not invest in Ukraine ?

I have looked at a couple of Ukrainian companies as well, but with most of them I do not feel comfortable. I don’t think that agricultural businesses are very attractive and for the rest I didn’t find any company which was remotely interesting to me. Ukrainian international Government bonds could be an alternative at some point in time.

Timing considerations

Similar to Turkey, most of the people I asked have a clear opinion on Russia: It will get worse before it gets better and one should just wait a little bit when prices are cheaper and things look better and then make a “safe and cheap” investment. Interestingly, I saw this way of thinking really often but it almost always doesn’t work.

As long as a share,a sector or a market goes up, people are happily buying. As soon as something bad is happening, investors panic , sell into a crash. If they enter at all, they will buy again when prices are much higher, not when prices are low. I actually know very few people who are actually buying when things look bad and assets are cheap.

Something very similar is now happening with PIIGS stock. Two years ago, when the headlines were that the Euro zone will break within a few days, people sold stocks at absurdly low valuations just to get rid of them. Now everyone is happily jumping back into the very same stocks, although they are two or three times more expensive. Why is that so ?

I am not 100% sure but I guess much of that can be explained by the behaviour of “typical” institutional investors with a strong hierarchy. If everything goes well, of course the big boss on the top is responsible for the success. If something goes wrong and clients or analysts are calling, the safest thing to do is to get rid of the exposure as quickly as possible. In many large institutions, the number of controllers, “risk managers”, auditors etc. far outnumber the ranks of the actual risk takers. In order to justify their existence, they will show the boss that they are “on the floor” and will force people to cut risks aggressively irrespective of price level.

As a risk taker in such organisations, it is almost impossible to invest in something with bad headline news and falling prices. You buy something and the probability that it falls further is high. So you will look stupid at the end of the month and your boss and a legion of risk managers will yell at you why you are so stupid. You do this a second time and you will lose your job. So the safest thing to do is nothing, until headline news turns positive and prices are climbing, because then the chances to look good in the short term are much better and your bonus will be higher.

So in my opinion, you can’t have it both. You don’t get super cheap prices and “improving” headline news. Either you accept low prices and bad news or “better” news and (much) higher prices.

JSFC Sistema

As the first company to analyse in Russia, I used Sistema, a major Russian conglomerate. Why so ? Three major reasons from my side:

– Sistema is a conglomerate, so it offers a broader exposure to Russia
– it seems to be a large and relatively well-connected company. So the risk of being bullied like Pharmstandard looks remote
– Shares of the company are listed widely, in the US, London and Germany

This is how Sistema describes itself on its homepage:

Incorporated in 1993, Sistema is now one of Russia’s top-10 companies by revenues and is one of the largest publicly traded diversified holding companies in the world. Sistema was ranked number 315 in the Fortune Global 500 list.

Valuation wise, Sistema looks ridiculously cheap as many Russian companies:

P/E 4,9
P/B 0,9
Div. Yield 2,6%
MArket Cap: 7,1 bn EUR
EV/EBIT ~4,1x

To be continued soon……..

Short cuts: Gronlandsbanken, SIAS SpA, Thermador, April


Already some weeks age, Gronlandsbanken reported 2013 numbers and published their 2013 annual report, which is again a must read for anyone interested in Greenland. The bank seems to be a little bit more optimistic than last year.

Profit was around 10% lower than in 2012, which is not bad for a stagnant economy. The dividend has been kept stable which means the dividend yield of around 7,8% at current prices. Overall, Gronlandsbanken in my opinion still offers a lot of positive optimality, although it might need a few more years to really see an impact of potential large-scale mining projects. Better than with a “classical” option, I get paid for waiting.


Sias released 2013 results last week (in Italian only). Traffic was again down compared to 2012, but revenues increased due to the purchases out of the South America proceeds. They earned 0,61 EUR per share resulting in a trailing P/E of 13.8. For a “average” company like SIAS, this is already relatively expensive in my opinion, so I will sell down half of my current position (5,3%) at current prices, which would result in a profit of close to 100% for this part.


Finally, Thermador released 2013 numbers and its English language annual report. Sales declined in a tough market by -2%, profit slightly more from 4.96 EUR per share to 4,68 EUR. Cash flow however was very strong due to a significant release of working capital, net cash is now around 32 mn EUR or ~ 7,4 EUR per share. The cash adjusted P/E of around 14 for a high quality firm like Thermador is in my opinion still adequate.

April SA

Already a few day<s ago, April presented preliminary 2013 results. Overall profits were a little bit lower than in 2012 resulting in 1.22 EUR Earnings per share against 1,38 EUR in 2012. Although this is the 5th decline in a row, this time the reason seems to be almost exclusively in the lower interest rates. I think one can expect that from a operational point of view, the bottom should be near.

Interestingly, they still earn very nice ROCEs even at those depressed levels. Adjusted for cash, they trade at single digit P/E which implies in my opinion still a good risk/return relationship.

Some links

Must Read: Sequoia fund 2013 annual letter. They had a good year but didn’t make a single new investment in 2013

Wintergreen fund 2013 letter. Not a good year for them.

A very good lecture on value investing by Vito Maida, the boss of Canadian firm Patient Capital (nice name for a value investing company by the way…)

A “sober view” on the crisis in Ukraine and the success story of another “divorce victim” Slovakia

Finally a “new” blog which I found interesting:

Strictly Financial, a blog of two financial professionals with some interesting post for instance on Korean Preferred shares or the Whatasapp transaction

Follow up: East Asiatic Company (DK0010006329) – Sale of Venezuelan Business

East Asiatic was part of my “strange stocks” series almost a year ago.

The stock looked extremely cheap, but the issue was that for their Venezuelan, they had to use the official Bolivar exchange rate. That was my final assessment:

All in all, EAC is not only a “strange” stock but also an interesting stock. Although both subsidiaries are struggling, I see some “real option” value here. The Santa Fe business, if the execute as planned, is worth more or less the whole market cap at the moment. Therefore, Plumrose, the Venezuelan pork producer is like a “free” option betting on a better future for Venezuela. This future is highly uncertain, but some positive signs are also visible.

Now something interesting happened: EAC announced last week that they sold its Venezuelan Business for DKK 390 mn and plan to pay a special dividend of 16 DKK:

• EAC divests Plumrose for a total consideration of approx. DKK 390m
• Due to the requirement under IFRS accounting standards to use the official VEF/USD exchange
rate, the transaction entails a significant accounting loss. However, when measured at the parallel
market VEF/USD exchange rate, the price represents a gain over book value.
• EAC’s Board of Directors considers the price attractive and intends to distribute DKK 200m to
EAC’s shareholders as an interim dividend (DKK 16 per share) once the consideration has been
received in full.

The shareholder friendly approach of the company can be seen via the video they produced, where they are explaining why they sold (very funny, Danish with English subtitles).

With a current market cap of ~1.100 mn DKK, receiving 390 mn DKK in cash is not insignificant. What remains is the Santa Fe subsidiary. That’s what i Wrote back then:

Simple valuation of Santa Fe:

Plan: 5% CAGR until 2016, 300 mn EBITDA. EV/EBITDA of 6-8x realistic ?

Current borrowings 500 mn, growth by 5% in line with sales –> 600 mn debt in 2016

EV of 1.800 -2.400 –> equity value of 1.200 -1.800 in 2016. Discount by 15% for 3 years: NPV of Santa Fee according to this: 790 – 1.180 mn DKK

The problem with that projection is: Santa Fee is not doing well at the moment. Based on the latest Q3 report, Sales for the first 9 months declined by 2% and EBITDA declined even more from 121 mn DKK 9M 2012 to 93 mn DKK 9M 2013. So achieving 300 mn EBITDA in 2016 looks somehow optimistic.

Interestingly, the stock price spiked quickly after the announcement but is now already on the way back down:

If we assume EBITDA for Santa Fe of around 130 mn DKK this year, this business is now implictly valued around 8-9 times EV/EBITDA. Maybe on a depressed level but as I am not a turnaround investor, I will pass on East Asiatic for the time being. Nvertheless, at some point in time, EAC could be a buy if the price stays low and they manage to turn around their remaining operations.

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