FUND MANAGERS CONTANGO, NAOS & FORAGER. THE BATTLE FOR MACMAHON, PROFT REPORTING SEASON.

Just a blog update on a couple of things I read over the weekend that I found interesting, and some notes on some trades over the profit reporting season.

CONTANGO

As a keen observer of LICs, I welcomed this article written by Michael Pascoe.

http://www.smh.com.au/business/banking-and-finance/extraordinary-battle-under-way-at-contango-microcap-20170302-gup7ot.html

I haven’t looked at CTN for some time now, so I can’t say for sure if all the details are correct. I just welcome any article that brings to attention the potential conflicts of interest that may exist with management having key shareholdings of an investment company. It is a bit tiring reading about management saying that their large stake in the company aligns their interests with that of shareholders. I can think of numerous examples where management may have a large stake in a LIC, but their main interest is the gravy train of management fees, performance fees, director’s fees, related party transactions with their mates etc. As a secondary interest is if the shares can create some capital growth and dividend income for shareholders.

With all the supply in the last few years of new LICs, some similarities strike me as interesting. Large potential blocking stakes from the fund manager, large base management fees, performance fees (occasionally with no high watermark or based on a strange low hurdle), long term IMAs with excessive break fees, “free” bonus options, related party transactions. I doubt many will, but I urge everyone to read the prospectus and annual reports of LICs before investing.

Once again, I want to stress I haven’t had a good look at CTN for a while so I am not referring to them necessarily. One thing that surprised me with the article though, is that Michael suggests he can’t remember seeing anything quite like this in decades of his career. I can think of a few investment companies off the top of my head that would make some of the Contango representatives in this article look like angels.

The bigger concern out of this article may lie with the asset manager (CGA) rather than the LIC (CTN). I have written before about some investors I rate highly and occasionally follow. One of them is NAOS. Interestingly, they thought CGA had some potential it seems, as they mentioned in this link.

http://www.asx.com.au/asxpdf/20161012/pdf/43bxh9x7bjtnwn.pdf

Fortunately, although I read this at the time, something told me to steer clear of this one. By the way I am not having a dig at NAOS. I just point it out in case readers of this blog might be thinking of investing in the NAOS LICs now (which I don’t hold). Perhaps it may be wise to watch how this pans out at Contango and try to assess whether it has been a big bet from NAOS (who don’t like to reveal too many specifics about their portfolios). On a side issue, AIK has shown a bit of weakness since the January NTA. This also has an indirect effect on NCC & SNC that prospective investors may wish to note.

Speaking of following some of the investors I rate, Forager have been a substantial shareholder in Macmahon Holdings (MAH) for some time now. They now are shaping as a key player in the future direction of MAH. Rather than say too much myself, it is better to read Steve Johnson’s recent blog postings, of which I agree with. Here is a blog post after the bid for MAH.

https://foragerfunds.com/bristlemouth/cimic-bid-underwrites-value-macmahon-shareholders/

Since then there have been a few developments and here are the latest thoughts from Forager.

https://foragerfunds.com/bristlemouth/final-week-cimic-vs-macmahon/

I agree with his stance and actually bought some shares recently at 15.5 cents. (too early perhaps, now 15 cents offered). I think it may be a reasonable entry price as they have eased back from 17 cents only last week. Some in the market may be surprised and disappointed about about CIMIC not lifting their bid. They also may have concerns relating back to how CIMIC have handled takeovers with Sedgman and Devine in recent years, so when they declared this offer the last and final that may have led to further negative sentiment. There may be concerns that CIMIC can boost their stake and although not get full control, obtain a much larger stake and perhaps they are not the best majority shareholder to have exerting influence.

My feeling is events have developed quite quickly over the few days and that the pull back in the price may not be warranted. As Forager points out, the new potential deal from Indonesia (AMNT) may be the better option. I think the market is overly fixated about the cash deal from CIMIC being made final, and not giving enough credit to the new proposal. I am always a little sceptical about non-binding deals at the last minute, but at face value this proposal looks to have the potential to re-rate the shares north of 15 cents. The attention should turn to Forager most likely campaigning for shareholders to support the deal with AMNT. Sandon has also expressed thoughts that at first glance the AMNT deal seems far preferable. They should be incentivised to highlight the advantages and why this will lead to a higher share price for MAH. They need to gather support so that if it does go to vote they can defeat CIMIC who will vote against.

If this deal were to vanish in thin air like I have seen some non-binding proposals do, I am not overly stressed about the downside. In that scenario, the shares could fall and perhaps I could even buy some more. Eventually a year down the track maybe CIMIC could have another crack, and they may have to offer far more then. The balance sheet looks clean and we may have seen the worst behind us for the sector. They were trading at 11 cents not that long-ago pre-bid, but I often find in these situations if the proposals fall through or don’t gain enough support, then the process often highlights value to the market. Even without any proposal, I suspect the shares may not fall back that far anyway.

One aspect that I am comfortable with is I don’t see CIMIC being able to get much more control this week in their final week of the takeover. Forager already have a sizeable bet on this when we consider the size of their fund (which I also like to see), but sound like they can increase further. I expect that Forager may like to even get to 10% of the company which is obviously a useful strategic level (as we have seen recently with WCB). I suspect Forager also has the support of other institutions that also may be inclined to bid for shares this week to stop CIMIC getting more control (should that be necessary).

More games were played on this yesterday, refer here.

https://thewest.com.au/business/cimic-seeks-takeovers-panel-ruling-on-macmahon-deal-ng-b88406684z

CIMIC appear to be trying to instil some panic to get some last-minute acceptances. I doubt it will work to any great extent, possibly just highlights their desperation to still one day win control of MAH.

 

PROFIT REPORTING SEASON

Personally, I found it a little below par. At least I didn’t find anything too disastrous that required a major change in my thinking. I wouldn’t say I have adjusted the portfolio meaningfully in 2017, yet I did reduce my exposure in a couple of companies I have mentioned regularly here. Part of the reason behind this was to invest in some other opportunities I felt were more compelling, whilst still retaining plenty of cash in the portfolio whilst sentiment is quite strong I believe. Some aspects to recent announcements, without being overly concerned, made me a little less optimistic.

SSM – I last commented on SSM early in the year after they had a good contract win, and expressed the view that under $1 was cheap. I have sold half of this holding recently at $1.10. Whilst the management deserve a lot of pats on the back for the last few years, my rule of thumb is just to be cautious when companies start acquiring. Often this rule has served me very well. The results were very solid and in the presentation, they warmed the market up to be prepared for some bolt on acquisitions. They since followed this through with a small acquisition proposal a few weeks later. It just made me a little less bullish and I prefer to use the funds elsewhere, so I sold half of my holding here. I did sell half my shares at 79 cents on the way up which proved to be way too early. It has continued to grow a lot in my holding period and I don’t want to fall in love with it. The same applies to AIK.

AIK – Likewise with AIK, I sold half my holding. I had been quite bullish on the blog from 10.5 cents around a year ago, and I guess it is a little frustrating that I didn’t let go some stock around 18 cents where there was ample opportunity. I was still holding all my shares after the recent half year announcement, but became less bullish after the presentation. I haven’t read any other’s opinions on it yet, but the “all other” segment of the division showed a loss. Then there was page 13 of the presentation regarding the ASIC review of a funder. They described it as not material yet then point to reduced growth in EBITDA. Overall the profit numbers and where they look to be able to get to soon just disappointed me a little. Perhaps I was overly optimistic or underestimated all the new shares outstanding, due diligence costs and potential issues in bringing the businesses together. For someone with my resources, it wasn’t that easy to keep up with all the changes that were occurring in the business! Once again in the back of my mind was my rule of thumb to be cautious on companies acquiring.

I sold my half holding at 15 cents. I must acknowledge that management has done a good job since I’ve been a holder and some of the acquisition multiples they paid looked very attractive. I emphasise I am still a holder, and in part wanted the funds for some other opportunities. The weight had crept up quite a bit at times by participating in various rights issues, even getting some more allocated through applying for any shortfalls.

Quite conceivably my concerns may prove to be unwarranted in the future. I am just content having a smaller weight for the time being until I gain a clearer picture. If the shares go through the roof in the meantime well so be it. I’ll be interested if Sandon or NAOS note anything meaningful about the result. They may not say a lot given their large stakes and wishing to keep their cards close to their chest, but sometimes it can be useful to read between the lines to see whether they may have become less bullish.

6 thoughts on “FUND MANAGERS CONTANGO, NAOS & FORAGER. THE BATTLE FOR MACMAHON, PROFT REPORTING SEASON.”

  1. Ooh Steve,
    I really enjoy your blog and the insight. But the following comment I found frightening. “It has continued to grow a lot in my holding period and I don’t want to fall in love with it.” I thought stocks were one on the things one must not fall in love with?

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    1. Hi James, I think I agree with you but perhaps didn’t explain it very well.

      I was owning AIK and SSM in larger weights now, compared to the time of my initial purchases. I just questioned whether that is appropriate, given i considered both very very cheap when I first bought. Now I don’t place them in that category.

      The reason perhaps I still held in the weights I did was probably I just got comfortable and very happy listening to them produce the goods with each announcement. Perhaps I was falling in love with them and becoming a little clouded with my judgement, which as you said is not a good thing. Now that the weights are reduced a bit I feel I can consider them more objectively.

      It’s all about my own mental frailties! :).

      By the way I liked your blog post on WAM.
      Can’t understand those buying at current levels, diehard Wilson fans might be better off considering CYA.

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  2. Steve, I will add an analysis of CYA soon. Hopefully, you will feel inclined to share some of your knowledge on the LIC Analysis blog.

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  3. Hello Steve,thanks for the open discussion here,
    I wanted to ask in view of what you were saying above about NAOS, i see this week WAM group took a positve position in NAOS and whether that ha changed you view at all. If I remember tyou are a holder of part of WAM groups offerings.
    Regards Mel

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    1. Hi Melville,

      Despite the NAOS team making a blunder with buying CGA, I still regard them as capable stock pickers albeit with a shorter history than some. I didn’t like it how they went about restructuring CTN though before the vote. It has a high fee structure so at the moment I don’t see the discount tempting enough, although having WAM creep up is a positive.

      Guessing there are so many disgruntled shareholders from this saga that a discount will stay for some time.

      I’m only holding FGG from a few months back from the Wilson related LICs. FGX is one I might get tempted on if the market pulls back a bit but don’t own right now. Not pure small caps exposure of course.

      It (NSC formerly CTN) is in a better shape I guess from when I wrote this blog post but doesn’t interest me personally.

      Steve.

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