WertArt

Selling Sports Direct

Posted on August 16, 2017 by WertArt Posted in Sold Leave a comment

Since the release of the annual accounts on July 20, 2017, shares of Sports Direct rallied by 40%.

The results were largely as expected with a drop in operating income of 44.1% to GBP 124.8 m (adjusted for the gain on the disposal of the Dunlop brand, realized FX losses and exceptional items). Gross margins came under pressure due to the weakening of GBP against USD. Most of the procurement costs are denominated in USD. Pre-Brexit the company was not hedged against a drop of UK Sterling. Also restructuring expenses for the international business increased operational costs.

Currently, the company has hedges in place at a GBP/USD rate of 1.31 compared with a historical long-term average closer to approx. 1.6. As a consequence, pressure from currency effects might continue for the time being.

On a positive note however, management expects EBITDA to grow between 5% and 15% for fiscal year 2018 ending in April 2018. In addition, the board finally appointed a CFO, filling this key role with a permanent member of staff for the first time since 2013.

Most importantly, however the company is currently in the process of changing its business model.

So far, the company’s business model has been based on selling relatively low margin third party products (i.e. Nike, Adidas and UnderArmour) alongside higher margin proprietary brands (i.e. Dunlop, Slazenger and Lonesdale). Consequently, Sports Direct differentiated the company‘s sports retailing stores from its competitors, both in terms of the range of products on sale and the competitive prices at which they were offered. Combined with a lean supply chain where the company tends to look after most of its logistics itself rather than use external servicers, the company has been very successful over the years.

As the charismatic owner operator Mike Ashley puts it Sports Direct’s aspiration is now to become the “Selfridges” of sport. This means that the company is elevating their retail proposition shifting the store base from a large number of smaller branches focused on price led retailing offering best value to customers to a smaller number of larger upmarket new generation/flagship style stores that attract less price sensitive customers.

The strategic shift seems to be a reaction to the pressure from third party product companies. Top brands have been raising concerns that their labels are not well presented in Sports Direct store formats. Sports direct is emphasizing in the recent annual report that they want to improve the relationship to third party suppliers. A recent announcement of a collaboration with ASICS hints into this direction.

The elevation and relocation of the store portfolio not only includes new rentals but also the investment in freehold property and even development projects. Management wants to invest a total of up to GBP 1,000 m over 2 to 4 years in company owned properties. Roughly one third of this amount has already been allocated in fiscal year 2017.

To finance these investments, the company is now targeting a net debt to underlying EBITDA ratio of up to 3 times or roughly GBP 800 m based on trailing underlying EBITDA. Net debt to underlying EBITDA is currently 0.6 times.

Apart from that, rental payments increased by 39.5% to GBP 183.3 m (adjusted for sub-lettings) in fiscal year 2017. Current obligations from non-cancellable operating leases stand at GBP 785.9 m.

Consequently, the company is expected to increase financial leverage substantially over the next years. A retailer, that combines a hefty debt burden with a considerable amount of lease obligations is ringing my alarm bells.

I also believe that the entrance in the upscale/premium market will require substantial investment in the existing company owned portfolio of brands to re-position them.

Moreover, Sports Direct used to have little overlap with competing retailers of similar size in the UK. From a pricing perspective, they are very competitive and also in the online space they can easily keep up with Amazon. Now they are focusing on a different market segment for less price sensitive and more fashion orientated customers that has been dominated by the likes of JD Sports. JD Sports is a sports retailer that has been extremely successful over the years and that will not be easily to overcome. Early indications by management suggest that the new store formats are slightly more profitable than the older ones but I am not sure whether this will stay like that.

On a different note, I was missing more substance on the online channel in the annual reporting. I could not find any information on online sales (different from last years) and the strategy going forward. This is frustrating because so far, I have been of the opinion that online sales are progressing very well compared to other brick and mortar retailers.

I highly respect Mike Ashley and his team for their operational performance. In the retail space, you have to adapt quickly to remain relevant. With the strategic shift, they might be doing the right thing for the business, because the current retail proposition might not be viable in the future. My investment thesis however was based on a different business model which used to be more attractive but seems to be not sustainable over the long term.

Fortunately, I now have the opportunity to dispose my shares realizing a healthy return. I assume that I sold my position today at a price of 416 pence per share realizing a total return of 31.7% and an IRR of 27.4% over a 14 month holding period.

I will keep following Sports Direct and might consider an investment at some point in the future again.

Disclaimer

The content contained on this site represents only the opinions of its author(s). I may hold a position in securities mentioned on this site. In no way should anything on this website be considered investment advice and should never be relied on in making an investment decision. As always please do your own research!

Gilead Sciences – Investment Case

Posted on July 24, 2017 by WertArt Posted in Current 4 Comments

Gilead Sciences (GILD) is an USD 84.5 bn market cap[1] biotech company and one of the largest biopharmaceutical companies globally. Last year, GILD generated revenues of USD 30.4 bn and reached net profits of USD 13.5 bn realizing a 44% net profit margin.

My conviction for GILD is mostly based on the company’s HIV segment. GILD has been an innovator for the treatment of this disease for years and is by far the most important provider of drugs to HIV patients. Given the lifelong treatment requirement, increasing life expectancy and a steady flow of new patients, GILD dominates a highly attractive market. This is specifically the case for the US where the company’s drugs treat 3 out of 4 patients.

Based on my valuation, I bought this segment at eight times net profit, while ascribing little value to GILD’s other revenue generating segments and the company’s new product pipeline. For instance, my valuation of the company’s other important segment HCV is 40% covered by expected 2017 free cash flow generation.

The major known risk emerges from GILD’s HIV regimens becoming obsolete. However, GILD has proven more than once that they can make themselves redundant before the competition is able to. Management is currently demonstrating this with the successful conversion from older TDF based regimens towards recently introduced less toxic TAF based HIV regimens. Ten years from now HIV might have become a curable disease and GILD’s revenue might have vanished. This scenario has already been reflected in the market value. Evidently, expectations for the HIV segment to continue to prosper are low.

Based on the latest forecast from a leading research house, GILD will be the only top 20 pharmaceutical company with negative sales growth until 2022. The negative outlook seems to be fully reflected in the company’s market valuation. However, in the pharma industry success and failure are closely related and today’s high flying expectations for many potential blockbuster drugs will disappoint in the future. At the same time, seemingly unspectacular development programs will turn out to be highly effective game changers for the industry. I believe that the market ascribes a modest probability to the potential development of a third blockbuster franchise like for instance NASH, Cohn disease or rheumatoid arthritis. I expect GILD’s focused strategy on a small number of therapies to continue to pay off in the future. I also consider current expectations for future HCV sales to be moderate.

Over the long term, management has a strong track record in generating value for shareholders. Recently there have been setbacks with untimely share buybacks and the market waiting for an in-organic play to boost the revenue outlook. Management might be less responsive to claims from market participants than CEOs of similar sized US companies. However, I believe that they are acting for the long term benefit of shareholders.

A corporate action like GILD continuing its highly value creative acquisition path or the involvement of an activist investor might provide a catalyst for the stock price. In addition, insiders have recently reduced selling stock to a large extent. This might indicate that the share price has bottomed out.

I encourage you to read the full investment case which you can download here.

[1] I bought a 3.5% position for the portfolio on May 23, 2017 for an average price of USD 64.5 per share. With 1.31 bn shares outstanding this equals a USD 84.5 bn market cap.

Disclaimer

Gilead Sciences (NASDAQ:GILD)

Posted on May 23, 2017 by WertArt Posted in Current 5 Comments

Today I am buying shares of Gilead with a limit price of USD 66 per share and a target allocation of 3.5% for the portfolio. The investment thesis will follow.

Disclaimer

Q1 2017 Performance Review

Posted on April 10, 2017 by WertArt Posted in Reporting Leave a comment

In the first quarter of 2017 the portfolio gained 4.9% against an increase of the benchmark of 6.8%. Largest contributors to performance were BrainJuicer +1.9% (rebranded as System 1 Group at the beginning of April) and AO Johansen +1.7% (split their shares by 1 for 10 at the end of March). The largest detractor was Dundee Corp -0.7%. At the end of the quarter cash made up 24.2% of the portfolio.

During the quarter, I have sold Lectra (total profit of 216.3%) and Passat (total loss of 27.2%). At the end of the quarter, I started to increase my allocation to Europa Immobiliare Uno and Unicredito Immobiliare Uno.

Since inception in January 2014, WertArt generated a profit of 43.6% against 48.2% for the benchmark.

An overview of the portfolio’s largest ten positions can be found in the following table:

A detailed overview of the portfolio as of first quarter end 2017 can be found below:

The quarterly portfolio cash streams are summarized in the table below:

Disclaimer

Addition to Italian Real Estate Funds

Posted on April 6, 2017 by WertArt Posted in Current 4 Comments

After more than two years of holding a number of Italian real estate funds, two of them are now in the final stage of liquidating their assets.

Europa Immobiliare Uno

Europa Immobiliare Uno has already sold 85% of gross real estate value since my original investment. In total, sales prices were only slightly below appraised values. Currently, the fund assets consist of EUR 93.0 m in cash, EUR 13.6 m in real estate, EUR 8.2 m of assets held in special purpose vehicles (for foreign properties that were not directly held by the fund) and EUR 0.6 m in other assets. Hence, the fund’s current NAV is EUR 115.2 m compared to a current market cap of EUR 106.6 m. Europa Immobiliare Uno will distribute EUR 60.3 m to unit holders on April 12, 2017.

The remaining three properties in the portfolio consist of two barracks leased to the Italian Government to accommodate the Carabinieri. The lease terms end in 2021 and 2023. In addition, the fund owns an empty logistic asset. Negotiations with a logistics company in buying the property are ongoing.

In the 2016 annual report released on March 22, 2017, management provides an indication of what the market value of the remaining portfolio might be. As the fund’s life time will most probably expire at the end of 2017, there is a time constraint to sell the remaining assets. Therefore, management believes that the three remaining properties combined can be sold for only EUR 13.6 m in the current market environment compared to an appraised value of EUR 20.2 m as of December 2017. This implies a 34% discount to appraised value. I believe that this should be a realistic outcome. As far as I understand, sales negotiations are ongoing. For instance, at this price the two barracks trade for a 15% rental yield. Though not a great asset, this price should be attractive to some potential buyers.

Last summer, I sold half of my position in Europa Immobiliare Uno. At the moment, I can buy fund units at the same price (adjusted for distributions), although the price risk has been reduced substantially given additional property sales in the meantime and a more precise guidance provided by management.

After next week’s distribution, when 56% of the current fund market price will be returned to investors, the stub will trade at a 13.4% or EUR 7.2 m discount to NAV. Hence, the combined sales price for the three properties can fall by another 52% before I lose money on this investment. In a best case scenario, in which I assume a disposition of real estate at NAV, this investment can add roughly 15% to the stub unit price until mid 2018.

For the portfolio I bought an additional 1.6% position from March 23, 2017 (annual report release date) until April, 5, 2017 at a VWAP of EUR 939 per unit.

Unicredito Immobiliare Uno

There is something strange going on here. Management has postponed the release of the 2016 annual accounts for several times this year. They are now targeting a period between end of April and the beginning of May to publish the annual report. Why are they doing that? There are multiple possible reasons for that but most likely this is linked to the unknown outcome of ongoing sales negotiations.

My hypothesis is as follows:

30 days after the release date of the annual reporting, the fund manager has to invite to the annual general meeting. Officially, Unicredito Immobiliare Uno’s lifetime ends on December 31, 2017. At this point in time all properties need to be sold. However, the fund’s articles provide for another 3 year extension option. An extension of the fund’s lifetime has to be concluded at the general meeting.

So I assume that management has started the sales process of the fund’s largest asset (73% of remaining gross real estate value). If they reach an agreement with a buyer within the next weeks, chances will be very high that they can sell the remaining portfolio until yearend. Consequently, an extension of the fund’s lifetime will not be warranted and the fund can be wound up until mid 2018.

Of course, the fund manager (in this case Torre SGR) is interested in earning fees and therefore keeping AUM under his control. Hence, an extension might be in his interest. However, fees were reduced at the beginning of 2015 from 1.5% of NAV to 1.15% (except for cash held at fund level at 0.75%). In addition, Torre SGR is a pure play real estate manager with AUM around EUR 1 bn. I believe that for them the reputational damage of another extension of their most known fund by far outweighs the limited economic benefit of three additional years of reduced fee income.

From my perspective, this scenario will become true with a 20% to 30% probability. Moreover, I believe that this scenario is not reflected in the current unit price:

As of June 2016 and adjusted for recent property sales, the fund assets consist of EUR 114.6 m in cash and short term investments, EUR 166.2 m in real estate, EUR 8.7 m in assets held in special purpose entities and EUR 4.6 m in other liabilities. Hence, the fund’s current NAV is EUR 284.8 m compared to a current market cap of EUR 196.8 m. Overall, property value can fall by up to 59% before invested capital will be lost.

The fund’s major asset comprises a luxury residential redevelopment in a prime location in Rome. The planning and approval process is in the final stage. Therefore, I think it might be the right time now to hand the project over to a developer. The current proposition provides for 24,000 sqm of saleable area split over 150 units. According to this article, average prices are expected to reach EUR 10,000 per sqm. Consequently, the total project volume will be roughly EUR 240 m. Currently, the land and the existing building (the plan is to exchange only the façade but to keep the structure of the building that was originally completed in the 1970’s) is valued at EUR 125.2 m. Providing for a project developer margin of 15% of the total sales volume (EUR 35.8 m), this leaves EUR 77.8 m or EUR 3,260 per sqm for construction costs. Construction costs might be a bit low, but overall the numbers seem to validate that this asset should be worth at least EUR 100 m (which would then imply construction costs of more than EUR 4,000 per sqm).

The remaining properties (27% of gross real estate value) consist of residential properties in Rome (and to a small extent in Milan) which I believe can be sold at appraised value. In addition, the fund owns two retail properties. Due to their inferior quality, a sale at 50% of appraised value leading to a loss of roughly EUR 11 m can be expected.

Based on these assumptions, the liquidation value is roughly EUR 250 m providing for an upside of 27% based on the current market price.

There is optionality that an investor can earn this premium until mid 2018.

Otherwise, the fund’s lifetime will be extended until the end of 2020. Nevertheless, I believe that a large part of the current fund assets will be returned to unitholders before that date. In addition, I expect unitholders to get a larger share of proceeds from the redevelopment given that the fund management might step in as project developer to earn the profit margin.

For the portfolio, I bought an additional 1.4% position from March 31, 2017 (date of last press release) until April, 5, 2017 at a VWAP of EUR 1,218 per unit.

A note on the liquidation process in general

As of yearend 2016, the lifetime of three Italian real estate funds (including Invest Real Security, Estense Grande Distribuzione and BNL Portfolio Immobiliare) expired.

In the case of Invest Real Security, briefly before yearend 2016 the fund sold the remaining five properties at discounts to appraised value of 60% to 80% realizing an enormous value destruction for unitholders. Hence, it is of importance to focus on (i) the capable and incentivized investment managers and (ii) real estate holdings that are attractive to a large number of potential buyers.

Apart from that, once the funds have matured the final liquidation process seems to be smooth. As far as I understand, the liquidation has to be completed 180 days after maturity. Hence, the remaining liquidity has to be distributed to unitholder until the end of June 2017 (in the case of the three funds mentioned above). Therefore, the process seems to be less complicated than for instance in the case of the wind up of German open end real estate funds that have to keep restricted cash for years to provide for potential claims (i.e. from buyers, tax authorities, etc.) before they can return the cash to unitholders.

Disclaimer

Sell Passat SA

Posted on March 13, 2017 by WertArt Posted in Current Leave a comment

Passat engages in the video-assisted sales of products in department stores throughout France (71% of revenue), and parts of the US (19% of revenue) and Southern Europe (10% of revenue). The picture below shows a typical sales area in a department store.

Back in 2013, my investment thesis was based on a healthy return on investment and strong cash conversion, the company had shown for a prolonged time. In particular, Passat performed well during the years which followed the financial crisis. Therefore, I wrongly assumed that Passat had a sound business model. The numbers looked very appealing. Paying EUR 38 m for a company that has more than EUR 10 m in net cash and generates cash earnings of around EUR 5 m per annum on less than EUR 20 m of invested capital looked like a bargain to me.

However, as one fellow reader commented, shares of Passat looked more like a “value trap” to him. Rightfully so. In my analysis, I ignored a number of important aspects or came to the wrong conclusion.

Over the holding period, sales in France declined by 12% from EUR 34m in 2013 to EUR 30 m in 2016. I overestimated the resilience of impulse purchases during times of economic distress. Sales quickly recovered in the direct aftermath of the financial crisis, but since then the prolonged deflationary environment has weighted on consumer demand for Passat’s products.

In addition, I underestimated the threat from new entrants. Passat’s historic profitability was not sustainable given low barriers to entry in the industry. Customers do not care whether they buy from Passat or a competitor. Sales depend solely on the product and the perceived usefulness to the customer. As market leader in France, Passat might have advantages in product sourcing and procurement but as it turned out that was not enough to fight competition. Moreover, the transition from brick and mortar to e-commerce puts pressure on Passat’s business model as well.

Sales in the US declined by 33% from EUR 12m in 2013 to EUR 8 m in 2016. Until recently product sales depended to a large extent on a single product. When the exclusive distribution for this product was terminated, sales in North America eroded.

Moreover, the large cash balance might provide a safety net for the business but management was not inclined to invest in the business or distribute the cash to shareholders (which seems to be tax inefficient in France). Therefore, I have given to much weight to cash on hand in my assessment of this investment. I also overestimated the alignment between the owner operators holding 50% of the company and minority shareholders.

One month ago, the company released sales numbers for 2016 (The annual report will follow in April). While revenue declined by 10% y-o-y, management mentioned that operating profit was in line with 2015. Hence, shareholders can speculate on a stable dividend for 2016 providing a dividend yield of more than 8%. Hence, the announcement of the dividend payment might provide further positive momentum to the stock price.

The problem with a “value trap” is that it is always looking cheap and that shareholders are always hoping for better days to come. Of course, the potential introduction of a new “block buster” product or a sustained recovery in Southern Europe could give operations a short-term boost. However, going forward I expect the disruptive forces that have harmed the business over my holding period to prevail.

From a portfolio management perspective, with 0.7% of my portfolio invested in Passat the allocation to this investment is too small and does not justify the ongoing housekeeping any longer to keep on track with this investment. Moreover, shares are trading on very thin volume. Consequently, combined with the reasons mentioned above, I am not inclined to increase my position.

Therefore, I decided to use the current strength of the share price to sell my position. I assume that I started selling my position after the release of the 2016 sales figures on February 9, 2017. According to my trading rules, it took until March 10, 2017 to sell the entire position at a weighted average sales price of EUR 6.06 per share. I realized a total loss of 27.2% and an IRR of -7.9% over a 50 month holding period from this investment.

Disclaimer

Sell Lectra

Posted on February 15, 2017 by WertArt Posted in Investments, Sold Leave a comment

Lectra ticks many boxes that define a good business:

A high proportion of recurring revenue from sticky customers;
A product offering that faciliates customers’ business processes;
A negative working capital requirement leading to attractive return on invested capital;
A strong cash conversion from accrued income and constant free cash flow generation;
A technological edge in an oligopolistic industry that is growing;
A long term leadership team that allocates resources efficiently and owns a large stake in the company.

I invested in Lectra three and a half years ago. Operating performance over this period was excellent as you can see from the table below:

To put these numbers into context, revenues and profits were stagnating from 2010 to 2013. Therefore, management created the “2013 to 2016 Strategic Roadmap” which included investments of EUR 50 m (fully expensed in the income statement) in technology, workforce and relationship to customers. Since then operating performance has continously improved. However, to be fair not all props can be given to management. Lectra also benefited significantly from the weak euro during the three year period. That’s because many customers are located outside the euro zone. At the same time Lectra’s cost base is mostly denominated in euro. Moreover, competition mostly uses US Dollar as functional currency.

With the recent 2016 financial results press release, management announced a new strategic road map for 2017 to 2019. Overall, I believe this will be a continuation of the last three year plan with a focus on sustaining technological leadership. Apart from that, two messages are worth mentioning from my perspective.

First, management plans to transform most of the revenues from new software licenses into recurring subscriptions by establishing a SaaS business model. Lectra is not a pure software company and therefore possibly a little late to this transformation process which many software companies have already completed to a large extent. As with other software companies, this transformation might get bumpy as revenue from software sales might decline with profit levels also being lower at the beginning of the transformation.

Secondly, management emphasizes potential acquisitions helping to achieve growth targets until 2019. That makes me somehow worried. I do not know what they are looking for exactly, but I think it will be difficult to find a target company of similar quality and at the same time an adequate price. From my outside perspective, the company is well positioned in its industry and should focus on organic growth.

From a financial view point, there are no worries at all. The company has no debt outstanding, EUR 75 m in net cash and generated EUR 24 m of free cash flow to equity holders in 2016.

While back in 2013 Lectra’s shares were modestly valued, investors have to pay a market premium right now to participate in the qualitative and quantitative strengths of this business. At a 20 times cash earnings ratio (adjusted for net cash on the balance sheet), this might be an adequate price in the current environment where valuations in general are elevated. The company’s valuation is also reflecting optimistic growth targets (provided by management) with revenue expected to increase by 6% to 12% per annum until 2019 while slightly increasing profit margins. If Lectra reaches these targets, the share price will have a total return potential over the next 3 years of 15% to 30% (without multiple expansion and assuming that net cash will be used for acquisitions). However, this implies that everything will work out according to plan. From my perspective that is all but certain.

Therefore, I sell my shares starting from today with a limit price of EUR 19.5 per share. The investment generated a total return of roughly 215% and an IRR of 43% over a 40 month holding period.

Disclaimer

2016 Annual Performance Review

Posted on January 17, 2017 by WertArt Posted in Reporting 9 Comments

In 2016, WertArt returned 15.9% outpacing the benchmark (+8.5%) despite taking far less risk with 23% in cash over the period. The fourth quarter added nicely to this performance with the portfolio value increasing by 6.3% against an increase of 5.6% for the benchmark.

Since inception in January 2014, WertArt generated 36.9% against 38.8% for the benchmark. Over this period the relative underperformance stems from the large allocation to cash (on average 33% over the last three years). Consequently, from a portfolio management perspective the decision to hold a large pile of cash was a costly mistake over this period. On the other hand, title selection was good. Out of 41 investments (realized and unrealized) made so far, 31 contributed positively while 10 investments had a negative impact on performance.

The table below provides an overview of WertArt’s quarterly and annual performance since inception:

Like every year, I provide the contribution of each investment. The table below shows the contribution of each investment to portfolio performance in 2016:

In 2016, by far the largest contributor to performance was A&O Johansen. This is an investment which I have been holding since the beginning of WertArt and I also increased the position twice. Last year, management made some bold steps including repurchasing 54% of share capital and conducting strategic acquisitions to bolster the company’s market position in Denmark. From my perspective, chances are high that these management decisions will continue to increase the company’s intrinsic value over the next years. Despite last year’s 85% share price increase, I believe that shares of the company are still attractively priced. Consequently, for the time being I decided to keep the relatively large allocation to this investment unchanged.

An overview of the portfolio’s largest ten positions can be found in the following table:

Over the last twelve months, the portfolio has become more concentrated with the largest ten investments representing 50.2% at the end of 2016 compared to 42.6% at the end of 2015.

A detailed overview of the portfolio as of yearend 2016 can be found below:

Last but not least for full transparency, I am providing the quarterly portfolio cash streams in the table below:

Disclaimer

Sell AGCO

Posted on December 12, 2016 by WertArt Posted in Current Leave a comment

AGCO’s share price has soared by 22% during this quarter. Shares are now trading for 26 times 2016 expected earnings.

There seems to be a consensus by market participants that demand for agricultural farm equipment has bottomed out. Recently, AGCO’s major competitor Deere released a trading statement beating market expectations hinting to a recovery in farmer spending.

In AGCO’s case earnings per share (EPS) have declined by almost two thirds from a cycle top of USD 6.0 in 2013 to a 2016 target EPS of USD 2.3. The decline comes despite a substantial share buyback that has reduced share count by more than 20% since 2013. When I made the investment in June 2014, it seemed to be clear that the industry was facing headwinds but nothing like 20% to 30% decline in revenue as it turned out to be the case. Overall, it speaks for the industry dynamics and management capabilities that the company has remained profitable during the cycle so far.

Apart from that, AGCO is an international company with roughly 70% of revenues coming from abroad. Hence, AGCO might profit from Donald Trump’s proposed reduction of corporate taxes on cash repatriation from foreign affiliates. In the meantime, the current USD strength is rather counterproductive to AGCO’s earnings.

There is also room for consolidation in the farm equipment industry with AGCO being one of the most prominent potential targets. The company is relatively small compared to peers like Deere and CNH and can therefore spend less capital on product development. Consequently, given that this is a capital intense industry there is a risk that AGCO will not be able to keep track with larger peers over the longer term. An indication of a competitive disadvantage results from relatively lower margins compared to Deere over an extended period of time.

I think that AGCO’s share is currently fairly priced. There will be some room for the intrinsic value to go higher, if it turns out that normalized earnings are north of USD 4.0 per share. That is likely. However, I think I am not getting paid enough to take the risk.

I sold my position on Friday, December 9^th 2016, for a volume weighted average price of USD 60.3 per share. That is just a couple of bucks higher than at the time of my investment. However, including currency gains and dividends this investment returned a healthy total return of 40.0% and an IRR of 14.9% over a holding period of two and a half years.

Disclaimer

Momentum Play: German real estate fund KanAm Grundinvest (DE0006791809)

Posted on November 27, 2016 by WertArt Posted in Current, Investments 4 Comments

So far, I invested in two German real estate funds in liquidation – TMW Weltfonds and Axa Immoselect. I exited both investments at the end of last year. My introductory post about this investment topic can be found here.

Together with CS Euroreal and SEB Immoinvest, Kanam Grundinvest is one of the “big three” German real estate funds currently in liquidation. The fund is now approaching the end of the almost 5 year official liquidation phase. The remaining assets will be transferred to the custodian bank at the end of December 2016. The sales process will be ongoing afterwards. The current portfolio consists of twelve properties located in Luxemburg, Montreal, Rotterdam, Paris and Brussels. Management expects to have sales agreements in place for the majority of the remaining fund assets before the transfer to the custodian bank takes place. This implies that December will bring a lot of news flow for this fund.

As of October 2016, the fund had EUR 900.5 m in real estate and EUR 539.9 m in cash. They have provisions and obligations of EUR 254.9 m on their balance sheet. Other assets sum up to EUR 165.9 m. The fund has no bank debt outstanding. The NAV is EUR 1,351.4 m or EUR 18.85 per fund unit. Fund units can currently be bought in the market at EUR 15.2 or a 19.4% discount to NAV.

During the ongoing liquidation phase 40 out of 52 properties have already been sold generating gross proceeds of roughly EUR 5.0 bn. I expect the following office properties to be sold in due course:

E-Commerce 1 and 2, an office complex in Montreal seems to be in the later stage of the sales process. According to this article from Reuters, two Canadian financial service companies are set to buy the property for around CAD 415 m. The sales price would be roughly 12% above the appraised value. The two Canadian assets comprise 29% of the fund’s remaining property portfolio.

Atrium Business Park consists of four properties and is located in Luxemburg. Tenants include KPMG, Zurich Eurolife, Baloise-Versicherung, Sodexo, IS4F and Dentons. The weighted average lease term is four years. Based on the appraised value and expected next year rental income the asset implies a gross yield of 6.0%. The four Luxemburg properties comprise 27% of the fund’s remaining portfolio.

The refurbishment of Square de Meeus in Brussels should be completed soon. There is already a lease agreement until 2025 with the European Parliament in place. The asset comprises 18% of the fund’s remaining portfolio.

Hence, based on my expectation, the fund should be able to announce the disposition of 74% of current property portfolio value within the next one or two months.

The difficult to sell part of the portfolio comprises three properties in the challenging Dutch office market and two properties in Greater Paris:

Delftse Port is 50% owned by Kanam Grundinvest. The rest belongs to the Dutch Office Fund. The property has recently been refurbished and is currently being marketed. The property has more than 65 thousand sqm of leasable area. According to this site roughly 15 thousand sqm are currently marketed for around EUR 200 per sqm/year. The asset represents roughly 7% of the fund’s remaining property portfolio.

Blaak 555 is 70% vacant and Robecohuis is 100% vacant. Consequently, a time and capital consuming repositioning of these assets might be necessary to be able to sell them. Together they represent roughly 8% of the fund’s remaining portfolio value.

All three Dutch assets are located in or close to Rotterdam’s city centre. Since June 2015 appraised values have been adjusted downwards by 14% for Blaak 555, 17% for Delftse Poort and 55% for Robecohuis. In April 2016, another German real estate fund in liquidation, CS Euroreal, showed that Dutch office properties attract interest from investors again, when they sold almost their entire Dutch portfolio above appraised value.

The two French properties, Le Colombia and ONYX, are located in the North of Paris. Le Colombia is currently vacant and ONYX has a relatively short remaining average lease term of one year with 25% being vacant. Together they represent 11% of the remaining portfolio value. Based on latest rental income generated, le Colombia is valued at an 8.6% and ONYX at a 6.1% gross yield.

Consequently, 26% of the current real estate portfolio might not be marketable immediately. Nevertheless, I believe that all five properties have the potential to be successfully repositioned and to be sold on average at 85% of current appraised value (including potential repositioning expenses and disposition costs) over the mid term.

How could the fund’s further liquidation look like?

Overall, the fund should be able to generate at least EUR 630 m of net sales proceeds (after 5% disposition costs) in the near term or EUR 8.8 per fund unit. This brings the cash balance to EUR 1,170 m or EUR 16.3 per fund unit. Assuming that fund management keeps EUR 450 m within the fund, potential near term distributions at the beginning of next year sum up to EUR 720 m or EUR 10 per fund unit. After the distribution and taking into account a 15% value adjustment for the remaining properties, the fund has a NAV of EUR 591 m or EUR 8.2 per fund unit. Assuming that the unwinding of the fund takes until 2021 with the remaining assets being distributed pro rata each year in October, I expect an annual distribution of EUR 1.65 per annum over a period of five years. In this scenario, an investment is expected to generate a 17.3% IRR and a 19.6% total return.

The success of this investment depends on the current momentum keeping up in the property markets. I believe that the quality of the remaining portfolio is relatively high and sought after by a number of potential buyers. Management has indicated that they are eager to sell as many assets as possible before the transfer to the custodian bank takes place. Given my assumption, that 53% of current NAV will be distributed to unitholders soon, I am allocating a relatively large portion of my portfolio to this investment.

I am assuming that I bought a 7.9% position of my portfolio from November 21 to November 25, 2016 at an average weighted price of EUR 15.21 per fund unit.

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