Ian Nar­ine

One op­er­ates in the so­cial me­dia space and the oth­er is a Ja­maican con­glom­er­ate pri­mar­i­ly known for Ap­ple­ton Rum. Yet both com­pa­nies have been in the news re­cent­ly due to is­sues re­lat­ed to val­u­a­tion and price. Re­flect on this state­ment. The ra­tio­nal sell­er of a stock or com­pa­ny does not ex­pect the price of the stock or com­pa­ny in ques­tion to go up un­der the cir­cum­stances that ex­ist at the time of the sale. If I ex­pect the price of a stock to rise fur­ther, then all oth­er things be­ing equal, I would not sell the stock. My de­ci­sion to sell is based on my un­der­stand­ing of the lev­el of sup­ply and de­mand, in­vestor sen­ti­ment and what oth­ers may be will­ing to pay. If I come to the con­clu­sion that in­vestors would not be will­ing to pay more than a par­tic­u­lar price, then I would be in­clined to sell.

The is­sue of price is dis­tinct from val­ue and val­u­a­tion. A val­u­a­tion is a view as to what the stock or com­pa­ny is worth at a point in time. A stock can have a val­u­a­tion in ex­cess of its price, but if it is clear that for any num­ber of rea­sons in­vestors are not will­ing to pay a high­er price for the stock at a mo­ment in time, then that val­u­a­tion re­mains an opin­ion rather than fact.

A buy­er will buy be­cause their view is op­posed to that of the sell­er. The buy­er be­lieves that the dis­par­i­ty be­tween a price low­er than val­ue is tem­po­rary and the val­ue will be un­locked over time. Al­ter­na­tive­ly, the buy­er be­lieves that they can bring some­thing to the ta­ble to un­lock any per­ceived val­ue where the val­ue cre­at­ed is high­er than the price paid plus the cost to cre­ate the in­cre­men­tal val­ue. Of­ten peo­ple mis­un­der­stand the dif­fer­ence be­tween price and val­ue and are ei­ther con­fused or dis­il­lu­sioned by the re­sult.

Face­book val­u­a­tion

The fol­low­ing was writ­ten on Feb­ru­ary 9, 2012:

"The up­per end of the Face­book val­u­a­tion is US$100 bil­lion, which equates to a price to earn­ings mul­ti­ple of around 100 times. Can Face­book com­mand a P/E of 100 times in a mar­ket that is trad­ing around 12 to 13 times? Can such a val­u­a­tion make sense in the mid­dle of glob­al eco­nom­ic tur­moil?" It is now his­to­ry that Face­book list­ed on the Nas­daq stock ex­change at a price of US$38.23 and has since fall­en to a low of $17.55. An in­vestor bought Face­book at the ini­tial price ex­pect­ing the price to rise since that is what usu­al­ly takes place in a hyped ini­tial pub­lic of­fer­ing (IPO). That ex­pec­ta­tion could have very lit­tle to do with the un­der­ly­ing val­ue of the stock. Google went up, Ama­zon went up, so why not Face­book?

As my Feb­ru­ary com­ments show, the Face­book val­u­a­tion had lit­tle re­sem­blance to cur­rent re­al­i­ty and once in­vestors re­alised the dis­par­i­ty they dumped the shares, re­sult­ing in the pre­cip­i­tous price drop. Those that sought my coun­sel pri­or to the Face­book IPO would have been made aware of the fick­le­ness of so­cial moods on the In­ter­net. The ecom­merce land­scape has re­mained fair­ly con­stant dom­i­nat­ed by Ama­zon- and eBay-type busi­ness mod­els. Google dom­i­nates the search space and this too has been fair­ly con­stant. Yet when it comes to so­cial me­dia, the fads have changed from Amer­i­ca On Line (AOL), in­stant mes­sag­ing ser­vices, right up to My­Space and now Face­book. Cur­rent­ly there is Linkedin and Twit­ter to con­tend with in that space and the list con­tin­ues to grow. Would you pay 100X earn­ings for a com­pa­ny that has op­er­at­ed in his­tor­i­cal­ly such an un­sta­ble mar­ket seg­ment? From a list­ing val­u­a­tion of US$105 bil­lion, Face­book is now worth US$43 bil­lion. Of course, the oth­er fact is that many a Wall Street an­a­lyst rec­om­mend­ed this stock. For­eign firms al­so hap­pen to be where most of our wealthy in­vestors turn for ad­vice, but that is for an­oth­er day.

LdM price

Last week ques­tions were raised re­gard­ing the pur­chase price of Las­celles de Mer­ca­do (LdM). The Italy-based Cam­pari-Mi­lano pur­chased Las­celles for US$414.8 mil­lion equat­ing to a price per share of US$4.32 (J$388.48) and a price per pref­er­ence share of US$0.57. At the time the of­fer was an­nounced the com­mon stock was trad­ing at a price of J$275.17. The of­fer price, there­fore, rep­re­sents a 41 per cent pre­mi­um over the ac­tu­al trad­ing price of the stock on the Ja­maica Stock Ex­change. A pre­mi­um is usu­al­ly on of­fer when seek­ing to ac­quire a con­trol­ling in­ter­est how­ev­er this pre­mi­um seems to have been ig­nored in many dis­cus­sions.

The price of $414.8 mil­lion is al­so re­flec­tive of the core rum based as­sets of Las­celles. Cam­pari, in a re­lease, in­di­cat­ed: "All oth­er LdM as­sets that are not in the scope of the Ac­quired Busi­ness (prin­ci­pal­ly LdM's in­sur­ance busi­ness, Globe, its trans­porta­tion as­sets, as well as se­cu­ri­ties in oth­er com­pa­nies) are cur­rent­ly in­volved in a process of di­vest­ment and con­se­quent­ly will not form part of the Ac­quired Busi­ness. All net pro­ceeds will be paid to LdM's cur­rent share­hold­ers by the way of one-time ex­tra­or­di­nary div­i­dend(s)."

Mar­ket pen­e­tra­tion

I in­ter­pret this state­ment to mean that in ad­di­tion to the price of US$414.8 mil­lion cur­rent share­hold­ers will col­lec­tive­ly re­ceive a spe­cial div­i­dend from the net dis­pos­al pro­ceeds of the non-core as­sets iden­ti­fied above. This comes on top of the J$42.20 div­i­dend per share that LdM paid to share­hold­ers in 2011. This div­i­dend rep­re­sents an ex­tra­or­di­nary div­i­dend yield and points to the fact that sig­nif­i­cant re­sources have al­ready been with­drawn from the com­pa­ny for the ben­e­fit of cur­rent share­hold­ers as op­posed to be­ing rein­vest­ed in or­der to fa­cil­i­tate growth and ex­pan­sion. In 2010 and 2011, the core busi­ness be­ing ac­quired con­tributed 50 per cent and 68 per cent of the prof­its of the con­glom­er­ate so the pro­ceeds of the non core as­sets should rep­re­sent a sig­nif­i­cant ad­di­tion­al div­i­dend pay­out all oth­er things be­ing equal. It should al­so be not­ed that the sales of the core busi­ness has rep­re­sent­ed around 82 per cent of the com­pa­ny's rev­enues in 2010 and 2011, so it should be clear that the non-core as­sets was rel­a­tive­ly speak­ing a big­ger con­trib­u­tor to the over­all prof­itabil­i­ty of the con­glom­er­ate. Any con­sid­er­a­tion of the price for LdM needs to in­cor­po­rate these fac­tors. Cam­pari in­di­cat­ed that pro for­ma sales of the core busi­ness in the 12 months pri­or to the date of ac­qui­si­tion amount­ed to US$277 mil­lion.

At a price of $414.8 mil­lion, this equates to a price to sales ra­tio of 1.50 times. This met­ric places the of­fer price at the low end of the val­u­a­tion scale. For ref­er­ence, Cam­pari's cur­rent price to sales ra­tio is 2.41 times and Di­a­gio (known for John­nie Walk­er, Smirnoff and Bai­leys) is at a price to sales of 4.1 times. The price to EBIT­DA (earn­ings be­fore in­ter­est, tax­es, de­pre­ci­a­tion and amor­ti­sa­tion) of 15 times al­so seems low tak­en in a broad con­text. In as­sess­ing val­ue one should note that more than 75 per cent of LdM's flag­ship Ap­ple­ton Rum sales in 2011 took place in the mar­kets of the US, Cana­da and Mex­i­co. LdM, un­der the own­er­ship of CL Fi­nan­cial, had every op­por­tu­ni­ty to seek to ex­pand its share in these mar­kets as well as gen­er­ate syn­er­gies from LdM and An­gos­tu­ra. They ei­ther did not or could not. One would not ex­pect Cam­pari to pay for val­ue that they bring to the ta­ble. Their ob­jec­tive would be to lever­age their dis­tri­b­u­tion net­work in the US and, more par­tic­u­lar­ly in Eu­rope, and along with their ex­ist­ing brand port­fo­lio, to in­crease the breath and depth of the mar­ket pen­e­tra­tion.

Is it pos­si­ble that giv­en the cur­rent stand­ing of LdM and CL Fi­nan­cial, the with­draw­al of earn­ings through div­i­dends, the pro­ceeds from the sale of non core as­sets plus the price of US$414.8, that the share­hold­ers of LdM re­ceived a rea­son­able price? Is it al­so pos­si­ble that Cam­pari was able to ob­tain the core rum as­sets of LdM at an at­trac­tive val­u­a­tion? Is it pos­si­ble for this to be dis­cussed in T&T with­out the in­nu­en­do and the pol­i­tics? Of course, the usu­al lack of clar­i­ty from CL Fi­nan­cial on what is in sub­stance if not in form a state as­set is lam­en­ta­ble, giv­en the many stake­hold­ers not least of which are the cit­i­zens of T&T. In the malaise, there is the sug­ges­tion that the pro­ceeds from the sale will be used to ser­vice CL Fi­nan­cial bonds that are in de­fault. Now to my ar­gu­ment since 2009: how can a com­pa­ny be in de­fault of its debt oblig­a­tions and not be in­sol­vent? Why was it not de­clared in­sol­vent? Three years on, does any­one know the an­swer?

Ian Nar­ine is a bro­ker reg­is­tered with the Se­cu­ri­ties and Ex­change Com­mis­sion.