Newsletter July 2010
July 1, 2010
South Canterbury Finance
The news that Alan Hubbard has been placed into statutory management by the Government has come as a huge shock to the investment community. Hubbard is a rare breed in New Zealand business, a man who puts the interests of others ahead of his own. The Government was at pains to emphasise South Canterbury Finance was not part of the statutory management order, however the news will undoubtedly have an effect on the company. The Government would have been fully aware of the implications for South Canterbury Finance when they made the statutory management decision, and one can only assume the charges against Hubbard are serious, and provable. If not, the Government has made a serious error of judgement, which could end up costing them a significant sum of money. I hope for the Hubbards’ sake there is no dishonesty involved, and the only misdemeanour will be a lack of compliance with some very onerous securities regulations.
If the charges are more sinister, it could easily prove the last straw for South Canterbury Finance. Alan Hubbard, after pouring millions of dollars of his own wealth into the company, is seeking an equity partner to carry the company beyond the December 2011 withdrawal of the Government Guarantee. Any negative news makes such a task improbable; news of the Serious Fraud Office being involved could blow those chances out of the water.
The majority of our clients hold South Canterbury Finance within the Government Guarantee, and those investors need not be concerned about the security of their investment. If South Canterbury defaults the Government will step in and make interest and principal payments to you when they fall due. The bonds maturing in 2012 will be covered by the Guarantee until December 2011, and if the company defaults before then, those bonds will also be honoured by the Government. If the company trades past 2011 those bonds will have no guarantee behind them, and repayment will depend on the fortunes of the company over the following year. I can’t imagine South Canterbury would trade past December 2011 without absolute confidence of its survival. The perpetual preference shares are not covered by the Government Guarantee, and holders of those securities will be hoping the company can trade well beyond the December 2011 deadline.
The Time Value of Money
One of the first concepts taught in a finance degree is the “time value” of money. In simple terms the time value of money suggests we would rather receive a dollar today than receiving the same dollar on a date in the future. Today’s dollar is worth more than the same dollar in the future due to the fact we have the ability to earn interest on it in the interim. It’s a fairly basic concept, however it can be difficult to use in practice. For example how do you know whether receiving $750 today is better than receiving $1,000 in five years time? This is the type of question investors’ grapple with when faced with decisions such as the Dorchester Finance recapitalisation.
To answer the question of whether receiving $750 today is more favourable than receiving $1,000 in five years time is a relatively simple matter, because we know (or can estimate) all the variables.
- $750 today (Present Value)
- $1,000 in the future (Future Value)
- Five-year term (Term)
All we need to estimate is the rate of return we might achieve in the interim. I think it would be safe to assume we could achieve 6.75% without taking undue risk. If we invest $750 today at 6.75%, and compound the interest annually, in five years we will have $1,039.68. Clearly it is better to take 75 cents in the dollar today, than wait five years to receive the lot. I use a financial calculator to solve these equations, but you can use a standard calculator if you know the formula.
Formula – Future Value = Present Value x (1 + Rate of Return) ^Term
Future Value = 750 x (1.0675) ^5
Future Value = 750 x 1.38624
Future Value = 1,039.68
* The ^ symbol indicates “to the power of.”
The Dorchester Pacific Finance decision is, of course, far more complex than this simple problem, because we don’t know the variables with any degree of certainty. Dorchester Pacific Finance debenture holders are being offered four new securities in return for their outstanding debentures; units in Dorchester Property Trust holding four hotel properties, interest-bearing (5.00%) notes with Dorchester Pacific Limited, shares in Dorchester Pacific Limited, and options to acquire further shares in Dorchester Pacific Limited.
The company claim the units in the hotels, and the shares in Dorchester Pacific will offer liquidity to those wishing to exit their investment. Liquidity is a great thing, but is of little use if the value of the underlying securities is slashed by an excess of sellers wishing to exit. Look at what happened to the Allied Farmers share price when Hanover investors were issued shares in lieu of their debentures. When the Allied Farmers shares were issued to Hanover investors, they were trading at 0.20 cents. At the time this represented approximately 0.45 cents in the dollar for the Hanover debentures. Since then the Allied Farmers share price has slowly declined to 0.04 cents, as investors who presumably have decided time is not a luxury they can rely on, have sold out.
If I was twenty years old I would probably vote for the capital reconstruction, put the units and shares away in the bottom draw, and wait for the economy to move through its inevitable cycle. If I was retired, and relying on investment income to subsidise my pension, I would retain my rights as a secured debenture holder, and vote against the plan. If you hold Dorchester debentures, and you would like to discuss your situation, please call the office.
GPG
GPG shareholders will be wondering what the company has in store for them next. There is clearly a major rift between directors Gary Weiss and Tony Gibbs, and it is a very poor look for the company. The suggestion that GPG split off its Australian holdings into a separate company met with universal disapproval, and the company has since suggested some sort of return of capital in combination with an exit from thread maker, Coats. The share price has taken a hiding as investors shy away from what appears to be a directionless company. The research we have suggests GPG is valued at far more (based on the share prices of the companies it holds) than the 0.67cents it currently trades at. Of course “value” and “price” don’t always go hand in hand. If there is enough negative sentiment around a particular asset value tends to be ignored as investors scramble to exit.
Scams
I recently had a young man in the office who appears to have been the subject of a scam. He was contacted by phone by a sharebroker in the U.S who convinced him to buy some shares trading on the U.S exchange. He paid $10,000 to the US broker, who sent a statement documenting his holding. When he wanted to cash in his shares, the broker was nowhere to be found. Wherever there is money there will be people trying to take it off you, and some of these people are extremely plausible. You need to be vigilant when you receive an unsolicited approach from somebody making offers of financial gain. If it sounds too good to be true then nine times out of ten it is.
BP
BP has been in the news recently for all the wrong reasons. The oil spill in the Gulf is the worst in history, and it is the type of event that causes shareholders to shudder. It’s something that all share investors need to be aware of – we can’t predict the future. The worst part of an adviser’s job is the fact that we are always dealing with historic information. We can analyse a company to death and produce research and reports on what it’s achieved, but we can’t tell you what it’s going to do tomorrow. BP would have been regarded as a blue-chip stock to hold as part of an international portfolio, increasing in price from £4.00 in 2003 to £6.50 in April 2010. Since the spill the share price has dropped over fifty per cent to £3.05. Comparisons can be drawn here in New Zealand with Telecom, GPG, and South Canterbury Finance, and I think the message for investors is that you shouldn’t try and back one or two winners. Determine whether risky assets are suitable for your situation, and if so, make sure you spread your money well to ensure an overnight breaking news story doesn’t send you into cardiac arrest.
Shell
Aotea Energy, the joint venture between Infratil and the New Zealand Superannuation Fund that purchased the Shell assets in New Zealand, may be looking to raise money in a bond offer shortly. We expect the rate to be above 7.50% for a five year term. If you are interested in this opportunity please make contact with the office as soon as possible, so we can get an indication of demand.
Hockey
My youngest son will be competing in the National Under-16 hockey tournament here at Clareville, starting on July 12th. I am hoping to get to as many games as I can, so will be away from the office at times during the week. If I am out of the office, and you need to contact me, don’t hesitate to ring me on my cellphone – 0274523980.
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