TSH released a couple of significant updates over the past 2 weeks:

1. On 16 September 16, TSH announced that a big total payout of S$0.1232 per share of cash will be distributed back to shareholders, comprising S$0.016 in special dividends and S$0.1072 in cash distribution via a capital reduction. Total amount to be paid out is S$29.63 million or almost 88% of its current cash balance of S$33.69 million; and
2. The company had disposed of the majority of its Hibiscus shares earlier on 8 September 16. This means that the cash position it announced on 31 August did not include proceeds from the Hibiscus shares.

Our Take

While not surprised that the Company bumped up the upcoming cash distribution (see previous update) to include proceeds from the property disposal, the quantum of the payout pleasantly exceeded our expectations. Nonetheless, we welcome this very minority friendly approach taken by the Company. Together with the S$0.03 dividend paid in May, total distribution from the Company this year will hit S$0.1532 per share, close to double the original share price when our initial report was posted 5 months ago. Post distribution, shareholders will still retain their original shareholdings backed by a mostly cash net asset value of 1.9 to 2.6 S cts per share, based on the updated cash position which now includes Hibiscus proceeds and assumed Unilink sale price. More upside could even be in store if an RTO materialises. 

We expect the market to react positively to news of the bumper distribution given that the last traded price of S$0.127 is just slightly above the total payout amount. 

Since our last update in which we pointed out the strong possibility of TSH monetising all its assets and distributing the resultant proceeds in the mid to near future, the Company has successfully completed the disposals of most of its key assets in the space of 3 months.

Cash company sitting on cash hoard even before proposed Unilink sale

Having sold its main operating units, TSH is now a cash company as defined by Rule 1017 of the SGX Catalist rules. It currently sits on a cash hoard estimated at S$32.69 million, 90% of which will be held in an escrow account, according to its latest announcement as at 31 Aug 16. TSH will now have 12 months (with an additional extension of 6 months subject to SGX approval) to look for a new operating business which meets SGX’s listing requirements or be delisted, a scenario which should result in a distribution of all its cash. It should also be noted that under the Catalist rules, money in the escrow account can only be used for distributions to shareholders or to pay for expenses incurred in a reverse takeover. This should accord shareholders some assurance that the bulk of the cash will be safe and not be used to pay for ongoing corporate expenses such as directors' fees.

The reported cash position translates to a per share cash value of S$0.136 but does not include proceeds from the yet to be sold 26.5% stake in Unilink Development Limited. While we had previously flagged out that the realisable value of the Unilink stake could be much lower than book if pegged to the recent Metronic transaction, TSH’s management appears to think otherwise as it only adjusted the carrying value slightly downwards to S$2.98 million. A successful sale of this stake close to this price should boost its net cash per share to S$0.148 as the company has already repaid all its debts. 

But net liquidation value slightly lower than previously estimated

Using the management’s value estimation of the Unilink stake and including all residual assets and liabilities currently on its books, the net liquidation value of TSH works out to be about S$0.145 per share[1]. Should the more conservative sale price of Unilink be applied i.e. pegged to Metronic transaction, the net liquidation value is estimated to be S$0.137 instead. Both figures are slightly lower than our previous estimate of S$0.151 per share with the main difference being the slightly lower than expected sale price of the freehold property at Burn Road as well as forex losses and other expenses incurred in 1H2016.

Payout of at least S$0.025 per share expected soon

The Company has already announced previously its intention to distribute 100% of the net proceeds from the sale of Explomo and Wow totalling S$6 million to its shareholders via a capital reduction. This translates into a payout of S$0.025 per share. With no operating business and a cash hoard likely in excess of what is required in a typical reverse takeover, we will not be surprised if the Company decides to dish out further cash distributions in the coming months or bump up the next distribution to include part of the proceeds from the property disposal.

Recommendations

TSH has turned in an impressive performance since our initial report on 31 March 2016 with total returns of 99% over the 5 month period. As with the situation with all cash companies, further upside will depend very much on what and when Company decides to do with the cash pile over the next 12 months. Going forward, we think the share price should be supported by the current net cash per share of S$0.136 until further developments in the sale of Unilink or a new business acquisition is announced. While a potential acquisition could provide a further boost, we see a distribution of substantially all its cash holdings as the more viable and sensible option under existing market conditions. This means that shareholders should realise the estimated net breakup value of between S$0.137 to S$0.145 per share over the next 12 months or so, an upside of between 8% to 14% over the last traded price of S$0.127. 

Key Risks 

The major risk going forward is of the Company squandering its cash hoard in a value destroying acquisition. However, with 3 of the 4 board members (Teo Kok Woon-28.4%, Anthony Lye-16.6%, John Wong-3.2%) owning collectively more than 48% of the Company’s shares, we believe the interests between management and minority shareholders are sufficiently aligned in this case to mitigate this risk.

Since our initial write-up on TSH, the share price has surged, returning a total of 86% in less than 2 months. Our initial estimates pegged the value of the shares to the sum of its existing net cash and short-term securities position of S$0.077 rising to S$0.139 (S$0.0107 and S$0.169 respectively before adjusting for the 3 S cts dividend it had earlier paid) should the freehold property be successfully disposed. Recent developments, however, suggest that our views have been too conservative.

We now see a strong likelihood of the company monetizing all its assets and distributing the resultant proceeds in the mid to near future. Shareholders should realize total proceeds of at least S$0.151 per share should that happen. This represents a further 29% upside from the last traded price of S$0.117. We remain long at the current price.  

Key developments since our report

1. TSH announced on 28 April 2016 following its AGM that it had entered into a sale and purchase agreement with Exact Solution Management Ltd to dispose of its Consumer Electronics business carried out under its wholly owned subsidiary, Wow Technologies (Singapore) Pte Ltd. The consideration is US$2.4 million or S$3.24 million. It intends to distribute 100% of the net proceeds from this sale to shareholders. 
2. Concurrently, the Company has entered into a non-binding term sheet with its CEO, Anthony Lye, for the disposal of its Homeland Security Services business, consisting of its wholly owned subsidiary, Starmo International Ltd as well as subsidiaries under Starmo. The consideration shall be in cash and is to be agreed by the Company and Anthony  subject to a valuation report to be prepared and issued by an independent valuer. 
   
3. Company revealed in its annual report for FY 2015 in regard to its 26.5% stake in Unilink Development Limited that “Following the plan of the Company in 2015 to dispose of the investment in Unilink, the Company has followed up with a concrete plan to locate buyer and is of the view that the sale is highly probable to be completed within a year.” Consequently, the value of the Unilink stake has been written down to S$3.127 million as an estimated recoverable amount based on discussions with third parties. 
   

Our Take

Twin disposal of Consumer Electronic Business and Homeland Security Business leaves TSH with no core businesses and removes key cash drain risk

Coupled with the company’s decision not to actively pursue any property development projects after the disposal of its Australian properties, TSH is set to become a cash company upon the completion of the twin disposals of Wow Technologies and Starmo.

We previously flagged out the consumer electronics business, which incurred a loss of S$2.73 million in 2015, as the prime risk to TSH’s cash pile. Thus, we see its proposed disposal as positive news for shareholders even though the consideration of S$3.24 million would result in a non-cash disposal loss of S$0.37 million. The resulting cash distribution from this sale is estimated to be 1.3 S cts per share, representing 11% of the last traded price of S$0.117.

At the same time, we think the disposal of its Homeland Security Business, Starmo, should generate proceeds no less than the net carrying value of its tangible assets given that this division has consistently generated profits, albeit declining, over the last 3 financial years.

However, net realisable value of Unilink stake may be lower than book value

Although the Company has estimated that the recoverable value of the 26.5% stake in Unilink to be S$3.13 million, we note that Malaysia-listed Metronic Global Bhd recently disposed of a 17.7% stake in the same company for just US$551,724. Should the sale of TSH’s stake in Unilink be transacted at a similar valuation, the consideration it eventually receives may be closer to S$1.15 million (US$:S$=1.380), representing an S$1.98 million deficit over its current book value. 

Net Breakup Value is likely to become key share price driver going forward

With the latest announcements, we think that TSH will eventually dispose of all its key assets and businesses and return the proceeds to shareholders. As such, the focus for shareholders should shift towards TSH’s net breakup value as its assets will eventually be converted into cash.

Recommendation

Even though the share price of TSH has surged since our initial report, recent developments suggest that more upside may be installed for its shareholders. The pace of the disposals and distributions would likely drive share price going forward. Nevertheless, shareholders should eventually realise no less than our conservative estimate of TSH’s net breakup value of S$0.151 per share, representing an upside of 29% over the last traded price of S$0.117.

Further upside could come either in the form of a higher selling price of TSH Centre, Starmo or the stake in Unilink as we have assumed undemanding considerations for each of these assets. As an example, should TSH sell its property at say 909 psf which is the current lowest asking price of comparable properties in the vicinity, the net breakup value could rise to S$0.169 or 44% above the current share price.

We continue to be buyers at this price. 

We believe that low profile SGX listed microcap TSH Corporation Ltd (“TSH”) should be on the immediate radar screen of investors. Not only does it trade at a steep 20% discount to its net cash position of S$0.099 per share, it recently declared a dividend of S$0.03, which in itself makes up 38% of the last traded price of S$0.079. On top of these, the company has also announced its decision to dispose of its freehold property near Tai Seng MRT, a building it acquired shortly after the GFC in 2009. Our conservative estimates show that if the company successfully disposes of the said property even at a significant discount to current asking prices of similar properties in the vicinity, its net cash position would balloon to S$0.169 or 2.1 times the last traded price! With the company choosing not to take an active approach in the capital-intensive property development business for now, we see limited risk of excessive cash drain threatening its cash pile.

At the current market price of S$0.079, TSH is significantly undervalued. We think it should, at the very least, trade at its existing net cash and short-term securities position of S$0.107, or a 35% premium to its last traded price. An even bigger upside could be realised if TSH succeeds in disposing of its freehold property at our assumed price or better.

Background

Brief summary on TSH

TSH operates in 3 main business segments: Homeland Security Services, Consumer Electronic Products and Property Development, the last of which is effectively dormant following the recent sale of its Australian property developments. 

TSH’s Homeland Security Services business, which is largely project-based in nature, provides the following services: 

- Defence related materials disposal and recycling;
- Land remediation;
- Security consultancy;
- Civil defence shelter; and
- Supply and choreography of pyrotechnic and firework displays.

Its Consumer Electronic Products business consists of the design and development of electronic products such as headphones, earphones, speakers and accessories for mobile phones and tablets as well as original design and manufacture of digital imaging products.

Prominent controlling shareholder

The largest shareholder in TSH is the family of late hotelier Teo Lay Swee, whose stake is held through family holding company Cockpit International Pte Ltd and Teo Kok Woon. The low key Teo family has a long history of shrewd property deals, the most prominent being the disposal of Cockpit Hotel (which has since been developed into Vision Crest Commercial and Residential buildings) together with the adjacent House of Tan Yeok Nee to WingTai for S$380 million[i] back in 1996, several times the total amount the senior Teo paid for them in 1983 and 1991 respectively.  Others include selling Ibis Novena for S$118 million at a reported a profit of over S$40 million 2 years after developing it. That said, the family appears to be a rather passive controlling shareholder with Teo Kok Woon himself happy to remain as a non-executive director in TSH for the past 10 years. 

Low key results announcements including dividends and property disposal

On 29 February 2016, TSH released its annual results for the year ending 31 December 2015. Its results were unremarkable as it recorded a pre-tax loss of S$7.1 million largely due to one off exceptional items including impairment losses and loss on disposal of property of S$4.5 million and S$1.9 million respectively. Excluding all exceptional items, the loss before tax would have been a much more benign S$0.2 million, reversing from a gain of S$1 million the year before.

Despite the loss, however, TSH unexpectedly announced a bumper dividend of S$0.03 per share or almost 38% of its last traded price of S$0.079. Interestingly, this is the first time the company announced a dividend in the last 5 years. As part of the announcement, the management also revealed its intention to dispose of its freehold property at Burn Road.

Freehold Property to be put up for sale

The freehold property in question is a 7-storey detached freehold industrial building named TSH Centre located within a short distance of Tai Seng MRT station and with an estimated gross floor area of 23,508 sq ft and land area of 10,623 sq ft. It was acquired at a bargain price of S$8.8 million close to the bottom of the property cycle in 2009. URA has zoned the area in which the property is situated as a B1 industrial zone with a maximum plot ratio of 2.5.

Our Take

Market is effectively paying you to buy TSH shares even if property sale does not happen…

TSH currently trades at a discount of 20% to its net cash value (giving it a negative enterprise value) and a discount of 26% to the total value of its net cash and ST securities. This means that if you as an investor were to buy S$1000 of TSH shares at the current price, you would get back in value: net cash of S$1255 and another S$101 in short term securities. Yet more bonus value comes in the form of the freehold property (S$459 if measured by book value alone) and S$285 in other net assets.

…but potential reward increases significantly if property sale goes ahead

The sale of TSH Centre looks set to provide an even bigger boon to shareholders as it will unlock value in the property. We estimate that the property is currently carried on TSH’s books at a cost less depreciation of S$8.7 million or just S$378 per square foot of gross area. To estimate how this compares with the actual realisable price in the event of a sale, we did a search on publicly available commercial property platforms for B1 Industrial properties in the building’s vicinity. Our search yielded two freehold properties:

(Source: Map from URA, pictures by stockresearchasia.com)

Figure 1: Table and map showing plot ratio and key statistics of TSH Centre and nearby freehold properties listed for sale on commercial platforms

Both properties are being listed for sale at above S$900 psf, with a plot ratio close to the maximum permissible of 2.5. While both properties are broadly comparable to TSH Centre, they are also much newer and display different characteristics in terms of size, proximity to public transport facilities like the MRT station and frontage. Further taking into account that their actual transacted prices could be lower than list prices especially given the challenging market conditions, we choose to err on the side of caution and peg the value of TSH Centre at S$727 psf of gross area, a 20% discount to the lower psf of the two properties. This would yield potential sale proceeds of S$16.8 million or almost double its book value. Consequently, TSH’s net cash position could balloon to S$40.6 million or about 2.1 times the current market capitalisation.

Using our earlier example of the investor buying S$1000 of TSH shares to illustrate, should the company succeed in selling TSH Centre, the investor would be getting in value S$2138 in cash in addition S$101 in short term securities and S$285 in other net assets. This is not even taking into account the proposed dividend of S$380 that the investor should receive by May 2016.

Given that the company will not be actively seeking new property development projects, we posit that the management might even choose to reward shareholders with more bumper dividend payments in future.

Figure 2: TSH is trading at a steep discount to just its current net cash position; discount set to increase even further if property is disposed as planned by management

Possible target for shareholder activists?

The Company’s shareholdings are fairly loosely controlled with the three biggest groups of shareholders, namely the Teo family, CEO Anthony Lye & his spouse and non-executive Chairman John Wong holding 48.2% in total, leaving the public free float at 51.8%. With more than 50% in the hands of the public, small market capitalisation and a cash loaded balance sheet, we think that TSH could potentially be targeted by activist shareholder groups. In the event this happens, value realisation could be expedited. We stress, though, that this should not be a primary reason for investors to buy into TSH. 

Figure 3: Top 3 shareholders own less than 49% of TSH’s total outstanding shares

Recommendation

With the stock trading at such a significant discount to just the value of its net cash and short term securities, TSH is a compelling buy. The buy case gets even stronger if the company manages to sell its freehold property even at the conservative price we have assumed. Add to the fact that a dividend of 3 S cts per share is set to be paid in the coming months, we believe the risk reward for an investment in TSH is too favourable for investors to ignore. The current price presents an excellent opportunity to accumulate its shares with limited downside risks. We are definitely buyers at this price.

Key Risks

Further deterioration in the company’s consumer electronics business could put pressure on the company’s cashflow and consequently its cash pile. However, this should be partially mitigated by the more stable homeland security business. The company has also generated on average positive free cash flows over the past 5 years which provides us with some comfort in its cash flow generating powers.

Less than 2 days after our initial post diagnosing the current state of SIA’s takeover offer for Tigerair shares, SIA upped the ante by announcing that it has waived the 90% acceptance condition, making the offer unconditional in all aspects, as well as further extending the offer period to 5 February 2016 from 22 January. It also announced that shares it and its concert parties control including valid acceptances has reached 79.22% of total outstanding shares as at 8 January 2016. 

Our Take

We see the latest move by SIA as positive for SIA and minority shareholders of Tigerair who have either accepted or plan to accept the revised offer. Specifically for SIA, declaring the offer unconditional offers it a couple of advantages.

Higher chance of SIA getting to the compulsory acquisition threshold

Firstly, it means that SIA can now extend the offer beyond the 60th day (25 January 2016) to 5 February 2016. As explained in our previous post, an offer will not be allowed to extend beyond the 60th day after the date of posting of the Offer Document unless it has become or been declared unconditional. This is important for SIA as its ultimate aim is to be able to fully privatize Tigerair. Being able to extend the offer period gives it more time to accumulate acceptances and consequently a higher likelihood of bringing its total shareholdings across the compulsory acquisition threshold of 95.58%.

Opens up other privatization options in future

Furthermore, declaring the offer unconditional allows SIA to keep any shares tendered during the offer period even if its resultant shareholding ends up being less than 90%. From a strategic perspective, the tighter control opens up future privatization options such as a voluntary delisting via Rule 1307 of the SGX Listing Manual where, as the majority shareholder holding more than 75%, it will be able to vote through the delisting resolution subject to no more than 10% of shareholding votes present at the general meeting voting against it.

News is positive for shareholders who intend to accept…

For shareholders who have already accepted or intend to accept the revised offer, the waiver of the 90% acceptance condition gives them certainty of monetizing their holdings at the offer price. This is unlike under the previous scenario, where they would have to wait for SIA’s total shareholdings plus acceptance level to cross 90%.

…but not so much for dissenting shareholders.

On the other hand, shareholders who had intended to hold out with the expectation that SIA may revise the offer price upwards again, however low the possibility, will be solely disappointed to see their hopes dashed. For this group of shareholders, you may refer to Scenarios B and C depicted in our previous post.

It has been a full 2 months since Singapore Airlines Ltd (“SIA”) launched a much awaited takeover offer for all shares in Tiger Airways Holdings Ltd (“Tigerair”) it does not own. Yet, there seems to be a fair bit of hesitation amongst Tigerair minority shareholders in accepting the revised offer from SIA of $0.45 per share (up previously from $0.41). Some of the unhappiness stems from the fact that the Singapore national carrier paid a comparatively higher price of 67.8 cents per share to acquire a 7.3% stake from its parent company Temasek Holdings in December 2013.

While we will not weigh in on the fairness of the offer (there are enough market opinions/advice out there for minority shareholders to mull over with respect to that), we believe that shareholders should take note of some key issues when considering whether to ultimately accept SIA’s revised offer.

Figure 1: Will the Singapore national carrier succeed in fully taming the Tiger(air)? (Picture source: wikipedia, NT News)

Background

SIA initially launched an offer of $0.41 per share for all Tigerair shares not owned by it on 6 November 2015. The offer is conditional upon SIA’s total shareholding inclusive of valid acceptances hitting at least 90% before the end of the offer period. While the offer was originally slated to end on 28 December 2015, it was extended to 8 January 2016 after SIA fell way short of its target (74.5% then vs 90%).

On 4 January 2016, SIA revised the offer price to $0.45 and further extended the deadline to 22 January 2016 indicating at the same time that it does not intend to revise the price further.

Key points to note

Current offer vs consideration for Temasek’s shares in 2013

So is the SIA revised offer really worse off when compared to the consideration it paid for the Temasek sale shares as some believed? On the surface, it may seem so. After all, on an absolute per share basis, 45 cents per share is 34% less than the 67.8 cents SIA previously paid. This, however, has not taken into account the 85 for 100 rights issue in late 2014 during which Tigerair offered new shares to then existing shareholders at 20 cents per share. Once accounted for, the consideration paid during the Temasek purchase would have been adjusted down to 45.8 cents, just 2% higher than SIA’s current offer.

Furthermore, the current SIA offer that is taking place at a time when the market conditions are weaker (as measured by FSTE ST All Share index), is also superior when we compare other measures such as premium paid over prevailing market prices and the implied price to book ratio.

Figure 2: SIA’s current offer is no less compelling than that offered to Temasek in 2013

Hence, we think there is little evidence to suggest that the current revised offer is less compelling than that offered to Temasek for its shares in 2013.

Offer may not be extended by much longer due to regulatory restrictions

That SIA has extended its offer period twice so far in a bid to convince Tigerair minorities shows its resolve to take the ailing budget airline private. Still, shareholders who have yet to take up the offer should not expect another significant extension. This is because the Singapore Code on Takeovers and Mergers specifically provides that:

“No offer (whether revised or not) will be capable of becoming or being declared unconditional as to acceptances after 5.30 pm on the 60th day after the date the offer document is initially posted nor of being kept open after the expiry of such period unless it has previously become or been declared unconditional as to acceptances. An offer may be extended beyond that period of 60 days with the permission of the Council. The Council will consider granting such permission in circumstances, including but not limited to, where a competing offer has been announced.”

As the Offer Document was posted on 26 November 2015, this implies, by our calculation, that SIA would not be able to extend its offer period beyond 25 January 2015 (vs the current deadline of 22 January 2015) unless permission is sought from the Securities Industry Council (SIC), often in exceptional circumstances such as a competing offer. With SIA owning more than 57% as at 8 January 2016, not including acceptances as offer has not turn unconditional, it is hard to see the SIC allowing such an extension. 

Likely scenarios and their implications for shareholders

So given that SIA’s offer is unlikely to be revised or extended much further, shareholders should naturally be aware of the different scenarios that will play out come 22 January 2016 and how it will affect their options.  

Scenario A: SIA fails to hit the 90% shareholding threshold

As the offer is conditional upon SIA hitting the 90% shareholding threshold, the offer will lapse if SIA falls short of this level. Consequently, all Tigerair minority shareholders, regardless of whether they have previously accepted the offer, will retain all their original shareholdings and not receive any consideration from SIA for them. 

Scenario B: SIA reaches the compulsory acquisition level (95.58%)

Under Section 215(1) of the Companies Act of Singapore, SIA would be entitled to compulsorily acquire all shares held by the minority shareholders should it accumulate during the offer period, through valid acceptances or on-market acquisitions during the offer period at least 90% of all shares excluding those owned by it at the start of the offer.  Since SIA and its concert parties already owned 55.79% of Tigerair’s shares as at commencement of the offer, this follows that it will need to acquire another 39.79% (0.9 x 44.21%) during the offer period, hence a total of 95.58%, to have the right acquire all minority shareholdings. Under this scenario, all shareholders would have to sell their shares to SIA irrespective of whether they chose to accept the offer.

Scenario C: SIA reaches 90% but falls short of compulsory acquisition level (95.58%)

If the eventual shareholding of SIA falls between 90% and 95.58% during the offer period, the situation becomes a little more complex.

Firstly, the offer will still be declared unconditional and all shareholders who have tendered their shares prior to closing, will be entitled to receive the revised offer price for their shares.

For dissenting shareholders who chose not to accept the offer, you should note that under the SGX listing rules, any listed company with a public float of less than 10% will face a trading suspension imposed by SGX and an eventual delisting unless the company takes the necessary steps to restore the public float to the minimum level. As SIA has already explicitly indicated that it does not intend to restore the public float and retain the listing under this scenario, these dissenting shareholders will likely be holding shares in a private company post the offer period.

However, dissenting shareholders will still be able to require SIA to acquire their shares for a period of time after the offer period by invoking their rights under Section 215(3) of the Companies Act. This right kicks in as long as SIA acquires at least 90% of all Tigerair shares including those it held as at commencement of the offer. Shareholders should note the difference between their right to require their Tigerair shares to be acquired by SIA and the right by SIA to compulsorily acquire theirs.

Should the dissenting shareholders choose neither to accept the revised offer nor to invoke their rights under Section 215(3) of the Companies Act, they will remain as minority shareholders of an unlisted Tigerair. While such a situation may not be ideal given that they will no longer have the benefit of being able to trade their Tigerair shares on SGX, there have been instances (the CK Tang privatisation in 2009 comes to mind) where holding out may pay off eventually in the form of an improved offer in future if Tigerair shares are indeed being undervalued by SIA’s current offer as they might believe.

Final Note

We may have taken all reasonable efforts to verify the information we presented in order to provide shareholders and investors in general with a good overview of the key issues pertaining to the SIA offer. Nevertheless, we encourage all investors and shareholders alike to familiarise themselves with key regulations governing a takeover offer including the SGX Listing Manual, Singapore Companies Act Section 215 and the Singapore Code on Takeovers and Mergers. This is so that they would be better equipped to evaluate their options and make better investment decisions should circumstances similar to this arise in future. 

(All currency in SGD unless stated)

In our report posted on 30 November 2015, we highlighted that IPC, pending completion of the sale of its seven business hotels in Japan and proposed capital reduction, remains grossly undervalued at S$1.750 per share. We also conservatively estimated after taking into account the net proceeds of the Divestment and repayment of all yen denominated borrowings tied to these properties, that the Company would have up to S$0.957 per share for distribution to its shareholders.  

Company distributing more than the net proceeds from the Divestment

On 17 December 2015, however, the Company announced the successful completion of the Divestment along with a much higher than expected cash distribution of S$1.600 per share! This is a pleasant surprise to us as we have assumed that the Company would only distribute proceeds from the Divestment and retain the remainder of its cash hoard for future reinvestment purposes. The market meanwhile has reacted positively to the surprise move, with the share price spiking up almost 10% to S$2.07 before closing at S$2.03 on the same day.

Figure 1: IPC share price has appreciated 16% since our initial report published on 30 November 2015

Recommendation

While we think that IPC can easily afford the cash distribution S$1.600 per share, given its extremely robust net cash position of S$1.633 per share post Divestment in addition to S$0.136 per share worth of listed bond funds, we see the latest corporate move as possibly heralding the Company’s exit from the real estate business altogether. To recap, the value of IPC's remaining assets lies largely in a major mixed development (Xu Ri Wan Huan Yuan) in China. From a strategic perspective, IPC thus has the option to remain as a single asset play, which we think is unlikely. Alternatively, it could either continue its expansion in China and other markets (note that it has more or less exited from both the Japan and US markets) or exit completely. The move to distribute substantially all its excess cash seems to suggest the latter.  

Should the Company go down this path, we posit that there could be further divestment and cash distribution exercises in the future. The gradual monetisation of its assets could well see the share price of the company approach its estimated NTA value of S$2.813 or more.  At the last traded price of S$2.030, IPC remains pretty much undervalued.  

The recent decision by SGX mainboard listed IPC Corporation Ltd to dispose of its remaining Japanese hotel assets (the “Divestment”) warrants a closer look at the stock by value oriented investors. Although its share price has risen by 26% since the announcement was released, it still remains grossly undervalued.

Assuming the successful completion of the Divestment, we estimate that the company will have a balance sheet stuffed with net cash and fairly liquid bond fund holdings amounting to S$1.769 per share, which by itself is already more than the last traded price of S$1.750 per share. Even if we further assume very conservatively that the remainder of its assets consisting mainly unsold Chinese property developments are written down by as much as 40% in value, the shares would still be worth S$2.311 per share or 32% above its last traded price.

As the company had already announced that it will pay out the net proceeds of the Divestment by means of a capital reduction, we think that its shareholders could stand to reap a cash bonanza of S$0.957 cents a share, which should provide further near term boost to its shares. We think that IPC offers compelling value at this price.   

Background

IPC Corporation Ltd (“IPC”) is a property and hospitality group controlled by Singapore based billionaire Oei Hong Leong, son of Indonesian tycoon Eka Tjipta Widjaja of the Sinar Mas group.

On 6 November 2015, IPC announced that it had entered into a sale and purchase agreement with Tokyo-listed Ichigo Group Holdings Co., Ltd (“Ichigo”), for the sale by the Company of its collection of seven business hotels in Japan for a total sale consideration of JPY 14.9 billion or approximately S$172.2 million. Ichigo, which recently upgraded its listing to the First Section of Tokyo Stock Exchange, is a diversified real estate group with a market capitalisation of approximately S$1.9 billion.

Figure 1: Two of the seven business hotels due to be sold to Ichigo Group

The seven hotels are located throughout Japan in the following cities: Tokyo (2), Okayama, Matsuyama, Kumamoto, Naha and Osaka, and carried on the company’s books at JPY10.4 billion (S$119.4 million). IPC is expected to generate a net gain of JPY2.7 billion (S$31.1 million). This translates into net proceeds of JPY13.1 billion (S$150.5 million). While the Company did not explain the significant difference between the gross and net proceeds, our guess is that a large part of it could be attributed to Japan’s capital gains tax which could cost well over 30% for assets held for less than 5 years. 

Completion of the transaction is expected to take place on 17 December 2015. The Divestment follows the sale of its two Sapporo hotels, incidentally also to Ichigo, for S$29.6 million in December 2014 and heralds IPC’s exit from Japanese hospitality assets, representing a turnaround from the Company’s stated aim of expanding its Japan hotel portfolio in its FY2013 annual report.

Our Views

This latest corporate action did not come as a surprise. Afterall, IPC had been mulling the sale since at least as early as March 2015 when it announced that it was in negotiations for the proposed disposal for a then total consideration of S$150 million. The Company subsequently announced in June 2015 that it will not proceed with the sale under those terms. With the latest agreed consideration at a significant premium to both the previous consideration as well as the market valuation of S$119.4 million, we believe this represents a good opportunity for IPC to cash in on the assets it had amassed between June 2010 and October 2013 at a healthy profit.

Equally motivated buyer should ensure successful deal completion

On the other hand, Ichigo may appear to be getting the short end of the stick having to fork out an additional JPY4.5 billion (S$52.8 million) over market valuation for the acquisition. However, we note that Ichigo had in October established a new hotel J-Reit, Ichigo Hotel REIT, scheduled to be listed on TSE on 30 November 2015. Ichigo Hotel REIT’s initial portfolio consist primarily of 9 hotels that Ichigo sold to the REIT, includng the two Sapporo hotels which it had earlier acquired from IPC. We further note that these two hotels were sold at a combined valuation of JPY3.6 billion, a significant premium over the JPY2.7 billion it paid IPC just 10 month prior. Similarly, we expect Ichigo to inject the seven hotels into Ichigo Hotel REIT in due course at favourable valuations. At a total consideration of JPY 14.9 billion, the seven hotels would also provide a significant boost to Ichigo Hotel REIT’s portfolio, currently worth about JPY 20.4 billion. It is thus also very much in Ichigo’s interest to see the transaction through. 

Our belief that both parties are motivated to complete the sale is further reinforced by the presence of a significant JPY 0.5 billion (S$5.8 million) break fee for the transaction, which should serve as a sufficient deterrent against potential deal default by either side.

Balance sheet to strengthen considerably post completion, shares are currently undervalued

IPC has typically maintained a strong under-geared balance sheet. Its net debt to equity over the last 10 quarters has not been more than 25%, with the latest figure at 5.3% as at 30 September 2015. 

Figure 2: IPC has consistently held high levels of cash coupled with a low net gearing on its balance sheet (Source: company, stockresearchasia)

  Post completion, we expect its balance sheet to strengthen even further to a net cash position of S$139 million or S$1.633 per share. In addition, IPC also holds S$20.3 million of financial assets consisting mainly listed bond funds and unlisted debt investments in a China property company. We estimate that the listed bond funds, which should be fairly liquid, amount to about S$11.5 million or S$0.136 per share, giving the company S$1.769 per share of value in net cash and listed bond funds alone.

The remainder of IPC’s assets consist largely of:

• Xu Ri Wan Huan Yuan (completed in 2014 and comprising hotel, kindergarten, club house and car park) 
  
• Minority investments in three property investment in China, including Aenon International Plaza and Ju Ren Da Sha.
  
• Unsold Oiso Condominium Units in Japan
  

Amongst the above assets, Xu Ri Wan Huan Yuan is by far the most sizeable with a net book value of S$77.4 million[i]. As little information on the status of this property has been disclosed, we conservatively assume that it is currently 100% unsold and illiquid. 

All in, the other assets held by IPC amounted to S$107.0 million or S$1.254 per share, giving the company an adjusted NAV post DIvestment of S$2.81 per share.

However, in order to satisfy ourselves with a conservatively derived value for IPC, we decided to apply a stress test[ii] to the value of these other assets which we deem to be largely illiquid by applying various discounts of between 20% to 40%. The results show that even at a maximum discount of 40% which should provide us with a healthy margin of safety, IPC would still be worth about S$2.311 per share.

Figure 3: IPC’s intrinsic value is still significantly above the last traded price even if its other property assets were heavily discounted

IPC shareholders to be rewarded with cash bonanza estimated at S$0.96 per share

Aside from trading at a steep discount to its intrinsic value, we also expect IPC’s share price to be given a near term boost once the Divestment is completed as expected by 17 December 2015. This is largely due to the fact that the Company had already announced its intention to distribute the net proceeds to its shareholders via a capital reduction exercise. With the net proceeds at approximately S$150.5 million, we estimate conservatively that upon repayment of its borrowings related to the seven hotels, IPC will have S$81.6 million available for distribution to shareholders. This is equivalent to S$0.957 per share representing a sizeable 55% of the last traded price of S$1.750.

Bullish purchases by Oei Hong Leong further reinforces our views that the shares are undervalued  

Figure 4: Oei Hong Leong, IPC’s controlling shareholder, made bullish purchases this year (Source: Forbes)

  On 1 April 2015, Oei Hong Leong, the controlling shareholder of IPC and one of the most watched investors in the Singapore stock market, acquired 6,319,200 shares (pre-consolidated basis, equal to 631,920 shares after the 10 to 1 consolidation on 9 June 2015), thereby triggering the mandatory conditional takeover offer of IPC at S$0.17 per share (equivalent to S$1.70 post consolidation). The mandatory offer is triggered when a shareholder first takes his shareholding across the 30% mark in a SGX-listed company. The offer ultimately did not succeed and Oei’s stake remained at 30.56%.

On 3 August 2015, Oei further acquired 850,000 post-consolidation shares albeit at a lower average price of S$1.53 per share, thus bringing his holdings to 31.56%. We note that this is the maximum amount that Oei can acquire within any six month period without triggering another takeover offer. The bullish purchases by Oei further reinforces our view that the shares are undervalued.

Recommendations

We believe IPC to be grossly undervalued. At the latest closing price of S$1.750 per share as at 27 November 2015, it is trading at below the value of its net cash plus listed bond holdings of approximately S$1.769 per share assuming the successful completion of the Divestment. Even if we were apply a very conservative 40% discount to the book value of all its other assets, the shares would still be worth at least S$2.311 per share or 32% above the current share price.  

With the Company announcing that it will distribute the net proceeds from the Divestment to its shareholders in the form of a capital reduction estimated to be as much as S$0.957 per share, we think that the share price could also be due for a near term boost. Still further upside could come from positive developments from its China properties.

With a healthy margin of safety, we see compelling value in IPC at S$1.750 and are definitely buyers at this price.

Key Risks

Non completion of the Divestment or lower than expected distribution from the Divestment could have short term adverse impact on the share price.

In our last report on MIIF (link) 3 weeks ago, we highlighted a mispricing in MIIF's shares and a potential arbitrage opportunity arising from the company's intention to redeem its remaining outstanding shares at 8.25 S cts per share following the close of its disposal of South China Highway Development (H.K.) Ltd.

As anticipated, on 14 September 2015, the company announced that the Proposed Divestment had achieved a financial close. Trading in its shares will be suspended from 18 September 2015, and the share redemption will be effected on 21 October 2015.

We further note that MIIF traded between 7.8 and 8.0 S cts from 24 August to 14 September 15. Investors who had acquired the shares during this period would have effectively locked in unlevered gains of between 3.1% and 5.8% for what would be a maximum holding period of 2 months while taking what we deem as very low risk. 

Investors can refer to the company announcement for more details and key dates. 

Amidst the current carnage in the equity markets, interesting opportunities in the space of arbitrage and special situations are beginning to emerge owing to the widespread and indiscriminate selling. MIIF is one such opportunity that has caught our eye.

MIIF, an entity listed on the mainboard of SGX but structured as a closed ended fund, had announced on 15 May 2015 the sale of its sole remaining asset, an 81% effective interest in Hua Nan Expressway Phases 1 and 2 (HNE) to Topwise Consultants Limited, an existing minority shareholder in HNE, for a total cash consideration of S$110 million (the “Proposed Divestment”). Post completion, MIIF intends to distribute the net proceeds and any excess cash it holds by way of a share redemption, following which it will be delisted from SGX.

The share redemption is expected to take place by 30 October 2015 provided that the Proposed Divestment is completed by its long-stop date of 15 September 2015 and investors will be returned around 8.25 S cts per share based on MIIF estimates which we deemed to be reasonable. This gives investors a potentially low risk return on investment (ROI) of 3.1% over what is likely to be a maximum two-month holding period or an equivalent return of close to 20% annualized.

Brief Background

In December 2012, MIIF made the decision to initiate the disposal of all its then existing assets following a strategic review. In subsequent years since, MIIF successfully completed the divestments of Taiwan Broadband Communications, Changshu Xinghua Port and Miaoli Wind and returned 54 S cts per share to its shareholders. HNE is currently the sole investment held on its books.

MIIF’s interest in HNE is held through its 90% owned subsidiary, South China Highway Development (HK) Ltd (“SCHK”), which in turn holds a 90% interest in HNE. This gives MIIF an effective interest of 81% in HNE. Topwise Consultants Limited (“Topwise”), the proposed buyer owns the remaining 10% of SCHK. The proposed transaction involves the sale of MIIF’s 90% share of SCHK to Topwise for a total consideration of S$110 million. Little is known and has been announced of the buyer except that in 2007, Topwise, together with Precise Management Ltd, sold the same equity stake to MIIF for $295.7 million[1].

Figure 1: HNE's existing ownership structure

HNE is a dual-carriage urban toll road in the city of Guangzhou, China and acts the city’s main artery for north-south traffic. The interest in HNE comes with the exclusive rights to operate and collect tolls up to 2026. In the last two full financial years, namely FY2014 and FY2013, HNE contributed S$12.3 million and S$12.1 million in dividends respectively.

Figure 2: Hua Nan Expressway, Guangzhou. (Source: MIIF)

Investment case

3.1% returns over a two-month period sufficiently attractive under current market conditions

We believe that MIIF would make for a sensible arbitrage opportunity returning around 3.1% based on the last traded price per share of S$0.08 over an estimated period of 2 months or about 20% annualised. While a 3.1% return may not be much to shout about under normal circumstances, we think that this would be a sufficiently attractive opportunity for investors seeking short term stable returns with excellent downside protection especially given the current turmoil in the stock markets.

Low execution risks and high probability of deal completion

While the completion of the Proposed Divestment was originally envisaged to be on 5 August 2015 and has since been delayed, we still believe that there is a high likelihood that the transaction would be completed in due course and before the long stop date of 15 September 2015:
                

1. The key condition precedent for the transaction is the approval of MIIF shareholders, which has already been obtained on 27 July 2015. 
2. As a long time existing shareholder of HNE, Topwise does not require any due diligence and accordingly, the Proposed Divestment will not be subject to conditions typically expected from other third party purchasers and includes only limited representations and warranties.
3. As one of the two previous owners of the HNE stake, we expect that there will be little or no regulatory risks regarding the transfer of the ownership to Topwise as is sometimes the case for Chinese acquisitions.
4. While little is known or has been announced of Topwise and their financial standing, we believe that financing is unlikely to be an issue given that Topwise, together with Precise Management, had received a much higher consideration of S$295.7 million when they sold the stake to MIIF in 2007. In addition, Topwise has remained as a minority partner in HNE since the original sale and MIIF is likely to have done its part in ensuring that Topwise has the necessary financing lined up before entering into the sale and purchase agreement. 
   

MIIF's manager has 17.4 million reasons to see through transaction

MIIF’s manager, Macquarie Infrastructure Management (Asia) Pty Limited (MIMAL) stands to enjoy a big windfall of S$17.4 million upon successful completion of the transaction as the total cumulative proceeds from all its divestments including HNE will exceed the minimum S$694.9 million threshold thereby triggering the success fee. This gives MIMAL extra motivation to see through the transaction.

Excellent downside protection even if deal falls through

In the unlikely event that the Proposed Divestment falls through at this late stage, MIIF would still be able to continue benefiting from the stable cashflows HNE generates going forward. For FY2014 and FY2013, HNE contributed  S$12.3 million and S$12.1 million respectively in dividends to MIIF.  This helped MIIF maintain a dividend payout of 0.9 S cts for FY2014. We believe that MIIF should be able to pay out a similar amount going forward even if they were forced to retain the HNE stake. This is supported by KPMG's view as the Independent Financial Adviser to the MIIF for the Proposed Divestment that "based on an 85.0% dividend payout ratio of MIIF’s estimated dividends on an undiscounted basis, it would take approximately seven to eight years for Shareholders to realise the estimated net proceeds of 8.25 S cts per share."

Our Recommendations

We believe that MIIF shows all the characteristics of a good short term arbitrage opportunity: high probability of deal completion, decent returns over a two month holding period with potential to be magnified with leverage, and excellent downside protection even if the deal fails at this late stage.  For investors seeking a respite from the current carnage in the equity markets, we would recommend this as a viable investment opportunity and are buyers at at S$0.08 and below.

Risks

A prolonged closing of the Proposed Divestment could negatively affect the risk-return dynamics although at the moment we would assign a low probability to this happening given the background of the buyer.

(All preceding amounts in SGD unless stated)

[1] Actual amount paid. The original consideration of S$329.5 million included a contingent payment S$33.8 million which was never paid as conditions for payment were not met.