… and they wonder why they’re discounted
Listed companies, and especially property companies, puzzle in public over the way “the market” concludes their value is lower than net tangible asset value.
One answer is that the discount is for the way the assets are managed. “The market” doesn’t have much faith in management’s abilities to make something greater of those assets than if the assets are left to their own devices, on this reasoning of discounts.
In Trans Tasman Properties’ case, the market has marked the company’s ability to deal with its assets down to a shockingly low level — a share price of 19c at the close on Friday compared to stated asset backing at the June balance date of 73.9c, a 74% discount.
Trans Tasman’s Australian offshoot, the 46.8%-owned Australian Growth Properties Ltd, has caused plenty of annoyance by announcing the sale, for a low price, of its in-house management company, AGP Management Ltd, to SEA Holdings Ltd, its Hong Kong-based ultimate controlling shareholder through Trans Tasman.
Deal wasn’t put to shareholders
The management contract sale was done without being put to shareholders. That kind of behaviour is the sort that helps create price discounts because the investor cannot have faith in directors — a lack of faith which is usually only overcome by superior profit and dividend performance, neither of which AGP has achieved.
AGP, like its immediate New Zealand parent, is a discounted stock with a share price on Friday of A54c. The 1997 issue price was $A1.
AGP, and therefore Trans Tasman, has ensured its hopes of credibility will be mocked by the presentation of an outsourcing report dated 30 June, the approach to outsourcing, and the use of two divisions of the firm which was about to take over auditing its books to provide the independent expert report.
Even if Arthur Andersen’s corporate finance and legal divisions acted entirely properly in carrying out their functions (though the contents of the report summary suggest their view of the exercise might have been somewhat coloured from the outset), and the Chinese walls within the firm are effective, the outsider can too easily harbour doubts about the stated independence.
That kind of doubt turns itself into a price discount.
AGP chairman Rod McGeoch said in his letter to shareholders the idea of outsourcing management had been under review for some time.
Sir Rodney (as he would undoubtedly like to be known for leading the campaign to get Sydney the Olympics) said in his letter to shareholders the directors had received an outsourcing proposal from SEA in April. It was duly accepted and approved.
The proposal to outsource both corporate and property management was weighed against the market for this work but doesn’t appear, from the letter, to have been put to other management contractors.
If it’s natural for SEA to want to keep the management contract inhouse (and away from others in the industry), why is it not natural for AGP to feel the same?
All the AGP Management staff were transferred, with their management company, from AGP to SEA, essentially no different a position.
Justification for the chief cause of this shift, cost savings, is flimsy.
Mr McGeoch said “ongoing corporate and property management costs are likely to be less…” He said the Arthur Andersen Corporate Finance summary concluded the implied cost savings at $A224,000 for the current year.
He added: “While it is noted that the forecast for the cost of inhouse management for AGP over the next 12 months is $A3.53 million, actual cost for the last recorded similar period was $A4.44 million in the 12 months to 30 June 1999. Thus, the ongoing contracted cost structure is anticipated to lower overall costs compared to previous periods.”
That is a sickeningly bad paragraph from any company chairman. What it means is this: We have set a budget figure lower than it cost us a year ago, but the same management who come up with the numbers have said they can do it for less if they work from their own office down the street. Sir Rodney!
The Arthur Andersen summary, presented by Corporate Finance director Neil McDermott, shows implied savings for the June 2001 year of $A224,000 and says outsourcing for an indefinite period would provide substantial savings — $A228,000 a year for the first four years.
Outsourcing indefinitely, Mr McDermott says, “we have estimated that the present value to AGP is likely to be in the range of $A2-3 million.”
Unfortunately, in true coconut-shy style, these claims are knocked down just as easily as they’ve been stood up: “We note that AGP Management is entitled to pass on to AGP certain charges and cost reimbursements relating to leasing, sale and property management activities that would, if incurred, reduce the forecast savings set out above.
“The extent of any such fees and costs cannot be estimated reliably. It is therefore possible that the cost savings achieved, both in 2000/01 and thereafter, may be materially less than those indicated above.”
Mr McDermott’s last sentence knocks out the main reason for a change.
Basic fee: 0.8% of gross assets
But, as the change has been made, the next issue to examine is the fee structure of the management contract. Mr McGeoch said in his letter: “The corporate management fee is set at 0.8% per annum of shareholders’ funds and the property management fee is 2% of gross property income.”
Mr McDermott said in his summary the contract “is consistent with current management arrangements in the market place” and “the proposed corporate management and property management fee arrangements are generally comparable with the levels charged by similar sized companies/trusts in the ASX listed property trust sector.”
It is some time since I’ve looked at those fee structures, but given the rationalisation of the sector and the highly competitive nature of the management contract market, it’s hard to imagine the fees would have risen.
The 0.8% corporate management fee alone sets off alarm bells.
PFI made it transparent, and tough
PFI negotiated a change in December 1998, from its initial fee structure of 0.85% (plus gst) of portfolio value up to $150 million and 0.65% beyond that level. The replacement structure was complicated, but contained base and incentive components.
PFI continued monthly payments of its fees and set a base component of 0.7% of total assets, plus gst, up to $175 million and 0.35% above that level.
For the incentive component, PFI set a threshold level of shareholder returns for a quarter equivalent to 10% better than the share price at the start of that quarter. It also set a 15% cap, and allowed for an incentive payment of 10% of the increase within that range.
Complicated, precise, and seemingly very fair to both sides.
Kiwi Income at high end, Waltus cuts back basic
Kiwi Income Property Trust started with a base fee of 0.75% of gross asset value plus a performance component of 20% of the average annual increase in net asset value, which was totalling about 1.2% of gross asset value.
In 1997, Kiwi raised the base fee to 8.5% and stopped the performance component. A Grant Samuel assessment of the Kiwi proposal showed a wide range of fees payable in Australia, from 0.6% of gross assets charged by the managers of the Gandel Retail and General Property Trusts, up to 1% at Advance and 1.5% of net assets at Capital.
Syndicate managers are notorious for their array of fees and Waltus, even in the proposal to merge 29 syndicates because of tough market conditions, has maintained many of these specific-event fees, as have AGP’s managers.
But Waltus dropped its management fee last year to 0.5% of gross assets, and in the merger proposal says it will cut back to 0.3% until March 2002.