Date: June 19, 2023
First published in Straits Times on 18 June 2023
When it comes to stock investments, the conventional wisdom is that companies list via an initial public offer (IPO) to raise capital from the public.
After that, they use that capital to grow their businesses and reward their shareholders with dividends. As markets are efficient and able to correctly discount future prospects based on all available current information, investors benefit from rising share prices.
The problem is that reality is far removed from conventional wisdom. For one thing, markets are far from efficient and none more so than Singapore’s – liquidity has been dwindling over the years and, what little there is, is mostly concentrated in blue chips and speculative small caps.
This means that hundreds of companies – mainly mid-caps – in between these two extremes suffer from low trading volume, which in turn has led to their share prices being depressed and, in all likelihood, undervalued for lengthy periods.
An inefficient market and weak conditions have prompted many majority shareholders of the affected firms to buy up the shares and privatise the companies. When doing so, the reasons are almost always the same – they have no need for further capital raising and their managements say they want greater flexibility to run their businesses.
In order to privatise, the majority shareholders have to make fair and reasonable offers to minority holders. Of course, such offers would not be made when share prices are sky-high – after all, it would not make sense to list a company at a particular price and then buy out everyone later at a much higher price. In other words, privatisation offers will surely be set as low as possible.
The crux of the issue, therefore, is that given an inevitable low buyout price, how does one gauge whether it really is fair and reasonable to minorities?
What the Securities Investors Association (Singapore), or Sias, has encountered in almost all privatisation offers is that prices can best be described as “lowball”, yet in most cases they were deemed “fair and reasonable” by independent financial advisers (IFAs). In one case, although the price was judged to be “not fair but reasonable”, the recommendation was still to accept it.
Many retail shareholders who may have done their research and bought into fundamentally good companies, possibly from the IPO stage, and who may have continued to support those firms through the years, have thus been forced to surrender their shares at unattractively low prices.
Consider, for example, the case of Indonesian palm oil firm Global Palm Resources, whose initial IPO price was a 118 per cent premium over the net asset value (NAV) during the listing in 2010. But its recent privatisation is at a 19 per cent discount to current NAV.
In the intervening 13 years, the company’s revenue has more than doubled since the IPO, while earnings before interest, taxes, depreciation and amortisation were roughly 50 per cent higher.
Consider, also, the ongoing privatisation of Indonesian coal miner Golden Energy and Resources (Gear). Small shareholders could quite reasonably be expected to have bought into the company not only because of its own prospects, but also because of its stakes in attractive Australian subsidiaries.
One such investment has seen its share price rise sharply in recent months, yet Gear’s privatisation offer appears to have hugely discounted the value of those stakes.
So what should retail investors do when confronted with a privatisation offer?
1. Understand the process of selecting and appointing the independent financial adviser
The IFA, which has to pass judgment on fairness and reasonableness, is appointed and paid by the target company, which in turn may be already controlled by the offeror.
Until this issue of ensuring true independence is addressed, individual shareholders should view IFA reports and conclusions through a sceptical lens.
2. Assess the methodologies employed by IFAs
For instance, should an asset-rich company be valued using earnings, or would it make more sense to value it relative to net asset value?
If the target company has been compared with supposed peers in the same industry, are those comparisons reasonable? Are the comparable companies from the Singapore market, or elsewhere?
3. Understand what is ‘fair and reasonable’
According to the Securities Industry Council (SIC), an offer is “fair” if the price is equal to, or greater than, the value of the securities that are subject to the offer.
In considering whether an offer is “reasonable”, the SIC has said that other matters should be considered, including the existing voting rights in the offeree company held by the offeror and parties acting in concert with it, and the liquidity of the shares.
These two descriptions came into play in the case of Boustead Singapore’s offer for Boustead Projects, where the offer was deemed “not fair but reasonable”. The reason it was “not fair” was that it was not within the IFA’s final estimated valuation range of between $1.17 and $1.38 for the shares.
Also, the price represented a discount of 29.6 per cent to the target base price of $1.35 of the latest broker research report available. The IFA also said the premia implied by the offer price over the company’s historical volume-weighted average price were lower than the mean and median premia of the precedent privatisation transactions.
However, reasons for deeming the 95 cents “reasonable” included the fact that it was a premium to the historical traded prices of the shares over the one-year, six-month, three-month and one-month periods.
4. Understand the limitations of the IFA opinion
It is perhaps not well understood that the opinion of the IFA does not consider the commercial merits of the offer. The IFA does not evaluate the rationale for, or the strategic or long-term merits of, the offer, or the future prospects of the company and/or the group.
The IFA also fully relies on information provided and representations made, including relevant financial analyses and estimates, by the management and directors, for which they do not independently verify and do not make any representation or warranty, express or implied, and do not accept any responsibility for the accuracy, completeness or adequacy of such information, representation or assurance.
The IFA also does not consider the specific investment objectives, financial situation, risk profiles or unique needs and constraints of the shareholders.
5. Approach Sias
In recent months, Sias has successfully appealed for offers to be raised in the case of Boustead Projects and construction firm Lian Beng, on the grounds that the original offers were patently not fair or reasonable.
Minorities should know that Sias will evaluate privatisation attempts from a truly objective perspective and will not stand by and allow exploitative offers to pass unchallenged.
6. Make up your mind based on the situation
Some investors may have urgent need for cash and would therefore be happy to accept whatever “lowball” offer that has been tabled. Others may fear ending up owning shares in an unlisted company and, feeling backed into a corner, might reluctantly accept the offer.
Ultimately, the decision to accept or reject an offer rests with each individual, so it would be best for minority shareholders to do their homework and take note of these guidelines when making up their minds.
- The writer is Mr David Gerald, Founder, President and CEO of the Securities Investors Association (Singapore)