Crunch Time Looms For RHG
Crunch Time Looms For RHG
Next Thursday will be exactly one year since Greg Hoffman and I ran for the board of RHG. I wonder how different my year would have been had we been successful? One thing is for sure, not much is different at RHG.
The cash continues to roll in and will do so for a while yet. We haven’t been given a profit forecast for this year yet but my numbers suggest the loan book alone will generate another $60m, post tax, this financial year.
The board is the same old group of four. John Kinghorn, Greg Jones, David Coe and John McGuigan (these close associates crop up together all over the place, from the board of Krispy Kreme, now under administration, to the board of White Energy Corporation). They tell the rest of us nothing and leave us in the dark as to what is going to happen to the mountains of cash accumulating on RHG’s balance sheet.
There were net tangible assets of approximately $290m as at 30 June 2010. By 30 June next year it will be something like $360m, thanks to the $60m that will come from the loan book and another $10m (post tax) of interest earned on the existing cash pile. This is a very substantial war chest for Kinghorn to spend on his ‘superior investment opportunity’.
The one thing the board is telling shareholders is that if they haven’t found a ‘superior investment opportunity’ by 2011, they will return the cash to shareholders. Who knows whether this means the beginning or the end of 2011 and, given they reneged on their 2007 promise to ‘return all surplus cash to shareholders’, there’s no reason to believe they’ll stand by their word this time. But by November next year, it’s probably going to be crunch time, one way or the other.
By then there will be more than $1.20 per share that could be distributed as fully franked dividends – in excess of $1.70 pre-tax equivalent. If they waste our money on a stupid acquisition between now and then, I will cry. Seriously.
*I’ll be at the AGM next week but I’m not expecting anything interesting. If you want to give me proxies, feel free to do so but, as we saw last year, it’s unlikely to make a difference.
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Hi Steve
I will mail the proxy form with you as my proxy.
In the photo I think the caption is wrong. The person on the right is Kinghorn, not Coe.
It could be interesting to hear Kinghorn's views on the possibility of re-starting a mortgage business like the original RAMS, now that the 3-year limitation is almost up. In light of your recent blog "Mortgage Obsession Bad for Business", they may also be considering opportunities lending to business.
I get the feeling they are just waiting for the no compete clause to expire, then get back into mortgages.
Did you mean crunch time looms for RHG shareholders? If TII aims to meet the investment needs of their readers, and many are already retired, why is it/has it recommended investment in companies whose directors interests aren't aligned with shareholders (RHG), maintain shoddy business models (TIM, GTP, ELD), or hold unsustainable levels of debt? Why not simply focus on well-managed companies large, small or very small with high ROE that are trading at discounts to intrinsic value, and cover the cigar butts and other high risk stuff in a different specialist newsletter?
My bet is that RHG will make some silly acquisition, just to avoid rolling up the company, and letting go of their control of all that cash, not to mention directors fees.
I don't think they'll do anything intentionally silly. Kinghorn has $60m tied up in this and, given what's happened with Allco and Krispy Kreme, I reckon that $60m has become a decent chunk of his net worth. For CEO Glenn Goddard, the 10 million RHG shares he was gifted would be the vast majority of his wealth. So I don't think they'll do anything stupid just for a few hundred thousands dollars of directors' fees.
I think subscribers need to take some accountability for any mistakes that have been made as well.
While TII may put forward recommendations where they see an opportunity, it is the investor that needs to determine if they are comfortable with the risks associated with a particular recommendation and whether or not to pull the trigger and make an investment. Portfolio allocation is also vital, particularly at the speculative end of the market.
I'm pretty sure they only concentrate on those good kind of companies you are suggesting these days. I know because I'm young and (along with a few others) have been asking for some more small cap speculations to satisfy my gambling bug with that 10% of my cash. Plus (apart from being part owner) I don't think Steve has much to do with the newsletter publication.
As for RHG - I did very well out of it (as did most members). A few got in around 10c, but most got in about 40c. It's been sitting at 70c for quite a while now (I sold out after 1yr to half my capital gains) so there are no excuses if you get burnt from here. Everybody who bought these on TII recommendation are sitting on a profit. Now the risks are very public, it is up to people to assume their own level of responsibility if these go under with a shitty acquisition. Or praise yourselves for having 20/20 heinsight when they pay out $1.20 fully franked.
If TII could only look at shares where the directors interests were aligned with shareholders they'd be left with a very small universe of stocks to look at. A blank newsletter wouldn't be very interesting.
The non-compete expires on 4 Jan 2011, 3 years after completion of the WBC sale, so hopefully the time limit for considering "superior" alternatives will be early 2011 rather than later.
I recall that the Chairman implied at the last AGM that the promise to return cash was subject to their discretion, but the Explanatory Memorandum for the 2007 AGM says:
"3.7 DISTRIBUTION POLICY
After the implementation of the Proposal, the RHG Group will no longer be originating new loans and therefore the Directors intend to distribute all surplus funds to Shareholders as the Loan Book amortises."
Even if they can change their intention (on reliance of which shareholders may have approved the sale) surely they can't make a lie of "RHG Group will no longer be originating new loans"? Apparently they can, as the Chairman said at the 2008 AGM: "Any decision whether or not to re-enter the Australian home loan market will be considered by your directors closer to that [non-compete expiry] time."
While any proposal would be put to shareholders, it is guaranteed to go through if the Chairman's (and associated parties') shares are able to be voted. Perhaps a case of oppression of minority shareholders?
At this AGM, I suspect the question will be deferred, and in the meantime distributions will be withheld due to "funding uncertainties" and the need to hold cash collateral against borrowings - even though we are not given details of what these requirements are...
For the record, I'm more than happy with the 75% gain which this TII recommendation has provided me - surely retirees would be too? - but would love to make the 200% that the NTA implies...
Steve,correct me if I am wrong,my understanding is that for the franking credits to be of any use or to be transferrable into any future business they may purchase, the business must be of a similiar nature ie mortgage related.You forgot FLX in which most of these guys did very well.They are far from stupid,however even I wouldn't have put good dough into a do nut business.
Can someone please explain to me how Kinghorn et al can make a silly acquisition without going to the shareholders who will vote yes or no? In looking at the top 20 shareholders, I don't see Kinghorn controlling more than 20%. Assuming his "friends" control another 20% he's still far short from ramming (pardon the pun)home a dumb deal. I agree with Ben, he'll want to get back in to the financing game-I just hope it's not aircraft leasing with his son!
I'm not 100% sure about this ... but 99% sure that franking credits aren't subject to the same 'continuity of business' rules as tax losses. If you have them, you can use them (any tax specialists out there?).
If they go and buy a business, though, the franking credits will probably be locked up forever. If the business is profitable, it will generate its own franking credits. If it's not, they won't have any cash to pay dividends anyway. That's why my suggestion last year was to pay the franked divs out whether they have a 'superior investment opportunity' or not. Even if we were all forced into some sort of DRP, it would be a far superior result. I explained the maths in this piece
http://www.rhgshareholders.com/the-case-for-paying-dividends/
Unfortunately, Ed, they can do it all too easily. If the company wanted to raise capital from shareholders and expand the equity base by more than 15%, they need shareholders approval.But if they wanted to expand the equity base by, say, 100% by issuing stock to another company in a merger, no shareholder approval is required. That said, the fact that David Coe is still on the board suggests they'll have no trouble getting shareholder approval if and where needed.
It's different horses for different courses, Antony. Our members have differing investment styles and we want to provide good value investments for a variety of styles. The main issue is that we do a proper job of describing the risks inherent in an investment so members can make up their own minds before getting involved. We're continually trying to get better at that, and appreciate any feedback. With RHG trading at 70 cents, it provides quite a lot of protection against management doing dumb things with the $1.20 of NTA. But it's always a matter of balancing those risks, of course, and we won't argue with anyone that wants to cash out t today's price.
By the way, while we lost money on the GTP income securities, our investment in GTP ordinaries was a 5-bagger, and it was one of the most lopsided risk/reward situations I've ever come across. We sold out before the company finished digging the hole in which it eventually suffocated. Sometimes, the best opportunities lie outside the great company/great management sphere. Of course, the biggest risk also lie outside that sphere.
Correct - the franking credits are not subject to a continuity of business test
There are some provisions of the ASX listing rules which (may) require shareholder approval for a significant change of activities (see chapter 11).
My bet is that they will simply restart the old RAMS business (perhaps minus the shopfront lending centres). The nuts and bolts of it was if memory serves me correctly more or less just some outsourcing contracts with the usual big players (for the callcentres etc etc) and a small 'finance' team sorting out the nitty-gritty of the financing.
I'm not a RHG shareholder (indeed I sold out at a loss) but I do take a keen interest because I put my mum into it at 4.8cents right into the teeth of the 30 June tax loss selling! If only I could pick 15 baggers for myself!
Perhaps RHG could do a buy back using the excess franking credits in the same way WOW has recently done its buy back. This would realise some share holder value but it may also enable the entrenched directors to increase their shareholdings if they don't participate.
correct Steve, the franking credits stay with the company regardless of the business activities it may start/ purchase/ cease. Franking credits can be lost or cancelled in several ways (usually where there is some tax avoidance involved) but otherwise stay with the company unless it becomes a wholly-owned subsidiary in a tax-consolidated group and transfers the credits to the head company.
The key words there being "share holder value" and directors. (they dont go together in this company)
I see your point Gareth but given past statements by Kinghorn, it would be a brave board that took a step like that. The ensuing lawsuits would tie Kinghorn and his fellow directors up for years.
The book is in run-off. Why invest in this ?
Best thing that can happen to these guys is to get wayne swan to tap the future fund on the shoulder and throw some of those Telstra shares as a funding vehicle for RMBS to compete with the big-4
William
Re Steve's question about the ATO's continuity of ownership and same business rules, yes, Steve is correct, franking credits have one set of rules in the tax legislation that are primarily intended to stop "dividend streaming" to tax advantaged (i.e., Aussie resident) recipients, and there is a completely different set of rules in a different part of the legislation, that govern the applicability of PY tax losses against CY taxable income.
It is also probably worth noting however, if a company passes the Continuity of Ownership Test (COT), that it is not required to pass the Same Business Test.
There is also a legislative exemption for widely held publicly listed companies that entails that they virtually always pass the COT, because shareholders representing <1% (from memory, eight years ago in my bad old days with Deloitte [shudders]) of the issued shares are treated as a single unchanging shareholder.
They may not do anything intentionally silly but the incentives for them to not pay out divvies definitely exist.
Firstly, after losing investors a tonne of money in Allco, KK and RAMS (lest we forget what happened to float investors), I'd imagine that Kinghorn et al have virtually no cred left in the investment banking and funds management industries, so they're going to find it near impossible to raise capital anew, therefore, hanging onto shareholders funds to embark upon a plan to recover their losses and former glory (as every gambler tends to do) is probably their only opportunity to access capital.
Never underestimate the power of hubris.
Secondly, if these guys see RHG as their own little financial fiefdom, which they seem to do, then paying out fully franked divvies makes absolutely no sense when considered from their perspective because (assuming they are paying marginal income tax at 46.5%), the full value of the franking credits will go back to the ATO plus 23.6% of the cash value of the dividend will also go to the ATO (i.e., 16.5/70).
The key question that needs to be considered in respect of these crooks isn't so much "Would dividends be in shareholders' interests?" but rather "Is John Kinghorn looking to retire?"
look they are making money hand over fist,
before we bite their heads off,
lets be rational and diplomatic, and see what they have to say. Obviously there is a non compete clause up until 2011 frome westpac.
They r good at mortgages. Wouldnt it be logical iof they go back into that game, in 2011 regards danny
ok - what's happening at the agm? price is running...
just saw chairman's address - a sensible decision at last
I guess Ben Graham won out over me, yet again.
And John Kinghorn has quite redeemed himself somewhat... albeit with a larger stake in RHG now than when he was fending off Greg & Steve, so there's definitely self-interest there too.
I wonder if his losses in Krispy Kreme helped persuade Kinghorn on today's announcement?
Anyway, a toast to this lost opportunity. Value investing is about sheer guts and determination, so anybody that held out truly deserves this. I'll say nothing about the arbitrageurs.
In Steve's post it says that by June he thinks they could pay $1.20 fully franked dividend. I'm wondering if the buyback at (at least) $0.88 is shortchanging us somehow.
i could be overly cynical, but i think if all shareholders except directors accepted a buyback at 88c it would still leave about $70m-$120m in NTA (depending on when they sell the book) or about $1.60-$2.75 per share for the directors. Interesting that a straight dividend would let all shareholders participate in the residual cash/NTA, but structuring it as a buyback leaves the residual for those holding on - it will be interesting to see whether the directors (who presumably will recommend acceptance) indicate that they will participate themselves.
Maybe they will, and maybe the buy-back price will be increased once the sale values are confirmed, but then again...
Exactly my thoughts- why is why I bought a bunch today. Hopefully I can use it to kill a large capital gains I'm sitting on, or sell at an arbitrage if the price goes up further.
Are you guys reading too much into it?
The official announcement says *not less than* 88c, and this doesn't include the non-cash asset ear-marked for sale.
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