Playing Poker With Capitaland Over CapitaMalls Asia

In my last 2 blog posts, I've discussed whether investors are short-changing themselves in privatisation deals by giving up long-term gains in return for quick short-term gains. I am a shareholder of CapitaMalls Asia (CMA), which is the subject of a privatisation offer by Capitaland. As you would have guessed, I am not in favour of the privatisation, even though it would have yielded me a gain of 65% (based on the final offer of $2.35). Let us look at the stakes, the cards on hand and the moves Capitaland has made so far.

The Stakes

CMA is the only shopping mall developer, owner and manager listed on the Singapore Exchange. Its business model involves developing and/or procuring shopping malls, managing them and subsequently selling them to the 2 Real Estate Investment Trusts (REITs) under its management. The proceeds from the sale is then recycled to develop and/or procure new shopping malls. In this process, it makes a profit from the sale of the shopping mall and from the management of it under the REITs. This business model brings both lump-sum development profits as well as regular management fees. 

For the latest Financial Year (FY) 2013, CMA earned $614M or an Earnings Per Share (EPS) of 15.4 cents. Its Net Asset Value (NAV) is $1.87 as at end Mar 2014. Based on the assessment by the Independent Financial Advisor advising the independent directors of CMA on this privatisation deal, the adjusted NAV of CMA is between $2.28 to $2.35. Most of the increase comes from the management fee business, which contributes an additional $0.28 to $0.35 to the adjusted NAV.

Capitaland's Cards

The reasons Capitaland has offered in the Offer Document for privatising CMA are as follow:

• Fully integrating CMA significantly enhances Capitaland's competitive strengths in integrated developments
• Simplify Capitaland Group's organisational structure
• Increase Capitaland's financial flexibility and scale
• Unlock shareholder value and achieve synergies
• Bring benefits to CMA's operations

The key purpose of assessing the reasons is to determine how keen Capitaland is willing to privatise CMA and hence how willing is it to offer a higher price (at a later period) to fully privatise CMA. (Note: The latest offer of $2.35 is a final offer, meaning the price will not be increased further in this privatisation attempt. Nevertheless, if the privatisation fails, Capitaland can carry out another privatisation attempt in another 6 months from the close of the initial offer). 

On the first reason, Capitaland mentioned about the "OneCapitaland" strategy in developing integrated developments comprising residential, retail, office and serviced apartment units. Even if the privatisation fails, the "OneCapitaland" strategy would still be intact and hence, this is unlikely to drive Capitaland to privatise CMA at all costs. Similarly, the second, third and fifth reasons are not strong enough reasons to up the privatisation offer.

On the fourth reason, it was mentioned that a full privatisation of CMA would raise Capitaland's EPS for FY2013 by approximately 21.5% and improve the return of equity from 5.4% to 6.7%. This is a strong reason for privatisation. On the announcement of the privatisation offer, Capitaland's share price jumped from $2.92 to $3.11, an increase of 6.5%. This shows that Capitaland's investors are in favour of the privatisation.

Capitaland's Moves

On 16 May, about a month after the privatisation announcement, Capitaland raised its offer price. The move was likely prompted by a low acceptance rate of just 2.6%. The announcement can be broken down into 3 parts, namely:

• Increase in offer price from $2.2025 (ex-dividend) to $2.35
• Declaring it as the final offer price
• Making it unconditional

The increase in offer price is to sweeten the deal, especially for investors who subscribed for the Initial Public Offer at a price of $2.12 in Nov 2009. At the original offer price of $2.22 (cum-dividend), the gain works out to be only 4.7% for a holding period of 4.5 years or an annualised gain of 1.0% excluding dividends. Raising the offer price increases the holding period gain to 10.8% or an annualised 2.3%.

Declaring the offer price as final as the effect of persuading shareholders that there would not be any further increase in offer price and convincing them to accept the offer. It also has the opposite effect of tying the hands of Capitaland should the acceptance rate remains low.

Under the original offer, the offer would be declared unconditional only if Capitaland were to hold more than 90% of the shares. By declaring the offer unconditional, Capitaland is buying whatever amount shareholders are willing to sell to it, even if it fails to privatise CMA. This probably indicates that CMA is highly valued in Capitaland's plans.

The market response to Capitaland's raise of offer price was a mere 1 cent drop. By increasing the offer price from $2.2025 (ex-dividend) to $2.35, Capitaland is paying an extra $170.3M. Based on Capitaland's share capital, this represents an additional cost of 4 cents per Capitaland's share. This shows that investors do not mind Capitaland paying a higher price if it can fully privatise CMA.

My Moves

Like all privatisation deals, there is a risk that the share price would drop to the $1.70 level before the privatisation announcement if the deal falls through. After reviewing the stakes, Capitaland's cards and its recent moves, my assessment is CMA is fairly valued at $2.35. However, it appears that CMA is highly valued in Capitaland's business strategy. Moreover, Capitaland's investors do not mind it paying a higher price to fully privatise CMA. Furthermore, if CMA is privatised, we would lose another company to invest in. In recent years, we have already lost a lot of good companies to invest in. Hence, my current position is to reject the offer. By declaring the offer unconditional, shareholders who are willing to sell at $2.35 would already have accepted the offer. Shareholders who are unwilling to sell would not sell at a lower price on the market after the close of the offer.

Having said the above, there is a no-man's land if Capitaland manages to own more than 90% of the shares but less than the level where it could compulsorily acquire all the shares. The shares would become suspended and possibly delisted. The boundary of the no-man's land in this case is between 90% and 96.5%. In the event that the acceptance level is likely to cause Capitaland's ownership to be in this no-man's land, I will accept Capitaland's offer.

See related blog posts:

• The Last Stand on CapitaMalls Asia
• What Happens When Your Shares Are Compulsorily Acquired?
• Are Investors Short-Changing Themselves Over Privatisation Deals?