Long Getinge – profit from panic

Best time to buy is when people run. Good example is Getinge, a Swedish medical devices company. The company has a good track record – strong medical devices brand, good organic and acquisition growth.

On March 7 the company reported a profit warning. The warning was affected by the FDA inspection findings that raised issues with company’s quality management systems in certain production facilities. The company announced that it has retained consultants to remedy the situation and that the associated costs would amount SEK 125 mil (USD 20 mil) per quarter for a period of six to seven quarters. These costs will cause approximately 10% reduction in EBITA. The company also announced the work will not affect organic sales growth, as the issues are related to quality control system not production problems.

The result: the company shares went down by 27% from 236 to 172 SEK, wiping out USD 2.1 bln of its valuation.

If one believes the company that there should not be material production and brand perception distortions, and the total costs to remedy the situation will amount to USD 120 – 140 mil spread over 6 -7 quarters, than the valuation drop of USD 2.1 bln is not justified.

The reason for the drop was investor concern whether the company is not underestimating the issues raised by FDA.

In this I found very helpful research by Michael Jungling of Morgan Stanley. Under the Freedom of Information Act They requested from US FDA details of the inspections. They obtained two forms from two inspections from US and German facilities. In both cases the FDA issues relate primarily to administrative matters and not production quality issues. Specifically he mentions the following examples:

1. Corrective and preventive action and/or results have not been adequately documented

2. Procedures have not been adequately established to control product that does not conform to specific requirements

3. Procedures that define the responsibility for review and the authority for the disposition of nonconforming product have not been adequately established

I believe this is comforting despite the fact that not all forms have been obtained and reviewed.

The next big event for Getinge was supposed to be the Investor Day on May 27. The company was planning to announce its 2014 financial targets (Getinge already announced on 16 April its 2014 full year organic revenue growth of 4.3% beating consensus of 3.8%, but did not announce details on estimated profitability). It also stated that it would provide more information on its costs efficiency program that was “deemed to be highly favourable”. One week before the investor day the company postponed the event till the FDA situtaion is clarified. The share price was recovering towards the investor day, but went down to low 170s after this announcement.

I believe there are two FDA outcomes: (i) fine, (ii) temporary production disruption. If the FDA situtaion would require production closures, it would have already happened. I therefore see production clousures risk as low. The question is how big the fine might be. It is hard to estimate the fine, however it is hard to imagine, that it could be anywehere the 2.1 bln loss in mkt value the company suffered. If the fine is deemed not high enough we can expect the surge in Getinge share price. Such move than might be reinforced be the cost savings announcement that the company already promissed to the investors. The share price is still 21% down from the pre FDA announcement levels. The next event is the 16/10/2014 when Getinge is scheduled to report the results. It is quite possible that the date might bring some good news for Getinge investors.

Disclosure: I am long GNGBF.

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A FREE CALL OPTION ON GOODYEAR´S NEW GAME CHANGING PRODUCT

Summary

  • Goodyear might be an attractive short-term and long-term opportunity.
  • In 1H15 Goodyear plans industrialisation of its new AMT technology. A success could mean a material upside for Goodyear. Downside is limited as market assigns zero value to the project.
  • On 7/30 Goodyear reported its results. The market over-reacted to weak revenue guidance and gave no credit to costs savings achieved. Attractive entry point for investors.

My investment approach

My investment approach is simple – I look for special situations and special opportunities. Many of my ideas start with reading newspapers. I find an idea, analyze it and make an investment decision. My 2014 return was 41%. Some of the ideas I made money on last year are described in my previous articles. The below idea is based on detailed analysis of many articles and materials and discussions with industry experts over a 3 months period.

Profit from game changing product

My latest idea is Goodyear (GT). GT is about to bring a new product to the market. The technology is called Air Maintenance Technology or AMT. The technology was named one of 2012’s best inventions by the Time magazine. The idea is a tire that can pump itself by rotating to maintain tire pressure at a constant level. It utilizes a peristaltic pump technology. Basically there is a small pipe that is molded in the side wall of the tire and as the tire rotates the pipe is squeezed at the bottom and that pushes the air into the tire.

Most personal and commercial vehicles have under-inflated tires, which results in: (i) higher fuel costs, (ii) reduction in tire life, (iii) increased likelihood of tire breakdown, (iv) reduced safety. The new product should resolve the issue. It took Goodyear more than five years to develop and the launch is planned for first half of 2015.

Goodyear got financial support from DoE to develop the product. Goodyear annually reports to DoE its progress. The presentations are publicly available on DoE web site (see the link to the June 2014 presentation below this article). These presentations were the main source of information for this article.

Goodyear is planning to launch the AMT first on truck tires. The truck industry is the most likely tire segment that would be willing to pay a premium for the cost saving benefits. The presentation describes that Goodyear tested interest of different segments of truck fleet operators and 58% stated that they would definitely or probably buy the AMT product. If proved successful the tire would then be used on all major market segments.

Attractive long-term play

It is quite difficult to estimate, what might be the financial impact of the product on GT bottom line. In the last 40 years there were only two similar game changing products – radial tire, and tubeless tire. While radial and tubeless ideas were off-patent and therefore the whole industry benefited, AMT is Goodyear´s invention and therefore it is GT who might benefit.

It is a new technology – the product might fail, or might remain marginal. I read most analysts reports on GT and all recent GT investor calls transcripts and there is no single mention of AMT. The market seems to ignore the product – it is not in GT price yet. One can view this as a free call option on the product launch – if it works out, the impact on the share price might be material, If it does not, there should be a little impact, as the market currently attributes zero value to the project.

Good time to enter

Since Goodyear reported the results on 7/30 the share price traded down by 18%. The market focused too much on a disappointing full year revenue guidance and discounted the cost savings the company achieved in the quarter. The costs savings enabled the company to report its most profitable quarter ever. The price move made the GT shares more attractive trading at 7.5 2015PE, well below the peers average of 11. We should see GT re-rating as market sees the cost savings are proven recurring.

Conclusion

GT at current share price offers an attractive entry point from both short-term and long-term point of view. In the short-term the stock should rerate as GT proves its costs savings will have long lasting effect on its profitability. In the long-term point of view the new AMT technology could be a game changing product. If successful the GT and its shareholders should benefit.

Link to the 2014 presentation:

(energy.gov/sites/prod/files/2014/07/f17/…)

Disclosure: The author is long GT.

Fondul Proprietatea: 4th Buyback on The Way

Another positive news from Fondul Proprietatea, the Romanian energy fund that is under pressure from activist investor Paul SingerThe Elliot Associates managed by Singer is the largest investor in Fondul with 15.22% stake.

The local FSA has approved the changes to the Fund’s share capital after the cancellation of the 1.1bn shares bought in the second buyback programme. The cancellation opens the way for the fourth buyback programme in which the fund aims to buyback 990 million shares (8% of the shares). The fund manager said the buyback would start over the coming days. Accelerated buyback is also under consideration. At the current market price, the buyback would require RON 0.93bn. The Fund held RON 1.26bn on its balance sheet as of the end of August.

As I wrote before, the fund manager faces termination of the management contract if the NAV discount does not decrease to 15% (from current 25%) in two thirds of trading sessions between October 1, 2014 and June 30, 2015. To comply with this the Fondul share price needs to rice another 13% to 1.07 Ron per share. Looks like the Templeton is working hard to achieve this mission.


PAUL SINGER text book activism

Paul Singer gained fame by pushing Argentina into a default. His activist transactions are worth looking at too. His Romanian venture is a text book case of activist investing that generates return for all shareholders.

Elliot Associates is the largest investor in a Romanian USD 4.4 bln. energy fund Fondul Proprietatea. The fund was created to compensate Romanians whose assets were seized under communism. The fund holds minority stakes in Romanian energy companies, some of which are unlisted. The fund is managed by Franklin Templeton. Elliot Associates is the largest shareholder with 15.2% stake valued over 600 mil. USD. It is Elliot´s third largest equity position.

Since its listing on Bucharest stock exchange in January 2011 the fund has been trading at a discount to its Net Assets Value (NAV). The discount has been narrowing, just in the last 12 months by 37%. In addition the fund pays annual dividends of around 7-8%.

Paul Singer has a team of lawyers in Romanian that pushes Templeton into concrete steps to reduce the NAV discount. The fund has just completed 3rd round of buyback in which it purchased 10% of its outstanding shares. The unlisted portfolio decreased by half during the last two years.

This week the shareholders led by Elliot agreed to extend the management contract for Templeton by additional two years. The new contract includes criteria that has to be met for Templeton to continue managing the fund. The most important one is to decrease the NAV discount to 15% (from current 27%) in two thirds of trading sessions between October 1, 2014 and June 30, 2015.

Templeton is waiting for Romanian financial regulator to approve the concrete steps to achieve the mission, namely the secondary London listing (scheduled for October) to broaden the investor universe and 4th round of buyback in which the fund will buy 7.3% of its shares.

Templeton expects further gains could come from IPO of power producers Hydroelectrica, Oltenia, port of Constanca and Bucharest airport all scheduled for 2015. Fondul is also negotiating to sell stakes in two electricity distribution companies to local power producer and distributor Electrica.

Local media speculate that Fondul has retained Goldman Sachs and Erste bank to find buyers for the OMV Petrom stake, which represents 35% of the fund´s NAV.

If the above transactions materialize, the fund cash balance should increase from 8% by 20%-40%. This would allow Templeton to finance further buyback or possibly convert the closed end fund into open ended, which would immediately allow the investors to realize the NAV discount.

All the above steps should contribute to narrowing the discount. If this happens investors will make additional 40%. Not bad, given the fact that Paul Singer is doing all the work.

FONDUL PROPRIETATEA BUYBACK ACCELARATION?

Swiss capital just reported:

* Local media mentions FP RO may sell its entire 19% stake in OMV Petrom (SNP RO) in the next few days according to uncited sources, local news website economica.net wrote today.

* FP’s stake in SNP RO is currently valued at EUR 1.1bln (USD 1.4bln), that would be largest deal to date on the Bucharest SE.

* SNP stake represents 35% of FP’s NAV.

Fit Investment Ideas comment:

I do not doubt that if this is correct than it is a result of Paul Singer´s Elliot Associates activst preassure on Templeton.

At the moment Fondul has 8% of NAV in cash. If this rumor is right the cash would go to 43% of NAV. This would mean significant buyback acceleration. Personally I believe such large transaction is unlikely. Selling “only” half of the OMV Petrom stake would leave Fondul with 25% of its NAV in cash. At current NAV discount it would allow Fondul to buy back close to 35% of outstanding shares at current prices. If correct I would expect significant rerating in the FP.

Yesterday Elliot Associates announced, that it has increased their stake by 26 mn shares in FP. It is a first purchase in many months. It might be an indication that something may be happening.

Hidden Gem in Paul Singer Portfolio

Summary:

  • Investment sites that follow Paul Singer´s portfolio include only US listed securities. One of his largest positions therefore remains unnoticed.
  • Elliot Associates owns 15.2% stake in Romanian restitution fund Fondul Proprietatea. Market value of the position is 550 mil USD.
  • Fondul is the third largest (after HES and put on IWX) position in Elliot Associates´ portfolio.

 

Introduction to Fondul

The fund was created by the Romanian state to reimburse Romanian citizens for the assets that were taken from them by the communist regime. Since 2010 the fund is managed by Franklin Templeton and since 2011 the fund is listed on Bucharest Stock Exchange.

The fund is 85% invested in Romanian energy companies. The latest NAV of the fund is 1.25 Ron while the shares of the fund trade 0.85 Ron, which represents 32% discount to NAV. Since the listing the discount has been narrowing. In the last 12 months Paul Singer recorded USD gain of 47% on this investment and collected 7% dividend.

There are two main reasons for the NAV discount:

  • Romanian citizens are gradually exiting from the fund and foreigners are buying. The oversupply of shares has been eliminated and this is reflected in the recent share price performance
  • Substantial 42% of the portfolio is not listed

Why the fund will make you money

Portfolio restructuring – As stated above the unlisted equities represent 42% of the portfolio. The largest unlised postion is a stake in Hydroelectrica, which accounts for 14% of the NAV of the fund. The government plans to IPO Hydroelectrica in early 2015. The remainder of the unlisted securities represents stakes in local electricity distribution companies. Most of them already have foreign majority owners. Fondul has retained investment banks to advice on sale of those stakes. The goal of the fund is to exit from those investments by the end of 2015. This means that by the end of 2015 most of Fundul assets will be listed equities and cash.

Active buybacks – Elliot Associates is very active in Fondul. Elliot has a team of lawyers in Romania that pushes Templeton into active steps to narrow the NAV discount. Fondul is very actively buying back its own shares. On the top of the buyback the fund is paying out 7-8% dividends pa.

London listing in September – to broaden the investor universe Templeton is making steps to list the fund on LSE. The listing is scheduled for September.

Romainan economy strong – the fund owns only energy companies. Energy companies are proxy to Romanian economy. Romania has been one of the best performin EU countries, growing at 3.5% in 2013. In 2013 the good macro situation was reflected on the performance of the companies in Fondul portfolio causing Fondul to report the best dividend income ever.

Investors follow Paul Singer activities. It would be a mistake to neglect this one.

 

http://fondulproprietatea.ro/sites/default/files/fp_june_2014_factsheet.pdf

Making money is about great ideas.