Over recent months, rumours had been rife that Island Hotels and IHI could be collaborating on the proposed major hotel development in St Julian’s. These rumours started circulating after Island Hotels announced on September 25, 2014, that its plans to undertake a major refurbishment project at the Radisson Blu in St Julian’s had been postponed until further information was available on other projects taking place in St George’s Bay and the surrounding area.
While hearsay was that any possible collaboration with IHI would be limited to the St Julian’s development, last Friday’s announcement must have caught many by surprise as International Hotel Investments plc announced that it entered into a conditional agreement to acquire the whole of Island Hotels Group Holdings plc.
This implies that the deal covers the entire business operations of the Island Hotels Group and not simply the Radisson hotel in St Julian’s. As such, assuming that all the conditions to the agreement are satisfied in the coming months, IHI will also own 50 per cent of the Golden Sands resort, 50 per cent of the land in Ħal Ferħ, Island Caterers Ltd as well as the 50 per cent shareholding in the company responsible for the Costa Coffee franchise in Malta and Spain.
IHI attributed a net equity value of €50 million to Island Hotels. Since there are 36,583,660 shares of IHG in issue, this implies a value of €1.367 per share of IHG, a premium of 60.8 per cent on the share price of Island Hotels prior to last Friday’s announcement.
Similar to many acquisitions of a similar nature that take place across international financial markets on a regular basis, this deal will be financed partly by cash and partly by the issuance of new IHI shares to the shareholders of Island Hotels. The announcement revealed that the cash consideration for IHG shareholders is €1 per share. Given the IHG shares in issue, this means that IHI will be paying a cash consideration of €36,583,660 while the balance of €13,416,340 will be settled via an allotment of new IHI shares. Basically, 73.2 per cent of the deal is a cash settlement.
Last Friday’s announcement also disclosed that the cash consideration of €36.6 million is payable in two tranches, with €0.55 per share (amounting to €20.1 million) payable on completion of the transaction and the second tranche of €0.45 per share (amounting to €16.5 million) payable within 12 months of completion of the transaction.
IHG shareholders will also be allotted 0.246 IHI shares for each share held. In total, a further nine million IHI shares will be issued to IHG shareholders in consideration of the remaining balance of the €13.4 million consideration. This implies that the IHG shareholders who agreed to the proposed terms have accepted a value of €1.49 per IHI share – a wide discrepancy to the market price of IHI shares of €0.57 prior to Friday’s announcement.
While the market price of a company’s share and the correct value are very subjective, there are two other ways for IHG shareholders to attribute a value to each IHI share which is being allotted to them. By using a market price of €0.57 per share, the share allotment in IHI is worth €0.14 per IHG share. On the other hand, some may argue that the net asset value per share would be a more appropriate method due to market imperfections that invariably arise. The latest financial statements of IHI as at June 30, 2014, give a net asset value per share of €1.094, implying that the €0.246 of an IHI share allotted to IHG shareholders is worth €0.269 per share.
Hopefully, other equity listings will follow in due course
When using this net asset value method, various other arguments can emerge on the adjusted asset value of the IHI Group. In addition to the probable impairments that could be taken in the coming months to the property values in Russia and Libya, one must also include the net asset value of Island Hotels Group to this calculation. Moreover, how would one value the shareholding in the land in Ħal Ferħ which is recognised in the balance sheet of Island Hotels at cost, despite the full development permit in hand? Additionally, what value should be attributed to the land currently occupied by the Radisson in St Julian’s if one assumes a possible change in use incorporating residences and commercial properties? In recent years, Island Hotels had also publicly stated that its balance sheet does not reflect the value of the unsold weeks of the timeshare units at the Golden Sands resort which run into several millions of euros. This too should be added on to the ultimate value being acquired by IHI.
Once all the conditions are satisfied, the sale of shares by the shareholders of IHG to IHI will take place via a voluntary offer by IHI. Although there have been other such offers in the past, this is the first time that a publicly traded company is acquiring another company whose shares are also listed on the Malta Stock Exchange. Such deals which are very common across international financial markets bring to the fore open discussions on the correct level of share prices. While such valuations are very subjective in nature and could be debatable at length, the purpose of today’s article is precisely to assist retail investors to analyse the mechanics of this milestone deal and highlight other factors which are inherently difficult to value at this point in time.
One of the obvious but important conclusions emerging from the agreement announced last week is that the share price of IHG was significantly undervalued in the market at a price of €0.85, compared to the value of €1.367 attributed by IHI.
I have written various articles in the past wherein I highlighted that market imperfections are normal across international financial markets and investors (whether retail or institutional) ought to take advantage of opportunities arising from such imperfections. There may be times when the market is overenthusiastic and investors would do well to sell some of their shares and there may be other times when the market is overly pessimistic and the market price is at a discount to the fair value. Although it often takes a very long time for the market to reflect reality, value investors should consistently back companies whose perceived fundamental value exceeds the price being traded on the secondary market. Last week’s announcement is a clear example of this.
Meanwhile, it is far more difficult to arrive at a realistic value for IHI given a number of factors highlighted above together with the diverse geographic spread of IHI’s asset base. Hopefully, more insight into such values is provided in the months ahead to enable investors and market participants to better analyse IHI’s valuation.
Although this deal would ultimately mean that another equity will be delisted from the Official List of the Malta Stock Exchange, I believe that this is an overall positive development for the local financial market. It shows that the local market is maturing and slowly following in the footsteps of international stock exchanges.
Hopefully, other equity listings will follow in due course both on the Official List and also as a result of the future launch of the Prospects market by the MSE.
Meanwhile, prospective issuers should also look back at the listing of IHG as a good case study showing the various benefits of listing on a publicly traded market. The Initial Public Offering and subsequent listing of the shares in 2009 was an ideal example of succession planning through the process of converting a private family business into a publicly-traded entity with non-family shareholders and enhanced corporate governance principles. Another important factor was the ability of IHG to grow via the acquisition of a stake in a privately-held retail catering business by partly financing the deal via the allotment of new shares thereby offering an exit route to the new shareholders.
Furthermore, last Friday’s announcement clearly demonstrates the possibility of crystallising a family’s lifetime investment despite the generally illiquid nature of the Maltese equity market. The developments at IHG since 2009 should be an eye opener for the many long-established family businesses which may be struggling to come to terms with effective succession planning.
Rizzo, Farrugia & Co. (Stockbrokers) Ltd (RFC) is a member of the Malta Stock Exchange and licensed by the Malta Financial Services Authority. This report has been prepared in accordance with legal requirements. It has not been disclosed to the company/s herein mentioned before its publication. It is based on public information only and is published solely for informational purposes and is not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments. The author and other relevant persons may not trade in the securities to which this report relates (other than executing unsolicited client orders) until such time as the recipients of this report have had a reasonable opportunity to act thereon. RFC, its directors, the author of this report, other employees or RFC on behalf of its clients, have holdings in the securities herein mentioned and may at any time make purchases and/or sales in them as principal or agent, and may also have other business relationships with the company/s. Stock markets are volatile and subject to fluctuations which cannot be reasonably foreseen. Past performance is not necessarily indicative of future results. Neither RFC, nor any of its directors or employees accept any liability for any loss or damage arising out of the use of all or any part thereof and no representation or warranty is provided in respect of the reliability of the information contained in this report.
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Edward Rizzo is a director at Rizzo, Farrugia & Co (Stockbrokers) Limited.