In November 2006 – Telecom New Zealand ($TEL.NZ) announced plans to sell their directory business in a competitive process. Analysts placed a range of values between NZ$1.5 billion to NZ$2.2 billion. I ran some numbers and came up with a NZ$850 million valuation – using Yell Group ($YELL) in the UK as a comparator. In my analysis I wrote the following paragraph:

I believe these numbers (NZ$1.5-2.2 billion) are fantasy.  The top of our valuation – based on sensitivities – is NZ$1.1 billion.  Using the current 13.8x Yell multiple gives a valuation of NZ$1.21 billion.

As a result of some discussions I revised the analysis 24 hours later with some more aggressive assumptions. My updated valuation was NZ$1.10 billion with a range of NZ$867 million to NZ$1.36 billion.

But hey – there was a fully-fledged private equity boom going on. What did I know.

In early 2007 to get to the short-list of potential acquirers for the Telecom New Zealand directory business required a NZ$2.1 billion bid. I wrote yet another piece – with the following excerpts:

But it appears our valuation was wrong.  The rumours in the market were that it took NZ$2.1 billion to make the short-list and the four finalists are all private equity players.  Our valuation was NZ$1.1 billion – that is a long way short of NZ$2.1 billion.

Here at Valuecruncher we back our analysis – and when we are that far out we want to know why.

and

This has been bugging me – I don’t like being this far out on valuations.  I like to think it isn’t typical.

Then I proceeded to explain the bid valuation as best I could (summary – really cheap debt).

In March 2007 with the closing of the sale to CCMP I noted:

Valuecruncher believes the result is an excellent one for Telecom.

Since 2007 it hasn’t been an easy time for owners of highly leveraged directory assets. Debt isn’t as cheap as it was (check out this Bloomberg piece from February 2007 – the world has changed). Another strange thing – people are also using this internet thing where they previously relied on services like directories. That means there is pressure on key directory revenue streams (like advertising).

There is a long piece in the New Zealand media today (Sunday Star Times written by Tim Hunter) about the challenges facing the directory business – now called Yellow Pages Group. It quotes a number of unnamed sources using Yell Group ($YELL) in the UK as a valuation comparator (“Yell in the UK has just restructured and trades at seven times earnings“). With Yellow Pages Group having EBITDA of around NZ$130 million – that places an enterprise value on Yellow Pages Group of “NZ$750-$800 million“. Note the article has senior debt holders being owed NZ$1.2 billion – ouch. The article is a good piece of analysis by Tim Hunter.

Our Valuecruncher interactive analyst report for Yell Group backs up this analysis (have a play with the DCF tab as well). A 6.3x EV/EBITDA multiple for Yell Group and a NZ$130 million EBITDA gives an enterprise value for Yellow Pages Group of NZ$819 million. Enterprise value is the value of the whole business (equity and debt).

Hold on – isn’t that just about where I started?

Lesson: Do robust analysis and run the numbers – and back that (even in the middle of a private equity boom).

We tend to get some complaints when we write about New Zealand-based issues. This post is one of those New Zealand focused ones. Feel free to skip it if that isn’t what you are interested in.

Dear NZX

We like your work – we really do. The relevance and professionalism of the New Zealand share market has improved by an order of magnitude over the last ten years.

But we also love the quote from Il Gattopardo (The Leopard) – “If we want things to stay as they are, things will have to change”

We know you get that – for New Zealand to remain competitive we need stronger capital markets. The Capital Market Development (CMD) Taskforce has some good thinking – which needs the political support to implement. However, looking at the majority of suggestions – they are 20^th century solutions. Do they need implementing – absolutely. But for a small market like New Zealand we need to be looking at different solutions as well – what works in a big market doesn’t necessarily work here. We need to be looking at more innovative solutions – and again, I do think you get this. Adding Rod Drury to the NZX board is a step in the right direction.

We are in the broad equity research space – and we were disappointed by sections of the CMD Taskforce report. The CMD report (from page 69) outlines a situation where there is limited traditional equity research coverage of smaller listed companies. The CMD report offers solutions including public and private funding of additional equity research (supplied by traditional research providers) – because that is what other markets are doing. There is discussion about a “small levy on trades” (page 70).

Really. That is the best solution we have got. New Zealand is a very small market – quoting the CMD report:

“INFINZ data show that 30 stocks are covered by all six major New Zealand brokerages, and a further 37 stocks are covered by some of those firms. There are 47 (41 percent) NZX companies without any analyst coverage at all, and a further 15 have only one or two analysts covering them. There is generally no coverage of small stocks, and no coverage of the companies on the smaller exchanges, the NZAX or Unlisted.”

“All six major New Zealand brokerages”. Unless the plan is to make a significant investment in research (more than one analyst per company) – and that doesn’t seem possible – why are we bothering? The traditional large market research model doesn’t seem to be relevant here. Never mind that most traditional research reports are virtually impossible for the average retail investor to comprehend – anecdotally the consumption of research reports by retail investors in New Zealand is low. NZX knows where retail investor education is in New Zealand – the large electronic ticker going around the NZX Centre in Wellington uses full company names and the share price not ticker codes and the share price. That is the right thing for NZX to do by the way – but it shows how far we have to go.

Why not start with a plan to provide base financial information and valuation resources for the market? Let’s initially make information and tools available – how people use them is the next step. NZX.com is the logical home for those resources.

There will be traditional coverage where the market deems it worthwhile – the largest companies on the NZX only. For the rest not covered by traditional research (in fact for all of the NZX companies) NZX should be following Jeff Jarvis’ rule from What Would Google Do – “do what you do best and link to the rest”.

Most investors in New Zealand go to the NZX website for information on listed companies. NZX has added news feeds from Fairfax to encourage more engagement – but where is the financial information and analysis? NZX should make base financial information and valuation resources available. NZX.com is in a position to be the default portal for listed company information in New Zealand. There are options available to NZX where other parties are providing free access to information and tools to fill the current gaps on NZX.com.

Example 1 – Reuters

It isn’t well known – but the free Reuters website has good coverage of NZX listed companies. We can use New Zealand’s largest listed company Telecom New Zealand ($TEL.NZ) as an example.

For New Zealand companies all you need to add is a “.nz” suffix to the ticker code and there is a quantity of quality free information. The information is comprehensive – and in a single location. Using $TEL.NZ as an example – consensus analyst estimates, historical financial statements, charts and even paid research options. It isn’t only the large NZX companies – for example Xero ($XRO.NZ) even though they have no analyst coverage.

Example 2 – Valuecruncher

At Valuecruncher we provide interactive valuation tools for listed companies. This already includes 156 companies on the NZX. These are comparator based tools. Using $TEL.NZ as the example again.

Valuecruncher Interactive Analyst Report For Telecom New Zealand ($TEL.NZ)

Our algorithms choose the peer group from an international selection. But you can change the peers to a New Zealand focused group. The tools are interactive.

Disclosure: Yes – one of the solutions is Valuecruncher. In case there is any doubt – that is the company associated with this blog.

NZX – do what you do best and link to the rest. What would Google do? Google Finance uses links to Reuters for deeper data.  NZX.com can be the default financial information and valuation resources location for New Zealand as a first step to a potentially bigger future. It is time to look for specific solutions for this market – not simply copying the actions of larger markets.

Regards,

Mark Clare

Valuecruncher CEO

I know we are a little late to recognising this – but we believe it is important. The New Zealand Stock Exchange ($NZX.NZ) have added technology entrepreneur Rod Drury to their board. Rod is the CEO and founder of on-line accounting provider Xero ($XRO.NZ).

For a small market like New Zealand – technology is going to be very important moving forward. To compete NZX needs to find ways to use data and information better.  Adding Rod to the strategic discussions around the NZX board table is a major step in the right direction.

A good challenge for Rod and a smart move for NZX.

Kathmandu is an out-door goods retailer. Kathmandu was founded by New Zealander Jan Cameron in 1987.  The company has 84 stores with 45 in Australia, 32 in New Zealand and the remainder in the UK. Goldman Sachs JBWere and Quadrant Private Equity acquired Kathmandu (then 46 stores) from Cameron in 2006.  That transaction valued Kathmandu at around NZ$275 million.

The company is planning an IPO on the NZX (New Zealand Share Market).  Gareth Vaughan in The Independent has a good summary of the details. There is a Prospectus expected in the next week. We thought that we would get in early and put out some high-level estimated numbers. We have not seen anything that has not been in the media – these are high-level estimates only. Commentators are estimating the IPO will value the company at around NZ$450 million.

Our base case assumptions are NZ$400 million of 2009 revenues with a 10% EBIT margin. We have also assumed capital expenditures of NZ$30 million per annum. We have assumed that revenues grow at 10% per annum and that profitability (at the EBIT line) remains constant at 10%.

Valuecruncher has completed a base case valuation and three separate scenarios for Kathmandu. The first scenario (EBIT 8%) assumes EBIT margins of 8% against 10% in the base case. The second (Growth 5%) assumes 5% growth not the 10% of the base case. The third (CAPEX $40m) assumes CAPEX of NZ$40m compared to NZ$30m in the base case.

This base case and three scenarios give an enterprise value range of NZ$354 million to NZ$460 million (8.9 to 11.5x estimated 2009 EBIT). Valuecruncher gave a 25% weighting to each scenario which gives a NZ$411 million valuation (10.3x estimated 2009 EBIT). This NZ$411 million is our mid-point valuation of Kathmandu.

An enterprise value is the value of the whole business – debt and equity. To calculate the value of the equity in Kathmandu we need to deduct net debt (long-term borrowings less cash). Without these numbers available we have only calculated a value of the whole business – debt and equity. The ultimate value of the equity would depend on the debt and cash on the balance sheet.

When the actual numbers are released it will be worth looking at some comparators. We have a range that you can look at – you can choose your own. But here are some suggestions:

Nordstrom ($JWN) – Interactive Comparator Analysis

The Gap ($GPS) – Interactive Comparator Analysis

Limited Brands ($LTD) – Interactive Comparator Analysis

Below is a link to the static Valuecruncher valuation report for Kathmandu. The report outlines more details about our initial valuation. It is a piece of high-level analysis based on limited available information.

Valuecruncher-Valuation-Report-Kathmandu-IPO-Estimates-20091007

The Capital Markets Development Taskforce currently reviewing the New Zealand financial markets released am interim report this week. Media reports have focused on a range of issues – one of which is a lack of analyst coverage.

From page 14 of the interim report:

“Work commissioned for the taskforce has found that there is no analyst research is available on 42% of the companies listed on the NZX, and a further 13% of companies have only one or two analysts covering them.”

We would disagree with that assessment. Here at Valuecruncher we cover 156 companies listed on the NZX. This is more than 42% of the companies on the NZSX. We have valuation tools available for companies from Telecom New Zealand ($TEL.NZ) to Xero ($XRO.NZ).

Telecom New Zealand ($TEL.NZ) – Valuecruncher Interactive Analyst Report

Xero ($XRO.NZ) – Valuecruncher Interactive Analyst Report

Now our reports are not the “typical” analyst reports. But we would argue that the current analyst model looks broken – the current model is too expensive and produces research reports that are complex and hard for retail investors to consume. Those are some of the reasons that there is a lack of traditional analyst coverage in markets like New Zealand.

We believe that equity research will change moving forward and while we may not yet know what the final solution looks like – it will be different to what has gone previously. Parties like the The Capital Markets Development Taskforce should be looking at different more innovative solutions and how those can be encouraged.

Clay Shirky – “That is what real revolutions are like. The old stuff gets broken faster than the new stuff is put in its place. The importance of any given experiment isn’t apparent at the moment it appears; big changes stall, small changes spread.”

Financial markets need experiments. For small markets like New Zealand – these are vital.

In the spirit of The Economist’s “Big Mac Index“.  Here at Valuecruncher we decided to repeat an exercise we did earlier in the year – to assess the overall  current valuation of the New Zealand stock exchange (NZSX) – the market as a whole.  Our objective was to assess whether the overall market might be over- or undervalued.

To do this we took a simplified approach.  At Valuecruncher we have completed valuations for 36 of the NZX50 companies.  Four of these companies are not NZ-based so we eliminated them and we have a crazy number coming out of Nuplex ($NPX.NZ) so we also eliminated them.  That leaves us with 31 companies.  These 31 companies have a market capitalisation of NZ$31.8 billion – this represents just over 70% of the NZSX total market capitalisation of NZ$44.5 billion.  We took these 31 companies and compared our valuations to the current share price – determining a percentage under- or overvalued.  We then weighted these percentages by the market capitalisation of the 31 companies.  By summing these weighted averages we came up with an estimate of the valuation of the New Zealand market.

Based on our sample of 31 companies – representing just over 70% of the total NZSX market capitalisation.  Valuecruncher estimates that the New Zealand stock exchange is undervalued by just under 3%.  Valuecruncher is saying that overall the market looks slightly cheap.  Our numbers are included in the table below.

At Valuecruncher we have just completed our most recent review of NZX companies in our dataset.  This involves a review of the assumptions we are using in the valuations. We use consensus analyst estimates as the basis of our assumptions.  For example – consensus analyst estimates of revenues for New Zealand’s largest listed company Telecom New Zealand ($TEL.NZ).  Valuecruncher uses these numbers and our own assessments of other valuation assumptions such as the discount rate and terminal growth rate.

At Valuecruncher we then pull all of these variables together and place a valuation on the shares of the companies in our data-set and provide a recommendation.  You can either simply look at our valuations – or for all the experts out there, you can change the assumptions we have used and modify the valuation.  Modified valuations can be saved and shared.

With the completion of our monthly review of the companies on the NZX (New Zealand stock exchange) we decided to outline what we at Valuecruncher see as the most undervalued (the best buys).

We should note that you can always find a list of the Valuecruncher buy recommendations for the NZX from the most undervalued using our filters.  The following list highlights the top five buys based on the latest review of the valuation assumptions.

Valuecruncher’s Top Five Buys On The NZX – June 2009

Number 1

Rakon ($RAK.NZ) is a New Zealand-based designer and manufacturer of high-performance frequency control technology. Valuecruncher currently values $RAK.NZ at NZ$1.87 – 24% above the current share price.

Valuecruncher Interactive Analyst Report For $RAK.NZ

Number 2

Sky Network Television ($SKT.NZ) is a provider of pay and free-to-air television services in New Zealand.  Valuecruncher currently values $SKT.NZ at NZ$5.156 – 22% above the current share price.

Valuecruncher Interactive Analyst Report For $SKT.NZ

Number 3

Sky City ($SKC.NZ) is a New Zealand-listed gaming, hotel and entertainment company.  Valuecruncher currently values $SKC.NZ at NZ$3.19 – 20% above the current share price.

Valuecruncher Interactive Analyst Report For $SKC.NZ

Number 4

Methven ($MVN.NZ) is a New Zealand company that designs and supplies taps and shower-ware.  Valuecruncher currently values $MVN.NZ at NZ$1.65 – 20% above the current share price.

Valuecruncher Interactive Analyst Report For $MVN.NZ

Number 5

Steel & Tube ($STU.NZ) is a New Zealand-based steel and industrial products company.  Valuecruncher currently values $STU.NZ at NZ$3.29 – 13% above the current share price.

Valuecruncher Interactive Analyst Report For $STU.NZ

Those are our top five buys for June 2009.  You can also always find a list of the Valuecruncher sell recommendations for the NZX from most overvalued up using our filters.

Disclosure: None

Air New Zealand ($AIR.NZ) is an international and domestic airline based in New Zealand. $AIR.NZ is currently trading at NZ$1.03.  How is this in relation to the intrinsic value of the company’s shares?

Valuecruncher Interactive Analyst Report for $AIR.NZ

Valuecruncher produces a valuation of NZ$1.15 for $AIR.NZ. This is a current valuation (an estimate of intrinsic value using a discounted cash flow model) not a target price. This valuation is 11.7% above the current share price of NZ$1.03.

Our analysis incorporates the cash and debt on the $AIR.NZ balance sheet – Valuecruncher calculates a net debt number.

Play with our assumptions – what does your analysis say?

Disclosure: None

Fisher & Paykel Appliances ($FPA.NZ) is a New Zealand-based designer, manufacturer and marketer of household appliances.  The company has just completed a major recapitalisation. The current share price is NZ$0.69.  How is this in relation to the intrinsic value of the company’s shares?

Valuecruncher Interactive Analyst Report For $FPA.NZ

Valuecruncher produces a valuation of NZ$0.67 for $FPA.NZ. This is a current valuation (an estimate of intrinsic value using a discounted cash flow model) not a target price. This valuation is 2.9% below the current share price of NZ$0.69.

Assumptions

• Revenue: Reuters aggregates seven analysts covering $FPA.NZ and this produces mean estimates of 2010 and 2011 revenues of NZ$1.355 billion and NZ$1.356 billion respectively. For our analysis we have used NZ$1.350 billion in 2010, NZ$1.350 billion in 2011 and NZ$1.375 billion in 2012.
• Profitability: We have used a flat EBITDA margin of 10.5% in 2010 then 12.0% for 2011 and beyond. Reuters has $FPA.NZ‘s EBITD margin at an average of 9.88% over the last five-years.
• Capital Expenditure: We have assumed capital expenditures of NZ$50.0 million per annum moving forward.
• Discount Rate: 8.5%. The PwC New Zealand cost of capital report has $FPA.NZ at a WACC of 7.5% with the wider NZ market at 8.3%.
• Terminal Growth Rate: 3.0%.

Our analysis incorporates the cash and debt the $FPH.NZ balance sheet – Valuecruncher calculates a net debt number.

Play with our assumptions – what does your analysis say?

Disclosure: None

Methven ($MVN.NZ) is a New Zealand company that designs and supplies taps and shower-ware.  $MVN.NZ has risen over 30% since hitting a low of NZ$0.97 in March. $MVN.NZ is currently trading at NZ$1.30.  How is this in relation to the intrinsic value of the company’s shares?

Valuecruncher Interactive Analyst Report for $MVN.NZ

Valuecruncher produces a valuation of NZ$1.67 for $MVN.NZ. This is a current valuation (an estimate of intrinsic value using a discounted cash flow model) not a target price. This valuation is 28.5% above the current share price of NZ$1.30.

Assumptions

• Revenue: Reuters aggregates four analysts covering $MVN.NZ and the mean estimates of 2010 and 2011 revenues are NZ$141.6 million and NZ$146.1 million respectively. For our analysis we have used NZ$145.0 million in 2010, NZ$150.0 million in 2011 and NZ$155.0 million in 2012.
• Profitability: We have used a flat EBITDA margin of 14.0% to 2012. Reuters don’t list an EBITD margin for $MVN.NZ.
• Capital Expenditure: We have assumed capital expenditures of NZ$3.0 million per annum moving forward.
• Discount Rate: 11.0%. The PwC New Zealand cost of capital report does not list $MVN.NZ but has the wider market at 8.3%. We believe a discount rate in the 10-12% range is appropriate. We have chosen the middle of this range.
• Terminal Growth Rate: 2.0%.

Our analysis incorporates the cash and debt on the $MVN.NZ balance sheet – Valuecruncher calculates a net debt number.

Play with our assumptions – what does your analysis say?

Disclosure: None