A Mammoth Issue

My Dearest Totomaster,

• u think the GO on COURTS @ RM1.02 is fair? seems like the NTA stands @ RM1.79 as of last quarter....

Firstly let's go back in time.

The warning sign that Courts business was failing was there as early as in 2004. So from an investing point of view it was a rather NO BRAINER to AVOID this stock like plague. And if one had taken the early warning on 1st Sept 2004, price of Courts then was at 1.95.

On that day, Courts had just announced its earnings. It was terrible.

• Net profit for the first quarter ended June 30 had fallen by almost half to RM5.8mil from RM10.7mil in the same quarter last year.

That was the first warning sign. And from a investing point of view, one would have considered the issue of the poor financial performance of its parent company, Courts UK. And in fact Courts UK went into administration in Nov 2004 to avoid bankruptcy.

Now with Courts Uk going into administration, it was a rather an open secret that the management had gotten KPMG to engineer a buyout.

Here's a news clip back in early 2005.

• Saturday January 29, 2005
  Business as usual at Courts
  
  BY ERROL OH
  FOR SALE: A majority shareholding in a listed Malaysian retailer with about 80 stores nationwide. Well established and professionally managed. Comes with an Indonesian subsidiary that offers good growth potential. To enquire, contact KPMG Corporate Recovery, London.
  
  We will never see this advertisement in any publication, but it is likely that something similar will be out there later this year, perhaps as soon as six months from now.
  
  There has been much speculation that Courts Mammoth Bhd will get a new controlling shareholder because parent company Courts plc, which has a 50.1% stake, is ailing, and asset disposals are an obvious solution to the latter's debt woes.
  
  On Nov 30, the UK High Court appointed Mick McLoughlin and Chris Laverty of KPMG Corporate Recovery as administrators of Courts plc. According to a press statement from KPMG, the British retailer has suffered from losses over the past two to three years, and has not been able to complete a restructuring of its operations.
  
  However, the appointment of administrators affects only the Courts business in Britain. “The Courts overseas operations have separate boards, management, suppliers and funding, and will continue to trade as normal,” adds KPMG.

Price of Courts then? 1.39.

RHB then jumped into the speculative bandwagon and wrote the following piece.

• 8 April 2005
  RHB Highlights
  
  Courts Mammoth Berhad (RM1.45) : Courting A New Controlling Shareholder? MARKET PERFORM
  
  Having attended a recent meeting with the management, we muse on the possibility of Courts Malaysia having a new controlling shareholder. The misfortune surrounding Courts UK, which has been taken into administration since 30 November 2004 to avoid bankcruptcy, may prompt Courts plc to sell its 50.27% stake in Courts Malaysia. Courts UK was the biggest contributor to Courts plc’s earnings.
  
  Would EPF, Courts Malaysia’s second largest shareholder with a 7.65% stake, be interested to acquire Courts plc’s block? We doubt it given EPF’s estimated investment cost of RM2.45/share in Courts Malaysia and that the organisation may not be keen to further average down its investment cost.

Yes, EPF, our money is involved!

And RHB made the following reasoning.

• Nonetheless, having said that, Courts Malaysia is not without attractions from both business and share price perspectives:
  
  i) With Courts UK gone, Courts Malaysia now reigns as possibly the second most profitable Courts chain worldwide after Courts Jamaica (see Table 3 for performances of public-listed Courts), covering not only Malaysia, but also the vast and lucrative Indonesian market, which is still largely untapped.
  
  The potential for growth in the size of credit accounts in Indonesia is massive given the republic’s estimated number of households of 60m, comparatively much larger than Malaysia’s 4.8m as at December 2003. Presently, there are only 130,000 credit accounts in Indonesia, compared with about 360,000 in Malaysia.
  
  ii) For all that, the stock is trading at an estimated FY03/06 PER of only 10.3x. .
  
  iii) Also, the share price is trading at 24% discount to NTA, which stood at RM1.90 as at end-3QFY03/05.

Price of Courts then was 1.45.

Now this buyout did not materialize. If one had purchased Courts based on a takeover speculation, this strategy based on this stock, simply failed.

And as it has been said, TIME IS THE ENEMEY OF THE TERRIBLE BUSINESS.

Courts fundamentals deteriorated. For its fy 2004, it earned some 39 million. A year later, it earned 26 million. And in fy 2006, it earned just 1.1 million. Last month it reported a net loss of some 35 million for its fy 2007. TIME is definitely the enemy of the terrible business.

And just as its fundamentals deteriorated, so did its stock price. The clear downtrend in the stock price can be clearly seen.

Courts hit a low of 0.475 on Oct 17th 2006.

If one had purchased Courts in 2005 based on a takeover speculation, then clearly by June 13th 2006 this strategy of buying based on a takeover DID NOT WORK as Courts fell below the 1.00 mark and closed at 0.93.

And then the sell-off in Courts accelerated.

So I wonder, during this time, there isn't much rational in buying more of Courts is there?

The fundamentals by now, has worsen. The stock price was declining and the speculative takeover just wasn't happening!

However, in late 2006, there was some indication of life in the stock. The stock broke its dramatic and long, long downtrend. And according to some trading buddies of mine, there was trading opportunity late 2006.

So perhaps, despite the clear decline in its fundamentals, Courts was still a company who had assets worth some 1.80 per share. Perhaps there was some justification for some to invest/speculate/trade based on a takeover again. But the bet is never quite the same bet. Price of a possible entry? 0.85.

On the 8th June 2007, the takoever buyout becomes a reality.

• Takeover offer for Courts Mammoth
  
  June 8 2007
  
  COURTS Mammoth Bhd said it has been served a multi-million-ringgit cash takeover offer by a group of private equity funds.
  
  Newly-incorporated Malaysia Retail Group Ltd yesterday made the conditional cash offer through AmInvestment Bank Bhd.
  
  The offer was for the entire equity in Courts, comprising 282 million shares of 50 sen each.
  
  Malaysia Retail valued each Courts share at RM1.02, bringing the total cash offer to RM287.64 million.
  
  The company does not own any Courts share at present.

WOW! 1.02???

Isn't this simply too low?

Here's Alliance research reasoning.

• Indicative fair value of RM1.41
  
  Despite the losses, we strongly believe Courts is worth more than RM1.02. This is because after attaching a 20% discount on its short-term receivables of <1> 1 year of RM193.9m, the RNAV works out to be RM1.30. Valuation will be even higher taking into account its franchise and controlling stake value.
  
  Present a good trading opportunity
  
  Given the low offer price and high fair value, investors should reject the offer unless the price is raised. Trading opportunity presents as high possibility of better offers from other bidders.

How?

For me, such strategy, there are a couple of key issues in such a strategy.

1. Will it happen?

In Courts case, it did happen!

2. How long are we talking about?

Courts thingee simply took too long. Idea was mooted back in 2005. It is now mid 2007.

For me, the valid reason to buy was back in April 2005. Courts despite some declining earnings, was still profitable. And Courts at 1.45 was still trading at 24% below its NTA of 1.90.

Would I buy at 1.00? The reasoning is there but the risk had accelerated. The bet simply wasn't the same bet anymore. The takeover reasoning based on a high NTA value was still valid but we are talking about a company who is now losing money like crazy. Not quite the same bet.

3. Will the GO price be fair?

Without a doubt, the person or the group making the GO, needs to make money. Else it simply made no sense for them to issue a GO.

But we are we.

We need to address the issue if the GO price reprsents a fair price for ourselves.

In Courts case, it's in my opinion that the GO price is simply terribly low!

rgds