Woolworths (positive impact) completed the demerger of Endeavor Group this week. The demerger was first announced in 2019 and mooted for even longer. However, it was delayed by COViD and the sheer amount of time it takes to complete the separation of two businesses of this size and scale.
Thursday saw the completion of the demerger.
Shareholders in Woolworths received 1 new share in Endeavour Group (ASX: EDV) for each share they held in Woolworths.
The resulting new company (Endeavour Group) has instantly become one of the largest 50 companies on the stock market.
Endeavour Group’s assets are better known to readers as Dan Murphy’s retail liquor network, BWS retail liquor assets (often co-located with Woolworths supermarkets) and the lesser-known ALH Hotel network of 332 hotel venues.
At the end of trading on Thursday, the market-implied that the “demerged” companies were worth slightly more than when they were combined:
At first blush, some may quip, “surely not justified, are they not the same companies?”.
This is not necessarily the case, as we have previously explored (see One plus one equals two and a half).
Specific to this demerger, such an assumption would miss at least three fundamentals features of companies when they operate separately:
- The most important in our view are the relative levels of operational risk and underlying growth rates.
In this case, the supermarkets business is at lower risk due to its almost unwavering levels of demand regardless of economic conditions (people have to eat!), whereas hotels and liquor can face more variability.
- The second most important is how will new capital (investment) be allocated in the separated companies. Often subsidiaries of combined companies have limited access to new investments if the other businesses are preferred. In this case, the Endeavour Group is likely to significantly expand its footprint of hotels which has remained almost constant over the last 5 years.
- The final component is the degree to which structural tailwinds are evident in the two businesses. There are several factors to consider.
- The movement to online and the progress that Woolworths has made is continuing to place them at an advantage.
- The limited range of large-scale online companies listed on the exchange, which could favor Woolworths over time. Will Woolworths or Coles or both become the Australian Amazon?
- Risks regarding Endeavor’s “social license”, the outlook for alcohol consumption which continues to be moderate on a per-capita basis, and risks around gaming expenditure.
For these reasons, we had expected the Endeavour business to be sold off, relative to the supermarkets business. This played out in trading on Thursday and provided an opportunity to purchase some additional stock.
Trading and positioning
For us as investment managers, the key question is: what is the investment case for holding one, none or both companies going forward?
Woolworths has been a significant position in your portfolio for the last 18 months and has outperformed the market over that period. It was an especially critical position during the COViD downturn.
At current prices, we see both companies as core elements in the portfolio.
Clients can instruct us to sell should they not be comfortable with the holding in Endeavour. All clients who have previously expressed a desire to avoid gambling or alcohol investments, and have previously owned Woolworths, will see the Endeavour position removed from their portfolios in the coming week.
Should you wish not to own companies in these industries, or to simply add Endeavour Group to the list of stocks you do not wish to own, please reach out to your Strategist.
Emeco (positive impact) announced that it has refinanced its existing US-denominated debt facility. The debt facility, which was established recently as part of restructuring its balance sheet, has been replaced with much cheaper, Australian denominated debt (6.25% vs 9.25%).
This should generate an interest saving per annum of approximately $9 million per annum and will complement the company’s capital management policies which will see cash (25-40% of operating net profit after tax) returned to shareholders in the form of dividends and buybacks.
We are pleased that Emeco has refinanced what was, in our opinion, expensive debt, particularly considering the combination of an improvement in operating earnings and restructuring of its balance sheet have seen its leverage drop significantly.
Boral (positive impact) announced that it has sold its North American building products business for an amount well above expectations.
An agreement has been entered to sell the business for US$2.15 billion (A$2.9 billion), which is approximately 30% higher than reports in the press and the valuation range implied in a recent independent valuation by Grant Samuel. The transaction is expected to complete before the end of the year, subject to regulatory approval.
The sale will release further capital to Boral, with the company estimating surplus capital of A$500 million. This is in addition to the $700 million it has already allocated to the buyback it currently has in place.
As we have previously mentioned, we see that a lot of the upside from here for Boral is already reflected in the price. As such, we took the opportunity to sell a portion of client holdings into strong buying this week.
Earlypay (neutral impact) this week looking to raise an additional $18.9 million in equity.
The good news was the capital raising was contemplated for all the right reasons – growth and growth. Based on the way the stock traded after the announcement the market was pleased with the overall outcome.
Why did they need the money? Earlypay is currently funding $10 million+ of Trade Finance facilities on its balance sheet and has a pipeline of new business exceeding its current portfolio.
The capital raised will facilitate the conversion of the pipeline and provide a pathway to more profitable debt funding in the new 6-12 months. The returns available from this growth are high and will help drive higher EPS (earnings per share) despite the increase in the number of shares on offer post raising.
The placement will be conducted at $0.42 per share (vs a previously traded price of $0.48).
We saw this price as “cheap” and took up an amount proportional to clients’ ownership in the company on their behalves.
Costa Group (neutral impact) launched a capital raise as part of the acquisition of more farmland.
It will acquire 2PH farms, which owns the freehold for 1684 hectares of planted citrus (seedless and seeded mandarins as well as table grapes).
In what will be quite a large transaction ($219 million) the company raised 1 additional share at $3.00 per share for every 6.33 shares already held.
By all accounts, the equity raising was well subscribed and we took up our share.
The above market commentary represents the views and opinions of First Samuel Pty Ltd. Such market commentary contains information of a general nature only. Such market commentary is not intended to provide a sufficient basis on which to make any investment decision and should not be taken as such. It has not taken into consideration your objectives, needs or financial situation. Before making decisions in relation to any financial product, you should always obtain and read any relevant Product Disclosure Statement or information statement and seek personal financial advice.