Links of interest

Have been travelling a lot lately but a new write up will be posted soon. In the meantime, below are some interesting articles/reports/videos that I came across recently

How to lose $1 billion. A cautionary tale of a university endowment that drank the Kool-Aid

Follow up story from Forbes on the guys who run Arlington Value Management.These guys have been killing it

Story of Jyrka Rysavy (founder of Corporate Express). Article is slightly old (from 1995) but tells a fascinating story. If you are not familiar with him, I highly recommend to read a bit more about him

Recent talk from George Soros that he gave at the CEU Business School in Budapest. He starts speaking from around the 25 min mark

Great website that maps all of the publicly listed companies in the world

Collection of CBS lectures and videos from 2012 and 2013. I'm a huge fan of these

Documentary on Jack Ma and the creation of Alibaba

Recent Li Ka-shing commencement speech from Shantou University

Bill and Melinda Gates Stanford commencement speech

A brief note on Coca Cola Amatil

As I was reading about Orora I came across another Australian listed company. It’s called Coca Cola Amatil and as the name would indicate it is a Coke bottler operating in Australia, NZ and Fiji and slowly expanding in the Indonesian region. It owns SPC Ardmona (packaged food company sold by the current CEO of Orora) and CCA is making moves in developing its alcoholic distribution business as well. Current market cap around $7bn, EV of $8.7bn and trades around 10.4x EV/EBIT and 8x EV/EBITDA. In terms of relative valuation, CCA is cheapest listed Coke bottler around the world; on a forward basis it is trading around 8.5x EV/EBITDA (vs 11x peer average, based on consensus).

What caught my attention was that the stock has been hitting 52-week lows. If you look over the last 6-9 months CCA has been on a downward trend from around $13 to $11 to April 2014 when a company released a trading update, which sent the share price down to the $9 levels, essentially wiping out c. $3bn market cap in the meantime.

It all started in February when CCA released 2013 annual results:

• It showed a writedown of around $400m (mostly non-cash) related to SPC Ardmona as the business came under pressure from high AUD and product dumping from foreign competitors
• The Australian non-alcoholic beverage unit, which is the bread and butter, was hurt by competitor price cutting, requiring more promotional spend and a generally weaker consumer environment
• The Indonesian unit was impacted by price cuts from lower cost competitors, wage and fuel price inflation as well as currency moves
• Then came the April trading update, which essentially said that EBIT is expected to be weaker 15% yoy in H1’14
• CCA also announced a strategic review under the new CEO, which initially resulted in the reorg. of the Australian unit (announced in May)

I could go on but I think the picture is clear. CCA is coming under serious near-term difficulties both home and abroad, which are partly external (pricing pressure from competitors, currency etc) and partly internal (most important are the bloated SKUs and the high cost base).

The chart below is worth spending some time on. This essentially shows the Australian non-alcoholic beverage business’ SKUs and the volume sold by SKU. Complexity in the distribution channel increased substantially and as SKUs rose marketing spend was diluted, taking away from the core products.

Source: CCA filings and factbooks

Furthermore, the substantial increase in SKUs didn’t translate into relatively more volumes; between 2005 and 2012 volumes in this segment rose form 322m (unit case) to 349m, which is an 8% increase (to 2013 it’s only a 5% increase). The recently announced review will focus on a much-awaited SKU rationalisation, which should also translate into cost reduction and elevated focus across the brand portfolio. CCA also noted that they plan on closer cooperation with Coke (which owns 29% of CCA).

CCA is getting cheaper but is far from being very attractive in my mind. I generally like to refrain from timing an entry (it’s virtually impossible I think), but the changes required - reducing SKUs and shifting CCA into a lower cost base - will be a lengthy process for sure and there are still questions on SPC Ardmona, Indonesian business and so on. There will surely be more pain in the near term with the reorganisation especially in an environment where raw price increases are not able to be passed on, but the new CEO’s outline seems to address to key points head on. Let’s see, perhaps there will be further entry opportunities.

Weekend links

Great post on beyondproxy on Chaebols

WSJ - China Realtime: Hot Pot Chain Offers Fish Soup, with Side Investment

WSJ article on Bridgewater

Jim Rogers interview on LondonReal (highly recommend their other interviews too)

A lookback from Mark Mobius on EM investing

Orora, a spin-off from Down Under

Orora is an Australian listed packaging business that presents an interesting spin-off opportunity. It used to be part of a large Australian packaging company named Amcor, however in order to focus the business it decided to split the business into two (1) remaining of Amcor to focus on specialty packaging (healthcare, personal care, F&B etc) and (2) Orora on fibre, beverage packaging in Australasia and packaging distribution in North America. All figures below in A$.

While admittedly packaging isn’t the most exciting business in the world (no offence meant to anyone), Orora could be a textbook spin-off case. Amcor is a much larger company with market cap of $13bn while Orora with $1.7bn, currently. Thus when investors received shares in Orora (1:1 distribution) Orora’s share price didn’t exactly tank but definitely saw sharp selling. Now the share price is up around 20% since the low point to $1.4 where it has been flat for the better part of last three months. Orora has a couple of things going for it, namely an on-going restructuring and capable management team.

As a quick detour, in the last three years Orora generated revenues of $2.9bn on average and EBIT of $150m across its two segments. The bear share of this is from the Australasia business, which produces corrugated packaging (think cartons, boxes, recycled paper and so on) and packaging for beverages (cans, glass bottles etc). In each of these segments it has significant scale and either no. 1 or 2 in the AUS/NZ markets, which is key in capex intensive, low-ish margin businesses. The second segment is Packaging and Distribution based in the US and engaged in distributing packaging materials and shipping/logistics services to clients, operating under the Landsberg and MPP/CK brands.

Now back to the story around Orora. Prior to the spin-off Amcor was busy restructuring the business and moving away from lower margin businesses, resulting in closures/divestment and reorganisation of Orora’s manufacturing facilities and operations in its home turf along with bolt-on acquisitions to gain scale and improve margins. Management noted that they are continuing to reorganise the business and identified around $95m cost cutting opportunities over the next few years. In fact, $12m has been achieved in 2013 and $16m in H1’14 (of $30-40m budgeted) with about $20m related capex to be spent over 2014/15. Now it’s unlikely that all of the c. $95m goes to profitability, as they’ll probably share some of the upside with customers, offset cost inflation etc. In any case, this programme will lead to meaningful increase to profitability.

Orora isn’t exactly what you’d call a high-growth business; in fact it’s a mature and defensive. Prior to the spin-off, management initiated a fairly aggressive dividend policy with a 60-70% payout ratio. Delivering on the restructuring is key if one were to see meaningful increase in dividends and value. In H1’14 ORA earned $52m after tax and management declared $0.03 per share dividend (around $36m or 70% payout) or 4.3% annualised yield based on current price.

Orora is left with $65m of benefits to be achieved over 2 years or so (considering that what has been achieved YTD H1’14 is probably priced in). Assuming that only 80-90% of this stays with them (some goes to share with customers, cost increase etc) we have about $35-40m post-tax net benefit, which assuming a 65% payout could add around $2c to the dividend. Assuming a 4% yield (based on current but further compressed) this could add $0.5-0.6 to the share price taking it closer to $2 for a c. 35-40% upside from current. Now of course this is over 2 years or so. The above assumes steady state i.e. no growth in the businesses and a defensive view on the restructuring. Additionally, as capex subsides management could use excess cash to buy back stock or pay down debt (which for now is fairly high at around 3x EBITDA on a net basis).

What makes me a bit more comfortable about this restructuring is Orora’s management. Prior to joining Amcor in 2009, the CEO spent 8 years at SPC Ardmona (packaged food business in Australia). He reorganised and grew the business via M&A and eventually sold it to Coca Cola Amatil (Australian beverage co) in 2005 after three-way deal talks. In addition, him and the chairman have been buying shares in the open market recently, which can be seen as a positive step.

To sum, Orora presents a possibly rewarding spin-off opportunity in a defensive business with the on-going restructuring serving as a catalyst executed by a capable management team, who have skin in the game.