The NZX is on a roll with share prices firming and Grant Samuel assessing Fisher & Paykel Appliances’ shares to be worth between $1.28 and $1.57 compared with Haier’s offer of $1.20 a share.
The benchmark NZX50 Gross Index surged 17.1 per cent over the first nine months of the year with the NZX MidCap and NZX SmallCap outperforming this more widely quoted index.
The disappointing feature of this development is that most major KiwiSaver funds, particularly the $4 billion of default funds, have almost no exposure to the NZX’s medium and small sized companies.
Thus the larger KiwiSaver funds have had relatively disappointing returns this year, particularly when compared with the NZX.
Fisher & Paykel Appliances’ independent directors were supportive of Haier’s offer subject to three conditions, including the offer price being within or above the valuation range as determined by the independent adviser.
Based on this condition the independent directors had no choice but to recommend that shareholders do not accept the $1.20 a share offer.
The problem with independent reports is that they only assess a takeover offer from the target company’s point of view, they don’t have to take into account the position of the bidder.
A simple example of this in ordinary life is if an individual is selling a piece of land and has two potential purchasers; one who owns all the remaining properties on the block and desperately needs to buy the land in order to start a development, whereas the other views it as a simple piece of land.
Obviously the developer will pay a higher price than the individual who views it as a simple, stand-alone property.
The same is true regarding company acquisitions and it can be argued that Haier now needs FPA far more than FPA needs Haier.
Thus the directors of the New Zealand company are in a strong position to negotiate a higher bid price.
It was the opposite way around three years ago.
In 2005, FPA began to relocate its manufacturing facilities as follows:
* The company closed its Dunedin facilities.
* It acquired an Italian manufacturing plant.
* Production facilities were moved from Australia and New Zealand to the United States.
* A refrigeration plant was acquired in Mexico.
Inventory levels increased, surplus land sales targets were not achieved and the company’s net debt ballooned to $459 million.
In 2009, FPA had a $189 million capital raising whereby Haier purchased 58.1 million shares at 80c a share and underwrote a one for one rights issue at 41c a share.
As a consequence Haier ended up with 19.9 per cent of FPA at an average cost of 57c a share.
Haier rescued FPA three years ago but there are a number of reasons why it now needs full control of the New Zealand company.
* Haier grew dramatically when Chinese labour costs were extremely low and, as a result, there was less incentive for it to be innovative in terms of automation. It lags western companies as far as efficient manufacturing is concerned and the acquisition of FPA would help it to make important advances in this area.
* Haier is strong in refrigeration, which is usually the first appliance purchased by an emerging family, but weak in kitchen products, particularly dishwashers and cookers. As Chinese families become more prosperous Haier needs to have a much stronger dishwasher offering, which is one of FPA’s major areas of expertise.
* Haier is relatively weak at the top end of the product range and is facing strong competition from Samsung, LG and Bosch at home and overseas. FPA would be an important acquisition for Haier as far as the developments of top-range products are concerned.
The role of FPA’s independent directors, who are supportive of the offer but not the $1.20 a share price, is to try to convince Haier to raise its offer above the minimum independent valuation of $1.28 a share.
There must be a reasonable chance of this occurring because Haier needs FPA as part of its further development as a world-class company and the Chinese company has not stated that $1.20 is its full and final price.
In addition, Thursday’s press release from Haier, which was written after the publication of the independent report, was fairly muted even though it stated that the “valuation range is overly optimistic”.
The release noted that Haier could change its intentions “but would only do so after consultation with the board of Fisher & Paykel Appliances”.
It is now over to the independent directors to negotiate a higher price and FPA shareholders should not take any action until much nearer to Haier’s November 6 closing date.
The New Zealand sharemarket has had a great nine months, partly because of the FPA bid and the realisation that the domestic market offers good value in a low interest-rate environment.
Unsurprisingly, smallcap and midcap companies have done particularly well as they usually lead the market up and down, as they did the latter in 2008.
The best-performing midcap companies during the first nine months of 2012 were: Fisher & Paykel Appliances plus 233 per cent, Diligent Board Member Services 97 per cent and Xero 88 per cent.
The top-performing small caps were: Mercer Group 205 per cent, Dorchester Pacific 167 per cent and Comvita 71 per cent. By comparison, the best-performing NZX10 Index companies were: Ryman Healthcare 51 per cent, Infratil 15 per cent and Telecom 15 per cent.
It is a shame that the largest KiwiSaver funds have little exposure to domestic midcap and smallcap companies because they have also outperformed the large companies since KiwiSaver funds began investing on October 1, 2007.
The sharemarket has picked up for a number of reasons including:
The worst of the global financial crisis seems to be over although economic growth will remain low in most countries, including New Zealand.
Interest rates are low with the major NZ banks offering around 4.3 per cent to 4.5 per cent for one-year term deposits. By comparison the NZX50 Index companies have a historic gross dividend yield of around 6.5 per cent and many of these dividends are fully imputed.
There is minimal demand for new funds after the cancellation of the Mighty River Power IPO and a dearth of new corporate bond issues.
There is a heightened level of merger and acquisition activity as reflected by the unsuccessful bid for Comvita this year and the recent offers for F&P Appliances and NZ Farming Systems Uruguay.
Corporate balance sheets are in a much stronger state than government and household finances.
A low interest rate and low growth environment, where the demand for new funds is muted, is usually an ideal situation for sharemarkets.
As long as these conditions remain in place the outlook for the New Zealand sharemarket is far more positive than it has been for many years and the positive trend experienced over the first nine months of 2012 should continue.
Investors should place a particular emphasis on companies with high, and maintainable, dividend yields, strong balance sheets and relatively low dividend payouts as these should offer the best risk-adjusted returns over the next year or so.
NZX Indices – Mid caps and small caps leading the recovery
5 years to 30/9/12
NZX MidCap Index
NZX SmallCap Index
*First nine months to September 30
Disclosure of interest: Brian Gaynor is an executive director of Milford Asset Management, which holds shares in Fisher & Paykel Appliances on behalf of clients.