Those interested in managerial ownership and firm value may be interested in a study by Morck, Shleifer, Vishny. The abstract is below, but in summary, firm value increases as management ownership, and therefore alignment, increases from 0% to 5%. As ownership increases form 5% to 25% management entrenchment reduces firm value. Finally above 25% the alignment effect reasserts and firm value increases. It would be interesting to see any difference in how ownership was achieved, i.e. founders vs option thieves.

The convergence-of-interest hypothesis suggests that a firm’s market valuation should rise as its management owns an increasingly large portion of the firm. On the other hand, the entrenchment hypothesis suggests that as management increases its ownership, the incentive to maximize value declines as market discipline becomes less effective against a larger shareholding manager. The authors attempt to reconcile these competing theoretical predictions by examining empirical data of firm management ownership and Tobin’s Q. The latter variable, equal to the ratio of the firm’s market value to the replacement cost of its physical assets, is used as a proxy for market valuation of the firm’s assets. A piecewise linear regression reveals a positive correlation between management ownership and Tobin’s Q in the 0% to 5% ownership range. From 5% to 25% management ownership, the relationship is negative, but at levels greater than 25% the relationship again is positive. The authors put forward a theory that the convergence-of-interest effect operates over the whole range of ownership, whereas the entrenchment effect reaches a maximum value at some less than 100% management ownership mark. Thus, at low levels, the convergence effect is predominant. At somewhat higher levels, the entrenchment effect becomes predominant. Finally, having reached a maximum value, the still-increasing convergence effect again becomes the predominant factor. Management Ownership and Market Valuation: An Empirical Analysis Morck, Shleifer, Vishny

Posts are going to be few and far between over the next eight weeks as I juggle the business end of my Masters, our US and Australian portfolios and my kids. Sorry darling, you’re going to have to fend yourself  and if you thought I lacked empathy before, well I’ve just dug a trench to set the bar lower.

I’m analyzing ANZ Bank Group Ltd (ANZ.AX) for a risk management assignment and thought I’d post a couple of the graphs I’ve put together. As always click the graphs to enlarge.

This first graph highlights what a slam dunk no-brainer it was to load up on banks at the nadir of the GFC. The first rule of thumb I learnt about insurance was buy at a book value of 1 and sell at 2. As banking can be thought of as the flip side of the financial coin to insurance it is not surprising the same buy advice works so well (caveat emptor). I bought ANZ and Westpac on either side of the bottom and perhaps with this chart at hand would have done even better. As you may recall I recently sold my positions in both banks, which is funny considering what I’ll point out in the next couple graphs.

The next two graphs highlight how banks utilise leverage to transform their low returns on assets to high returns on equity and how those returns are cyclical.  Yet if investors focused on the almost constant upward sloping growth in book value and relatively steady increasing dividends rather than on those cyclical returns, then they could sit back and enjoy the ride rather than worry about the share price volatility. Dividends have grown 7% p.a. over the last 10 years and 11.4% over the last 17 years.

Finally a regression analysis of ANZ share price and interest rates. I was surprised by this as I thought ANZ would have net short exposure to interest rates over the 6-12 time frame and best fit line would be downward sloping as investors anticipated falling earnings. Turns out interest rate increases have a positive net interest impact on ANZ.

Summary of Briefing

Peter Cook

• Up to $231M
• US based manufacturing, quality control, PII and PIII trials to be performed in US.
• Deeper involvement in development.
• BARDA are also the acquirer of US stockpiles.
• Clear path, without dilutive investment.
• One and done treatment profile is huge benefit as noted in BARDA press release.
• Cost plus fixed fee reimbursement contract. Milestones need to be meet. Vary between $20M in early years and $80M at highest, year three.

Q&A

• Prophylaxis studies not covered, everything around treatment is covered.
• Timeline is five years.
• LANI RoW ownership. Co-owned as previously disclosed.
• CMC has to precede clinic, which is about 18 months out. Some parallel trials may be allowed.
• Market size discussed $4.4B in pandemic year of 2009.
• Infrastructure required.
• Reimbursement so working capital carry of 45 days.
• Patent life to 2027.
• See Flunet program as successor to Inavir.
• If pandemic occurred could see Inavir temporarily approved for use.
• Access to US markets may be considered to fund taking other pipeline products such as HRV and RSV further along development path.

Related Releases

• BARDA $231M Funding Announcement
  “The drug, CS-8958, is currently marketed in Japan under the name Inavir and is in the same class of drugs as the currently approved influenza antiviral drugs Tamiflu and Relenza. CS-8958 requires only a single dose for full treatment, as opposed to the five days of twice daily dosing required for Tamiflu and Relenza. CS-8958 also may be effective against influenza viruses known to be resistant to Tamiflu. “
• Business Wire Recast of Announcement
• Biota’s Press/Filing release

My Quick Take

Non-dilutive funding grant awarded by BARDA for development of Inavir is a game changer for Biota and substantially de-risks the company. The funding places a higher floor under Biota’s value and increases the probability of high value eventuating. Although Inavir will not be commercialised for 5-6 years, the contract is cost plus, royalties will continue from Inavir in Japan and Relenza world wide and the rest of Biota’s pipeline continues to progress. Good management could unlock substantial value for shareholders in the years ahead.

Disclosure: Long Biota

Advanced Share Registry has been on a tear, pretty much ever since I bought in late 2009, though it recently pulled back closer to fair value. Here is my elevator pitch from May 2010.

Advanced Share Registry (ASW.AX) elevator pitch

A small cap challenger to the duopoly of Computershare and Link Market Services, ASW, has expanded beyond it’s regional foothold in the West. Earnings have grown consistently, guided by stable management/owners. Earning ceiling is not in sight.

2010 dividend yield of 7.7%,  40% chance of yield rising to 10% within two years, 30% chance of stable and 30% chance of falling to 6.4% yield. Dividend could grow at 15% a year for 10 years. Heads I win, tails I don’t loose much.

The trailing dividend is up 35% from 2.75c to 3.7c., current buyers are looking for growth rather than yield. Management recently took the uncharacteristic step of providing a market update, primarily to celebrate their large shareholder Soul signing on as a customer. In general management appear to focus on their business rather than the share market and their stock price, I like that. I’ve been tracking their customer numbers and just noticed a pop, which may indicate that the business is gaining traction. ASW’s annualised net customer additions now sits at 17%, though was 10% a couple weeks ago [Updated figures to correct mistake] and my figures are based on limited data points collected by me and not provided by the company. I’m happy to hold at this level, anyone who has been patiently waiting an entry point should be paying attention now.

Moving on. The market seems to be filling with my noise traders and participants who focus on daily noise. I gave up watching the news many years ago when I realised it was simply same shitte different day. It’s the same with markets and noise simply doesn’t matter to me. Earthquakes, tsunamis, nuclear meltdowns, floods et al, happen from time to time and are entirely predictable. Clearly I don’t mean each event is predictable, but these events happen and will continue to do so. The economy is also largely predictable and its waves will continue to roll in. I find economics interesting, but wonder why so many economists focus on the daily noise and the next move this way or that, when any high probability predictions can mainly only be made within a big picture and then only occasionally. I guess it doesn’t pay very well to only make one or two predictions a year on things that could take a year or more to play out. By and large economics appears to have close to zero short term use and yet that is what its pundits seem to focus on.

Biota Holdings sits on a binary knife edge, though I think there is a trampoline protecting the downside and so remain long.

Anteo Diagnostics, Prana Biotech and Catch the Wind remain our three major speculations. More risk adverse investors should wait for profit to emerge on Anteo and Catch the Wind, and should remain well clear of Prana which is my nomination for why markets are often not efficient and why good ideas flounder. With PBT2 and their underlying science Prana has the best current shot at the blockbuster AD market and more importantly to providing relief to a horrendous disease, yet management have been unable to translate their opportunity into success. Prana reminds me of the French national soccer team, no matter how much talent you have on the bench you can be found wanting.

I’ve been selling calls on various US holding and have been a net seller of US equities. Biogen $70 call expired in Feb and I just sold an April one, Oplink $30 April call sold at its peak and 3M April $95 calls sold. Pfizer is currently our largest US long position, I think the patent cliff is more than priced in and upside surprise is more likely than downside. Helix Energy Solutions, Take Two and Vertex have been recent top performers. I continue to closely follow Dolby looking for an entry point.

During the recent Australian market pull back I reversed my net selling and am now longer than I’d prefer, but am happy to have cleared out of the banks.

Disclosure: Positions as disclosed above. It’s my book and I’ll talk it if I want to.

Oplink Communications (OPLK) is worth keeping a close eye on right now as it has been crushed on sector concerns, notably Finisar’s earnings warning. Oplink closed Thursday at $21.51 down 27% from the recent high.

• PEG of 0.44
• $168M in cash and equivalents is 40% of their $428M market cap, with no debt.
• Own all their real estate.
• Growth mainly organic, very little acquisitions.
• No fabs, which means less wild swings during up and down cycles.
• Management focus on profitability, which is a surprisingly rare focus among managers of smaller technology companies.
• They wait for new tech to mature, prior to entering new product areas.
• Royce & Associates are the largest holders.

Oplink is a great play on one of the surest global growth trends, more light travelling down more pipes.

This webcast is worth listening to if you’re interested, it’s available to the 13th March. For those who missed the webcast, the following slides paint part of the picture.

Oplink sold off in January after one of their competitors warned on earnings. OPLK then came out and beat and raised.

Other Stocks In brief

• Dolby, DLB, is another stock I’ve got a close eye on at the moment and have been trying to sell Puts. If it gets much cheaper I’ll forgo the puts and stump up some cash.
• Here in Australia Industrea (IDL.AX) is worth a look.

Australian readers should consider opening a US trading account for buying US stocks like OPLK and DLB.

Disclosure: Long OPLK, short corresponding number of April $30 Calls. No position as of writing in DLB or IDL.AX

The Age published this David Potts article on Listed Investment Companies today. I started writing the following article a month ago, but didn’t finish my research and with my plate now full I won’t in the near future. So here in its incomplete glory is my short take on Listed Investment Companies LICs. In summary it doesn’t look hard to find a good LIC which consistently beats the market and trades and a discount to NAV (net asset value). At the very least LICs are a good source of investment ideas for further research.

the higher the fees, the higher the discount you should demand. So the lowest cost machines, such as AFIC and Argo, should trade at the highest price relative to their underlying asset value…. A rule of thumb you might employ is to ‘capitalise’ the ongoing costs (including the management fee) at, say, 10%. So if a fund’s ongoing costs total 1.5% per year, then you’d divide this by 0.1 (or multiply by 10), and apply a discount of 15% to NTA.  You might then apply an additional discount if a performance fee is present; perhaps deducting another 5% to 10% depending upon the arrangement ii

Westwind asked for a review of the MyClime Service. The best advice I can give is give their free trail a go, as that is certainly worth way more than it costs . While doing so make sure you check out; John Abernethy’s thoughts, What Value Today, Company Valuation Dashboard, the forum and the training webinars. MyClime is not a newsletter it’s an excellent investing tool suitable for people wanting to do their own valuations based on Clime’s sound valuation methodology. George Whitehouse, John Abernethy and many other intelligent investors post on the forum.

Promo over. Westwind was also interested in some of their investment ideas. Clime group stocks by their required return (rr) into three levels, very low to high. They then rank those by Value/Price Margin.  The likes of Woolworths and JB Hi Fi currently feature near the top of very low required returns (safer) and Reverse Corp and Jumbuck Entertainment  are near the top of high rr (speculative).

The middle group is low required returns and at the top of that list is, interestingly, Clime Capital Limited (CAM), Clime’s listed investment company. For LICs MyClime uses NTA.

Here is the current NTA and top holding for Clime Capital.

CAM is not the only LICs amoung the low RR companies; the ASX publishes a monthly list of LIC Premium/Discounts to NTA.

Other LICs catching my eye are BEL, WIC, HHV, WAM and WAX.

Here are their current NTA and portfolios, a good source of investment ideas.

WAM

CAM’s expenses (see below) explain a large part of discount. Upside comes if Abernethy and grew can continue their out-performance. CAM’s share price should then get the double boost of the out-performance  and the discount narrowing.

Of course Argo still trades at a premium, due to their long term out-performance and very low management fee. Milton Corp is the only company of interest in their largest holding. MLT, unsemgingbelievable, it to is a LIC, though selling at slight premium to after tax NTA, probably deservingly so. MLT has a brave 31.5% banking allocation. Low 0.17% operating fees net management fees which as always need to be checked. 2010 AR

No related posts.

Here are some quick notes from M2 Telecommunications’ CEO, Vaughan Bowen’s BRR interview and an even quicker look at M2 2011 earnings guidance upgrade.

BRR Interview Highlights

• Profitability up 40%
• Business working on operating efficiencies.

How to achieve 40% growth on 15% revenue

• Focus on improving underlying cost position.
• Negotiated better deals to reflect their scale, “buying leverage”.
• Internal efficiency.

Strong organic growth, 70% of growth organic.

Integration risk

• Acutely aware of integration risk, failure is very common.
• Successful in their nine acquisitions in last couple years.

Mitigate risk by

• No us and them mentality.
• Provide career opportunities within group.
• Maintain talent.
• Maintain and improve culture.
• Get teams to work together.

Thirteenth dividend declared, 40% rise to 7c

Acquisition is part of the growth strategy going forward as have competency is acquiring. Actively seeking acquisitions at the moment.

2011 Earnings Guidance

Wow!

While those upgrade percentages look great, it’s the year on year increase that is fantastic, with EPS up 61% and underlying EPS up 69%. I’ve updated my valuations and now have a blended target of $4.55 with a high of $5.2 and low of $3.75. Prior to this upgrade I was considering trimming when the price approached $4.00 I will no longer by doing that.

Disclosure: Long MTU.AX