Part 1 of the fallen angels series looks at the collapse of Steinhoff.
How a growth stock became a value stock in a week
This hasn’t been a good year for Aspen CEO Steven Saad. The multinational generics pharmaceutical company began the year with allegations that it was the next target of Viceroy research, the short-seller that took Steinhoff down like a wounded buffalo.
Speculators believed Aspen’s debt was too high and that this classic momentum stock had reached the end of its runway to acquire and grow. Organic growth questions never garnered the right support at presentations to receive more floor time.
The bull market is a decade old, and sputtering. The time for growth stocks like this one or EOH, as you will see further on, with their high price-earnings (PE) multiples had come to an end. When Capitec was revealed as the target of Viceroy, Aspen’s share price recovered momentarily. However it remained at the levels at which it had been trading when it was under suspicion of being the short-seller’s target. This was a warning we should have paid attention to.
First, Aspen’s share price rallied on news that it had sold its infant milk formula business. However, the stock collapsed the next day as shareholders were expecting a higher price for the deal. Then its results came out. The company was lacking growth and growth prospects. The debt was too high, and the CEO announced that instead of paying off a majority of the debt, they would be using the cash for further acquisitions. Shareholders had become immune to Saad’s charm and promises – and the business model – and promptly sent the share 30% lower over the next few days.
Aspen’s share price is down around 45% for the year so far, and looks to be on a historic PE of 10 and a forward PE of 9. The reason Warren Buffett always advocates for a margin of safety – by buying good stocks on lowish PEs (i.e. cheaply) – is to avoid the downside when they collapse.
We did not head this warning. It has been a bitter pill to swallow. Aspen is also going to require some strong medicine to recover.
Target prices from all the sales analysts have been revised lower, some even by 60%. Saad has a great record of being entrepreneurial, and the stock appears to be at attractive levels. However, the market remains sceptical of his ability to find new opportunities to ignite growth in the generics giant. We will continue to watch this one with cautious optimism, and eagerly anticipate the next set of earnings – and the next big deal.
The King is dead, long live the King
I have been attending the results presentations of EOH since I began at Cratos. One of the standout memories was of the charismatic leader and founder, Asher Bohbot, delivering the good news to a room brimming with smiling shareholders. CFO John King always quipped at presentations that cash is king, and king was cash.
The portfolio manager I worked with liked the company, but considered it to be too expensive. From the beginning of January, 2017 the share price began to come off, and we thought we could get lucky by acquiring some ‘cheap’ stock if it went lower. The share price continued its slide and eventually got to a level where we felt comfortable buying what we thought was stock at a good level. The stock continued to fall.
One day we received an e-mail that King was on a roadshow and would like to chat to the traders and portfolio managers of our organisation. This was a premier company on the JSE, once a darling of investors. We had never managed to arrange a talk with management before and here we had the opportunity – they were coming to us. In hindsight this should have been a warning sign, given the boutique nature of our firm. King came to our offices, and after quizzing him for just under an hour, he attempted to convince us that there were no skeletons in the closet and nothing was wrong. Our traders were sceptical. They had good instincts. We should have listened to them.
Bohbot left the company to take some personal time. Then EOH, like Steinhoff, had a disastrous December 2017. The share price fell for two weeks, then plunged to an intraday low of R27 on December 7. The plunge was allegedly due to King, as company CFO, being sold out of a leveraged position he had in EOH stock as he had received a margin call. If this was true it was unethical and sorely lacked disclosure. He certainly didn’t disclose it to us when he visited our offices.
Now it makes sense – self-preservation. EOH was a growth stock, like Aspen. And like Aspen, it had run out of room to grow acquisitively. It became a value stock in a short period as the price de-rated. EOH had high debt levels and weak growth prospects. Slow payments by the public sector and corporate governance issues kept cropping up. Investors had had enough.
EOH has since seen the return of its founder, Bohbot, after a hiatus from the firm. The company plans to split into two separately listed businesses. One unit under the EOH brand will house traditional ICT operations and the other, under a new brand, Nextec, will house specialised solutions for high-growth industries. Stephen van Coller (formerly of Absa and MTN) has been appointed CEO of EOH, at significant cost, and has wasted little time trying to right the ship.
King was given the boot (well, he ‘resigned’) and new guidelines and rules on share purchases and trading of the company’s own stock by employees was instituted by new management. The new CEO and CFO are welcomed, and the new rules and disclosures too. It remains to be seen as to whether splitting the company into two will make much difference. It is hoped (never a good strategy!) that a good corporate governance framework – and culture – can be instilled in the organisation by the new management.
Rebuilding trust with investors and shareholders will take time. If you didn’t sell this stock in the R70 handle you’re probably still holding it, and will have to wait a long while, given the country’s poor growth outlook, and the trust that must be earned back.
Lee Kern is an assistant portfolio manager at Cratos Capital.