African Rainbow Capital (ARC) Investments, the listed investment holding company majority owned by African Rainbow Capital, and ultimately Ubuntu-Botho Investments (UBI), has announced that it will review its management fee structure.
ARC Investments came under sharp criticism in September 2020 when it announced a plan to raise R750 million in a share issue. Part of the original reason offered by the company for the rights issue was that some of the proceeds would be used to settle “the outstanding fund management fee”.
In the original plan, the management fee of R205 million equated to nearly a third of the total amount to be raised.
Read: ARC Investments to spend R205m from rights offer on management fees (Sep 2020)
A week later, ARC Investments made an abrupt U-turn and said it would “settle the fund management fee from internal cash resources”.
It claimed that this was as a consequence of the board deciding to “cancel” the convoluted set-off agreement where the fee would be settled through subscription in the rights offer process. This would’ve avoided the flow of funds from ARC Investments to general partner UBI, which then pays through 95% of the fund management fee to (unlisted) African Rainbow Capital as an “investment services fee”.
Read: ARC Investments U-turns on rights offer plan (Sep 2020)
In the release of its interim results to December 31 on Thursday, ARC Investments says that during the process of listing the business in 2017, “the company and the general partner indicated that they would review the fee structure of the ARC Fund after five years”.
“The global and domestic environment has changed considerably since listing and consequently the parties are discussing the possibility of accelerating this review.”
Using the original timeline, the review is due in 2022.
“Possibly accelerating this review” will therefore only impact a single year of management fees, at best.
It notes in its results that: “The annualised growth in the ARC Fund’s IPV [intrinsic portfolio value] before the impact of acquisitions and disposals for the six months was 15.8%, which is above the 10% performance participation hurdle.”
“Consequently, a provision has been recognised in terms of IFRS 2 for the issue of performance participation shares to UBI Proprietary Limited according to the terms of the pre-listing statement of the company. The performance participation is based on annual performance and will only finally be measured at 30 June 2021.”
This provision is R102 million in management fees for the six months. A year prior, this provision was R96 million. For the full year (to June 30), R206 million in management fees was paid to UBI.
In an interview with the Financial Mail’s Giulietta Talevi, ARC Investments co-CEO Johan van der Merwe defended the rights issue, saying it equates to “only 7.5% of the company” given its published net asset value (NAV) of R10 billion.
He also defended the fee, and its uses, saying this was a “standard fee and if you look at private equity – and this is almost a listed private equity vehicle – private equity usually charges 2% and 20% [on outperformance]”.
Seven factors affecting discount between NAV and share price
In a presentation on Thursday, ARC Investments points to seven factors it believes contribute to the enormous discount between the fund’s (intrinsic) net asset value (R8.82 per share) and its share price (R4.46 on December 31 and R3.75 as of Wednesday’s close):
- Outperformance of other sectors (mining) vs financial services
- Mixed investment returns on key portfolio assets
- Market queries valuation of key unlisted investments
- Availability of funds for future investment
- Market concerned about potential cash calls from portfolio companies
- Investors concerned about general partner fee, and
- Relatively short private equity record.
It describes the discount as “substantial”, as the “unfavourable investor perception of investment holding companies continued”.
Closing the gap
ARC Investments says “the strategic focus of the fund is on consolidating its capital in specific businesses and working with its investment partners to unlock synergies that will drive the value of the underlying business units”.
“This, combined with the progress being made by start-ups such as TymeBank and Rain as they move along the maturity curve, should go some way to closing the gap between the intrinsic and market value.”
ARC Investments reported a portfolio value (measured on an intrinsic basis) of R12.8 billion. It saw a 7.35% decrease in its INAV per share, “mainly” because of the increase in shares in issue following the capital raise. It has cash available in the fund of R455 million.
Major drivers of the change in portfolio value were:
- R382 million increase in the value of Rain
- R330 million increase in its holding in Afrimat
- R110 million decrease in the value of its holding in Alexander Forbes
- R134 million decrease in the value of its holding in the Last Mile Fund
- R252 million in additional investment in TymeBank
- R407 million to acquire an effective 12.5% stake in Sanlam Third Party Asset Management, and
- Its sale of “30% of its interest in Fledge Capital for R270 million as part of a share buy-back transaction realising an internal rate of return of 15.9%”.
Its single biggest holding, Rain, which equates to 27.3% of the fund value, experienced “strong growth in clients and data usage since the onset of the Covid-19 pandemic and the resultant National Lockdown”.
“Its 4G expansion has progressed well with nearly 7 000 active live sites as at the end of December 2020.”
Its 5G network comprised 685 towers by year-end and the aim is to increase this to 1 150 by February.
Its investment in TymeBank comprised 9.2% of the value of the fund as at December 31.
ARC Investments says TymeBank had “onboarded 2.66 million customers at 31 December 2020, with approximately 50% of customers actively using their accounts”.
The partnership with the Zionist Christian Church (ZCC) “to onboard a large proportion of the ZCC’s nine million member base” has been postponed due to Covid-19.
Read: TymeBank tiptoes into lending (Feb 22)
The group has employed former Truworths CFO David Pfaff “to focus on treasury and business optimisation, both at TymeBank and the international operations of Tyme Global in Singapore”.
Pfaff is CFO of Tyme Global and country CEO for South Africa.
Interestingly, ARC Investments sold 3.25 million Afrimat shares (for R143 million) subsequent to year-end. The equates to about 8% of its holding in the quarrying and mining group.
Listen: Co-CEO Johan van der Merwe discusses African Rainbow Capital’s interim results