Bell Equipment has just about all the ingredients for a great South African success story.
It was set up in KwaZulu-Natal back in 1954 by the Bell family as an engineering and agricultural equipment repair services company, and gradually moved into truck manufacturing. It now manufactures the world’s best articulated dumpster truck (ADT) in its price range and distributes them globally. By some counts, it has an estimated 12% of the North American market.
Last year alone Bell Equipment won the ‘Exporter of the Year’ award and was runner-up in the ‘Exporter of the Year Africa’ award. It also won awards for its contribution to innovation and technological advancement.
Sadly, this potentially world-class manufacturer is unlikely to win any awards for its financial management.
The recently released results for the year to end-December 2019 reveal the continued deterioration in all of the critical measurements of financial performance; not only were returns lower but the group’s gearing, already precariously high, spiralled higher. Revenue was up 3.8% but net profit after tax plummeted 78% to R61 million and earnings slumped 71% to 80c a share.
A few ‘reasons’
Even the increase in sales was something of a mixed blessing as the company had to provide “pricing assistance” to support sales deals in all of its markets. Accounting for a BEE transaction, the weak South African market and increased debt costs were a few of the reasons put forward by the CEO and chair.
Restless long-suffering shareholders were not comforted. For years they have watched on with increasing frustration as the value of their investments plumbed ever lower levels.
A few months ago, when Covid nerves were at their worst, the share reached an unsettling R2.50.
It has since recovered – but at a hesitant R5.80, frustrations are understandable.
The R5.80 is a shadow of its net asset value of R36 a share and is significantly below the R10.14 at which it was trading just a year ago and far off the R20 at which it was trading back in 2014.
Shareholders have had enough
Shareholders have had enough and have decided to push their own world-class initiative – they want to table a resolution at the annual general meeting on July 15.
Tabling resolutions is not entirely new territory for activist shareholders. Just Share established a precedent last year when Standard Bank accepted resolutions – from Just Share – on environmental disclosure.
Not new, but the Bell activists have added a very different twist.
They want the company to resolve that it will employ an independent value advisor to assess the alignment of the company’s remuneration policies with shareholder value creation and provide shareholders with a report on that assessment.
Essentially, they want a report that will reveal the link, if any, between Bell’s remuneration policy and the likelihood of management creating shareholder value.
It is a deceptively straightforward request that goes to the heart of how the company is managed.
Unsurprisingly, the Bell board has rejected the initiative. They have told the activists that neither the Companies Act nor common law allows shareholders the authority they’re asking for.
Management of Bell is the exclusive preserve of the board, said the company in response to the initiative.
“The shareholder resolution, if passed, would instruct the board to appoint ‘value investment’ consultants and furnish the consultants’ report to shareholders and therefore is not competent in terms of the Companies Act and common law,” said the company.
The ‘only way’
Chris Logan, CEO of Opportune Investments and one of the shareholders leading the initiative, is not discouraged and is fighting on. He sees the move as the only way to rescue any value from a potentially world-class player.
“Bell has a great product and a great reputation across the globe but it’s being destroyed by a management strategy that focuses on growth at any cost,” said Logan.
The 2019 results represent a continuation of the trends of the past five years, says shareholder Kerem Aksoy, chief investment officer of US-based Glacier Pass Partners, who believes Bell’s engineering success continues to be overwhelmed by the company’s misguided capital allocation and investment policies, resulting in the net destruction of shareholder value.
“Since 2014 Bell has invested over R3.5 billion, well in excess of the R750 million of net profit it generated over the same period,” says Aksoy.
“Today, it’s clear these investments have yielded minimal returns with Bell’s days of inventory rising from a low of 173 days in FY14 to a recent high of 240, all the while saddling the company with unnecessary and expensive debt.”
Logan says return on invested capital has fallen to less than half of the 10% it was achieving up to 2012; in 2019 it was down to a mere 4.4%.
One of the conclusions of an analysis of the company’s financial performance done in 2019 by Fractal Value Advisors is that return on invested capital has been “well below” the cost of capital since 2013. This means that although reporting earnings growth, Bell is not making an economic profit – that is a profit after allowing for the cost of invested capital.
Because it is not making economic profit, debt has been used to fund an expanding asset base resulting in a debt level “indicative of a junk credit rating”, said Fractal.
The report points out that this significantly raises the risk of financial distress and places pressure on the share price. Since the report was released in early 2019, Bell’s gearing has increased from 42% to a distressing 54% as inventory piles up.
Short-term incentives based on achieving net profit after tax (Npat), and long-term incentives based on a combination of headline earnings per share (Heps) and total shareholder returns, are a large part of the problem, says Logan.
He points out that remuneration is paid fully in cash and that management owns very few shares.
Rewarded for using debt
“Under the current incentive schemes management is rewarded for the use of debt as it aids them in hitting ever-increasing Npat and Heps targets while, unlike shareholders, they do not bear the long-term downside risk associating with the increased gearing.”
Ahead of last year’s AGM, Logan and Glacier Pass Partners approached the board with suggestions for changes to the remuneration policy that would help switch focus back to returns. The minutes of the 2019 AGM reveal that the company undertook to consider this input. However, Logan says they received no feedback from the board until last month.
He dismisses what he calls the minor changes made to the remuneration policy during 2019, saying the incentives remain overwhelmingly weighted towards Npat and Heps.
Aksoy says management and the board have rebuffed repeated approaches from concerned shareholders. “Despite Bell’s accelerated financial deterioration in FY19, when we look at the Bell’s 2020 proxy and recent statements, it is more of the same – the same people, the same policies, the same broken strategies.”
Logan and Aksoy point out that ultimate ownership and responsibility for a company lies with its shareholders. They are hoping that the Bell family, which holds 38% of the company, and US group John Deere, with 32%, will work with all the shareholders to unlock the tremendous value within the company before it’s too late.
When asked for comment on the proposed resolution, group chair Gary Bell told Moneyweb: “We do not comment in the media on any interaction that we may have with shareholders.”
Bell added that the board believed the altered incentives had addressed their concerns.