What could have been a relatively quick restructuring is turning into a long and acrimonious affair at African Phoenix Investments (API). Owners of large blocks of preference shares have forced the company to apply to the court for ratification of a proposed repurchase of all issued preference shares. Preference share investors maintain that their shares are worth way more than the offer of R37.50 each.
API was born out of the remnants of the old African Bank Investment Limited (Abil) after African Bank was separated and recapitalised to continue its banking operations. API now owns insurance company Stangen, furniture group Ellerines and Residual Debt Services (RDS). Stangen is the only business operating properly, with Ellerines in business rescue and RDS under curatorship.
API also inherited the old Abil preference share structure comprising 13.5 million pref shares.
Such preference shares – offering a dividend based on the prime overdraft rate – were very popular years ago among investors looking for a high fixed annual return. SA banks all issued prime-linked pref shares to raise capital, and investors snapped them up as preference dividends initially offered a high, tax-free yield. In addition, the investments are quite liquid as the pref shares are listed on the JSE.
The Abil pref shares, now trading as the Phoenix pref, offers a dividend equal to 69% of the ruling prime lending rate.
API’s problem is that the preference dividend on its 13.5 million shares would exceed R95 million per annum – and preference dividends need to be paid before ordinary shareholders can receive dividends.
The need to restructure its share capital seems obvious if one considers that Stangen, the only operating unit in API, delivers earnings of less than R50 million per annum.
However, the proposal to force owners to sell their pref shares at R37.50 by way of a scheme of arrangement has met fierce opposition.
Albie Cilliers, CEO of Cilandia Capital and often described as a shareholder activist, says the offer is way too low.
“Phoenix is set to make a huge profit at the expense of owners of preference shares. They are effectively moving more than R600 million from pref share owners to ordinary shareholders.”
He maintains that the pref shares are worth at least R76 apiece given that the preference dividend amounts to nearly R7.25 per annum at the prevailing prime rate of 10.5%.
API contends that the offer is fair and represents a premium of 40% to the weighted average price of R26.70 on the JSE during the 30 days prior to the announcement of the proposal.
‘Failure and unwillingness’
Cilliers say the reason for the low market price is purely API’s failure and unwillingness to pay preference dividends. “Shareholders haven’t received dividends since 2013, while Phoenix has been hoarding cash. It has R1.88 billion in cash and can afford to pay the preference dividends.”
A quick calculation shows that pref share owners lost out on dividends of more than R26 per share since the last dividend was declared in 2013 in respect of the financial year to end September.
API chair Lea Conrad, in an emailed response to a Moneyweb query, said the board deliberated the valuation of the preference shares and the repurchase consideration with regards to the commercial reality of African Phoenix.
“The board is of the view that the proposed repurchase is in the best interest of African Phoenix and the general body of shareholders. Inter alia, it afforded preference shareholders a liquidity event while ensuring alignment between the capital structure of African Phoenix and its strategy and commercial reality,” says Conrad.
Valuation ‘was discussed’
API’s announcements and the circular to shareholders outlining an overall restructuring of API and the scheme of arrangement also state that the valuation was discussed with certain preference and ordinary shareholders in confidential meetings, as well as with Rand Merchant Bank and Ernst & Young.
Ernst & Young was appointed as an independent expert to consider whether the valuation was fair to both preference and ordinary shareholders. In turn, their report states that they relied on information obtained from API management.
Ernst & Young says that, by definition, the scheme may be considered fair if the consideration is greater than or equal to the market value. They also said that they valued the pref shares using a dividend discount model, but did not disclose the discount rate or any of the results of their valuation.
The valuation of a preference share is easy. In essence, the fair value is equal to the discounted value of future dividends. The calculation is simple: divide the annual dividend with the required rate of return an investor would expect from his investment.
The majority of listed preference shares trade on yields of around 10%. Capitec is on a yield of 8.4% and Sasfin on 11.2%. The median yield in the market is 9.8%, which will give a fair value of R73.98 per Phoenix pref – but only if they pay dividends.
The dividend discount model returns a value of zero if no dividends are declared.
The unhappy shareholders say that management caused the drop in the price of the preference shares by purposely withholding dividends.
African Phoenix’s new ‘Black fund manager’ structure
API counters that the price is fair, and argues that the scheme of arrangement was not only supported by 78% of ordinary shareholders, but also by 76% of preference shareholders (when counting preference shareholders separately).
The scheme of arrangement needs a 75% majority to be accepted (and effectively force everybody to accept the offer of R37.50), save for a provision in the Companies Act that requires API to apply for court approval if enough shareholders object. In terms of this provision, any shareholder that voted against the resolution to enforce the scheme of arrangement can – if more than 15% of the shares voted against it – force API to first gain court approval before the scheme can be implemented.
Cilliers and another asset manager, representing 4% and 5% respectively, objected and served notice on API that it must get court approval.
Shareholders ‘unaware of meeting’
Cilliers says he has since received several calls from other shareholders who say they are also unhappy, some of whom were unaware of the meeting to vote on the resolutions.
It seems API expected opposition to its plans. The circular pertaining to its restructuring makes provision for an alternative voluntary repurchase if the special resolution to enforce the scheme repurchase failed. In terms of the voluntary repurchase, API would purchase pref shares only from the shareholders who sell them willingly at R37.50.
In this case, API would in future have to meet its obligations to preference share owners before ordinary shareholders can expect a dividend, something it seems reluctant to do. According to announcements, the company aims to simplify its capital structure.
Conrad says that “when the board conceptualised the transaction holistically, it was of the view that the potential benefits of the repurchase would be maximised if all the preference shares were acquired and hence proposed the scheme of arrangement”.
However, the restructuring of API does not seem to result in a simplified capital structure.
Its new guise as a private equity investment fund to house what API terms a black fund manager’s structure will result in a company with several interlinking investment vehicles and entities, two different classes of shares, complex valuation issues to convert B shares to A shares, a separate capital fund managed by a general partner, high management fees, a proposed performance participation with a net asset value (NAV) starting value of zero, a complex arrangement to issue new shares, and several points of entry to investments by different stakeholders. It also requires amendments to API’s Memorandum of Incorporation.
The overall aim: To build up a portfolio of eight to 10 BEE companies of medium size with high growth potential that could deliver a return of 25% per annum.
API states that it received several unsolicited investment opportunities from an active investor with B-BBEE credentials.
But the first step is to get rid of the preference shareholders …