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PSG Group: Two sides of the same coin

Half of the portfolio is growing well, the other half offers recovery potential.
Image: Supplied

After its subsidiaries and group companies announced good results, the six months figures of PSG Group had a lot to live up to, and the rather subdued increase of 17% in net asset value (NAV) in the six months to August seemed to hide the true performance of a financial services company that has grown from humble beginnings some 20 years ago into a prominent company in SA today.

The essence of the group’s results is the increase in the value of its underlying investments. The listed entities, namely PSG Konsult, Curro and Zeder, and the unlisted businesses all increased in value over the last six months.

CEO Piet Mouton noted in a results presentation that PSG shareholders would also have enjoyed the benefits of continued growth in the price of Capitec shares, which has been distributed to shareholders during the period.

Unfortunately, PSG continues to trade at a sizeable discount to its underlying NAV. The discount has actually increased.

At 29%, the discount to the sum-of-the-parts valuation the highest it has been in years. While the historic figures has been adjusted for the unbundling of Capitec, the increase in the discount is  probably in part due to the unbundling, as investors tend to price in continuing growth of the banking interests.

Read: Aside from Capitec unbundling, what is PSG scheming?

The formal announcement of results for the six months to August states that PSG’s objective remains to create long-term wealth for its shareholders through capital appreciation, investment income, or both, and accordingly the key benchmark used by PSG to measure performance is its sum-of-the-parts value per share.

As such, the 17% increase in NAV beats an investment in a bank.

“Although PSG continues to trade at a sizeable discount to its sum of parts value per share, PSG remains focused on its objective to create wealth for shareholders on a per share basis by growing its underlying investments and pursuing value-unlocking initiatives to the extent possible,” says Mouton.

However, he adds that PSG is not currently considering repurchasing more of its own shares, but preserving cash due to the current uncertain business environment. Management also stated that it has not found any interesting new investments either.

Mouton says that “despite obvious ongoing challenges, PSG believes its investment portfolio is suitably positioned to capitalise on an improvement in trading conditions”.

The results for the listed companies in the group have shown that they all performed well, with the exception perhaps of Curro, which has seen its schools suffer more than the operations of the other interests in the face of the Covid-19 pandemic.

The asset management and financial services group PSG Konsult is now the largest asset following the Capitec unbundling.

The interest in PSG Konsult was worth R9.1 billion at the end of August and makes up some 39% of the value of PSG, according to the interim report.

If one adds the healthy net cash balance of nearly R3.4 billion to the value of PSG Konsult, you get to around 54% of the asset value of PSG Group, indicating that PSG shares largely offer investors the opportunity to get exposure to PSG Konsult at a healthy discount.

Not that the other assets are boring. These have good potential for growth, recovery and opportunities to add value through corporate action as well.

Casparus Treurnicht, portfolio manager at Gryphon Asset Management, says that “plenty” value is being created for shareholders in one half of the portfolio, while the other half of the portfolio will require a bit more fine-tuning before the investments’ full potential and full value will be realised.

“In the one half where growth is happening, Zeder is busy with a process of unlocking value while PSG Konsult consistently grows market share in a consolidating financial services sector.

“Interestingly, within Zeder, Kaap Agri is also busy with a few things [aimed at achieving] a less capital-intensive model. In particular, the fuel retail business creates value unlock, while the recent Pioneer Foods and Quantum Foods transactions added value,” adds Treurnicht, noting that such actions are taking place right across PSG’s portfolio.

Listen: Zeder declares special dividend on interim results

“In the other half of the PSG portfolio, Covid-19 understandably had an impact on some of the older established schools of Curro – overall profitability is under pressure as families are experiencing hardships. But Curro management sounds confident that a majority of these problems were temporary.

“Similar trends can be witnessed in Stadio’s contact learning business, while distance learning is growing,” he says.

Treurnicht believes that PSG Alpha (some 18% of the portfolio) needs more work in a Covid-19 world where a lot of socio demographic changes are occurring fast. The Optimi interests, also in the educational industry, looks like it’s got potential.

“Interestingly, the Stadio distance-learning model and Optimi’s business model are in sync with modern trends and are very similar to that of Udemy in the Naspers stable, which will list on the Nasdaq soon,” adds Treurnicht, not saying out loud that it might give PSG’s valuation a little boost too.

“It seems that unlocking value and shareholder distribution is the current ongoing theme in an “ex-Capitec” PSG. And the pile of cash – which equates to R12.60 per share – should not be forgotten,” he says.

Growth in the solid part of the portfolio and recovery in the lagging parts are bound to keep investors interested, as will the larger-than-usual discount to net asset value at the current share price of R77.25.

Listen to Mouton speaking about PSG’s latest results in this SAFM MarketUpdate interview (or read the transcript here)

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Could some cleverer than me explain why this discount is not a typical value play? Surely if you can buy sum-of-the-parts assets at a 29% discount there will be massive value unlocked ‘one day’?

I have the same question so I cannot answer your valid question! I can only keep investing as, logically, it is a value play. So I have scored with Capitec and hope to score again in the future.

An interesting question to which I don’t have an answer. I guess the following play a role.

Capital Gains Tax on the theoretical sale of the underlying assets has to be subtracted from the fair value of the holding company.

The market value of the underlying companies is of mere theoretical value when calculating the value of the holding company, because the underlying investments cannot, or will not be sold at the current market value due to liquidity constraints or investment policies. The value of the underlying cannot be realized by the holding company, while it can be realized by smaller investors.

The dividend yield has an influence on the market value. The holding company has a cost structure that “consumes” the dividend income from subsidiaries and pays out a lower dividend to investors. The difference in dividend yield may play a role in the discount of the holding company relative to the sum of the market value of subsidiaries.

Exercising managerial control over investments, and the ability to determine strategies has value for the holding company. The investor who buys the holding company does not have the same control over the holding company though. This value shows in the discount. The discount is the value of exercising control over subsidiaries.

I wonder if the effective use of financial gearing might not lower the discount at which a holding company trades relative to the sum of the subsidiaries? Using debt at cheap interest rates to buy companies that justify the cost and risk of the debt with a rewarding total return on investment will increase the market value of the holding company, and shrink the discount at which it trades relative to the underlying investments.

I am basically brainstorming with myself here.

End of comments.

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