To recap, I advised buying the Aim-traded shares at 250p ahead of the US IPO ('Time for some price action', 22 Oct 2013) and, having assessed the pricing of the offer, I remained positive in the run up to the IPO when the price had subsequently risen to 300p ('Get ready for some price action', 6 Nov 2013). I had good reason to be because as part of the IPO Eros planned to issue 12.5m 'A' ordinary shares at a price between $15 and $17 per share. Of these shares, 7.8m were to be issued by the company and a further 4.68m by selling shareholders.
The initial price range in New York reflected a proposed one-for-three consolidation of the existing Aim-traded ordinary shares in connection with the proposed listing. This implied a price range of 931p to 1,056p per 'A' ordinary share listed on the NYSE at the time, which equated to a price range of between 310p and 352p per Eros ordinary share listed on Aim. So the investment risk looked favourable as there was potentially 17 per cent upside by buying the ordinary shares on Aim in early November and selling them in New York, assuming of course the investment bankers could get the IPO away.
But demand for the shares was far more subdued than either the directors had anticipated or, for that matter, the investment bankers leading the IPO had guided the board to expect. In fact, the IPO price was cut twice within a week, initially to $12 a share and then again to $11 by the time the shares were listed on the NYSE. That was a far cry from the $15 to $17 initial IPO price and begged the serious question why the directors proceeded rather than aborting the IPO with a view to re-launching at a higher price at a later date.
The answer lay in the small print of the US listing document. Namely, there was a huge financial incentive for the board to do so irrespective of the much reduced price, to the detriment of both existing institutional investors and a band of UK retail investors too. In fact, Eros only managed to sell 5m new shares, raising $55m and giving the company a market value of $535m. To compound matters, US investors initially shunned the shares which sent them down even further to a low of $8.60 in January this year. But I had no intention of bailing out because there was clear value on offer when I last updated the investment case at $11.26 at the end of February.
It proved the right call in hindsight because by late last month the price had recovered all the lost ground and even hit the top of the $15 to $17 IPO price range. It was justified too because despite the shenanigans over the New York IPO, and serious questions raised over the actions of the company’s board of directors in deciding to pursue an IPO to the detriment of the interests of UK minority shareholders, the company’s third quarter results were impressive enough to spark the rerating needed to recoup the lost ground.
Driving a re-rating
In the three-month period to December 2013, revenues rose by over a fifth to $87.2m, operating profits increased by almost 30 per cent to $37.7m and underlying cash profits soared by half to $45.2m. For the nine months to end December 2013, the respective figures were operating profit 12 per cent ahead to $52.3m and cash profits of $67.2m, a rise of 42 per cent, on revenues up 5 per cent to £172m.
It’s worth noting that Eros is up against some easy comparatives from last year, so the odds still favour a pretty decent uplift in the fourth-quarter earnings to end March 2014. In fact, Eros has made almost as much operating profit ($52.3m) in the first nine months of the current financial year to March 2014 as the $55m reported for fiscal March 2013.
A series of investor roadshows has clearly sparked investor interest stateside. In particular, investors have been attracted by the game-changing joint venture between Eros and US premium network operator HBO, bringing the best of Hollywood and Bollywood together, is gaining traction too. HBO Defined and HBO Hits premium channels both launched on Tata Sky digital pay-TV (direct-to-home satellite and cable) markets in India at the end of last year. The channels are now available on most major direct-to-home and digital cable platforms within India.
Driven by the growth in the middle classes, who spend far more on entertainment, analysts at KPMG predict digital pay-TV audiences in India will rocket from around 65m in 2013 to 161m by 2016. Assuming Eros can penetrate this market growth through its joint venture with HBO Asia, analysts have estimated that net profits from the joint venture could increase from around $3m on a net subscriber base of 800,000 in the financial year to March 2014, to $16.5m in the financial year to March 2015 on a net subscriber base of 2.2m. Eros has not given any guidance on subscriber growth although with only 12 screens per million people in India, a tenth of the total per capita in the US, India is hugely underserved which creates the opportunity for pay-TV audiences using digital. There are around 130m digital homes in the country.
The same is true of the opportunity to bring content to the internet to capitalise on the forecast 386m internet users in India by 2017. ErosNow, the company’s online service, provides full length films and music videos on a transactional or subscription basis. To tempt potential customers to use the service certain content can be accessed free.
It’s quite possible Eros’s share price will climb further because based on an enterprise value of $900m the company is only rated on around six times annual cash profits. Fourth-quarter results are due out shortly too. But there will undoubtedly be some stale bulls in the stock only too happy to get out at a profit after what has been a rollercoaster ride and one made far less palatable due to the questionable corporate governance of the board.
In the circumstances, I am closing out on the shares ahead of the forthcoming full-year results. A price of $16.20, equating to 318p a share for the old Aim-traded shares, means that everyone who followed my advice will have got out at a profit and a decent one too for most.
Please note that I am working my way through a list of companies on my watchlist including: Inland (INL), API (API), Charlemagne Capital (CCAP), Oakley Capital Investments (OCL), Thalassa (THAL), Taylor Wimpey (TW.), Barratt Developments (BDEV) and Bovis Homes (BVS).
■ Finally as a special offer to IC readers purchasing my book Stock Picking for Profit before Friday 16 May, and subject to limited availability, online orders placed with YPD Books and quoting offer code ‘ICOFFER’ will receive complimentary postage and packaging. The book can be purchased online at www.ypdbooks.com, or by telephoning YPDBooks on 01904 431 213 and is being sold through no other source. It is priced at £14.99, plus £2.75 postage and packaging. Telephone orders will continue to incur the £2.75 charge. I have published an article outlining the content: 'Secrets to successful stock picking'
