I was strongly opposed to the proposed change of strategic direction ('Game changers', 28 July 2015), and clearly enough shareholders were too. I subsequently updated the investment case when the board did their volte face (‘Shareholder activisim works’, 2 September 2015).
So it’s back to business with the board pursuing the realisations of its investments with a view to returning cash to shareholders. There has been no announcement since the company cancelled its general meeting at the end of August which explains a flat-lining share price, as investors patiently await news of further disposals and a tender offer to buy back their shares. However, I would anticipate some news flow before the year-end as the LMS board clearly stated in that August release that since the publication of its half year report on 24 July “it has continued to see progress with realisations and it is currently expecting completion of two transactions in the near term. When the outcome and timing of these transactions is known the board expects to be in a position to announce a further return of capital to shareholders”.
Breakdown of portfolio
Bearing this in mind, the company's last reported net asset value of £136m at the end of June 2015 included net cash of £35.3m, quoted securities worth £13.2m, unquoted private-equity-style investments worth £53.2m, and investments held in funds of £43.8m. More than 60 per cent of the portfolio is in the US and LMS's 10 largest investments account for 84 per cent of the portfolio by value, so it's concentrated in a small number of investments which should be relatively easy to divest.
This means that excluding the two aforementioned disposals, LMS has net cash of 24p a share, a sum representing a third of the current share price, and almost a quarter of the company’s end June 2015 net asset value of 94p a share. Clearly, irrespective of the timing of disposals, there is substantial excess cash on the balance sheet to support a tax-efficient tender offer to shareholders pitched around net asset value.
And that’s the very reason why investors have been holding the shares. In fact, since I initiated coverage when the price was 54.5p ('Capital returns', 11 February 2011), LMS has returned the equivalent of 77 per cent of its market value through three tender offers: a buy-back of 17.4 per cent of the share capital at 84p in December 2012; a buy-back of 17.2 per cent of the share capital at 90p in July 2013; and a buy-back of 22.5 per cent of the share capital at 95p in May 2014.
So although the current share price of 72p is only a third above my original entry point, this is misleading as to the returns investors have actually made. Indeed, if you who bought 10,000 shares at 54.5p on my initial advice you will still retain a holding of 5,300 shares worth £3,800, and with a net asset value close to £5,000, and have so far received cash proceeds of £4,200. In other words, adjust for the cash returns, and those remaining LMS shares worth £3,800 in effect only cost £1,250. Moreover, with the company’s net asset value 30 per cent higher than the current share price, I would suggest that when all the disposals are made then you will receive a sum far closer to the book value of £5,000 of the underlying assets.
LMS’s spot net asset value
Of course, LMS's net asset value could have changed since the June half-year end. But I reckon by not that much, and in any case with sterling weakening from £1:US$1.5712 to £1:US$1.5225 then there will be a currency gain on US dollar holdings worth £67m at the end of June 2015 to factor in. In fact, I reckon the appreciation of the US dollar has added £2.1m, or 1.5p a share, to the company’s last reported net asset value figure of 94p. This more than offsets the paper losses on LMS’s shareholding in New York Stock Exchange quoted Weatherford International (WFT: NYQ). The stake was valued at £11m at the end of June and shares in Weatherford have fallen from $12.28 to $10.67 since then. However, adjust for the weakness of sterling, and the holding is currently worth £9.9m. In other words, I believe there could even be upside to LMS’s last reported net asset value figure especially as the company has a record of achieving at least book value for its assets on disposal, of which two are in the pipeline.
So with the strong likelihood of a significant share buy-back being announced through a tender offer process pitched at a 30 per cent premium to the current share price, and with LMS sitting on a cash rich balance sheet, I see no reason whatsoever why the company’s investments held (excluding cash of £35.3m), should be attributed a value 30 per cent less than their carrying value in the accounts. Frankly, downside risk here looks limited and ahead of a trading update, I continue to rate LMS’s shares a buy on a bid-offer spread of 71p to 72p.
Cenkos tender offer deadline
LMS Capital is not the only company I follow offering decent prospects of cash returns through a tender offer. Aim-traded corporate broker Cenkos Securities (CNKS: 180p) is in the process of buying back 4.45m shares at 180p each, representing 7.28 per cent of its issued share capital, having posted a solid set of half-year results (‘Small cap value plays’, 23 September 2015).
At the end of June, the company was sitting on net funds of £48.2m, or 80p a share, and owned net trading investments worth £6.5m, or 11p a share on its balance sheet, reflecting a net cash inflow of £15.3m in the six months period during which time Cenkos reported pre-tax profits of £18.5m. That cash position is calculated after factoring in the £10.8m spent on buying back 5.7m shares through a tender offer at 188p in January this year and the £5.6m cost of a final dividend of 10p a share. Since the half-year results were announced Cenkos has paid shareholders a 7p a share interim dividend at a cost of £4.3m. This means that after factoring in the £8m being returned through the latest tender offer, I reckon that pro-forma net funds will currently be £35.9m, or 63p a share, based on a reduced share count of 56.6m shares.
It’s decision time as the latest date for receipt of tender offer forms from CREST shareholders is Tuesday next week, and tomorrow if you hold the shares in a nominee account. Cenkos shares are priced on a bid-offer spread of 175p to 180p, so you are getting 5p a share more by tendering the shares than selling in the open market. That said, I am positive enough on prospects for the company to be willing to side step the tender process altogether.
That’s because the trading outlook remains promising. Cenkos’ chief executive Jim Durkin noted that three months into the second half that his company has made a "good start to the second half of the year, our current pipeline is encouraging and there continues to be institutional demand to fund high-quality companies and ideas". The company is a broker, financial adviser or nominated adviser to 125 corporate clients, making it one of the largest brokers on the London market. It has been successfully raising funds for them, having raised in excess of £13.6bn for clients in the past decade including over £2bn in the first half of this year. Mr Durkin had good reason to be positive because if you look on the company’s website you will note that Cenkos has pulled off eight corporate fundraises between July and October which have raised £577m for clients. This almost matches the level of fundraises for the whole of the second half of 2014 and gives confidence for a better second half performance this time round.
Moreover, the substantial cash backing I have outlined above, and enviable track record, is clearly not being fully factored into the valuation given that the shares are priced on six times likely EPS of 30p for the full-year. Moreover, that is based on the conservative assumption that the trading performance in the second half only matches that in 2014.
Needless to say, I have no hesitation in repeating my buy stance. Please note that I initiated coverage at 159p ('Broking for success', 20 May 2014) since when the company has paid out 24p a share of dividends. Buy.
MORE FROM SIMON THOMPSON...
I have published articles on the following companies in the past two weeks:
■ Redde: Run profits at 178.5p; Trakm8: Run profits at 250p; 32Red: Run profits at 95p; Manx Telecom: Run profits at 208p; Burford Capital: Run profits at 189p ('Five companies that keep on delivering', 3 November 2015)
■ Getech: Sell at 38p ('Getech warns', 3 November 2015)
■ Gresham House: Buy at 345p, 12-month target price 450p ('Sowing the seeds for growth', 9 November 2015)
■ Inland: Run profits at 73p, target 80p ('Tapping into hidden value', 9 November 2015)
■ K3 Business Technology: Run profits at 361p ('In the money, 9 November 2015)
■ Fairpoint: Run profits at 190p, target range 200p to 220p ('Riding a seven year high', 10 November 2015)
■ KBC Advanced Technologies: Buy at 129p, new target range 160p to 169p ('Running oily gains', 10 November 2015)
■ Epwin: Run profit at 138p ('Decked out for further gains', 10 November 2015)
■ Plethora Solutions: Speculative buy at 5p, target 7.5p; Renewable Energy Generation: Speculative buy at 49p, target 60p ('Playing the takeover game', 11 November 2015)
■ Trifast: Buy at 116p, target 140p (‘Engineering a chart break-out’, 12 November 2015)
■ Software Radio Technology: Speculative buy at 23.5p, target 40p (‘Break-even beckons’, 12 November 2015)
■ Bioquell: Buy at 137p, target range 170p to 185p ('Bug busting potential for short-term gains', 16 November 2015)
■ Communisis: Hold at 45p ('Communisis slammed for earnings miss', 16 November 2015)
■ AB Dynamics: Run profits at 320p; Stanley Gibbons: Hold at 90p; Pittards: Hold at 94p ('Bargain shares updates', 17 November 2015)
■ Bilby: Run profits at 133p ('Bilby's share price sparked alight', 18 November 2015)
■ GLI Finance: Buy at 45.25p ('High yield P2P play', 18 November 2015)
■ LMS Capital: Buy at 72p; Cenkos Securities: Buy at 180p (‘Capitalising on tender offers’, 19 November 2015)
■ Simon Thompson's book Stock Picking for Profit 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 £2.95 postage and packaging. Simon has published an article outlining the content: 'Secrets to successful stockpicking'
