Taking Stock 22 February 2018

THE two events that no property syndicator wants to tell his investors are that a tenant has left without a replacement and that the cost of the mortgage has risen.

The three outcomes that no investor in a property syndicator wants to hear are that returns will fall, property values now are less than the original cost, and worst of all, that there is no liquid market for units that are not meeting investor expectations.

I guess there is a fourth horrible outcome – that the manager of the syndicate wants to help itself to more of the available revenue or more of the value of the building.

The solution to some of these problems is to set the rules in concrete on day one.

Never sign up to an investment where there is no ability to sell should the fund manager prove to be incompetent or greedy.

Never sign up if there is no fund manager commitment to maintain a secondary market, or buy the units back at par (as a minimum).

Never sign up if the manager is wanting a greedy share of the capital gain; worse wanting to have the right to vary a pre-determined share of a gain.

Never sign up if the manager is loading the cost of the syndicated property with excessive ‘’finder’s fees’’.

Never sign up if the fund manager cannot be replaced by investor majority.

And never sign up if the building is suitable only for a limited range of potential tenants.

To make this last point absolutely clear, if the building is a cricket pavilion, or a freezing works, do not invest!

Some of these conventional wisdoms have been underlined by a sad story sent to me by an investor in a syndicate that has faced problems.

A tenant exited a building.  No replacement was found.

To restore the building, as required in the lease, a lump sum was paid by the departing tenant.

The lump sum and additional retentions from what should have been investor returns were retained by the manager to market the building to potential tenants.

Investor pressure forced the manager to sell, rather than wait for a tenant.  Fund managers dislike selling.  It ends the flow of fees.

The sale began a parting of the ways between the fund manager and the investors.

The fund manager arranged a teleconference to obtain approval for a potential sale, and a wind-up of the syndicate, on a new profit-sharing basis.

The manager was entitled to recover reasonable costs based on hourly rates, should a wind-up occur.  This was stated in the original agreement.

The new proposal to be decided by vote at a virtual meeting was to reward the manager with a 0.75% share of the sale value, effectively a new bonus of $135000 rather than about 20% of this sum, as the likely cost on an hourly base.

To get this extra bonus through, the manager needed 75% to vote in its favour.  Powerful and informed voices opposed the new proposals.

Phone calls and emails to investors pleaded for this extra bonus.

On the day of the vote, teleconference instructions were sent out by email to all investors.

Sadly, the instructions were wrong or some sort of technology failure occurred, so those who wanted to speak against the extra bonus could not be heard.

The following day an email was sent out saying the resolution had been passed.

The extra $107000 will be deducted from the sum paid out to investors.

I have no idea whether this outcome can be challenged.  I do not know the law regarding teleconference voting when failed technology interferes with the process.

From a layman’s view it seems obvious that a breakdown in technology should have led to a deferral of the meeting.

The purpose of this Taking Stock item is not to illustrate that the law was broken, but to emphasise the need for clarity at the outcome.

I do not understand the thinking process of the manager that considered it was entitled to a greater share of the money available.

For those who would have sought to stop the extra bonus the appropriate appeal process should begin with an appeal to the fund manager.

If unresolved it should move to a Financial Disputes resolution process and later be referred to the Financial Markets Authority, if still unresolved.

The final adjudicator should be the Court.

This should not have been necessary.

Before investing in the syndicate, investors should themselves, or with the help of an independent party (adviser or lawyer), have ensured the terms of the investment were satisfactory, and that any dispute was referred to an agreed process. There should have been no process to allow the manager to increase his share of the returns.

Managing other people’s money or investments is a huge privilege which comes with an obligation to be honourable.

As an activity it is one of the world’s most lucrative.  Hedge fund owners and fund manager owners generally, are grossly over-rewarded.  As an example Carmel Fisher’s hard work with her company has left her amongst New Zealand’s richest people with far more than $100 million.

In New Zealand some far from competent people have made personal fortunes of tens or even hundreds of millions by abusing the privilege.

There are also highly competent often very honourable, people who have performed this function capably.  Carmel Fisher was one of them.

Conversely the likes of those who manage our health, rather than money, rarely achieve wealth of millions, let alone tens of millions.

Institutions – AMP, Tower, AXA etc – perform the task of managing people’s money knowing and heeding the law, though by definition they will have displayed decades of mediocrity, compared to the best of the others, who are not subjected to in-house politics, and governance by people often with little relevant talent.  Managing property syndicates is not leading edge science.

Our company involves itself in property syndication only when there is an agreed access to liquidity, clear, excellent rules, and property assets useable by a wide range of tenants, managed by experienced and worthy people.  We have learned much from the past.

The example quoted in this item perhaps explains our caution.

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IN the last quarter of 2017 three of the NZX-listed property trusts sought to lengthen the terms of some of their debt by issuing long-term secured bonds.

Property for Industry, Precinct Properties and Kiwi Property Group all issued bonds, each issue offering slightly lower rates than the previous one, Kiwi succeeding in offering seven year bonds at 4.33%, after Precinct paid 4.42% and PFI 4.59%.

All issues were fully subscribed, by far the bulk of the money provided by Exchange Traded Funds, KiwiSaver funds, and by those managing other people’s money.

The rapidly declining rates indicated no expectation of rising rates.  Indeed the reverse was the trend.

This week Goodman Property Trust has announced a bond with a slightly shorter term (5 1/2 years) and expects the ETFs and the KiwiSaver managers will gobble up the bonds at 4% or fractionally more.

I imagine Argosy Property Trust must be watching this with care, perhaps planning to wait until the falling trend reaches a negative rate, as happened in Europe in recent years.

I jest.

Negative rates are improbable in New Zealand.

However the trend does highlight three anomalies in our markets.

Obviously, the first is that interest costs for corporates are not rising, certainly not if the security offered is listed (and thus saleable).

The recent global threat to lift rates has not resonated here, just as those drums for many years have not been heard by central banks, banks and non-bank deposit-takers.  Rates have been moribund for seven years and are still restrained, to avoid household, corporate, banking and sovereign defaults.

The second anomaly is the unthinking use of every new issue by ETFs, KiwiSaver funds and those investing other people’s money, and obtaining annual fees, often at a ludicrously high level.

It is simply true that many investment vehicles, operating to a manual or a computer programme, must buy these issues at any price, to satisfy their models and reduce their cash holdings.

If Goodman had offered 3% the ETFs would still have been buying.

Clearly any retail investor, who has handed over the money to such an investment vehicle, must be happy with the investment behaviour.  That investor might be easy to please, or in urgent need of some liquid term investments.

ETFs and pension funds literally invest in negative rate bond issues or cash accounts if their mandates require.

In 2016-2017 there were twelve European countries issuing negative rate bonds, with ETFs and other managed funds buying these securities+.

Would any retail investor ever invest in such securities?

If not, why are mediocre advisers, worldwide, persuading investors to invest in ETF vehicles that behave like this?

This gives rise to what is clearly the third anomaly, and that is the extraordinary lack of emphasis on return for risk.

This is especially obvious if you value the opinion of credit ratings.

Why would an ETF or a KiwiSaver fund invest in a five-year bond rated at BBB, to obtain a 4% return, when it could invest in a higher rated term deposit (4.3%) offered by a bank (Rabobank) with a higher credit rating?

That the bond is liquid adds some value but a long-term investor like a KiwiSaver manager is hardly likely to argue that it must have that liquidity.  A bank term deposit at a better rate is much more likely to be the choice if the retail investor makes the decision.

All of this gives rise to the question of future bond issues.

If the undiscerning ‘’buy everything at any rate’’ mandate will fill all offers, what use will these offers be to retail investors who generally buy bonds for the combined value of a better rate with access to liquidity?

I await the day when credit margins revert to meaningful step-ups in the rates offered.

I may develop a second grey hair while I wait!

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OVER the Xmas break I read the biography ‘’More Paddocks to Plough’’ an interesting account of the life of Graeme Thompson, the founder and chief executive of the listed meat processor and exporter, Fortex.

Thompson was hailed in the 1990s, anointed with the title of NZ Chief Executive of the Year (sigh, another unhappy choice), and saluted for his energy and drive to extract more value in New Zealand from meat carcasses.

He locked horns with the militant Meatworkers Union, reached a peaceful solution, and oversaw the building of two modern processing plants, designed to produce meat cuts that could be exported at prices that included the value of the butchering.

His company, Fortex, was lauded as the harbinger of a new era for farmers and Thompson demonstrated energy, vision and determination.

Sadly, when times became tougher, banks became stubborn, and the weather reduced the supply of lambs, Fortex began to fail.

It probably needed much more capital (easier to raise in good years) and it certainly needed patient moneylenders.

Facing these problems Thompson sat at the helm when some fraudulent accounting practices were performed, resulting in Fortex providing a false picture of its financial position.  Investors were duped.

Some overseas loans were raised but when the money raised was paid into a Fortex bank account the money was coded as though it was received from sale of carcasses.

Worse a substantial level of carcasses, kept in storage, were shown as having been butchered and sold to Europe as valuable meat cuts.

When the flag went up, Thompson’s chairman, John Austin, (now the late John Austin) claimed he knew nothing about those accounting anomalies.

Thompson went to jail, Austin faced no charges.

The book is interesting and should be useful for all modern business leaders, a grim reminder of the truism that it is always better to share a problem and address it legally and honourably, even if it defers or destroys your ambitions.

I would think the book should be required reading for all those bright-eyed MBA students who aspire to a glittering corporate career.

So, too, should they read Rebecca Macfie’s outstanding book Tragedy at Pike River Mine, in which she carefully traces the absolutely dreadful behaviour of Pike River’s board and executive managers.

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OF course, Thompson’s lack of support from Austin was very typical of corporate behaviour.

It is always most convenient if just one man shoulders the blame for all errors.  Generally it allows the company to carry on, having excised the problem.

Does anyone believe that Baring Bros knew nothing of Nick Leeson’s trading, that National Australia Bank, or Banque Nationale de Paris knew nothing of the FX trading errors, or even that only Mark Adamson failed miserably at Fletcher Building?

All such corporations need hatchet men, or ‘’smiling assassins’’ to help preserve the necessary image of the company.  The likes of Merrill Lynch and Goldman Sachs perfected this behaviour.

Thompson indeed made a dreadful misjudgement at Fortex.

Does anyone believe that no others were complicit in the fraudulent transactions?

In more recent times does anyone believe that the South Canterbury Finance directors were methodically ensuring that SCF was described accurately in its financial statements?

The corporate world, and especially those who write the accounting ‘’rules’’, are some light years from ensuring that accounting procedures produce a transparent summary of a company’s position.

The only hope for investors is that competent, honourable people, ensure that the spirit of fair play is upheld.

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I will be in Christchurch on Tuesday 27 February (pm) and Wednesday 28 February (am), and again on March 27,28.

Michael will be in Hamilton on 1 March and Tauranga on 5 March.

Edward will be in Auckland (Remuera) on 10 April and Albany on 11 April.

Kevin will be in Christchurch on 22 March and Ashburton on 12 April.

David Colman is planning trips to Palmerston North, Whanganui and New Plymouth in March.

Our future travel dates can also be found on this page of our website: https://www.chrislee.co.nz/request-an-appointment

Any person is welcome to contact our office to arrange a meeting.

Chris Lee

Managing Director

Chris Lee & Partners Limited

Taking Stock 15th February 2018 

FOR those who buy assets, like shares in a company, there are two obvious approaches, as recent market volatility has highlighted.

Long term investors buy on value, and they seek evidence of sustainable profits, sustainable dividends, and a business model creating products or services for which there is long-term demand.

The ambitious people who trade shares usually buy and sell on trends, on short term market moods, and they might factor into their decisions matters like the wishes of tomorrow’s consumers.  Or they might not.

All of this has again become topical with global markets reacting with alarm to the threat of rising interest rates in the USA.

On its own, higher rates (from say 2% to 3%), confined to the US, would be easy for countries like New Zealand to accommodate.

But the truth is that much of the world’s rate-setting begins in New York, where wholesale investors calibrate their requirements when they lend to banks, governments and corporations around the world.

The likes of Fletcher Building, indeed every major NZ company and bank, want the option of arranging some funding from New York.

If our banks are borrowing hundreds of millions from a New York placement, a rise in the cost of their borrowing has an immediate impact on the base rates for corporate lending and for mortgage lending.

What exaggerates the cost of such lending is the credit margin then applied to the base rate.

We have been through a prolonged (eight-year) period when the additional margin (the credit margin) has been shrinking, perhaps reflecting the lower risks of bad debts, and the competition to lend safely.

Obviously corporates and households are less stretched to honour debt repayment schedules when base rates are low.  As a result of this lower stress level, banks observe fewer repayment problems so credit margins are shaved.

The reverse happens when base rates rise.

Higher base rates will be followed by more client repayment stress, so credit margins will rise.

There is no mystery in this.  It is simply mathematical.

In a nutshell, this explains the element of logic of lower share prices misdescribed by the illogical, indeed idiotic, commentary around financial markets that we so often see in the media headlines, or in social media.

To observe that rate rises will cause market recalibration is entirely logical.

To describe this as a ‘’collapse’’ or ‘’crash’’ is baby talk; click bait.

Markets ‘’collapse’’ or ‘’crash’’ when there is evidence of significant widespread poor company performance, sometimes following inexplicable losses that had been hidden, or disastrous new losses from an event.  In 2008, for example, banks faced horrendous losses, worldwide (but not here).

An explosion at an oil rig causing billions to be lost is an ‘’event’’.

Undeclared, perhaps unrecognised, cost over-runs at a construction project where a fixed price allows no recovery, is not an event.

It is a sign of corporate errors.  If the loss is hidden, and then admitted only in excerpts over a period of time, investor confidence is shattered.  How many other problems are hidden, the investor will ask?

The key issue for investors is whether a share price recalibration is logical and therefore mathematically assessable, or whether the price change is illogical and leaves the imagination to calculate how badly the company might be affected.

The later event is more likely to lead to emotional repricing of all similar companies and when fear moves to panic the repricing may move to every company.

To use an analogy, let us recall how a Fonterra subsidiary in China was using an illegal and dangerous substance as an additive to its infant milk powder.

Clearly the subsidiary would be blackballed, its brand ruined, its shareholders discovering the shares in the subsidiary were worth little if anything.

If Fonterra owned the subsidiary one would calculate the loss in value, perhaps add a little further reduction for the contagion effect, and then confidently reprice Fonterra’s shares.

But if TWO Fonterra subsidiaries were guilty of the same practice in different countries I would expect investors would slaughter Fonterra’s share price, not unreasonably fearing that the problem was systemic.

This might all sound a bit obvious, indeed a bit dry, and somewhat humdrum to veteran investors or market participants.

Our audience for Taking Stock begins with our client base, several thousand retail investors, and extends to the general public, who by definition will not be as seasoned or well-informed as our clients.

Market professionals are welcome observers of our newsletters but are not our principal or even secondary audience.

Last week there were some substantial falls in sharemarkets.

Hysteria in the media might have alarmed investors.

Potential interest rate rises in the US, of maybe one per cent over a period of a year, initiated the fall.  Emotional reaction may have included a fear that rates might rise by several per cent everywhere.

Our Reserve Bank sensibly noted that base rates in 2018 and maybe 2019 will not rise and indeed may fall.

However the New York market is not driven by the Reserve Bank of New Zealand and clearly the NY market is calculating the possibility of rate rises there.  Our RB does not dictate all interest rates.

My own reading of the Wall Street sharemarket reaction to the possibility of rising rates is that the reactions might have been largely related to Wall Street’s desire to send a message to the Federal Reserve Bank, displaying to the Fed the likely cost of a move to lift rates ‘’prematurely’’ or excessively.

Wall Street’s strategy may deter the Fed as the USA does place extraordinary emphasis on its sharemarket successes almost as though the sharemarket drives consumption, jobs and tax receipts.

In most other logical countries the tail of the dog is at the other end of the animal.

Export receipts, profits, jobs, consumption, tax receipts and confidence are what would drive the sharemarket in a logical world.

Of course what the USA is displaying – fear of rising interest rates – has had an effect on New Zealand, as mathematically our country is not helped by rising interest costs.

Perhaps 300,000 New Zealanders receive material benefits from higher deposit rates, perhaps many others receive immaterial benefits, but a much higher number of corporates, households and people would be disadvantaged by the rising cost of debt.

Literally hundreds of thousands of households have a debt to a bank of several hundred thousand dollars.

A one per cent rise in mortgage rates would cost those households a few thousand dollars a year from their after-tax income.

That enforced spending would reduce discretionary spending, it would reduce savings and it would lead to the opposite of a virtuous cycle – lower spending, less demand, fewer jobs, less tax, more unemployed, more social welfare costs.

Are we saying all of this is the mathematical outcome of the Fed lifting rates by one per cent?  I hope we are not.

Sadly, there is a further problem.

In New Zealand one of our largest companies, Fletcher Building, announced last week that it had for the third time discovered that its construction division was facing far greater losses than Fletchers had estimated.

Another company, CBL Insurance, had discovered that its French subsidiaries were facing nearly $100 million of losses that the NZ owner had not anticipated.

The failure of one company is a wake-up call.

The failure of two turns alarm into anxiety.

We would not want a third example of governance and management failure.

Yet none of this alters the real story of the health of our economy – low unemployment, excellent terms of trade, higher tax receipts, healthy corporate profits (and dividends) – and none of it is necessarily relevant to what underpins our success.

A major reason for our improving financial status is the high level of international confidence in New Zealand, tangibly evident in the higher level of investment and lending allocations to our country, in our immigration enquiries and in tourist arrivals.

Some of the credit for this goes to the best of our business leaders, one or two politicians with competence in business, and perhaps a few trade officials.

They have succeeded in building greater international confidence in our key sectors, promoting New Zealand as being largely free of corruption, having good law, a transparent judicial system, credible standards in governance and audit, competitive advantage in our key sectors, a reliable banking system, and low sovereign debt levels.

In my opinion John Key threatened the global admiration when he preferred to close down a full and frank inspection of our rotten non-banking sector, and did further damage when he allowed Treasury to ignore its legal responsibilities when it was the de-facto, perhaps the legal, owner of South Canterbury Finance.

Yet we still benefit from global support, other people’s savings underwriting our low interest rates and providing capital for our major companies.  No damage appears to have resulted from Key’s pragmatism.  Yet.

Roughly two-thirds of our debt securities are owned by foreigners and around 40 per cent of our sharemarket capitalisation is tied to foreign money.

Here lies the relevance.

If our NZX capitalisation were $130 billion, then around $52 billion of that value is held ‘offshore’.

If overseas investors reduced by one third their allocation from say, 1.5% of their pool to 1.0%, the market would obviously lose $17.3 billion of liquidity, leading to a probable market fall of 13 per cent.

In turn such a fall might produce a lower level of confidence, leading to irrational behaviour.

So what investors and the media need to consider are three related matters:

1.       Will NZ be paying significantly more for its bank funding, causing rises in debt servicing?

2.       Will the NZX listed companies retain the confidence of foreign investors?

3.       Will our listed companies signal accurately their performances and match their performance to their forecasts?

Those are the three issues that could convert a stable, confident market into chaos.

Click bait headline-writers will not focus on those issues.

They will focus on the lowest common denominator, probably someone talking their own book, or someone with a need to be in the public’s face, marketing their wares.

Fear and greed derive from click bait, sadly.

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TAKING Stock has devoted ample space to Fletcher Building Ltd, a company that has endured poor management for decades, and poor governance for a decade.

A rotten culture, built on entitlement and political privilege, has undermined a company which should be our NZX flagship, given its dominance in relevant sectors.

It is highly profitable in producing and retailing building materials, where its margins seem to be unaffected by competition.  Its home building activities are profitable and support the demand for its building materials brands.

Its construction division represents only a tiny portion of its returns but represents most of its risk.

That division requires experienced, dedicated, clever people with real knowledge of their business.

The rest of the company will succeed, irrespective of how many overfed academics get into executive positions or board positions, but the construction activity needs expertise ad experience.

Construction will never produce bumper profits but there may be huge losses.  Fletchers must absorb this to ensure it can continue to control margins in its product range.

Competition in construction remains fierce even when margins are almost invisible.

Fixed price contracts, priced to beat strong competition, will by definition involve guesses, as to matters like labour availability, labour cost, the costs of materials, including fuel, and estimates of unforeseeable problems, perhaps weather related or related to engineering.

Design problems, and subsequent changes, are a variable difficult to price.

High risk and low returns are not a combination to be addressed and overseen by academics, marketing specialists or tax specialists.

That is what led to Taking Stock’s imprecation to Fletchers to rid itself of the wrong sort of leadership and governance.

Its alternative is to quit its construction business and be forced to compete with its materials business, selling to those who would own the construction industry.

If China took over the sector, a not impossible outcome, what would happen to the margins on building materials?  Would China import materials and then challenge the retail market?

As noted many months ago, Fletchers needs to be governed by a board with a similarity to Mainzeal’s board, and managed by people with first-hand knowledge of coping with the risks in its most vulnerable activities.

New Zealand probably wants FBU to remain a competitive construction company, ensuring a local alternative to foreign operators.

Perhaps Fletchers needs to be talking to Fulton Hogan, which seems to have a more sanguine approach to risk.

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LAST week’s Taking Stock referred to the EY Entrepreneur of the Year awards and noted that its judges included Samford Maier Junior and Neil Paviour-Smith (of Forsyth Barr).

Forsyth Barr has advised that neither Maier Junior nor Paviour-Smith were involved in the judging of this year’s awards.  They judged the Deloitte Business awards, not EY’s.

I confused the two sets of awards, a further sign of mental decay.  I apologise!

The EY judges were a young successful entrepreneur Tim Alpe (Jucy Rentals), Anne Norman (a retailer), Diane Foreman (business woman) and Dan Radcliff (International Volunteer organisation).

They selected Peter Harris, whose company CBL Insurance has been under stress for some months, is now faced with an FMA investigation, and whose shares are suspended from the NZX.

I have often raised my doubts about the value of these awards, about the judging process, and the judges.

Currently the only business awards that seem logically made are by INFINZ, which allows the judging to be done by those businesses that interact with the nominations.

For example the award for ‘’Best Research’’ is decided by polling those who buy or use the research.

People with no reasonable access to the underlying success of a business may not have much show of discovering whether a business leader is successful, entrepreneurial or even credible, except at an inspection of the surface.

I suspect the work and research required to produce a robust result is quite beyond most judges.

In the case of Harris this becomes more uncomfortable because there is some world event which has anointed the EY award in NZ, meaning Harris is ‘’New Zealand’s’’ entrant in some sort of world competition.

The Deloitte business awards have the same problem, requiring research from people with relevant skills as well as time to devote to the process.

Readers will recall previous absurd outcomes such as the selection of Greg Muir (Pumpkin Patch, later Hanover Group) as the country’s best chairman.

My view is that unless the selection process is logical, as is the case with INFINZ, the choices will be at best a popularity contest, rather than based on excellence.

Judges would need to have regular interaction with the nominations, would need a deep understanding of the issues, and would need to have achieved excellence themselves, to be credible.

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THE sharemarket falls of recent days have been of sufficient size to cause a deferral of some planned new issues.

It now seems likely to me that potential bond issuers will want to digest base rates, credit margins, liquidity, attitudes of underwriters, and the confidence of retail investors before committing to a new issue.

It would seem the alternative would be a generous coupon on new bond issues, or a generous discount on new equity issues.

I expect delays, until there is a more settled market, would be an understandable decision.

This may mean even more cash is left with short-term bank deposits, or call accounts, while time passes.

My expectation now is that new bond issues will be rare until April, at the earliest.

Accordingly the announcement that Goodman Property will offer 5 ½ year bonds is one that all will welcome.  Interested investors should let us know their potential demand as soon as possible.

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Michael will be in Auckland on 20 February, Hamilton on 1 March and Tauranga on 5 March.

I will be in Christchurch on Tuesday 27 February (pm) and Wednesday 28 February (am).

Edward Lee will be in Auckland (Queen Street) on 28 February.

David Colman will be in Lower Hutt on 21 February and is planning trips to Palmerston North, Whanganui and New Plymouth in March.

Kevin Gloag will be in Christchurch on 22 March and in Ashburton on 12 April.

Our future travel dates can also be found on this page of our website: https://www.chrislee.co.nz/request-an-appointment

Any person is welcome to contact our office to arrange a meeting.

Chris Lee

Managing Director

Chris Lee & Partners Ltd

Taking Stock 8 February 2018

THERE will be several, quite varied, explanations for the difficulties of building strong governance at the boards of our listed companies.

It is easy to identify the concerns; not so easy to see simple solutions.

Comments in Taking Stock in recent weeks about the poor standards of governance prompted discussion amongst fund managers and led to an intriguing discussion with a company director whose standards are high.

Tracing the evolution of our governance over the past decades begins with the concession that standards were much worse in the 1970s and 80s, than contemporary standards.

In the 1970s directors were almost exclusively men, they were usually white, grey-haired, poorly paid and often chosen for their ability to display collegiality rather than for their knowledge, experience and inquisitiveness.

It would be easy to describe the Auckland Club or the Wellesley Club in Wellington, where a group of men would look around the room to find an affable and reliable replacement for a director who had died.

In those days directors often behaved as though their main job was to stay out of the way of executive managers, to oversee plans but not to challenge them, and to become heavily involved only when there was an undeniable problem or disaster.

Alternatively there were those who regarded the role as a means of making money through insider trading, then not illegal.

I recall the banks and the insurance companies of the day breaking for a lunch of pheasant or turkey, served around wines, cheese and port, in an environment of bonhomie and social pleasantries, where mahogany tables and serviettes were of good quality.

Even bigger private companies, like Todd Corporation, sometimes engaged unimpressive characters, including the late John Todd, whose commercial acumen would not rate highly by today’s standards, or even yesterday’s standards.

As an aside, it was not commercial wizardry but sheer luck that converted Todds into the relative powerhouse it is today.

Todds made any number of errors, including costly forays into the finance and investment sectors (Judge Corporation!) but its winning lotto ticket come from its decision to co-fund two oil-drilling projects, nearly sixty years ago.

One such wildcat mission hit Kapuni, the other Maui, from which Todds made billions.

Good luck makes up for an awful lot of plodding. Dopey decisions abounded in an era when the avalanche of new listed companies hit the NZX in the 1980s. The composition of boards changed from stodgy, good, reliable old blokes into a colourful mix, dominated by younger risk-takers, many disrespectful of the laws, a few highly skilled at exploiting the media in quest of an image of respectability.

All manner of contrivances occurred in a market that was not so much deregulated as unregulated.

Astonishingly, New Zealand accepted this gung-ho approach, even knighting the most improbable people, irrespective of the shortcuts and deceptions that had built the illusion of their success.

People who could not gain entry to the Wellington Golf Club because of their poor personal reputations, let alone gain entry to the Wellington Club, were knighted and feted as star quality board directors. The clubs were more discerning than the politicians who dished out honours to some fairly awful people, sometimes.

A few ended up in jail; too few, I believe. It remains a mystery as to how the likes of Petricevic and Hawkins were not knighted before they tripped up.

Governance in this era was characterised by the speedy search of rapid paper profits. A key skill was finding a ‘’legal’’ solution to deflect the purpose of the law.

Many will recall how the Employee Unit Trust structure was abused, effectively as a means of robbing shareholders by using company cash to support share prices that way exceeded the value set by real investors. That structure circumnavigated the law that at the time prevented companies from buying their own shares.

After the 1987 crash, attention returned to regulations.

It has taken time but the result today, after the even worse period between 2002 and 2008, is that company directorships are no longer attractive to many of our best corporate thinkers.

Company directors today have very obvious legal liabilities in a wide range of areas, and will clearly be under close scrutiny from those who fund litigation whenever errors or stupid decisions lead to losses for investors or money lenders.

The finance company sector provided the most obvious example of shocking governance, with a long list of failures, but just as incompetent were those directing trust companies, insurance companies and construction companies.

Often the records, like minutes, or audited financial statements, showed a diligent process but clever words covered decisions and financial interpretations that had been made selfishly, deceptively or often illegally.

All of this has led to today’s problem.

Today accountability is somewhat addressed, despite the omnipresence of Directors And Officers Liability insurance (paid for by the shareholders), designed to remove monetary cost from the directors.

The growth in litigation funding has empowered shareholders to ask the questions of those directors whose strategies fail.

The law also has more grunt, in areas like Health and Safety.

Indeed, had today’s health and safety laws been practised in 2011, the 29 who died in the Pike River mine explosion would be alive today.

If they had died in the explosion, the directors in today’s environment would most certainly not have enjoyed the feeble cross-examination that enabled them to sidestep accountability.

The Crown itself would have been under extreme pressure for its connivance in appalling mining practices.

Today’s public company directors are increasingly accountable to the regulators and are at threat of litigation funded by deep pockets, yet the first line of defence for investors, the right of large shareholders to interrogate directors, is ineffective, and may become increasingly ineffective.

In a system that worked logically, directors would represent all shareholders equally, would be hired or fired by shareholders, and would meet governance standards that the shareholders and the law prescribed.

Here lies the kernel of the problem.

Who are the shareholders, who represents them at the interrogation process and how do shareholders enforce their required standards?

Today, globally, by far the biggest shareholder voting blocs belong to the administrators who represent either active or passive fund managers.

The growing trend is for inactive fund managers – the branded exchange traded funds, operating to mathematical selection processes – to take even greater percentages of listed companies.

Particularly this is true overseas. It will not be long before ETFs are the controlling shareholders.

The explanation for this bizarre outcome is the reduced intermediation cost (tenths of one per cent) and the almost complete coverage the investment method provides for the backsides of those who sell financial advice. I have previously noted that very few advisers have the knowledge to advise on securities so they hand that responsibility to active and inactive fund managers.

A portfolio of exchange traded funds, by definition, succeeds or fails not through any acts of emission or stupidity by a financial salesman. The salesman will not be attacked by a client or a regulator unless the particular ETF was inconsistent with the client’s expressed needs.

So ETFs are an ugly percentage of shareholdings in listed companies and the trend is for higher.

In effect, the shareholders are zombies.

How does a director react to some representative of the ETF who wants to discuss board policy or director performance?

The ETF often is contracted to invest in all companies in a particular index so the representative of the ETF has little or no leverage and can hardly threaten to sell if the governance is poor. The ETF representative is unlikely to have knowledge, anyway!

Of course an active fund manager, which employs smart people to perform research and is not just buying shares with some robotic formula, can and does engage and can indeed sell out if the directors will not meet the demands of the shareholder (the active fund manager).

Let us say the active fund manager wants to discuss director remuneration, or executive pay, or bonuses, or social issues (like pollution, or health and safely).

A company director would surely engage and react with the active fund manager.

Indeed this happens regularly, but sometimes the fund manager has to use his clout to get meaningful discussion underway.

Recently a leading NZ listed company declined to complete a fund manager survey on these sort of questions.

The fund manager reacted to this negative response by advising that the shareholding would be sold.

The company in turn responded by agreeing to supply the information.

Had the information been price-sensitive, like answering a question on how sales in Asia were being achieved, the company, of course, could not respond as the market must be told simultaneously of any relevant price sensitive information.

The point here, of course, is that the directors can be comfortable that they are providing shareholders with time for feedback or input when active fund managers arrive at the door.

But who comes to talk from the growing number of ETFs who employ no one with any grunt and who have no, or very limited, ability to demand attention?

Indeed it is comical that in NZ one of our inactive fund managers, Sam Stubbs, dominates media discussion on contemporary matters but his investment strategy (robotic, no research) makes his views of no relevance. I guess his need to be noticed is high. The media seems to oblige.

For company directors, this new phenomenon of robotic investing is a threat. It de-links directors from meaningful discussion with shareholders.

Today’s directors are naturally wanting to be paid more, to acknowledge their liability and to justify the time needed to achieve the level of engagement anticipated by regulators and shareholders.

They are being pestered to be involved in social issues that previously were not the director’s domain, including matters like gender equality and environmental matters.

Hitherto, executive managers were accountable for these sorts of issues.

For how much longer will boards be allowed to select management solely on merit, whether that means employing all women, all men, or whatever the talent pool provides?

For how long will shareholders be allowed to select the desired director without bowing to an argument that places gender as an unmoveable controlling factor?

We never again want boards comprising people chosen for their willingness to act collegially, for their accessibility in the Auckland Club, and their willingness to tolerate the stupid behaviour of the past.

Indeed, as one female fund manager put it to me, ‘’How could I have tolerated the days in the 1980s when various listed companies took their important people to high-cost brothels as a reward for their referred business?’’. Wellington used to crow that it was the home of this nest of activity for some ugly companies.

We need skilled, inquisitive, experienced, relevant people on our boards yet we want to pay them lightly, we want to regulate them heavily, we want to sue them for failure and we want them to be accountable to shareholders who typically will be robots, with no discretion to buy or sell, and no useful insightfulness to share with directors.

We want to choose them not on merit but on various socially selected characteristics, perhaps including their personal lifestyle characteristics and perhaps including their gender.

The best of those for the job are increasingly unavailable.

Small wonder the available talent pool is shallow!

_ _ _ _ _ _

THE Chinese have sometimes displayed a method of enforcing good standards from company directors, though rarely exercised on politicians.

Not just a few directors or chairmen have been executed for significant governance failure!

Of course in Communist China the power of party politicians, officials and local government leaders is extreme and exercised almost with impunity, and immunity from prosecution.

The people naturally live in awe of this power, and cower in their presence.

Perhaps it is for that reason that when they invest overseas the Chinese love to appoint as chairman a retired politician, perhaps imagining that the politician will have a status that commands obedience and ensures desired outcomes.

In NZ, the Chinese partly-owed Synlait Milk engages with Ruth Richardson, a director I would sidestep, recalling her willingness to engage with I P Mezzanine, a Roger Moses contrivance that overpaid directors and denuded investors of wealth. Indeed the company was a disgrace.

Richardson has never been given the appropriate forum to explain her dreadful leadership in this failure.

The Chinese controlled Mainzeal Construction anointed Jenny Shipley, another ex-politician I regard as a hazard, the failure of Mainzeal yet to be tested, though this may change if the huge lawsuit against her and other directors is not settled out of court.

I am less concerned about Shipley’s figurehead-only role as chairman of Chinese Construction Bank, a huge Chinese bank but to date a tiny player in NZ.

Offshore branches of banks, like ANZ and CCBC, are effectively run by their overseas-based parent boards, the NZ role being largely a public relations task with little delegated authority to make strategic decisions or major lending decisions.

John Key, ex Merrill-Lynch, will perform this public relations task well at ANZ, his adherence to bank manuals the reason for his success at Merrill Lynch, and his collection of some wealth.

I expect the ANZ will not require a great deal of grunt from its figurehead board.

China Construction Bank will require even less of Shipley and may plan to benefit from her network, much more likely to be impressive in political or bureaucratic circles than in capital markets.

If CCB is to leverage its parent company balance sheet it may participate in big transactions in New Zealand, perhaps in infrastructural projects like roading or even housing.

However I doubt that the CCB board in New Zealand would be much more than a conduit of information and is most unlikely to play a role in moneylending or investment decisions.

Shipley’s role is therefore understandable, and as far as CCB bond investors are concerned, should be irrelevant.

_ _ _ _ _ _

WHO were our fund managers kidding when they thundered that Xero was ignoring the interests of its NZ shareholders by delisting from the NZX and listing on the ASX?

Were the fund managers trapped into a belief that Xero shareholders are simply those who have bought into a managed fund whose mandate allows only NZX-listed investments?

I own a few thousand Xero shares and am delighted that Xero has moved to a listing that has added tens of thousands of value to my holding.

An obvious response from NZ fund managers to the move of Xero to the ASX would be to rewrite their mandates and get the trustees and investors to agree to the new mandate’s revised clause which might give the fund the right to retain shares which remain NZ-based but which have moved to an exchange other than the NZX.

Does that sound impossible or just difficult?

One of the results of the gradual domination of fund managers has been a new degree of preciousness perhaps born from a feeling of a right to primacy in all matters, perhaps born from the extreme wealth that fund managers quickly achieve, and the degree of Other People’s Money that gives the managers power.

Perhaps this puffed-up sense of primacy needs pricking.

Another issue that may need attention, perhaps regulator attention, is the nonsense of bonus fees, even more the nonsense of bonus fees based on an irrelevant and worse, misleading, index.

NZ Asset Management, a small player, has a brochure showing that its global equity fund sets its goal to beat the returns of the Australian 90-day bank bill rate.

Pray tell me of what relevance to global equity returns is the Australian bank bill rate, barely one per cent?

Surely NZAM would be adding value to its returns if they were measured against global equity indices, not the bank bill rate in Australia.

At least NZAM does not claim a bonus by achieving a target that is roughly equivalent to a Fitbit owner targeting himself with 50 steps a day.

Our market regulator might want to address this issue, forcing funds to measure themselves against relevant indices, to ensure no one is being misled.

I suppose no regulator can prevent a fool from being willingly parted from his money but surely investors have enough power to strike out manager success fees, even more so success fees based on achieving 50 steps a day.

Milford, Fisher and others are guilty of this self-serving practice.

For investors, the solution is getting independent advice from competent people before signing up any agreement that allows the deduction of success fees.

While investors are paying attention they should also look at the fees of small Dunedin sharebroking firms, one of which is charging 1.3% per annum of portfolio value, to run a simple NZ share portfolio.

Fees in NZ are generally far too high, well beyond the point of value-add.

The subject needs wide discussion.

_ _ _ _ _ _

IT IS to be hoped that the ambitious listed company CBL Insurance, founded by Peter Harris, recovers from its surprise losses of probably $100 million.

CBL had bought insurance businesses in Europe, France in particular, entering the market by buying out third tier participants.

You could say Harris was duped as his acquisitions have been as helpful as the Air New Zealand acquisition of Ansett Airlines two decades ago.

CBL now must raise capital, probably at a painful discount.

The failure yet again highlights the shallowness of awards to business people, essentially selected for their very short term successes.

Not that many years ago the Delloite judges selected Greg Muir of Pumpkin Patch and Hanover Finance ‘’fame’’ as New Zealand’s ‘’Chairman’’ of the Year.

May I respectfully suggest that to make these awards credible there might first be some effort put into selecting the judges and defining the processes they must pursue.

CBL’s star ceased to twinkle long before the awards.

_ _ _ _ _ _


I will be in Christchurch on Tuesday 27 February (pm) and Wednesday 28 February (am).

Edward Lee will be in Auckland (Queen Street) on 28 February.

Michael Warrington will be in Remuera, Auckland, on Tuesday 20 February, in Hamilton on Thursday 1 March and in Tauranga on Monday 5 March.

David Colman will be in Lower Hutt on Wednesday 21 February and is planning to visit Palmerston North, Whanganui and New Plymouth in March.

Any client or investor is welcome to contact our office to arrange a meeting.

Chris Lee

Managing Director

Chris Lee & Partners Ltd

TAKING STOCK 1 February 2018

IF 2018 is the year when robotic financial advice becomes a formal option for investors, expect very little real change.

Most New Zealanders already are subject to centralised formulaic advice, delivered by fund manager sales forces but created by a small committee.

For many years, at least 30, that ‘’robotic’’ formula for providing advice has been commonplace in most institutions.

The only things that might change now are the voice delivering the formulae, and the price of the ‘’advice’’.

Soon that voice will be the tinny rattle of a computerised gadget.

Far more than half of all New Zealanders will notice no difference other than the timbre of the voice.

Indeed the only logical alternative voice will be delivered by those employed by sharebroking firms, or from those rare people who have worked for years in capital markets and now are sharing their knowledge directly.

There are perhaps dozens of these people, like Michael Connor in Auckland, Pat Jackson in Lower Hutt or Stephen Eaton in Hawkes Bay, but there are not hundreds.

Investors should not fear robotic advice. The advice will be no more regimented than before.

The robots will be programmed by very small committees of well-meaning, qualified people working for organisations that employ or sponsor large numbers of financial advisers/salespeople. They will take great care not to break the mould.

The committee will ‘’recommend’’ asset allocation, probably adhering to the obviously wise notion that ageing investors should focus on income and capital stability, while most younger investors should take more risk to chase higher returns.

The committee will then select the individual assets (bonds, shares etc) that comprise each different asset category, or will advocate fund managers, hopefully based on skill rather than cost.

If a 65 year old is to be advised by a robot that he should invest 20% of his capital in NZ listed shares, the committee will have programmed the robot to suggest, say, 12 different NZ shares, each with the characteristic of being profitable and stable.

This is not the sort of science that solves foot and mouth disease. But it is fit for purpose, and cheap.

Very likely those twelve shares will include Auckland International Airport, Port of Tauranga, Mainfreight, ANZ, Spark, Meridian Energy, Ryman Healthcare, Ebos, Fonterra and Fletcher Building. The other two stocks might vary a little.

The computerised voice will recommend the 65 year old puts some chunk of money into a managed overseas share or bond fund, leave some in cash and have some in listed property trusts here and overseas.

The plan will not be personalised and will be based on the stupid concept that ‘’timing does not matter’’.

I do not like the approach but it is some light years better than the type of offerings with which investors would have been presented in the 1990s and in the period 2000 until 2011, and much better than investors will get from those advisers who have never worked in capital markets.

In the worst eras investors were subjected to the unmitigated rubbish created by the likes of Doug Somers-Edgar, Roger Moses and Kelvin Syms, who owned respectively Money Managers, Reeves Moses and Vestar financial sales groups.

They promoted their own brands of managed funds which were hopelessly managed, stupidly supervised, and sold by greedy, incompetent people, few, if any, had any clue as to what they were selling.

Thankfully that era ended when the sector was regulated in 2011.

The robotic advice will be far less selfish than the advice offered by the ‘’central committees’’ who incentivised their sales forces to flog off the likes of First Step, Investor Care, and NZ Super Yield.

I had some direct exposure to the new robotic concept last year when I was in Malta.

The hotel at which my wife and I stayed was host to a giant American financial advice sales group, Edward Jones, the second largest of its type in the world.

Dressed in shorts, tee-shirt and jandals, I approached the Edward Jones people as a potential customer and had five different salesmen tell me the Edward Jones story.

I learned that EJ has 16,000 salespeople throughout the USA and targets 20,000 salespeople by 2020.

The salesmen sign up contracts with EJ which spell out the exact percentage of all client fees that makes up the salesmen’s income. Clients pay 1.5% per annum, typically hand over hundreds of thousands, and have their portfolios managed by the rules of the head office committee (EJ’s robot).

The rules are specific. For example, no client may hold a share worth less than one dollar. (There would therefore be no one who bought A2 Milk at 13 cents).

The salesmen enjoy America’s nine bank holidays but get no annual leave entitlements. They have to ‘’earn’’ a holiday by selling. Good salesmen can easily earn US$50,000 a year.

They can also earn a company-paid holiday for themselves, their spouses and their family by achieving a stated level of fee income. This formula guarantees that wives will be urging the salesmen to work harder (nearly all selling is done by men).

At the start of each year Edward Jones selects three or four great holiday destinations and books rooms in each for, say, 50 families for 10 days. Last year Malta was a destination. (One chatty American EJ salesman I met there thought Malta was a part of Italy).

The first of the 16,000 salesmen to achieve his target can select from the four destinations, the last of the, say, 200 qualifiers gets the last available room, wherever it may be. The other 15,800 keep working.

The salesmen play no role in selecting shares or bonds. They simply find the clients and ‘’advise’’ on an asset allocation formula, delivered by EJ’s ‘’robot’’.

After the client agrees, the centralised asset selection is applied.

Edward Jones is a Fortune 500 listed company, thinks it is reputable, well-meaning, and definitely is extremely profitable. (EJ nett revenue would be several billion.)

I would be fairly certain the EJ formula is what Somers-Edgar sought to copy, with his Money Managers concept.

The typical EJ salesman has 30 to 150 clients, whom he will have flushed out by cold calling, using any database he chooses.

One salesman told me he would retain lists of graduates from the top universities and would then search for them a few years after they had joined the work force.

Another lamented the demise of land lines and with it the thinning data in telephone directories.

Another pursued clients in expensive parts of town, knocking on the doors of the smartest houses.

I outline this as it is a glimpse of the future, once robots are entitled by law to offer financial advice in NZ. Certainly the robot will reduce the 1.5% per annum cost.

I expect that law change in New Zealand to occur this year or in 2019.

Currently any registered adviser can offer advice on ubiquitous financial products like credit cards or bank term deposits.

Only qualified advisers (AFAs) may offer advice on more complex securities like listed bonds, equities or property trusts.

To offer advice on specific securities implies genuine knowledge of the security. This generally implies working experience in capital markets, but many advisers have no such experience.

Sharebrokers would typically have such knowledge.

When we attend corporate presentations or analysts’ meetings we would usually be in a room of 20 to 50 sharebrokers, with a rare, very rare, financial planner being in the room.

By far the bulk of New Zealand’s 1900 authorised financial advisers have come from the insurance selling sector.

Appropriately, given their absence of capital market knowledge, they sell managed funds, leaving specialists to select the securities, basing their choices on the wording of the mandate that defines the fund. The robot will have the mandate.

Most financial advisers by definition are double intermediating, charging their client, say 1.5% per annum, to have their money steered into the fee-charging funds of the organisations the adviser represents. There never has been value for money in this formula.

Of course there will also be ‘’advisers’’ who are more like ‘’life coaches’’, preaching on issues like budgeting, cost-cutting, even marriage guidance. They are the equivalent of Aunt Daisy in the 1950s and 60s.

Currently the media each week runs articles from these Aunt Daisies, none of whom would one ever see at an analyst meeting or a presentation discussing the details of a new security.

It is these salesmen of managed funds who are most at threat of replacement by a robot.

The life coaches are misnamed when they are referred to as financial advisers and are generally of relevance to very few investors.

I cannot see investors being threatened, as the advice will be at worst ‘’traditional’’ and there will be no room for salesmen to angle their recommendations towards higher commission payers.

In theory, robots could also be programmed to know the details of individual securities but there would seem only a distant prospect of a robot developing special understanding of individual securities, where experience and personal judgement might be required.

To explain that, think back to Edward Jones, whose clients inevitably will have benefitted from the phenomenal share price increases of Apple, Alphabet, Amazon, Facebook and Alibaba.

Yet the likes of Xero, A2 Milk and Diligent, all chosen by Milford in New Zealand as worthy of investment when their share prices were less than a dollar, would not be in client portfolios.

Robotic advice will not threaten competent sharebrokers or Milford, Salt, Devon, Mint, Aspiring or Harbour, because in each case they have capital market people studying and analysing individual securities.

They of course can be horribly wrong in their analysis.

The dreadful education provider Intueri was in the portfolios of clever fund managers and if you go back 25 years and mention the meat processor and exporter Fortex you will find ageing fund managers still apoplectic about the demise of that ‘’favoured one’’. Lies will always undo analysis.

On average those who have succeeded in capital markets should outperform robots or index funds, especially if their mandates give them the freedom to choose rather than impose formulaic constraints aimed at never being too far from the trend, whether it is up or down.

I welcome the advent of robots.

It will take over from the low value-advisers in banks and in provincial offices where there is no genuine connections with capital markets.

Investors with small sums to invest will get better and cheaper advice, and should be able to avoid the next generation of Somers-Edgars or Moses etc.

_ _ _ _ _ _

ONE other stock the robots at Edward Jones would not have selected is Heartland Bank, an organisation that has developed predictably and impressively.

When Heartland listed, its share price declined to about 40 cents, well below the Edward Jones minimum of one dollar.

Heartland made some key decisions, attracted some committed shareholders, and distanced itself from those who were commercial hazards, like George Kerr.

It appointed Geoff Ricketts as chairman, a genuinely experienced director, once senior partner of what then was a leading law firm (Russell McVeagh), and one time BNZ and Lion Nathan director. It gained the support of Greg Tomlinson, one of the country’s nicest and most astute investors.

It appointed Jeff Greenslade, then in his 40s after a career in ANZ which had brought him into the leadership era of Sir John Anderson, New Zealand’s best banker.

Greenslade is an interesting fellow, an historian, family-focussed, a traveller, a deep thinker and a banker not obsessed with social status or extreme personal wealth.

From its beginnings, a merger of Marac Finance, Canterbury Building Society and Southern Cross Building Society, Heartland has emerged as a reliable niche money lender specialising in small business loans, quality personal loans, home equity lending and higher value car loans.

Greenslade has had stable management, has progressed his ambitions steadily rather than sharply and has met his forecasted profits and dividends each year.

As a result Heartland’s share price is now $2.00, its dividend has grown each year, and it has succeeded in raising new capital whenever it has had a need. Its investors are grateful and wealthier.

My guess is that Heartland is now reappraising UDC Finance, which the ANZ will sell if it can achieve the price tag placed on the finance company, when it thought it had sold it to the Chinese company HNA.

Heartland would buy UDC at a fair price but is not in such a hurry that it would buy UDC at the silly premium price HNA had agreed.

My expectation is that UDC will be bought by an overseas bank wanting to use the UDC receivable ledger as the basis for an NZ banking licence. The price probably will be hefty.

The pricing may therefore be too rich for Heartland but Greenslade’s bank will not falter because of this.

From 40c a share to its current price of $2.00 (plus), with a record of growing dividends (9c per share, imputed), its progress would satisfy most shareholders.

_ _ _ _ _ _

ANOTHER company to have listed after the 2008 global crisis was ERoad, a small New Zealand technology company selling transport-based software.

ERoad leases software for the devices that calculate road tax for the trucking industry, and report back to the owners of the truck on issues like engine performance and driver behaviour.

Roughly half of all trucks in New Zealand now have these devices tethered to their cabs.

Drivers no longer keep tiresome log books, and road taxes are now assessed and paid without error.

Given the certainty that the world’s car and truck fleets will increasingly be powered by electricity rather than petrol, gas or diesel, there is a high probability that the revenue gathering of governments will switch from fuel taxes to road taxes.

No government could put a tax on electricity to replace fuel taxes. There would be riots in the streets!

The USA has already legislated that every one of its roughly five million trucks must have the type of device that ERoad produces.

So far ERoad has less than 20,000 sales of leases in USA. To date trucking companies have been slow to move, and enforcement has been ‘’soft’’. It will harden up in May.

ERoad has nearer 50,000 devices leased in NZ and Australia, making it nicely profitable here, but all profits have been spent trying to get scale in the USA.

At the end of the March 2018 quarter ERoad would be roughly self-funding in the USA if its sales were to rise in the quarter to 20,000 units (currently around 15,000).

At that point cash burn ceases and cash surpluses begin.

However ERoad’s ambition is far greater than 20,000 US trucks. If road taxes replace petrol tax then its target market might include 100 million cars!

Currently it has engaged First NZ Capital to advise it on its US strategy.

Local investors, who have done well so far, would be hoping that ERoad hits greater targets before any larger international companies cast an eye towards ERoad.

But the odds must be in favour of a takeover should ERoad march on with its US sales of its leases.

One would hope any takeover would be at a premium price.

ERoad shareholders will shortly be offered discounted shares in ERoad by way of a shareholder placement at $3.04. Its share price today is nearer $3.90.

Given the size of the discount one must assume every shareholder will take up this offer.

Disclosure: Most of the staff and owners of Chris Lee & Partners Ltd, including the writer, have holdings in both Heartland and ERoad.

_ _ _ _ _ _

THE news that the South African retailer David Jones has had to write down the carrying value of its DJ brand will surprise no one in Wellington.

Indeed, the directors of Kirkcaldie & Stains, who handed over to David Jones, will have anticipated the problems DJ now experiences.

DJ sought to be a department store, initially offering premium goods at premium prices, probably intending to offer a superior retail experience for Wellington’s shoppers who were not price sensitive.

Yet DJ could not retain its best NZ executive, it cut staff numbers and then began discounting, entering a me-too world where there is no unique product and no competitive advantage. All of this happened within 18 months. This seems like a race to oblivion.

Perhaps the departmental store model in New Zealand simply must be based on low prices, low margins and low-cost, poorly-trained frontline staff in low-rental premises.

How depressing! Amazon wins.

If DJ elects to retreat from Wellington, what happens to its flagship building?

Will it too revert to inner-city apartments? Come in, Ian Cassels and The Wellington Company!

My mother, who bought her hats at Kirks in the 1960s and 1970s, would be lost in the world of retailers who try to sell on price rather than quality.

Would you buy your hats on the internet?

_ _ _ _ _ _


I will be in Christchurch on Tuesday 27 February (pm) and Wednesday 28 February (am).

Edward Lee will be in Nelson on 12 February, Blenheim on 13 February and Auckland (Queen Street) on 28 February.

Kevin Gloag will be in Christchurch on 8 February.

Michael Warrington will be in Remuera, Auckland, on Tuesday 20 February, in Hamilton on Thursday 1 March and in Tauranga on Monday 5 March.

David Colman is planning trips to Lower Hutt this month and to Palmerston North, Whanganui and New Plymouth in March.

Any client or investor is welcome to contact our office to arrange a meeting.

Chris Lee

Managing Director

Chris Lee & Partners Ltd

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