For similar reasons, I’m in Nairobi this week for a series of company visits and doing some boots on the ground information gathering. It’s worth it. You simply can’t get the same information by reading about things on the internet, 3,000 miles away.
For an old-school value investor like me, operating in African frontier markets is like stepping back in time. Information dissemination remains inefficient, and that can provide me with an edge.
It reminds me of when I began my stock market career in South Korea, in 1996. Back then, one of the things I had responsibility for was monitoring the Korean-language newswires and financial press. I would summarize the day’s market-moving news for our Hong Kong, London, and New York trading desks.
This activity could actually add value. It was the early days of the internet, and instant electronic disclosure to the whole word had not yet become the norm.
Good old-fashioned news gathering, on the spot, in the emerging markets – as Korea was then – gave our clients an informational advantage. Nowadays, deskbound analysts sitting in Boston, London, or New York have virtually instant access to all that information and more.
One day last October I came upon a full-page newspaper announcement about a takeover deal. The parent of the dominant local cement company in Tanzania, which I already own shares in, had made a bid for a smaller competitor.
As I closely follow the cement industry here, meet with the CEO of the largest player in the industry regularly, and have lunch almost every weekday with a local businessman who is in the cement distribution business, I had sensed a deal was brewing. But now it was confirmed.
And I was astonished at the price mentioned for the buy-out. Though still not final, it was 3,157 Tanzanian shillings. I couldn’t believe it. The shares of the target company had been trading at only 400 shillings, as the company is suffering under a crippling debt load.
While it has been making money at the operating level, all that cash flow was going out the door to the debtholders, and nothing has been left over for shareholders in recent years.
I immediately contacted my local broker, as I knew he had been selling a block of shares in the target company. I told him I presumed the seller was aware of the deal announcement, and assumed they might no longer sell, or at least would demand a much higher price.
To my further surprise, he contacted me some hours later saying they were still prepared to sell. “We just need to get out.” They had told him.
Later that day, we did a block trade for nearly a million shares. The bulk went to the African Lions Fund I manage for clients. But the fund was already nearly fully invested and had limited cash at the time. It couldn’t take the whole block.
So, the rest went to me, and my business partner Peter Tan. And the best part was, the sellers’ broker hadn’t even raised the price. We bought at 400. So, if the deal closes at 3,157 TZS, we stand to make as much as 2,757 per share, or nearly 7 times our money!
Of course, there is material risk that the deal won’t be completed, and the final price is also subject to closing cost adjustments.
It is by no means a risk-free transaction. But I have been constantly monitoring the market for signs of progress with the deal, and I am very comfortable that the odds heavily favour it being done.
The seller had been selling off their 5% odd stake in the company, Tanga Cement, over many months prior, and the block I secured was the final one at those low prices.
Sometimes being in the right place at the right time, with the right information set can lead to remarkable investment results.
Already the shares we bought at 400 have risen 5-fold to 2,000, as the takeover deal inches closer to completion.
One of my own core investment strategies has long been Takeover Arbitrage.
I do exactly what I did with Tanga Cement. I wait until a legally binding offer for a company’s shares is announced to the market. II then take a position in the stock below the price the suitor is offering, wait for the deal to “close,” and the payout to come.
Typically, I focus on Australia for these trades. Never ever in my career have I come across a takeover deal as lucrative as the one I found while drinking my morning espresso in Dar es Salaam.
Recently, I bought more shares in Tanga Cement at 2,000. It’s now 4 or 5 months closer to the likely deal completion. And if we assume a final price, conservatively, of 3,000 per share, there is still 50% potential upside… in just a few months.
Moreover, with a debt-standstill agreement in place, and an improving operating environment, Tanga Cement is again profitable. So, even in the unlikely event the takeover fails, it’s not headed back to 400 per share. I have a worst-case estimate of 1,000.
With 50% upside, and 50% downside, but a much greater probability of the upside eventuating, it was rational to do another trade. So, when another local broker came along with two more blocks of shares for offer at 2,000, I leapt at it.
But you don’t need to be a big investor like me and buy a block. The shares are also trading freely on the Dar es Salaam Stock Exchange in small volumes daily, and anyone willing to do the work to set up a local account can buy them.
More generally, the inefficiencies of frontier markets, the slow dissemination of information, the frequency of “price insensitive” sellers, and a whole host of other ingredients, make for a heady cocktail of potentially huge profits.
I’m here in Nairobi this week for exactly that reason, meeting with managements of listed companies, local fund managers, a family office, and several local individual investors. I’ll be sure to follow up with my findings sometime next week.
Until next time,
Founder, Global Value Hunter
& African Lions Fund Ltd.