Many of you reading this article would be aware that The Fifth Person has been following ARA Asset Management (ARA) very closely as we have a vested interest in the company since 2012.
I am writing this article since quite a few of you wanted to know whether we will be taking up the recent privatization offer made by a consortium led by founder John Lim.
The short answer is:
“No, we are voting against it.”
The Offer Price of S$1.78 is a price we think is not fair enough. Let me explain why.
In 2013, ARA was trading above S$1.80 and we could have sold it then for a handsome profit within a year. Obviously, we did not do that since we thought the market was not valuing the company adequately enough.
In 2011, ARA was managing around S$20 billion in assets under management (AUM). Today, the AUM has grown to S$30 billion as of 30 September 2016. Shareholders who invest in ARA would know that ARA is in the fund management business and the higher its AUM, the higher its revenues and profits are.
As much as AUM is important for the company and shareholders, ARA must continuously add value to its clients who entrust their money to ARA’s management. This value-add boils down to the performance of the fund. Since the company’s public listing in 2007, ARA has successfully divested a few private funds under their management and generated impressive double-digit returns for their clients.
Good performance will attract more money from new and existing clients and the AUM is likely to grow as long as ARA continues to achieve its targeted return.
So the question is: What is the value of a fund management company if it were up for sale?
I remember having this question answered by a fund manager who manages billions of dollars in assets. According to his observations, the value of the fund management company depends on the fund’s past performance.
If the fund’s past performance produced an average return, the fund is worth approximately 5% of its AUM. But if the fund met its targeted returns or higher, it can fetch a higher price at 7-8% of its AUM. Needless to say, if the fund is loss-making, it can only expect to be priced at less than 3% of AUM. This is an invaluable insight and comes in handy to solve our equation.
ARA’s fund performance has been terrific. With the offer price at S$1.78, the consortium is basically valuing ARA at 5.9% of its AUM. In my opinion, that figure is too low compared to the going market rate.
So, what can we do about it?
For us, we could simply take profit, happily move on, and find another idea. But for those who bought above S$1.78 in 2013, they are likely to feel disappointed. The opportunity cost is not a joke for them.
Now, minority shareholders usually think that they can’t do anything but ARA’s privatization offer (Scheme of Arrangement) is conditional upon two items.
Scheme of Arrangement. Source: ARA Asset Management
The Scheme of Arrangement requires 75% approval by shareholding. However, majority shareholders — Cheung Kong, Straits Trading, and John Lim, who together account 46.2% of total shares — will abstain from voting, which means minority shareholders will have a voice that’s twice louder than usual. The Scheme of Arrangement also requires the approval of at least 50% of the shareholders present at the meeting, regardless of shareholding. If more than half of the shareholders at the scheme meeting vote against the resolution, the deal is off.
I’ve heard of companies using their own employees (who are each given shares) to attend and vote for resolutions to ensure they get passed (though, in good faith, I highly doubt that ARA will do anything like that). On the flip side, I’m sure there are some minority shareholders who have also done the same by getting their friends and family to purchase one lot of shares in order to vote against a resolution they’re unhappy with. Of course, this tactic only works with a head-count vote — which is what ARA is using during the meeting.
On a side note, I’ve always found it enriching to attend ARA’s meetings. I have said this before — ARA is probably one of the few companies where minority shareholders should attend their annual meetings because there is a lot of things to learn from ARA’s capable and trustworthy board of directors. It was a rare sight in Singapore indeed when I witnessed directors Justin Chiu, John Lim, and Edmond Ip waiving their entitlement of director fees in AGM 2014.
ARA is one of a kind
I hate to say this but I (and we) will be voting against the privatization offer.
ARA is a one-of-a-kind company listed on the Singapore Exchange. ARA’s business model is special – the company manages real estate funds, but its revenues and profits don’t follow real estate cycles. ARA’s income is pegged to property valuation and net property income, which are relatively stable in nature. ARA’s historical dividends also give us a glimpse of the company’s resiliency. A remarkable business like this is very hard to come by and we certainly do not want to let it go at the wrong price.
Let me add one more plus point about ARA.
ARA is not your typical fund; they do not suffer from redemption issues.
During a market sell-down, a fund manager usually gets a lot of pressure from panicked clients who redeem their shares. This will cause the fund’s AUM to drop, thus lowering the income for the fund manager. However, this does not apply to ARA. Nearly three-quarters of ARA’s AUM is based on the property value of public-listed REITs. Unitholders who panic may offload their REIT shares during a crash thereby causing REIT prices to fall, but the underlying value of the REIT’s properties remain the same. So technically speaking, this doesn’t reduce ARA’s AUM.
For ARA’s private funds, ARA locks up its clients for a period of five to ten years. Should ARA perform well enough by the end of fund’s term, a new fund will be set up and new/existing clients can again invest their money into this new fund. Remember, this is an industry where people give you money because you can perform, not because you’re the cheapest. That’s the reason why, over the past five years, we see lucrative net profit margins (>50%) and return on equity (>15%) for ARA.
Perhaps the company which shares characteristics closest to ARA is Kenedix Group that’s listed in Japan. Like ARA, Kenedix manages a number of private funds and J-REITs. The company’s AUM stood at ¥1,644 billion as of Dec 2015. At the time of this writing, Kenedix is trading at a market capitalization of ¥116 billion. The market is implicitly valuing Kenedix at 7% of its AUM. Should ARA be valued at a similar percentage of AUM like Kenedix, ARA’s share price should trade at S$2.10.
You may or may not agree with this single valuation metric. As Mark Twain once said, “To a man with a hammer, everything looks like a nail.” But we do have other metrics indicating that ARA deserves a better valuation than the current offer price of S$1.78. Regardless, I think that percentage of AUM still best represents ARA’s underlying value — and S$1.78 is definitely not a price we will consider.
The fifth perspective
By doing this evaluation, we hope other minority shareholders of ARA can get a fuller picture of how much we should be fairly compensated. There is still a possibility that the deal will be called off and we will be more than happy to hold onto ARA’s shares for the long term and ride along its robust growth. Like the American private equity giant, ARA has the potential to be the Blackstone of Asia. And I, for one, hope to see ARA do well and reward its shareholders, who’ve loyally stuck with the company for years, accordingly.