|Shares Out. (in M):||168||P/E||16.1||14.1|
|Market Cap (in $M):||1,524||P/FCF||16.1||14.1|
|Net Debt (in $M):||-741||EBIT||17,500||20,000|
I am recommending a long in PanaHome, a Japanese merger special situation where shareholder pressure has created an asymmetric risk-reward opportunity.
PanaHome is a high-quality Japanese homebuilder with ~55% of its market cap in net cash (¥565 per share of cash), valuing the core operating business at just ~4x EBITDA. The Company has historically traded at a significant discount to Japanese homebuilding peers (~7x – 8x EBITDA) due to an unfavorable corporate governance structure - 54% of its shares are owned by Panasonic, who operates PanaHome as a controlled subsidiary for its benefit.
In December 2016, Panasonic announced a takeover for the rest of PanaHome through a share exchange of 0.8x Panahome shares for 1 Panasonic share, representing at the time of announcement a very modest 7% premium to PanaHome’s unaffected share price.
A Hong Kong activist fund called Oasis Capital Management has subsequently emerged as PanaHome’s largest minority shareholder with a 5% shareholding. Oasis is advocating for a substantial improvement in the pricing of the takeover offer through either a higher exchange ratio or a large special dividend of the Company’s cash position. They are litigating the fair value appraisal in Japanese courts and petitioning other shareholders in front of an upcoming June shareholder vote. Furthermore, Oasis has positioned the deal as a broader test of Japan’s commitment to the corporate governance reforms that have been advanced under Prime Minister Shinzo Abe. Many of these reforms deal specifically with improving the protection of minority shareholders. As a result, the PanaHome deal is receiving high levels of scrutiny from both the media and business community.
Oasis believes that Panasonic’s offer provides no credit for PanaHome’s large cash balance and that the fair value for the business is closer to ¥1300-¥1600 per share when factoring in the cash, an analysis that is fairly self-evident. Oasis also believes that the process and methodologies used by PanaHome’s board to justify the takeover price are highly flawed. For example, the exchange ratio was set below the midpoint of the calculated fair value ranges and the comparable peers analysis includes a number of incomparable small and illiquid peers while omitting some very relevant peers (see below).
I believe Oasis’ intervention now provides a setup that is highly favorable, with limited downside but an attractive return if terms are improved even modestly. Even a low probability of an improvement is likely to justify a breakeven on the trade given the limited downside. Under the current terms of the Panasonic offer, investors stand to lose ~1% at the current share price, inclusive of interim dividends between now and an August 2017 closing. However, in the event that Panasonic reprices the offer, I believe there is scope for as much as a ~60% gain over the next few months based on a reasonable fair value of the business in addition to the nature of Oasis’ public proposals (they want to see either a higher exchange ratio or a special dividend of ¥670 and a constant 0.8x share exchange ratio). While the probability of an improvement to this extent is low given the structural governance challenges, even a modest improvement in terms would represent a highly compelling IRR for investors (20-30%+ IRR).