Monday, 7 January 2013

Three things to consider before buying Marlin Global

Stock: NZE:MLN
Market cap: $70.7m
Interesting because: 10.4% dividend yield, 19.4% discount to NAV, prior performance issues

Swasbrook goes all Gekko

For a long time, Stockcat has wanted to see someone kick up a storm at a shareholder meeting.

You know, kind of like Gordon Gekko's (in)famous speech in the original Wall St movie. A shareholder who holds management and the board to account if the company underperforms (afterall, accountability to the shareholder is the purpose of these meetings, right?).

On the polite and conservative New Zealand business scene, this is a rare occurance. So Stockcat was pleased to hear of Marlin Global's (MLN's) annual shareholder's meeting on 1 November where investor, Chris Swasbrook, proposed that the MLN fund be wound up and cash returned to the shareholder.

Swasbrook's proposal certainly struck a nerve with the fund's manager, Fisher Funds (not surprising since Fisher earns a substantial management fee from MLN). And the proposal to discontinue Marlin certainly seemed justified.

MLN generated a total shareholder return since inception of negative 12.8%. Compare this to the +52.7% return the fund would have made if it met its benchmark, and you have some seriously negative alpha...

Anyway, to cut a long story short, the proposal was denied. MLN lives to fight another day.

Stockcat noticed that MLN's discount to Net Asset Value (NAV) has steadily increased since the 1 November shareholder meeting (from 12.8% to 19.4%). This, combined with a dividend yield of 10.4% is likely to draw some investor attention.

Buying a fund below it's NAV can be an excellent play:

  • You get a portfolio for below the cost of constructing it yourself
  • You can make a gain if the discount decreases (even if NAV doesn't change)

  • However, if you are thinking about buying MLN, first check out the three observations below. Also, see links at end of blog.

    1. Discount: high by recent levels, fair in light of issues

    [click to enlarge chart]

    MLN's discount to NAV has averaged 14.5% over the last two years, so the current discount, 19.4%, seems high. A discount of this magnitute has only been matched five times over the last two years (see chart).

    This makes MLN seem like a good deal: you pay 67 cents and get a portfolio worth 83 cents. However, Stockcat can't help thinking that the market is 'pricing in' some of the funds issues.

    There are many reasons why a fund trades at a discount to NAV. For MLN, two spring to mind:
    • Costs - MLN's expense ratio averaged 2.5% p.a. This is high
    • Future performance - based on the fund's track record, it seems fair to assume the market is not expecting great things from MLN in the future
    For these reasons, it's hard to say MLN's discount represents good value with 100% conviction.

    2. Dividend policy: a red herring

    MLN's 10.4% dividend yield for the last twelve months looks great on the face of it. But let's dig deeper.

    In August 2010, MLN introduced a dividend policy of 2% of NAV per quarter. This equates to ~8% p.a., depending on how NAV moves throughout the year.

    For a stock trading at a large discount, this seemed like a great idea. Stockcat thinks the logic went something like this:

    Pre-August 2010

    • Discount on listing = 7.5%
    • Average discount since listing = 24.5%
    • Maximum discount = 44.8%
    • = discount too high

    August 2010

    • Introduce dividend of ~8% p.a. on NAV
    • At the current share price, yield = 12.8% (since share price < NAV)
    • Investors will see this huge yield, start buying MLN
    • Share price will go up, discount will close

    And you have to give it to them, the dividend policy has certainly helped. The above chart shows an average discount of 24.5% prior to the policy, and 14.2% after. Even if the NAV of MLN's portfolio remained constant, the sheer reduction in the discount would have resulted in a double-digit gain for shareholders.

    However, new policies often produce unexpected consequences, and MLN's dividend policy is no exception.

    When a company makes a loss and pays a dividend, then the dividend is paid out of shareholders capital (since there is no profit to fund the dividend). So shareholders are essentially getting their capital returned to them - not a return on what they put in.

    In effect, the policy can result in MLN having to exit positions at the bottom of the market to fund the dividend, and draws down the fund's capital base.

    For most companies, the dividend is a signal of management's confidence in future earnings. For MLN, it seems to represent no more than a financial policy engineered to reduce the fund's discount.

    Therefore, Stockcat thinks MLN's 10.4% dividend yield is a red herring.

    3. Other discounts: try shopping around

    Sometimes looking into an interesting stock can lead you to other stocks. A recent presentation by MLN has drawn Stockcat's attention to alternative funds trading at a larger discount:

    [click to enlarge chart]

    Stockcat has not looked at these funds in detail, but they may be worth exploring before buying MLN (the highest discount is Sunvest Corp, which is cut off by the chart).

    There will almost certainly be a reason why the market is discounting these stocks so heavily, but perhaps one of them offers less reason and more discount than MLN?

    None of these funds to your liking? Try:

    Other Fisher-managed, close ended funds

    Good-quality emerging-markets funds

    Recommended articles

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