A fair price to pay De­fy­ing down­turn

But ex­pect more squeals about Madi­son/Rede­fine ApexHi merger But who can we back in the fu­ture?

Finweek English Edition - - Companies & Markets - MICHAEL COUL­SON coul­sonmh@gmail.com 28

THE NOT SO IN­VIS­I­BLE ELE­PHANT in the room at Madi­son’s re­cent re­sults brief­ing was the pro­posed merger with Rede­fine and ApexHi. I sus­pect both sup­port­ers and op­po­nents of the deal came away with their ini­tial views re­in­forced – though there was a broad ac­cep­tance it will go through, as it’s un­likely to have been put for­ward without as­sur­ance of suf­fi­cient unit-holder sup­port.

What­ever the ben­e­fits to other par­ties, it looks a great deal for Madi­son. As ex­ec­u­tive di­rec­tor Wolf Ces­man con­ceded – per­haps more re­veal­ingly than he knew – Madi­son has no as­sets other than its in­tel­lec­tual cap­i­tal, which can’t be val­ued. And it’s well known some in­vestors are un­happy with the quan­tum of its man­age­ment fees from ApexHi, Hyprop and Rede­fine. The Hyprop con­tract ex­pires at year-end 2009, Rede­fine in Au­gust 2010 and ApexHi at year-end 2012.

De­fend­ing Madi­son's stew­ard­ship, Ces­man ar­gued Hyprop has flour­ished, its in­vest­ment in Canal Walk (Cape Town) alone hav­ing ap­pre­ci­ated from R1bn to R4bn. In­vestors may be more in­ter­ested in unit price per­for­mance, which is less im­pres­sive, but even so it’s in­creased from around 1 500c to 4 000c over the past five years.

At best, though, the man­age­ment con­tracts would be re­newed on terms less favourable to Madi­son; at worst, they might be can­celled. The merger will en­sure the re­newal of the con­tracts, which will now be in-house, so the costs will dis­ap­pear on con­sol­i­da­tion.

Of course, it’s a slight ex­ag­ger­a­tion to say Madi­son has no as­sets: it holds in­vest­ments in ApexHi and Rede­fine worth R41m. It claims a net as­set value of 136c, which is about 20% of its cur­rent unit price of 630c, which has pro­vided lit­tle cap­i­tal growth since it was listed three years ago. So the merger will give Madi­son in­vestors (es­pe­cially Ces­man and his part­ner, Marc Wainer) a proper as­set base and more as­sured longterm in­come flow.

That seems a fair price to pay for the as­sumed cut in equiv­a­lent dis­tri­bu­tion by a post-merger Madi­son to 68c from the 90c a stand-alone Madi­son may pay. The trans­ac­tion will have only a mi­nor ef­fect on in­vestors in ApexHi A and B units. The other big loser is ApexHi C units and the win­ner in­vestors in Rede­fine.

The lat­ter will go up from 68c to 75c; the for­mer down from 85c to 78c. So it does seem that, con­firm­ing the com­plaints by Alan McConochie I dis­cussed last week, it’s the ApexHi C unithold­ers who come out worst. The ar­gued jus­ti­fi­ca­tion for that is their hold­ings are the most risky and highly geared. Well, that may be true. But the jus­ti­fi­ca­tion for that, in turn, was that those units car­ried the high­est short-term growth prospects. The pro­posed deal seems to have lost sight of that; and the ex­tra risk those units carry is de­bat­able in any event. So there could well be fur­ther squeals of com­plaint from that quar­ter. (See story on p.30.)

LIKE SOME OF the su­per­mar­ket groups and pri­vate hos­pi­tals, phar­ma­ceu­ti­cal shares are seen as safe de­fen­sive stocks in trou­bled mar­kets. That’s been true in South Africa. But what are the prospects for such shares in the fu­ture? Much de­pends on the mar­kets the com­pa­nies fo­cus on and – with pres­sure on con­sumer spending – generic medicines seems the place to be.

Peo­ple will al­ways buy nec­es­sary medicines, but in the cur­rent eco­nomic cli­mate if they can buy down they will. That’s even ev­i­dent with some med­i­cal doc­tors. If pos­si­ble, they of­fer pa­tients a generic al­ter­na­tive if there’s one avail­able and the doc­tor be­lieves it can do the job as well as the pro­pri­ety drug.

Aspen Phar­ma­care is the big go­rilla in the gener­ics mar­ket, re­port­edly the largest man­u­fac­turer of such medicines in the South­ern hemi­sphere. It re­cently put out a very up­beat trad­ing up­date on in­terim re­sults, due for release on 5 March. Earn­ings per share were fore­cast to be 45% to 60% higher, head­line earn­ings per share by 65% to 80%.

As a de­fen­sive stock Aspen has been more than re­silient. Its share price has gained close to 50% over the past year, more than 6% of that com­ing since its trad­ing up­date was re­leased. But that’s re­flected in the share’s rat­ing, an eye-wa­ter­ing earn­ings mul­ti­ple of al­most 20 times.

What are the other op­tions? Ad­cock In­gram in­cludes gener­ics in its port­fo­lio, but the fo­cus is more on branded prod­ucts and hospi­tal prod­ucts. It has some strong over-the-counter brands, in­clud­ing Panado, Myprodol and Sy­nap Forte.

How­ever, the Adco gener­ics are im­por­tant and CE Jonathan Louw says with its last re­sults gener­ics were show­ing vol­ume growth. How­ever, looking for­ward he says the strat­egy is to grow Ad­cock into a lead­ing, world-class branded health­care com­pany. One at­trac­tion for in­vestors is Ad­cock’s strong bal­ance sheet, vir­tu­ally un-geared and with cash close to R400m. The group has am­bi­tious spending plans, ear­mark­ing more than R1bn to up­grade its plants and for pos­si­ble ac­qui­si­tions.

Says Louw: “Ad­cock’s


busi­ness strat­egy is based on lever­ag­ing its in­dus­try lead­ing foot­print in branded pre­scrip­tion prod­ucts and over-the­counter and hospi­tal prod­ucts, thus en­sur­ing a loyal cus­tomer base of doc­tors, phar­ma­cists and re­tail­ers.”

That’s a solid client base. How­ever, Ad­cock might find a larger ex­po­sure to gener­ics more use­ful in the year ahead. But maiden re­sults since un­bundling from Tiger Brands and list­ing sep­a­rately on the JSE last Au­gust were sound. Share price per­for­mance has also been good in the cur­rent volatile mar­ket but, like Aspen, that’s re­flected in an earn­ings mul­ti­ple of more than 20 times.

That leaves Ci­pla Med­pro (for­merly Enaleni), the small cap among the listed phar­ma­ceu­ti­cal groups. It’s spent close to R200m up­grad­ing its plant in Dur­ban, where it makes some of its own prod­ucts and does con­tract man­u­fac­tur­ing for other com­pa­nies. But Ci­pla’s fo­cus is far less on gener­ics and much more on chronic medicines. It’s a good niche mar­ket; but there are some generic al­ter­na­tives avail­able.

At least Ci­pla’s share is on a more comfortable 11 times earn­ings mul­ti­ple. Share price per­for­mance over the past year – up al­most 2% – is not bad but nowhere near as good as Aspen and Ad­cock. At best it’s prob­a­bly more of a spec­u­la­tive than de­fen­sive share.

Ci­pla’s an­nual re­sults are due on 19 March. CE Jerome Smith wasn’t avail­able for com­ment, but an up­date on op­er­a­tions should be made with its re­sults.

Asked about the im­por­tance of the gener­ics mar­ket, Aspen CE Stephen Saad says qual­ity of man­u­fac­turer is a key driver of per­cep­tions. “The fu­ture in al­most all health mar­kets is de­pen­dent on procur­ing qual­ity, af­ford­able health­care. In de­vel­oped economies age­ing pop­u­la­tions are strain­ing health­care sys­tems. In emerg­ing mar­kets in­creas­ing af­flu­ence and pop­u­la­tion growth means more peo­ple procur­ing medicines and de­mand­ing af­ford­able al­ter­na­tives without com­pro­mis­ing qual­ity. In short, the generic in­dus­try has sales growth. We’re fo­cused here and will re­main fo­cused here.”

But Saad does point out much of the growth re­flected in the trad­ing up­date has been driven by in­ter­na­tional ex­pan­sion. Some an­a­lysts seem a bit wary of Aspen’s strong share price per­for­mance, and one con­sen­sus view is that it’s a sell. We don’t think so.

staffing in­dus­try. It’s the re­sult of what Wil­son calls “un­scrupu­lous play­ers”.

“The staffing in­dus­try is a sig­nif­i­cant fa­cil­i­ta­tor of work in SA, as­sign­ing around 400 000 to 500 000 jobs ev­ery year. It’s also one of the largest con­trib­u­tors to skills de­vel­op­ment in this coun­try.”

If there’s go­ing to be reg­u­la­tion of the in­dus­try Pike says it will be aimed at what he calls the “bakkie bri­gade”. It’s aligned to cer­tain in­dus­tries, such as build­ing and construction, where staff are placed with mea­gre pay and lit­tle ben­e­fits. There are also the small labour bro­kers, of­ten spe­cial­is­ing in pro­vid­ing staff when there’s a strike. “In prin­ci­ple, we wel­come reg­u­la­tion that would tar­get those peo­ple ex­ploit­ing work­ers.”

Wil­son says the first quar­ter of Kelly’s fi­nan­cial year will prove the soft­est, but says there will be a grad­ual im­prove­ment from this month and ex­pects a bet­ter sec­ond half.

Pike also says it will be a tough year. “But how­ever gloomy and bleak the eco­nomic pic­ture be­comes we be­lieve we’ll out­per­form eco­nomic growth.”

Share prices have been ham­mered, per­haps to the ex­tent where in­vestors could con­sider good re­cov­er­ies in em­ploy­ment agency coun­ters.

Wants a world class branded health­care com­pany. Jonathan Louw Peo­ple de­mand af­ford­able al­ter­na­tives without com­pro­mis­ing qual­ity. Stephen Saad

Mis­un­der­stood in­dus­try. Richard Pike

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