LON:CLI | CLS Holdings: Illiquidity, Inversion And Efficient Markets - Its A BUY?

8th Jul '16 by VegPatch

16 comments 10756 reads

CLS Holdings
Share price: 1200p
Mkt Cap £500m
Net asset value per share 2080p

CLS Holdings (LON:CLI)
Illiquidity. Makes you feel like a champion in the way up. On the way down you feel like a prize idiot. This is the case with CLS Holdings. If you just look at the share price of CLS you would conclude the shares are a sell, having fallen from just below 2000p in Sept 15 to 1200p today. Everyone is scared of UK property, commercial funds are being gated and property prices must be going lower. However if you listen to Charlie Munger it (illiquidity) can be used to your advantage "think forwards and backwards - invert, always invert". My question therefore in buying CLS is not “how do I make money”, rather “how do I not lose money”. Think back to Buffett and Mungers #1 rule in investing "don't lose money". Rule #2 "refer back to rule #1".

In some senses I am a rubbernecker. Consciously slowing down to look at metaphorical car crashes; in this case stock exchange car crashes. There is something about bargains when most have fled that excites me. But not all bargains are really bargains, so siffting the wheat from the chaff is essential. I feel CLS is a bargain. Let me explain.

CLS is a listed commercial property company with one third of its assets in France and Germany and two thirds of its assets in the UK, mainly around Greater London eg Bromley, Bracknell or New Malden but not a huge amount in prime Central London. The assets are specifically non prime, higher yielding offices, typically with yields above 6%. CLS is an active asset manager and for that reason the average lease length is lower than most property companies at just under 5 years to first break. This allows CLS to refurb buildings or sell those where there is less potential. It is not a buy and hold property company in terms of its assets. The largest tenant is the UK Govt and the top 15 clients account for 48% of group rents. About 50% of group rents are indexed, which will prove helpful when inflation increases next year as a direct impact of a weaker GBP.

To help with financial flexibility each asset is put into its own SPV financed by non…

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VegPatch

11th Jul '16

I mentioned in the above review that the market will not always factor positive management actions into share prices when those shares are out of favour. To me, today's announcement is a case in point:

CLS has announced the acquisition of 2 German properties for€49.5m and a net initial yield of 7.1%. The acquisition costs are being funded from internal cash, probably from the recent disposal of its remaining Swedish assets, and from lending banks. I met management a few months ago and they were telling me that certain local German lenders are falling over themselves to lend to property. CLS has made Acquistions this year where the 7 year funding rate was under 2%. So if you are borrowing at 2% and getting a rental yield of 7%, that is clearly cash flow enhancing, as well as diversifying the portfolio away from the UK.

Another example of positive management actions.

Discount to headline historic NAV is a whopping 41%.

Illiquidity - great on the way up, terrible on the way down (unless of course you are buying!). Use it to your advantage.

ExpectingValue

I also hold.

I ran the same sort of analysis you did - impair the London assets and see how NAV holds up. My conclusion was that it holds up rather well; despite the higher LTV, they have a diversified portfolio across Europe, a portfolio of corporate bonds (whose spreads have tightened YTD) and a holding in a listed European real estate company (Catena) which has increased in valuation. All of this mitigates some of the pressure in London.

They also have, in my opinion, the most sensible management. Consistently buying back shares below NAV, running the lowest cost of debt, and possessing the cheapest portfolio on a £/sqf basis - so they should be less susceptible to danger in the ultra-prime, ultra-expensive central stuff whereby the speculative value of the land is a big part of the supposed market valuation.

My only disappointment/curiosity is that they've stopped with their ad-hoc share buybacks. I assume there is a legal/corporate reason, but now seems to be better than ever.

extrader

Hi all,

I like the family involvement/alignment of interests : apart from Sven Morstedt''s 50.69%, brother Bengt has another 6.61% and they each have a NED on the Board.

AIUI, the share buyback in lieu of 'conventional' dividends suits Sven's tax status. The absence of dividend may also keep it off PI's/ II's radar screens a bit. I think CLI is a relatively undiscovered gem .

ATB

Carey Blunt

Up 20% today - a good call vegpatch, sadly I only just got round to reading this and missed out on buying. You are right on the money at the moment with the property shares. I bought some BVS based on your comments on housebuilders last week and i'm 18% up on those already.

A pleasure, just need to find a suitable employer to recognise that as well !

In this case it's illiquidity working in our favour, rather than against us

18th Aug '16

CLS Holdings 1370p

CLS reported its h1 numbers which were strong. The EPRA NAV was UP 10% to 2282p and the net assets per share (on triple net basis) rose 8% to 1952p. This was driven by investment property gains of 0.4% in local currency and 5% in GBP terms as the euro strengthened against Sterling during the period. The assets are well spread "with 63% of its properties in the UK, 20% in Germany and 17% in France. The investment property portfolio contains a broad base of 545 occupiers across the three markets generating rental income well in excess of the Group's cost of debt. Approximately 37% of rents are paid by governments and 24% by major corporations, and around half of rents are subject to indexation.". France and Germany saw revaluation gains, whereas the UK assets fell marginally.

In terms of the capital structure, debt to gross assets is 40%, interest cover is 3.6x and the cost of debt fell by 13bps to 3.27%. Interestingly recent SPV debt refinancings in Europe have been done at 1.78% !!! This compares to the Group's net initial yield of 5.7%, which is 243bps above the cost of financing. Clearly the spread between Net initial yield and cost of debt makes purchases attractive, but only as long as the properties rise in value over time. Debt is 59% fixed, 41% floating.

To me the Group looks attractively financed at low rates, with each building in its own SPV with its own debt which enhances flexibility.

Management are totally focused on creating shareholder value and have offered to tender for 1 in every 95 shares at 1650p, a 20% premium to the current share price but crucially a 27% discount to the 2282p NAV per share. Hence money is returned to shareholders in lieu of a dividend but it is enhancing to The NAV per share as shares are bought back below the current NAV. This tendering above the current share price but below NAV per share has been on going for a long while and creates real long term value for shareholders.

So as i expected in the last post the NAV has risen, and the shares trade at a 40% discount to NAV. The U.K. Assets may see some pressure driven by open ended fund forced sellers like Aviva or Standard Life, but I feel a dramatic fall is unlikely unless we enter a severe recession. Even so the discount to NAV has already taken much of the negative scenario into account. Absent a recession, I feel there is room for the NAV gap to close.

This is still one of my favourite shares here.

Please DYOR and this is not a recommendation to buy or sell, rather my own view.

VegPatch

1st Sep '16

Small change to the tender offer, which has been driven by the shareprice performance. Instead of agreeing to purchase 1 in 95 shares at 1650p, the company is now offering to tender for 1 in every 100 shares held at 1750p. Given the current shareprice of 1580p it makes sense to tender shares. Of course you can then use the proceeds to buy back the shares you sell at 1750p at todays price of 1580p, thus increasing your economic interest in the company (assuming you have enough profits to offset the c£10 dealing fee and 0.5% stamp duty) !

24th Oct '16

2 disposals announced today which continue the run of good news.
1. Disposal of property in Neasden for £18.9m, a mere 39% above its Dec 15 valuation, representing a 3.3% net initial yield. Buyer was the UK Govt...nice!
2. Property in Nova Antipolis, Antibes for EUR9.4m, 2.4% above the Dec 15 valuation.
The cash will be recycled into higher yielding properties.

I still believe there is upward pressure on the Net Asset Value from good disposals like this, the share buyback and the general market tone (see great Portland estates, land securities etc). Shares still trade at a c29% discount to NAV. Remains my favoured real estate company

Hi VegPatch,

I'm with you ! What's not to like ? 'Family-controlled', conservative, good FX/geographic spread, good-quality tenants etc etc.

ATB

Ken Lowes

Hi VegPatch
I have just come across this thread and I have to admire the fact that you didn't just talk about buying you bought. Whilst I was reading I found some of the rational a little wishful, that was until I realised that todays price was 30% higher, so what the hell. But I don't understand why the company bought back shares at such a premium to the market--- I have clanging warning bells ringing in my ears-- or is it just tinnitus? I would be heading for the hills but then I'm like that, sell too early. Great call VegPatch you don't need a job, but if you keep getting it right you might be needing staff.

25th Oct '16

Hi Ken
It buys back shares at a premium to the market price but at a discount to net asset value, thus enhancing the net asset value for those that wish to remain invested. It does this instead of paying an ordinary dividend.

I will show you the rough maths

H1 net assets £939m
Shares outstanding 41.15m
Net asset value per share 2282p
Share price 1550p
Discount to NAV : 32%

It then successfully tenders for 1% of the company's shares at 1750p, which is c13% above the prevailing share price but 23% below NAV

The share count falls to 40.74m

New NAV : 939m / 40.74m shares = 2304p

So we have NAV per share accretion

The company does this tender offer 2x per year, post interims and post finals.

Hi all,

AIUI, payout is by way of tender offer = capital gain , rather than income taxable dividend because it suits the Morstedt family tax position.

This may contribute to CLI being somewhat 'below the radar' to investors, since it doesn't meet the conventional 'income generating' criterion.

ATB

Thanks for that, I understand. But wouldn't the company achieve the same result buying throughout the year from the open market, only cheaper. The other side benefit would be the share price would be firmer, depending upon the volume. Or am I heading to jail for an illegal action? I have an awful feeling that I am exposing my underwear and should be expected to know the answer.

You can do either
Sometimes it's less hassle to do it in one go via tender offer. Also you have certainty of price paid, whereas an on market buyback can take time if volumes are low and the price can jump around.
CLS is not the most liquid share so maybe if management bought via a rolling share buyback the price would rise too much. That would be good from an existing shareholder point of view but counterproductive to actually buying enough shares at the right price
Hope this helps

26th Oct '16

Thanks Vegpatch all is explained I also thought extrader had a good point considering the large family holding.

8th Feb '17

News today of formal instatement of a dividend policy, to replace the historic policy of opportunistic buybacks of shares below NAV. Its a value neutral move for me as i just care about total return, although it will definitely bring more income investors potentially into the investment universe.

Shares now 1644p

thats +37% since July 2016. Pity they aren't all that good !

CLS Holdings: Illiquidity, inversion and efficient markets - its a BUY?

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VegPatch

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