Capital raises are coming – but will the price be right?

Castle Point takes a critical look at some of the ASX and NZX capital raisings we have seen so far as a result of Covid-19's economic impact. Do they represent good value for investors?

As a result of the severe economic impact from Covid-19, we expect numerous companies will need to raise capital in the near-term.

Potentially these will offer up some fantastic long-term investment opportunities.

This process has already started. Below is a list of some of the NZX and ASX capital raisings so far.

• Carbon Revolution 40% discount. Raised $28 million, market cap $170 million
• oOh!Media 37% discount. Raised $167 million, market cap $155 million
• Cochlear 16.7% discount. Raised $880 million, market cap $12 billion
• Kathmandu 51% discount. Raised NZ$207 million, market cap $289 million
• Webjet 55% discount. Raised $346 million, market cap $509 million
• IDP Education 7.9% discount. Raised $225 million, market cap $2.9 billion
• NEXTDC 15% discount. Raised $672 million, market cap $3.1 billion
• Flight Centre 27.3% discount. Raised $700 million, market cap $1 billion
• Auckland Airport 7.5% discount. Raised $1.2 billion, market cap $6.1 billion
• Reece 12.5% discount. Raised $600 million, market cap $4.87 billion
• Southern Cross Media 20% discount. Raised $170 million, market cap $88 million
• Shopping Centres Australia 8.5% discount. Raised $300 million, market cap $2.2 billion
• Oil Search 23% discount. Raised US$700 million, market cap $4.2 billion
• Megaport 8.9% discount. Raised $50 million, market cap $1.49 billion
• QBE Insurance 9.4% discount. Raised $1.2 billion, market cap $11.9 billion
• Centuria 5.1% discount. Raised $140 million, market cap $960 million
• InvoCare 7.8% discount. Raised A$200 million, market cap $1.3 billion
• EOS 17.4% discount. Raised A$134 million, market cap $650 million
• Vista Group 25% discount. Raised $65 million, market cap $233 million
• Bapcor 8.5% discount. Raised $210 million, market cap $1.4 billion

The problem is, despite the dramatic negative returns from equities over March, many New Zealand companies are still not particularly cheap, perhaps not even reasonably priced.

The New Zealand equity market now stands as a global outlier in terms of price being paid for its earnings.

This is mainly due to the eye-watering price-to-earnings multiples on Fisher & Paykel Healthcare and a2 Milk, which have prices that are 74x and 39x their previous financial year’s earnings respectively.

Selected equity market historic price-to-earnings ratios March 2020

NZX 50 ......................................... 21
ASX 200 ....................................... 16
S&P500 ........................................ 17
MSCI Emerging Markets .............. 12
MSCI European Composite ......... 16
MSCI World .................................. 16
Hang Seng ................................... 10

Source: Bloomberg

In New Zealand recently, Auckland Airport has managed to raise $1 billion in a share placement at $4.65. We like Auckland Airport. It is a classic moat, a critical infrastructure asset with no competition.

However, our absolute return focused Ranger Fund did not bid for Auckland Airport shares. The reason being that at $4.65 it remains an expensive company.

Based on a decent earnings recovery in three years it would be on over 30x earnings. Earnings will not even exist for the next year, as the company is currently loss making. Dividends are probably years away.

The journey over the next three years will be very challenging. In our opinion, the share market is likely to have a fundamental reset lower regarding the price it will be willing to pay for this business.

A reasonable price for Auckland Airport is, in our opinion, considerably lower than $4.65. At $2.50 you are buying Auckland Airport on 15x earnings of $250 million, which is still a decent multiple on a profit that it is unlikely to make until FY2023 at best.

Another recent local capital raise was Kathmandu. We did not look seriously into this one. In hindsight it was probably a good short-term trade but that really isn’t what we do.

It has always been our opinion that retailers should not carry much debt if they are already leveraged through lease obligations.

Pumpkin Patch was a good example of what can happen to a retailer with high levels of lease obligations and debt. A couple of tough years and they might disappear.

The $200 million capital raise at a heavy discount to the share price didn’t even clear Kathmandu’s net debt of $300 million.

It is our opinion, that the business still has significant work to do to cope with the $100 million debt that remains.

The most recent local capital raise was Vista Group. At $1.05 we did participate but received a very small allocation, as the bulk of the new shares went to existing shareholders.

We believed that the $65 million raised would see the company through to the other side, which would trigger a significant relief rally.

However, it will not be until cinema operators are building new movie theatres that Vista will return to full profitability, the risk is that this is several years away.

There will no doubt be more capital raisings and hopefully some will offer up a price that will make sense given the challenges that many of these businesses are likely to face.

And some of the companies that have raised capital like Auckland Airport may still end up at a price that makes them a suitable candidate in time.