During July, Australian small caps saw one major deal as Expedia bid for online travel agent Wotif.com in which we were a shareholder. Frustratingly, over our holding period we did not make money on this position as we had owned it much earlier and our entry price was above the Expedia’s takeover level.
The Wotif.com deal is an interesting one, however, in that it demonstrates the need in our job to constantly reconsider how we look at things.
Viewed from one angle, Wotif.com looked like a stale online business with a high but mature market share gradually being circled by larger and more aggressive global competitors looking to make a meal of it.
Viewed from a different angle however, and clearly the one Expedia saw, taking over Wotif.com was an opportunity to consolidate the Australian OTA (online travel agency) market, cut costs (since Expedia has already developed its own technology it can simply re-deploy this into Wotif.com) and ultimately raise commission levels by several hundred basis points.
Wotif.com charged the lowest hotel commission rates in the country and in spite of raising its commission levels to 12% of sales, was still 3-4% below comparable rates that Hotels.com and Expedia charged.
Thus a takeover at around 10x EBIT with cost savings, topline synergies and an industry structure improvement behind it makes it look like a staggeringly good deal for Expedia even at a 25% premium to its closing price.
There was more talk of takeovers in July as the press debated the ROC Oil / Horizon merger, the Woolworths (South Africa) bid for Country Road and David Jones and in larger cap territory KKR’s bid for Treasury Wine Estates. So, we are firmly back in the bankers dream scenario.
What does this tell us about the market? Very often capital market interest peaks at close to market peaks. Investors tend to act pro-cyclically – in other words they provide capital when everyone else is and shun investments when everyone else is shunning them. This rarely leads to great investment outcomes.
The hubris spreads and companies get drawn into bidding for other companies, usually destroying significant amounts of shareholder wealth in the process.
Investors in equities should heed the actions of some the great long term equity players like Buffett and Baupost’s Seth Klarman. Buffett’s Berkshire is currently sitting on $50bn of cash, the largest cash holding he’s ever had. Klarman’s fund was sitting on 40% cash at the end of 2013 and he returned a whopping $4.0bn of cash to his investors.
Klarman has likened the current market environment to the Truman Show. The Truman Show was a 1998 film starring Jim Carrey who lived in a Plexiglas Dome bubble where everything was completely manipulated unbeknownst to Carrey’s character. His life was broadcast to the outside world and all the people in Carrey’s life were actors.
Klarman continues “but there is one fly in the ointment: in Bernanke’s production, all the Trumans – the economists, fund managers, traders, market pundits – know at some level that the environment in which they operate is not what it seems on the surface”. We suspect the “Trumans” will be mad as hell when the production brought to you by Central Banker Brothers Inc draws to a close and the ‘Dome’ comes down.