McMillan Shakespeare: tragedy or farce?

FBT changes blindsided McMillan Shakespeare leaving shareholders with more questions than answers.

Summary: MMS shareholders have been left in a “no-man’s land”. The value of its shares hinge on the result of the next election because the Opposition has stated that it will not adopt nor support the Government’s FBT proposal.
Key take-out: It is impossible to value MMS shares until after the federal poll.
Key beneficiaries: General investors. Category: Shares.

Readers will know that McMillan Shakespeare Limited (ASX:MMS) has featured in my growth portfolio for the last 15 months and contributed significantly to the excellent growth portfolio returns in 2012/13. Alas now everything concerning MMS is a blur following the extraordinary decision and then announcement of the Government last week to change the tax law concerning the Fringe Benefits Tax (FBT) arrangements for both employer provided cars and novated leases.

Let’s recap the events that appear to have led to this hasty decision.

First, the Government decided to drop the Carbon Tax from 1 July 2014 and move to an Emission Trading System based on the European price of carbon credits. The government had previously deemed it necessary to provide financial assistance to low income earners to offset the increased cost of living due to the Carbon Tax. Despite the Carbon Tax being abolished it has decided to maintain this financial assistance. This matches the decision of the Liberal Opposition who claims that in government they would keep the financial assistance package despite cancelling all forms of carbon taxing. So the Government has decided to maintain the financial assistance to some by taking financial assistance from others. Or has it?

At this time the fiscal situation of Australia is in sharp decline but it remains a secret as to by how much. However, we do know that Australia’s economic growth is stalling, corporate profits are declining, unemployment is increasing, credit growth is tapering off and retail sales growth is limping. Then we have the recent announcement that the Papua New Guinea (PNG) government will now receive a massive increase in their potential aid program from Australia. This is under the guise of the weekend’s asylum seeking deal which has no cost statement except the $137 million contract with Decmil Limited (ASX:DCG) to build a facility at Manus Island that was strangely announced weeks before the actual PNG agreement.

What is interesting about the asylum seeker proposal is that PNG is a third world country that has a low per capita income and a significant squatting population surrounding major towns. Thus, Australia’s largesse may well result in an illegal immigrant being afforded better accommodation than those of the legitimate citizens.

However, I digress but let’s accept that the projected deficit of the Australian Government announced in the May budget is rapidly deteriorating as the wheels literally fall off the budget projections.

A simple question: Is FBT a rort?

Listening to talk-back radio plus reading hundreds of blogs in Business Spectator and letters in mainstream press, it appears that opinion is equally divided. A common connection of those that claim the existence of an FBT rort is that they do not have access to FBT funded cars under salary packaging or leasing arrangements.

However what is a rort? I personally do not think it is the legally sanctioned arrangement of one’s affairs to maximise pre-tax income. Similarly I do not think that the granting of carbon tax concessions to the low-income earners is a rort even though its basis will disappear. Neither do I think the purchasing of $999 of goods on the internet to avoid GST is a rort. Rather it seems a logical tax minimisation act to undertake because our government is too lazy to collect GST.

However, to my eye the abuse of a credit card or the accessing of a corporate box by people with a fiduciary duty is.  Actually I can think of many rorts – but utilising FBT arrangements on a company car – I do not think so. Rather is an allowable salary arrangement sanctioned by the Tax Act.

The FBT rules concerning the leasing of cars has been in existence for over 26 years and has been reviewed by two broad tax enquiries. Two years ago the Henry Committee advised Parliament to adopt the statutory 20% of cost FBT rule. In contrast, the newly proposed change by the Government has been made with no public enquiry, no published research and no warning. There is nothing on the public record that I or anyone else can claim actually estimates the ultimate fiscal and economic effects of these FBT changes. It would appear that Treasury, the Tax Office and the Department of the Minister for Industry do not share information with either each other or the public. Indeed it is incredible to remember that the former Prime Minister, Julia Gillard, ordered a crisis meeting in early June to examine the future of the nation's automotive industry in the wake of the decision by Ford to quit manufacturing in Australia.

Clearly, the changes will affect MMS, its competitors, its staff, the estimated 300,000 employment-related car leases, 40,000 direct automotive employees and the tens of thousands employed in related industries. Whilst that is not a reason to not propose change – it is certainly a reason to do so in a sensible way. Whatever one’s view on the FBT arrangements for salary packaging of cars, the sudden announcement and its complete lack of concern for those affected, shows that those who made the decision completely lack common commercial sense.

Conclusion

So shareholders of MMS are now left in “no-man’s land” with a ridiculous situation whereby the value of its shares hinge on the result of the next election because the Opposition has stated that it will not adopt nor support the Government’s FBT proposal.

Arguably MMS shares cannot trade in this situation because they will be subject to immense speculation and manipulation. The ASX should (but won’t) insist that the shares, should they be relisted, cannot be shorted given the bizarre situation.

So at this point I cannot definitively declare what MMS shares are worth. I can say that the “required return” or risk of the shares will lift and the value will fall until there is a definitive declaration of the tax law. Until then, we will have to analyse the competitive framework of the market because some competitors of MMS may simply disappear.

Finally, I note that the Treasurer has stated that the new tax law will merely require a “three-month log” over a five-year period, to satisfy the calculation of FBT which is based on usage and not value. He believes that this is a small hurdle, and it may well be, but it seems a strange proposal because the new rules “may” have started last week and five years ends in 2018.


John Abernethy is the Chief investment Officer at Clime Asset Management, one of Australia’s top performing equity fund managers. To find out more about Clime Asset Management, visit their website at www.clime.com.au.

Clime Growth Portfolio Statistics:

Return since June 30, 2013: 8.94%

Returns since Inception (April 19, 2012): 28.12%

Average Yield: 6.19%

Start Value: $141,128.64

Current Value: $153,740.40

Dividends accrued since June 30, 2013: $0.00

Clime Growth Portfolio - Prices as at close on 23rd July 2013

CompanyCodePurchase
 Price
 Market
Price 
FY14 (f)
GU Yield
FY14
Value
Safety
Margin
BHP BillitonBHP$31.37 $     34.505.13%$46.2934.17%
Commonwealth BankCBA$69.18 $     72.397.56%$66.70-7.86%
WestpacWBC$28.88 $     29.498.82%$30.954.95%
WoolworthsWOW$32.81 $     33.535.96%$34.292.27%
The Reject ShopTRS$17.19 $     17.383.95%$16.85-3.05%
BrickworksBKW$12.70 $     12.244.90%$12.481.96%
McMillan ShakespeareMMS$16.18 $     15.365.58%$17.4713.74%
Mineral ResourcesMIN$8.25 $       9.449.08%$13.9948.20%
Rio TintoRIO$52.37 $     56.764.76%$78.2637.88%
SMS Management & Technology LimitedSMX$4.55$5.287.31%$5.8911.55%

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