Sietel deserves a citation

Microcap Sietel (ASX:SSL) appears cheap – but does it come with a catch?

Sietel (ASX:SSL) is a microcap – its market capitalisation is $42m – that owns a number of operating businesses as well as commercial property and listed securities.

Sietel's current share price of $5.25 is a substantial discount to its tangible book value of $8.04 per share. Moreover, management has compounded book value at a rate of 14.8% per annum over the past decade – helped by the sale of the Aqua-Max hot water business to Rheem in 2009 – while its share count has remained the same over this time.

Fractional ownership interests

Ben Graham noted that in The Intelligent Investor that, rather than just being a number, shares represent fractional ownership interests in a business. So what do investors get for paying $5.25 per share for Sietel?

Firstly, the company had $8.7m or $1.08 per share in net cash at 31 Mar 17.

Some of this cash would be utilised by Sietel’s operating businesses, whose assets and liabilities are consolidated in the accounts. Sietel has a close relationship with its investees; it rents property to them, manages them, leases equipment to them and so on.

Due to their close integration, it’s difficult to separate their performance from Sietel’s but overall, these businesses made a small profit of $173k in 2016. As we’ll see below, we don’t need to assume these operating businesses are worth anything for there to be value in Sietel’s shares.

But wait, there’s more!

Now we come to the two most attractive parts of Sietel.

Firstly, it owns $27.8m or $3.47 per share in ASX-listed shares, predominantly investments in the ASX 200 (for simplicity, I've assumed all of the deferred tax liability relates to these investments). 

However, perhaps Sietel's most attractive assets are its land and buildings included in Property, plant and equipment and Investment properties in the accounts.

Many of these assets were purchased in 2010 and 2011 using the proceeds from the sale of Aqua-Max and when commercial property prices were in a slump following the GFC.

These assets are accounted for at amortised cost and I estimate their book value was also around $27.8m (or $3.47 per share) at 31 Mar 17.

If Sietel’s land and buildings were accounted for a fair value, however, management estimated they’d be worth around $44.8m at 30 Sep 16 (there isn't an updated disclosure in the 2017 interim financials).

Assuming the valuation hasn’t changed in the six months to 31 Mar 17 and that 30% capital gains tax is paid on the gains, this adds $11.9m or $1.49 to tangible book value, upping it from $8.04 to more than $9.50 per share.

And all this is before taking into account the $1.93 per share in franking credits at 30 Sep 16.

Why the discount?

So given the apparent value in Sietel shares, why the discount?

Firstly, Sietel’s microcap status means it’s below the radar of most investors and analysts and hence under-researched.

Moreover, the company doesn’t pay an ordinary dividend and has no intention of paying one anytime soon. This might not be an issue elsewhere but in Australia this is the equivalent of preferring Marmite over Vegemite, sacrilege in your analyst’s view (the preference for Marmite, that is, not the lack of dividends given management’s long-term focus and runs on the board).

Finally, Sietel shares barely trade, which alone disqualifies the company from potentially being recommended to members. With insiders controlling around three-quarters of the register, it would be very difficult to persuade the company to start paying an ordinary dividend.

All in all, though, there appears to be a margin of safety in Sietel at current prices and I’d suggest it’s worth at least tangible book value of $8.04 per share. So it may be of interest for those willing to do further research.

Note: this is not a recommendation.

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