Value will out, catalyst or not

You don’t need an event to release value, although it can be nice when one turns up unexpectedly. Time usually does the job for you.

A member asked recently:

‘News Corp has dropped a fair bit and is compelling value. However what do you see as a catalyst for this value being realised?’

It’s an interesting question. While you should aim to buy undervalued companies, the undervaluation can persist for quite some time. The longer it takes for a company’s value to be realised, the lower your annual return will be.

If you buy a company at $0.50 a share that you believe is worth $1.00, a takeover bid at $1.00 the next day means you’ve just made a 100% return in next to no time. If you have to wait five years for the same bid, your annual return will be ‘just’ 15% a year (ignoring any dividends).

So some investors try to identify ‘catalysts’ that might release the value. Catalysts are events or announcements that influence the value or price of a company. A takeover bid like the hypothetical example above is a type of catalyst.

Material undervaluation

There are plenty of others. Last week Crown Resorts (ASX: CWN) announced what might be a value-creating demerger of its international investments, as well as an initial public offering of its property assets. By way of explanation, chairman Robert Rankin said that: ‘The Board has … been looking to address what we believe to be a material undervaluation by the market of Crown Resorts’ assets’.

APN News & Media (ASX: APN), which is demerging its New Zealand media assets (‘NZME’), is another recent example. The idea is that the market will rate the two businesses more highly than it did under the one listed structure. There’s often some merit in that (see Hop on the demerger express).

So what about News Corporation (ASX: NWS)?

News Corp was itself the product of a demerger. The company demerged the much sexier 21st Century Fox, which is no longer listed in Australia, back in 2013.

News Corp inherited a grab bag of assets including global newspaper and book publishing businesses, as well as stakes in Foxtel and REA Group (ASX: REA). It’s something of a conglomerate, a structure that sometimes conceals value.

Foxtel IPO

There are various catalysts that could realise value. An initial public offering of Foxtel is one. There have been rumours that Telstra (ASX: TLS) wants to reduce or sell its 50% stake in Foxtel and an ASX float is probably the most likely option.

The second is that News Corp might decide to demerge its News and Information Services division, which includes Dow Jones, The Wall Street Journal, and its Australian and UK newspapers. APN News & Media thinks its New Zealand media assets are better off alone; News Corporation could come to the same conclusion (although we think it unlikely).

Third, News Corp might decide to spin off or restructure its digital real estate assets, including the stakes in REA Group and Move Inc in the USA. These are the highest growth parts of the company and therefore its most attractive assets. This option is perhaps the least likely for that reason.

The truth, though, is that we don’t worry too much about potential catalysts. You can end up chasing your tail if you do. If there are rumours of a value-creating restructure, it’s hard to know how much is already reflected in the price. It’s also why we rarely try to predict takeovers.

Murdoch’s motivation

For News Corp in particular, shareholders are also hamstrung by the control exerted by major shareholder Rupert Murdoch. The 85-year old prefers to run his own race and he’s unlikely to be swayed by what other shareholders want. We’re in this with our eyes open but Murdoch appears to be motivated by more than just money.

Our view is that ‘value will out’ eventually. We don’t need to know when, just that it usually reveals itself over time. To return to the hypothetical example in the introduction, a 15% annual return over five years would still be a very good return.

The advantage long term-focused value investors have over others is time. While brokers look just 12–18 months out – and must therefore concern themselves with catalysts and predicting share prices – we can afford to be much more patient.

If a ‘catalyst’ does the job for us in a shorter-than-expected timeframe, all well and good. Otherwise we’re quite prepared to wait.

Disclosure: The author owns shares in Crown Resorts.

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