This on the float of Dick Smith from Intelligent Investor analyst Graham Witcomb two years ago:
‘If private equity group Anchorage Capital successfully floats Dick Smith (ASX: DSH) for $520m, its investment will have five-bagged in just one year. Anchorage purchased Dick Smith’s 325 store network from Woolworths (ASX: WOW) for just $94m last November. Is such a turnaround in so little time really possible?’
Graham was rightly suspicious, claiming that Dick Smith was being floated on 13 times forecast and ‘highly questionable’ earnings. The retailer closed last night 87% down on its float price of $2.20.
Investors buying stock from private equity (PE) should certainly be wary of floats, despite exceptions. In the past we’ve successfully recommended OzForex (ASX: OFX) and currently have a positive view of IVF provider Virtus Health (ASX: VRT), floated by Quadrant Private Equity in June 2013.
The Australian Private Equity and Venture Capital Association Limited is keen to make a similar point. It’s expensive-looking study of floats in 2013 and 2014 – by Rothschild no less, so it must be good – shows that in 2013 PE floats enjoyed higher returns than non-PE listings, although that performance was reversed the following year.
The 30-page study offers pretty charts and academic-sounding commentary that does a middling job of masking the real agenda, which is to line up retail investors for more share price slaughters like Dick Smith as well as the odd winner such as OzForex.
That’s one of the many problems with this research – it uses averages. Over the period of the survey PE floats Veda Group (ASX: VED), Mantra (ASX: MTR) and OzForex were up 83.2%, 61.1% and 41.5%. Great performances like these push the average of an already tiny sample size up.
The statistical median – the mid-point in any given set of numbers – is a better guide. And guess what? Using this measure PE floats return less than 2% while non-PE delivers about 10%.
Classification is another problem. Virtus and Mantra are deemed PE floats when private equity interests represented less than half of the outstanding shares. That’s weird. What would the doctors that owned 51% of Virtus before the float say about that? Take those two performers out and AVCAL’s average metric plummets from 10.3% to 6.5%.
The AVCAL study, like almost all industry studies paid for by the industry being studied, is a giant exercise in cherry-picking.
Private equity floats are sometimes good investments just as some non-PE floats are, too. The problem is that if they are good value you won’t be able to get stock unless you’re a favoured client of the underwriter. If it’s a good deal the insiders get first dibs. If not, then mug punters should watch out.
When insiders with intimate knowledge of a business are selling down and retail investors can easily secure an allocation, that’s the time to worry. Dick Smith is another in a long line of examples to prove that point. Of all the places you can look for opportunities, new floats should be at the bottom of your list, private equity or not.
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