LICs appeal to Australian investors wanting reliable fully franked dividends. But many traded at a discount to net tangible assets which has prompted widespread rationalisation.
The $50 billion listed investment company sector is a hotbed of consolidation as one big player and smaller groups of shareholder activists crank up the pressure on boards to close the widespread discounts to net tangible assets.
Proof that the strong are getting stronger and the weak disappearing came on Monday when the Australian Leaders Fund said it would allow shareholders to switch to an unlisted unit trust offering redemptions at NTA and entities managed by Wilson Asset Management made a takeover bid for the Contango Income Generator.
Industry veterans say the level of activity around the efforts to close the discounts to NTA are the most intense the market has seen since a wave of consolidation occurred in 2003 and 2004.
Discounts to NTA have been a feature of the LIC sector for decades and many different methods have been used to close the discount. The discounts can blow out to 25 per cent or higher. Some LICs have had their share prices stuck at 10 per cent discounts to NTA for years.
This rightly causes angst among shareholders, especially those who joined an LIC at the time of its float and then watched their investment sink in value on the sharemarket. Their plight is made less palatable when they see other LICs trading at premiums to NTA.
It may not be fair but poor performance in the sharemarket often has nothing to do with the movement in NTA, which can rise because of good funds management decisions and then not be reflected in the share price.
It would seem LIC investors are great believers in this structure for getting access to franked dividends. Chanticleer understands that up to a third of the individuals on the share registers of some prominent LICs are also owners of rival LICs. This plays into the hands of consolidators like Geoff Wilson at WAM.
Shareholder action
LICs trading at a premium to NTA include Australian Foundation Investment Company, Argo Investments and five of the six LICs in the WAM stable. They owe their premium status to their consistent and growing dividend payment policies.
Poor performers in the sector are increasingly finding themselves the subject of corporate action or agitation by shareholders concerned about entrenched practices that foster lack of transparency and accountability.
Two veterans of the finance sector, Malcolm McComas and Rob Ferguson, dipped their toes in the LIC consolidation pool this year with a successful agitation campaign against the board of ALF for its discount to NTA.
They claimed the manager of ALF, Justin Braitling's Watermark Funds Management, was responsible for poor sharemarket performance and action was needed. Their attack on ALF's failure to address its discount to NTA included criticism of Wilson, who is the most active player in terms of rationalising LICs.
In a letter to ALF shareholders, McComas and Ferguson said "the board of ALF has had a wake-up call on its terrible past governance and finally decided to appoint an independent board committee composed of directors John Abernethy and Julian Gosse to consider appropriate capital management strategies to recommend to all shareholders".
"The appointment of this committee in response to our agitation is highly significant," Ferguson and McComas said.
"First it is clear recognition that our chairman Justin Braitling and his fellow director Geoff Wilson are not independent and should absent themselves from any board matters where they have a conflict of interest.
"It is likely that any “capital management strategies” will reduce the size of the company materially and therefore materially reduce the fees paid to Justin Braitling’s company Watermark Funds Management. WFM shares such fees with an entity associated with Geoff Wilson and thus their conflicts of interest arise and mean they cannot vote on such matters."
Experimental techniques
Wilson tells Chanticleer the ALF funds management contract is with Watermark and not him. Also, he questioned the corporate performances of McComas and Ferguson.
Ferguson says Abernethy did a good job negotiating a termination of Watermark's funds management agreement at a price of $2.5 million or 1.25 per cent of NTA. This contract had another seven years to run.
The nearest comparable deal was the termination of the Ellerston Capital funds management contract with Ellerston Global Investments.
McComas says the ALF solution to its discount to NTA problem is not fair to shareholders because if you redeem your shares within the first year there is a fee of 2 per cent.
Abernethy says contractual agreements cannot be unwound easily. He says it is possible shareholders who stay with the ALF entity for more than a year could achieve an internal rate of return of 7 per cent assuming redemption after the period when the 2 per cent fee requirement has expired.
Wilson is being highly proactive in reduced discounts to NTA with other LICs. The WAM Capital bid for Contango Income Generator is a share swap deal that values each share at a 74¢, which is either equal to NTA or a premium.
At the same time, Wilson has a takeover bid for the Concentrated Leaders Fund which involves a WAM Capital share swap that values each share at about $1.18, a premium to NTA.
Other LICs trading at a discount are experimenting with new techniques for closing the discount to NTA.
The Antipodes Global Investment Company pursued a range of NTA discount control mechanisms including the largest on-market LIC share buy-back in ASX history. This failed to work.
Antipodes Global Investment Company is now trying a tender offer program that will enable shareholders to exit a minimum of 25 per cent of their shareholding at close to NTA.
This article originally appeared in the Australian Financial Review here.
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