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INSIDE TRACK RENIER DE BRUYN, EQUITY ANALYST
High returns on equity
The demanding valuations of blue chip industrial shares have forced us to search for new opportunities in the less researched mid and small cap section of the market. We favour companies that have generated a high return on equity over the long term and are trading at decent valuation multiples, but with their earnings at cyclical low levels from where they are expected to recover.
A favourable example
One such company is Tsogo Sun Holdings: a hotel, gaming, and entertainment group with assets such as Montecasino, Gold Reef City and Southern Sun Hotels. This company is operationally geared to a recovery in hotel occupancy levels and casino gaming revenues, which are currently rising from a suppressed base. The company has managed its cost base well and is expected to generate strong cash flow. The share has performed well this year, but we find a cheaper entry point via Hosken Consolidated Investments (HCI) who owns 41% of Tsogo Sun.
Tsogo Sun constitutes about 60% of HCI’s intrinsic value. The other major asset in HCI is a 63% stake in Sabido (the remainder is owned by Remgro), which owns e-tv and accounts for 23% of HCI’s value. HCI also has interests in smaller transport, manufacturing and energy businesses. HCI has shown a good track record of identifying value enhancing deals using the cash flow generated by its portfolio of businesses.
HCI is currently trading at a 30% discount to our estimated net asset value. This discount should narrow as we expect management to start applying the underlying cash flows to repay debt and increase dividends.
This article was taken from Mastermind, the official monthly newsletter of Sanlam Private Investments, a division of Sanlam Ltd. Issue 49, September 2011. Visit the SPI Website