Economic Insights
The profit warning
After market close on 13 March 2023, Transaction Capital released a pre-close update and trading statement for the interim period ending 31 March 2023.
In the days that followed
The share was sold off heavily following the profit warning, and coincidental weakness in global financial stocks following the collapse of Silicon Valley Bank, and the chaos surrounding Credit Suisse.
Investors' attention was also drawn to a large sale of shares transaction by CEO David Hurwitz in December 2022. Hurwitz sold ~30% of his shareholding amounting to ~R51 million at the time. The company issued a statement in response to speculation around the reason for the sale, detailing that a fall in the share price at the time triggered a forced sale of shares by Hurwitz' trust because of debt funding raised by the trust using the shares as collateral.
A further trading update
Transaction Capital released a market update further trading statement on 20 March 2023, providing more specific guidance and details on the liquidity position of the firm.
Our thoughts on the operational story
The profit warning spooked investors who had become used to double-digit earnings growth from the company for several years.
SA Taxi
The SA Taxi restructuring, and the presumably large write-offs that will form part of the restructuring, are the biggest issue near term. In January, SA Taxi constituted about a quarter of our valuation for Transaction Capital. Financiers are typically valued on a price-to-book basis, which means that any write-down on its lending book will have a direct implication for its valuation. Chances are that the premium at which SA Taxi is priced relative to its book value will also be smaller because of a perceived increase in risk given the deteriorating operating environment and execution risk on the restructuring.
WBC
Management pointed to a weak 1Q23 performance (so October through December) for WBC. In our view, this performance simply highlighted cyclical realities in the used vehicle space. We believe the longer-term business case for WBC is intact. WBC operates in a cyclical industry but one that is very fragmented (so there is a chance for consolidation in the industry) and where trust is extremely low (being a trusted name in the used vehicle space matters). At the start of the year, WBC made up about half of our valuation for Transaction Capital. One poor quarter, and perhaps consequently a weaker financial year does not materially change the valuation for a business like WBC. The business is highly cash generative, and longer-term growth is expected to be strong. The business also warrants a higher relative valuation to peers because of these factors - although a newfound focus on the cyclicality of the industry could depress this valuation multiple somewhat. This will have larger implications from a valuation perspective
Nutun
Despite the challenging macro environment, we believed that the strength in Nutun continued to highlight the defensive characteristics of this business. We valued the business on a price-to-earnings basis, and it made up about a quarter of our value for Transaction Capital. We do not see any reason to alter our views on the outlook for this business based on recent events.
Our thinking around liquidity and the balance sheet
On a consolidated basis, the business has quite a bit of debt, but most of this relates to the SA Taxi business. Being highly leveraged is quite normal for a finance institution and we are not particularly concerned around the business' ability to service its debt - thereby holding a risk to the holding company (being Transaction Capital). This could, however, explain some of the share price weakness seen in the stock.
The business's liquidity has been shored up by a decision to not purchase the additional stake in WBC as previously announced, although this was framed as being a function of the weak share price (about a third of the purchase consideration was going to be settled in Transaction Capital shares) as opposed to a specific cash flow problem. The company will retain the cash it had earmarked for the acquisition.
The board specified that it was not concerned about liquidity and was not considering raising equity to shore up the balance sheet. This should provide further comfort to shareholders.
Director and institutional buying and selling
While it certainly did not look good when the CEO was selling shares three months before a major profit warning, it does seem in this case that the selling action was not "intentional" but rather "forced". We also received confirmation that other directors will not be forced into sales of a similar nature due to the recent share price collapse, which would calm investor fears somewhat. Interestingly, one of the WBC founders was actively buying shares in the market last week.
We were also concerned about institutions "dumping" the share but a SENS announcement this morning declared that Coronation has increased its position in the company from 14.4% of total issued share capital to 16.6% of shares in issue. Furthermore, Sabvest purchased about R5 million worth of shares that was also disclosed to the market today.
Outlook and valuation
Taking the latest news into account, we have adjusted our sum-of-the-parts (SOTP) model, which now yields a fair value of R28.04 (previously R40.51 per share). We adjusted our assumptions to reflect deteriorating macro-economic fundamentals, a weak 1Q23 performance for WBC, lower multiples being attached to WBC, a 25% write-down of SA Taxi's book, and lower multiples being attached to SA Taxi. Our stress case scenario writes down the SA Taxi business to zero. In this case, our SOTP valuation comes to R20.35.
The company's provided NAV range confirmed that the share price had fallen to below NAV. While it is possible for SA Taxi and even Nutun to trade at below book, it does not make sense for WBC to be valued on an NAV basis given the nature of its operations. In any event, the range provided should provide a reasonable reference value for shareholders who are weary of looking at the company in any other way given recent events.
We don't see any evidence currently of deliberate insider trading or fraudulent activities - making this very different to a Steinhoff scenario. Liquidity is also reasonable making us think it is very different to Sasol's 2020 situation as well, although this could become a factor in time.
