Investors today are (correctly) concerned about one thing only: the novel coronavirus, and the associated illness, Covid-19. Expectations are for a recession as a result of measures taken to combat the spread of the virus.

As a result, share prices are down substantially, as the market discounts the effects of these measures on company earning power. The uncertainty created, because no one really knows exactly what happens next, has resulted in one of the worst local sell-offs in stock market history.

But, in the background, there are a few interesting developments locally. One is that insiders in South Africa are increasingly stepping up to the plate and buying shares in their companies. And the second is that there are an increasing number of companies that have decided to buy out their minority shareholders and delist. Recently, insider transactions have tilted heavily to the buy side – which is fairly unusual. See the chart below which tracks net buying of JSE stocks by insiders:

Source: RMBMorgan Stanley

Over time it is clear that insiders are consistently much bigger sellers than buyers. This is one of the (many) negative side effects of the way compensation schemes are currently constructed. However, it is noticeable that in the last month or so, insiders – for the first time in four years – have become bigger buyers than sellers.

Actions by insiders convey good information, as they know their companies and their prospects better than anyone else. But buying is a much stronger signal than selling. Selling insiders are usually selling shares they got for free via a warped incentive scheme, and this is regarded purely as income by these directors.

Management acquiring (and subsequently selling) free shares do not act or think like owners. But directors who buy shares are mostly taking after-tax money out of their bank accounts and using it to acquire equity in a business they know very well. Using your own money to invest a significant amount in a business is a strong signal of confidence.

Today, amidst all the pandemic fears, insiders are strong buyers of shares in their own companies.

A second recent development is an increase in the number of companies where the controlling/founding shareholders are buying out minority shareholders and taking the business private. Insiders are prepared to take a company off the public market (ie the JSE) for a number of reasons:

The share price undervalues the company’s future prospects, which insiders are well-positioned to judge.

1. The low share price makes capital very expensive. One of the main reasons for being listed is to access the capital market for debt or equity funding. If such funding is unavailable or too expensive, the private market might be a sensible option.
2. After the Steinhoff debacle (and other scandals), market regulation has become more onerous. The debate about the benefits that such additional regulation and concomitant heavy-handed application bring to minority shareholders is ongoing. But it does make managing a business difficult, especially a business which is going through difficult times. Again, the private market might be a better place to restructure/reorganise such a business.

So, in short, delistings by the people who know most about the company – founders and controlling shareholders, using their own money – are a strong signal that the current share price of a company is undervaluing its future prospects.

Over the past few months we have had six companies go private, or signal their intention to do so:

1. In November 2019, Transhex went private, after offering minorities R1.00 per share. Prior to the announcement, Transhex was trading at around 50cps. The company’s two main shareholders did not accept the offer, and stayed in the private unlisted business.
2. Also in November, Rolfes shareholders were offered a 33% premium to sell their shares to a consortium of controlling shareholders, who stayed on when the company went private.
3. In February 2020, Mettle Investments announced its intention to go private and offered minority shareholders a 47% premium to the ruling share price to do so. Once more, the controlling shareholders stayed on board, and did not sell out. As an aside, this is the second time in 20 years that Mettle has delisted!
4. In March 2020, Zarclear Holdings offered minority shareholders R4.40 for all or part of their shares. This represents a 20% premium to the undisturbed share price. It is not yet clear whether Zarclear intends to delist.
5. Later, on 16 March, the founder of Peregrine Holdings announced he had formed a consortium to acquire all shares held by minorities at a price of R21 per share – a premium of 20% to the undisturbed share price before the first cautionary. The intention is to delist subsequent to the offer.
6. Finally, on the same date, Assore, the family-controlled iron ore business, offered minority shareholders R320 per share, for all of their shares. They would then delist. Immediately prior to this offer, Assore was trading at R170 per share, so the offer represents a 90% premium.

There does seem to be a trend of insider buying, management buyouts and delistings starting to form. At Counterpoint Asset Management we are of the opinion that these actions are a function of low share prices, and – judging by the premiums offered – high future returns. For investors willing and able to look through the current panic and real economic hardship caused by the coronavirus there are rich pickings. This too shall pass. DM

Piet Viljoen is from Counterpoint Asset Management (formerly RECM).