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All sewn up

By Jenny Ruth

Thursday 1st May 2003

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 Jenny Ruth
It seems like Guinness Peat Group is rarely out of the news these days. One day scrapping in the courts with US hedge fund Perry Corp over its Rubicon stake, the next storming the boardroom at Tower. Now GPG is tilting at what was once Britain's largest company, Coats - an industrial icon and a brand name as ubiquitous to the garment industry as Coca-Cola is to beverages.

It's a big, bold deal that will add yet another acquisition to GPG's already complex line-up of assets - even before the Coats deal, it had something like 90 different investments across the UK, the US, Australia and New Zealand. Its total assets have grown by over 250% since 1996 to $1.43 billion in 2002.

But although it's had a dream run in the media, the reality is that few really understand this latter-day Brierley Investments (BIL). And therein lie the dangers. As with BIL, even when GPG pulls off a major investment coup, it has generally only added a few cents a share in value. And GPG's long tradition of annual bonus issues mean ever more shares, ever more dilution of profits, and the need to find bigger and bigger deals to satisfy the market. Hence the Coats deal.

The bid for Coats is vintage GPG - daring, ambitious and convoluted. The $1.2 billion takeover deal is a big swallow for a Kiwi company (GPG is actually headquartered in Britain but most of its shareholders are New Zealanders). Coats is huge - it turns over more than £1.2 billion pounds a year, operates in 66 countries, employs 37,000 people and supplies 20% of the global thread market. "It makes enough thread to go to the moon and back, or something like that," says GPG's New Zealand-based director, Tony Gibbs.

It's the sort of deal that fits well with GPG's maverick image. Gibbs grins at the charge. "We're not mavericks. We enjoy what we do. We enjoy the challenges. Admittedly we are an aggressive investor." Just like its forerunner, BIL. All GPG's five directors - chairman and "emperor-like" Sir Ron, Gibbs, Gary Weiss, Graeme Cureton in Australia and Blake Nixon in the UK - previously worked for BIL or its Australian subsidiary Industrial Equities.

And when it comes to sizing up the bid for Coats, GPG's ancestry can't be ignored. Like it or not, the sheer size of the deal conjures up the spectre of BIL's disastrous bid for London-based Mt Charlotte Hotels, since renamed Thistle. When BIL inadvertently breached British security rules in the early 1990s, it was forced to mount a full takeover bid for Mt Charlotte. It was a much bigger transaction than it could comfortably cope with and was directly responsible for BIL finally imploding in 1998.

But Gibbs is adamant GPG won't be making any such mistakes and that the Coats bid structure means it's "ring fenced". For one thing, the Coats deal isn't as big as first appears for GPG. In a complex arrangement, it has managed to cap its cash input at the $300 million it already has tied up in its existing 14% shareholding in the thread maker. GPG has an 80% interest in Avenue, the joint venture of investors that has been formed to mount the bid (although it settled for voting rights of only 50% as a means of enticing other existing Coats shareholders in as partners, including Jacob Rothschild). Together the Avenue partners already owned 36% of Coats and the cost of the takeover was financed by non-recourse debt - meaning creditors have no comeback against GPG. In simple terms, Coats effectively financed its own takeover. And even though GPG has only 50% of Avenue's voting rights, it still has effective control.

"Whatever happens we can never, ever lose more than $300 million. We're not going to bet the farm on anything," Gibbs says. "Mind you, that would hurt if we lost it, but it wouldn't blow us up."

Gibbs, who is to join Coats' board once GPG gains control, concedes that a major spur for the takeover bid was Coats' sale of its loss-making fashion retail brands Jaeger and Viyella for a song. (The brands have since been onsold for a higher price.) "We were sitting there on 14% and we had absolutely no say about this company. Now, we will effectively be masters of our own destiny," he says. But while GPG might object to the price Coats managed to get for its retail brands, the strategy of returning to its core thread business appears to be paying off already. Its 2002 pre-tax profit nearly doubled to £45 million ($NZ136.4 million) from a year earlier.

Okay, so it looks like the Coats deal has been carefully tailored and GPG won't repeat the Mt Charlotte experience. But it is facing one of the major problems that BIL suffered from in its heyday. BIL pulled off some spectacular deals - witness the $246 million profit it realised in early 1998 from investing in Coles Myer, and the handsome profits it reaped in earlier years from such investments as its stakes in Wilson & Horton and Carter Holt Harvey. Trouble was, those huge profits translated into a miserable couple of cents a share.

Ditto GPG's coup late last year in quitting its three-year investment in Australia-based Joe White Maltings. GPG doubled its money, but that $A35 million profit only amounted to 5.6 Australian cents a share.

Gibbs acknowledges the problem. "We can't keep doing tiddle-arsed deals. We've got to be making some reasonably big deals." But aren't bigger companies usually better and more widely analysed and therefore far less likely to harbour hidden value than the smaller companies that have been GPG's prey until now? "There's plenty of value hidden in bigger companies. It's just knowing where to look," Gibbs insists.

Gibbs may well know where to look, but the problem is that for analysts and outsiders it's almost impossible to assess GPG's real strengths and weaknesses - just as it was with BIL. Only after it imploded in 1998 did the market realise that the $8.33 billion worth of assets on BIL's books were worth only a fraction of the stated value.

Could the market similarly misjudge GPG? It has to be a possibility, when all most analysts do is take the current market price of its known listed investments, take the book value of the rest and come up with a net assets per share figure (most are currently somewhat north of $2). The latest annual report, for the 2001 year, showed 34 disclosed investments. In most countries any investment below 5% of a company doesn't have to be disclosed. But all up, GPG has about 90 investments around the globe. Trying to get to grips with all this, particularly the unlisted assets and the "black box" of the undisclosed positions, is beyond most analysts. "It's just too much hard work. You would spend a lot of time on it for little payback," says one analyst.

Something else GPG undeniably has in common with BIL is that its shares trade at a significant discount to net asset backing. In early April, they were trading about $1.55, compared with analysts' valuations of more than $2. But Gibbs is unperturbed: "I don't spend my life worrying about the share price, I spend my life worrying about profits."

But while the parallels with BIL are discomforting, there are also major differences. One is that GPG carries no debt, other than its $239.4 million in capital notes, and had $287.9 million in cash at the bank on 31 December. A year earlier, it had $412.8 million in cash. You could wonder about the logic of GPG paying 9% on its capital notes and getting, say, 4.5% on all that cash, but Gibbs says GPG isn't paying 9% because of its use of interest rate hedges. "You can never have too much cash," he insists.

Gibbs says if it had a lot of debt sitting on its balance sheet, particularly in the current depressed environment, analysts would be questioning what would happen if GPG were to make a dud investment. "It allows you to move quickly without being in the grip of the bankers," he says.

And although GPG has avoided the conspicuous consumption that BIL indulged in - at one stage BIL had three corporate jets - its cost structure is nevertheless on a par with BIL's, at about 0.7% of total assets. Back in 1998, before it began to implode, BIL's head office costs were running at $65 million a year, against assets of $8.33 billion. By comparison, GPG's 2001 annual report shows directors' fees alone - let alone administration costs - totalled $10.6 million, against assets of $1.43 billion.

Gibbs points to GPG's 19% annual returns over the past 10 years as a major difference from BIL's oceans of red ink. But a large part of that record was due to a single deal, the purchase and sale of Australian fund manager Tyndall. GPG began buying into Tyndall in late 1990, amassing a 50% stake. In 1999, it sold Tyndall to Royal & Sun Alliance, reaping a profit of $276 million. If you took Tyndall out of the equation, the returns would be significantly less. The returns on shareholders' funds in the past three years were 6.9% in 2000, 14.9% in 2001 and 11.5% in 2002.

"We have work in progress all the time. They don't pop out nicely and conveniently at balance date. Sure, Tyndall was a lot, but there are other Tyndalls in the pipeline," Gibbs says.

Coats may well be the next Tyndall if, as one analyst calculates, the deal could add at least 9% to GPG's net asset value - which would start to differentiate this son-of-BIL from its forebear. Too bad we can't be so sure about the myriad other investments in that "black box".

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