A vexed question: increased control for a major shareholder versus a better solution for minority shareholders
Editor’s note: this article was written prior to an agreement between David Sena and NZSA (as outlined at the end of this article). Nonetheless, it’s an insightful analysis highlighting a potential conflict between the interests of major shareholders and minorities.
2 Cheap Cars (NZX: 2CC) has been the subject of recent debate as Eugene Williams (a 30.03% holder) is set to sell his 13.7m shares to his former associate David Sena (who currently holds 45.89%). The sale is subject to approval by minority shareholders. At the upcoming 2 Cheap Cars shareholders’ meeting on 28th September, shareholders will be asked to approve the acquisition– if approved, David Sena’s holding in 2 Cheap Cars will rise from 45.89% to 75.92%.
A short history
The proposed acquisition is the latest matter to arise due to the breakdown in the relationship between the co-founders of 2 Cheap Cars (formerly known as NZ Automotive Investments) – Eugene Williams and David Sena. This breakdown was announced on NZX on 19th July 2022. At that time, Eugene Williams resigned from the board of NZ Automotive Investments, as did three non-executive directors. The CEO had announced his resignation earlier in July 2022 and the resignation of the company’s auditors was announced in August 2022.
At the effective resignation date of the directors, this would have left Sena as the sole remaining director. However, NZ Automotive Investments announced that Michael Stiassny and Gordon Shaw would join the board as new independent directors, commencing their roles on 21st August 2022. It was then agreed that Shaw would become Interim CEO. Given the NZX rules around independent directors, Samantha Sharif (a former NZSA Board Member) was co-opted onto the board as an independent director until a new fulltime CEO was appointed and Shaw’s independent director status was restored.
Since August 2022, the Board (which includes David Sena) has done an exceptional job for shareholders. Paul Millward, formerly Sales Director for DB Breweries NZ, was announced as the new company CEO in December 2022. There has been a strategy and management refresh, new auditors have been appointed, the trade finance facilities have been extended and the board has regularly updated shareholders on the performance of the business.
Performance and share price
For the year ended 31st March 2023, 2 Cheap Cars reported revenue of $82.7m, NPAT of $1.3m and net cash (excluding lease liabilities) of $2.8m. Initial guidance was for a significantly increased NPAT in the 2024 financial year and this guidance was further upgraded twice, in July and September 2023. The current forecast NPAT is $5.2m to $5.7m. At the lower end of the forecast range, this would equate to earnings per share of 11.4 cents for the current financial year.
At the time of his resignation in July 2022, Williams owned 15,703,990 NZ Automotive Investment shares, which gave him a 34.5% stake in the business. During the first half of calendar 2023, Williams sold just over 2m shares on-market at daily average prices ranging from 31.5 cents per share down to 23 cents per share.
On 28th July 2023 came the announcement that Williams had agreed to sell the balance of his shareholding (13.7m shares – a stake of 30% in the company) to Sena at a price of 32 cents per share. In accordance with NZX rules, for this transaction to proceed, the acquisition needs the approval of non-associated shareholders – ie those holding the 10.7m shares (23.48%) not held by interests associated with Williams and Sena. To support the transaction, the independent directors commissioned and released an independent report from Simmons Corporate Finance.
Williams clearly wishes to sell his shares and given the acrimonious relationship between the co-founders, it is in the interests of other holders that Williams achieves his aim. Sena is a key part of the business and adds value both to the Board and in the overseas procurement function he clearly revels in. This adds to the rationale that is in in the best interests of minority shareholders for Williams to exit the company.
The report by Simmons Corporate Finance concludes that the positive aspects of the share acquisition outweigh the negative aspects for non-associated minority shareholders.
However, in my view, the independent report falls short on several measures:
Improved liquidity: While the transaction will remove an “overhang” of shares from the market and result in the fallen-out co-founders being able to go their separate ways, it will also be a missed opportunity for minority shareholders.
Wider placement of the shares would result in minority shareholders holding up to 53% of the shares on issue versus their current holding of 23%.
Existing minority shareholders could have an opportunity to purchase additional shares and new investors could join the register. If this alternative share placement occurred, all minority shareholders would benefit from the increased liquidity of future share trading. Making buying and selling shares easier, through increased liquidity, is likely to lead to a higher share price as investors who might otherwise have dismissed the company on liquidity grounds see an opportunity to invest.
Investor interest: Significant investor interest could be expected at the current offer price of 32 cents per share.
An alternative to the proposed transaction would have been for Williams, through his representatives, to have made these shares available more widely. While he was not successful in selling his entire 34.5% stake on-market, I believe there could have been alternative methods to facilitate a sale of the balance of his holding – especially at the price of $0.32.
The company, at its last reporting date, had shareholders’ equity of $16.17m, NTA of 35 cents per share, a net cash position of $2.8m and on the current profit forecasts for 2024 (released on 8th September 2023) will earn between 11.4 -12.5 cents per share. This range of earnings, at the agreed 32 cents per share acquisition price, gives a prospective PE ratio of between 2.8 and 2.56. In addition, if these earnings are achieved, it will have occurred in an economically challenging environment which should auger well for continued strong earnings as economic conditions improve.
In the 8th September earnings update, 2 Cheap Cars also announced that the company’s dividend policy is to target a dividend payout ratio of 50-60% of underlying NPAT – at the lower level of forecast earnings and the lower payout level of 50%, this would result in an imputed dividend payout of 5.7 cents per share for the current financial year.
Takeover ‘creep’: While there is no indication that this is currently Sena’s intention, a significant disadvantage of the current proposal is that once Sena holds 76% of the company’s shares, there is nothing to stop him using the “creep provisions” of the Takeovers Code to incrementally build on his position each year. If this were to occur, the further decrease in liquidity would make share trading for minorities increasingly difficult, the share price would likely be negatively affected and an eventual takeover offer for the remaining shares at a depressed price would be more likely.
Alternatives & Minority shareholders
Sena already has effective control of 2CC. In that context, what is the difference between 46% and 75% ownership? From NZSA’s perspective, this comes down to a greater probability that Sena is able to undertake actions that are not in the interests of other shareholders.
Recently, NZSA submitted to the NZX that a minority interests’ regime should be introduced to protect the interests of minority shareholders. This would prevent controlling shareholders from dominating a vote on key matters where the interests of a controlling shareholder may diverge from the interests of the minority. The actions and subsequent de-listing of QEX Logistics in 2021 has left a stain on New Zealand’s capital markets that we are not keen to repeat.
Were a minority interests’ regime in place, NZSA might be less concerned about a change in shareholding from 46% to 75%.
If the proposed share transaction was not approved there are likely alternatives available to Williams to sell his shares. For example, there could be a facilitated on or off market sell-down of the shares. Another option might be for Williams to test existing minority shareholder appetite for this sell-down by providing an opportunity to subscribe for 1.25 of Williams’ shares for every share they hold. With the announced increased earnings projections, the take-up for this type of offer would likely be strong.
The responsibility of the directors is first and foremost to the company. The resolution being put forward for shareholders’ approval provides an opportunity to draw a line on the conflict between the company’s two co-founders – something that is (and should be) on the minds of directors.
However, this is not necessarily the best course of action for minority shareholders – at least, not without further commitments to protect their interests.
Disclosure: Martin is a current Board Member of NZSA. Interests associated with Martin Watson are shareholders in 2 Cheap Cars.
Editor’s Note – Subsequent Events
On the basis of information provided with the Resolution, NZSA held significant concerns related to the proposal. It’s difficult for NZSA to support a situation where a major shareholder increases their level of control.
It is with some credit due to both 2CC and David Sena, that NZSA was able to secure agreement by Sena for the following commitments. These have now been announced to the market also.
1) David Sena and associated interests will not utilise the ‘creep’ provisions of the Takeovers Act for a period of three years from effective date of the share acquisition.
2) David Sena will maintain a majority of independent directors on the Board.
3) David Sena will enable consultation with minority shareholders and their representatives prior to the appointment of future independent directors.
NZSA believes this strengthens the protections for minority shareholders, regardless of the future of 2 Cheap Cars. The preservation of a capable, independent Board provides effective oversight that ensures a greater probability of alignment of Sena’s interests with those of minority shareholders – regardless of the potential scenarios relating to Sena’s future ownership.
We believe this is the first agreement that explicitly recognises protections for minority shareholders relating to share purchases within an NZX-listed entity.
On the basis of those commitments made by David Sena, NZSA intends to vote its proxies in favour of the transaction at the upcoming shareholders’ meeting.