The relationship between Trustco and Conduit Capital — two JSE-listed investment companies — is starting to look worryingly convenient.
Last week Trustco’s insurance subsidiary, Legal Shield Holdings (LSH), proposed selling Herboths Property Development Co to Conduit’s loss-making insurance arm, Constantia, for R1bn.
The proposed deal follows hard on the heels of another Conduit and Trustco deal. In December, Trustco proposed acquiring Constantia Insurance for R2bn — a value four times the current market value of Conduit.
Herboths holds property in and around Windhoek spanning 1,660 "sellable" hectares that will form part of the Herboths Blick Township.
Trustco has described the property as a "long-term high-value development opportunity" — though observers from Namibia describe the local property market as being depressed.
Yet, recent statements from Trustco around its property book hardly reflect a suffering Namibian real state market.
The group has pegged a R2.4bn valuation and pencilled in future cash flows of over R40bn on its property portfolio.
But those numbers are very far from Trustco’s recent figures, which show that the book value of consolidated net assets owned by Herboths was R137.5m at the end of September 2019, while profit after tax attributable to these net assets was less than R400,000.
Piet Viljoen, the CEO of RECM & Calibre (which holds 17.8m shares or 2.3% of Conduit), says the latest transaction is worrying. "It does not pass the smell test."
A big concern is the creation of "accounting capital" rather than real capital.
Trustco and LSH (where Conduit is soon to become a major shareholder) could record a "profit" of R862m on Herboths — remembering the carrying value disclosed.
On the other hand, Constantia — which has a select investment portfolio (including Taste Holdings, Calgro M3, Trustco and Finbond) — will see its "capital" increase substantially because, after all, the Herboths transaction is mostly scrip-funded.
Only R50m of cash will change hands, with Trustco settling the R950m balance in scrip.
Conduit notes in its Sens submission: "Through the transaction, Constantia’s net equity value and solvency capital increases substantially, thereby enabling Constantia to consolidate its existing business, grow premium volume significantly, and pursue new organic and inorganic growth opportunities."
The terms of the deal might raise a few eyebrows among rational investors, as the value is set by related parties (that could mutually benefit from such pricing) and the fact that (for such a large price tag) very little cash changes hands.
In short, LSH, or specifically its subsidiary Trustco Properties, will be issued new shares in unlisted Constantia Insurance rather than shares in listed Conduit.
The key assumption is that both Trustco and Conduit decided that Constantia — which held an audited NAV of R699m and reported after-tax loss of R582m in the year to end-June 2019 — was worth R2bn.
Looking at the Conduit share price, it’s clear to see the market vehemently disagrees with that assessment.
In any event, after the share issue Trustco Properties will own 32.2% of Constantia and Constantia will then be "worth" R2.95bn — incredible value creation at the stroke of a pen.
With this in mind, it’s worth revisiting the terms of LSH’s acquisition of Constantia. The similarities are eerie.
That deal proposed issuing Conduit about 232,000 shares in Trustco’s unlisted LSH subsidiary at a price of R8,600 a share.
At the time of the transaction announcement, Trustco indicated that there were roughly 1.2-million LSH shares in issue.
This inferred a heady valuation of R10.3bn for the insurance (and property-owning) subsidiary — which has been slated for a separate listing by Trustco in a presentation made to investors.
As the FM previously pointed out, the inferred value in LSH has risen sharply since 2018 when it was "valued" at R6m when the Riskowitz Value Fund — the controlling shareholder in Conduit and major shareholder in Trustco — bought a 20% stake in that business.
In the same manner, the Herboths transaction ensures a heady valuation for some of Trustco’s property assets without too much money actually changing hands.
Meanwhile, waiving obligations on a R1bn loan has turned out be a rather lucrative transaction for Quinton van Rooyen, the founder, majority shareholder and CEO of Trustco.
Last year Van Rooyen — who had sold shares to raise enough capital — lent Trustco R1bn.
The loan was summarily waived, which ensured that Trustco posted a sizeable accounting profit.
But Van Rooyen has got more than his R1bn loan back in paper.
Last week Trustco confirmed that entities associated with the Van Rooyen family had been issued 388-million new Trustco shares. This scrip settlement paid for diamond mining assets sold to Trustco by Van Rooyen for R3.6bn several years ago and now housed in the group’s resources segment.
Officially, the shares were issued based on the acquired diamond mining operations reaching an earnings before interest, tax, depreciation, amortisation and stock adjustments target of more than R808m.
Interestingly, in Trustco’s last financial report (the interim period ended September 2019) the mining segment recorded revenues of just R10m — but claimed an eye-popping net profit of R927m.
As the FM has previously pointed out, those profits reflect the waiver of the R1bn loan made by Van Rooyen to Trustco — which was recorded in the mining segment.
Stripping out the loan waiver, the real operational performance of the mining segment was hardly sparkling enough to justify the huge price tag.
Nevertheless, the shares were issued this week. Even at Trustco’s depressed levels (the share sank to 352c on Monday in very thin volumes), the value of the share issue to Van Rooyen is around R1.3bn.
The "related party" valuations of Trustco’s key LSH and mining segments will continue to confound. The reality check will come if Trustco follows through with suggestions that it will float its financial services and mining segment (on the Toronto Stock Exchange).
Such developments, noting Trustco’s lack of operational cash flows, will probably need to come sooner rather than later.
How this all unfolds will be fascinating.
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