Ultimate recommendation: Listing on HKEX at a price of 0,99€ = approx. 10.5 HKD
An IPO to get funds without entailing risks for solvability - ECM, Company-side
Costs and disadvantages
Benefits
AN IPO ? WHY ?
[Diversify funding sources]
New equity capital, more financial flexibility
[Company ownership and ownership power]
Spread the risk of ownership, can offer securities in the acquisition of other companies
[Indirect advertising]
Increase public awareness for the company’s product, having a listing on a stock exchange also affords the company increased credibility with the public
[Attractiveness]
Raise the prestige and recognition, make the company attractive to top talent
[Costly]
Important fees and incentive to pay even more to get the services of the best banks Legal, accounting and marketing cost
[Regulatory requirements]
Comply more strict to the some standards
[More scrutiny]
More exposure, more pressure from the market
[Short-termism]
May cause the company to focus more on short-term results rather than long-term growth
1
A booming company with a diversified business - ECM, Investor-side KEY SUCCESS FACTORS
FRANCE AS AN INVESTMENT DESTINATION
OCDE; Population: 66 201 365; PIB (US$): 43 080; Currency: Euro
-
Growth in sales and in net income leading to growing ROE
Doing Business Reports Taxes to pay (% of EBIT)
2010 65,8%
2009 66,1%
-
Fast expansion, outstanding innovation (process, product, service) and good financial management
Costs to export (USD/contener) Delay to exportation (day)
$1285 10
$1285 10
-
Efficient, flexible and extendable supply chain preventing bottleneck during expansions
Investor protection Information provision Ease of shareholder suits Recovery rate in solvability problems
Medium High Medium 44,5%
Medium High Medium 44,5%
-
Market growth and good industry environment
-
Recognizable brand and presence in specialized reviews
-
Easy access to information
L’OCCITANE’S STRENGTHS AND WEAKNESSES
STRENGTHS • • • •
The beauty market worldwide can absorb a French, premium, organic-based cosmetics A strong trend for natural products A real and consistent atmosphere “South-FranceProvence” An efficient and growing digital strategy
WEAKNESSES • • • •
Lack of capital for expansion and maintenance due to the fast expansion A strong Brick and mortar presence meaning high costs and difficulties in case of slowdown Full package of products spread from body care to household goods for women and men: diversification entail a profitability risk A culturally marked brand which can trigger one-time sales in some markets (trend-risk in US markets)
2
HONG-KONG & PARIS appear
to be the most qualitatively suitable - ECM, Company-side
Key success Factors -
Agents need to know the company in which they invest so that the value investors will confer to the firm can be neither too low nor deceptive * the company must be listed in an area where the business is important * the information flow and how it will be taken by investors must be known
-
Market expectation about cash-flow and control right and appropriate average risk/return ratio sought by investors * Beta of comparable companies in different markets must be known * Dividends expectations determine the cost of equity and highly matter
-
Fees (underwriter, lawyers, auditors) and transaction costs matter as they increase the cost of equity
-
State of the market at the time of the IPO (better to invest at the time when a market starts to be bullish and has a huge potential of growth), even more important with high Beta
3
HONG-KONG & PARIS appear
to be the most qualitatively suitable - ECM, Company-side
Factor
NASDAQ
NYSE
LSE
PARIS EURONEXT
3
HKSE
Type of listing suitable for L’Occitane
Market acceptance
Analyst expertise
- For Paris or HKSE, ADR programs are no longer relevant to the discussion.
Peer Companies % of foreign companies
- For the NYSE level 3 ADR program so that the company can avoid the costs and hassles of currency conversions since most expansion operations and hence need for capital is in Asia.
Macroeconomic situation Language and culture Financial success
Potential to attract average investors
Next Step: 3 alternatives
Capital raised/IPO (avg) Financing growth Liquidity
-
Considering the company’s growth prospects and the expansion plans focused on Asia, Hong Kong could be an ideal location.
-
Still, the Paris Bourse’s qualitative benefits outnumber those of an international IPO in Hong Kong.
-
A third alternative could therefore be a crosslisting on Paris Euronext and HKSE in order to diversify risk an lower the required rate of return.
Increased recognition benefit
Prestige Brand recognition potential Growth Opportunities
M&A target and process (same currency for stock swaps) Costs of IPO
Costs Reporting requirements OUR PREFERENCE ORDER
#3
NO
NO
#1
#1
WACC in all five stock exchanges are close to each other, fitting price is low Inputs Cost of equity HK
Inputs avg debt
Cost of Debt
•
92,228.17 k
avg interest expense
3,362.812 k
avg tax rate
0.226
avg d/e
0.404
beta unlevered
1.03
equity
228.185 k
Outputs cost of debt
0.0364
levered beta
1.35
NYSE
NASDAQ
Risk Free (Rf) 2.78 Equity Risk Premium 6.7 (ERP) Cost of Equity (Ke) 11.83% Rf
3.84
ERP
5.3
Ke
11.01%
Rf
3.84
ERP
5.3
Ke
11.01%
PARIS Rf EURONEXT ERP
LSE
debt = short + long term borrowings for each period. For the last nine months, we annualized the figure. cost of debt = avg(Interest expense)/ avg(debt)
Levered Beta
•
d/e ratio, with equity = current share capital + expected capital needs (190M from the case) Beta is re-levered using the average tax rate for the past three years
3.6
•
5.6
Cost of Equity
Ke
11.17%
Risk-free rate = 10 years government bonds, for L’Occitane’s development plans are long-term
Rf
4.01
•
ERP
5.6
Ke
11.58%
WACC
Equity used for the WACC is once again share capital added to the future equity issuance (hypothesis).
4
WACC in all five stock exchanges are close to each other, fitting price is low Outputs Consequences on the place of issue
WACC Debt
92,228 k
-
Cost of equity and WACC are lowest in New York
Share capital
38,232 k
-
WACC in all five stock exchanges are close to each other
Equity issuance
190,000 k
-
The relative impact of the highest WACC (LSE) over the lowest (NYSE) would be of 800 000 euros
HK
9.24%
-
NYSE
8.97%
The “fitting price” (relative impact of listing on proper stock exchange) would be of 513 000 euros or 228 000 for Paris Euronext or HKSE, respectively
NASDAQ
8.97%
PARIS EURONEXT
9.09%
LSE
9.38%
Next Step: -
Checking out which issuance price these WACC will be related to Quantitatively measuring the qualitative advantages and governance costs of listing on Paris Euronext or Hong-Kong Stock Exchange to know whether the “fitting prices” are too high ot not
4
Ballpark for equity value is €1,54 Billion with IPO at €1,03 - ECM, Investor-side
5
DCF – First ballpark 2011 Proj.
2012 Proj.
2013 Proj.
€ 609 458
€ 729 474
€ 846 737
€ 950 922
€ 1 055 106
€ 1 159 291
141 401
169 661
203 041
228 024
253 006
277 989
29 126
35 120
42 804
48 071
53 337
58 604
112 275
134 541
160 237
179 953
199 669
219 385
Trade receivables
57 673
62 241
72 309
81 206
90 103
99 000
Inventory
86 827
103 925
115 991
130 263
144 535
158 806
Trade payables
58 834
77 169
94 716
106 370
118 024
129 678
Capital expenditures
34 613
47 416
55 038
61 810
68 582
75 354
Tax (analyst)
0.23
0.23
0.23
0.23
0.23
0.23
Net sales EBITDA Depreciation and Amortization EBIT
Non Cash Working Capital Change in NCWC FCF Perpetuity growth rate (analyst) terminal value adjusted FCF for final year denominator for NPV calculation NPV WACC (analyst) Value of equity
85 666
88 997 3 331 87969.57
93 584 4 587 106561.49
2014 Proj.
Main insights
2010 Est.
105 099 11 515 113309.81
2015 Proj.
116 614 11 515 126985.13
128 128 11 514 140662.45
0.02 1793446.238 1934108.688 1.1 1.21 1.331 1.4641 1.61051 79972.33636 88067.34711 85131.33734 86732.55242 1200929.325
0.1 1540832.898
Value per share (with 1500000 shares)
1.027221932
-
With unspecific inputs (perpetuity growth rate at 2% and WACC at 10%), value of equity reaches €1,54 Billion
-
Price per share for an issuance of 1 500 000 000 shares is €1,027
Next Step -
Multiples cross-checking Sensitivity analysis to check out how these figures will vary according to the stock exchanges
Between €1.08 and €1,14 on top places according to growth rate - ECM, Investor-side DCF – Ballpark for relevant stock exchanges Cost of Equity HK
NYSE
PARIS EURONEXT
LSE
0.092401981
0.08973414
0.090913932
0.093833955
Perpetuity Growth Rate
Value of Equity €
Price Per Share €
0.01
1544616.461
1.029744307
0.015
1622049.897
1.081366598
0.02
1710178.266
1.140118844
0.03
1928803.068
1.285868712
0.04
2230869.295
1.487246197
0.01
1599051.123
1.066034082
0.015
1682746.718
1.121831145
0.02
1778444.41
1.185629607
0.03
2017901.603
1.345267735
0.04
2353653.692
1.569102462
0.01 0.015 0.02 0.03
1574532.725 1655375.542 1747618.492 1977533.874
1.049688483 1.103583695 1.165078994 1.318355916
0.04
2297764.569
1.531843046
0.01
1516837.645
1.011225097
0.015
1591175.377
1.060783585
0.02
1675581.34
1.117054227
0.03
1884061.478
1.256040985
0.04
2169994.643
1.446663096
Assumptions: - The beauty sector can observe a sustainable growth of 5% in almost every markets in average - L’Occitane’s minimum sustainable profitability is of 10%; ROE should be of 20%; Plowback should be near from 40% - Beauty is a mature industry and 1.5% is realistic growth rate for Europe or US but could be higher for Asian markets (see green highlights) Chart’s rationale: - Sensibility analysis based on different stock markets (Nasdaq excluded for irrelevance) and on potential changes in the perpetuity growth rate in the previous DCF model
Main insights: - This sensitivity analysis highlights the strong impact of the perpetuity growth rate on the value of firm equity. - NYSE should allow an higher IPO price - Paris Euronext allows an average price belonging to the bracket [1,04; 1,53]. - Due to a potentially higher perpetuity growth rate, HKEX allows an higher price per share than Paris Euronext or NYSE
5
Multiples confirm a ballpark between €0.62 and €1,187
6
P/E - Peers: companies exhibit 10 - Calculation: average P/E * EPS - Average P/E ratio: 25,942 - Theoretical EPS: 0,045818 -
Price per share = € 1,187 = slightly above our first ballpark, sets a maximum
EV/SALES and EV/EBITDA - Information source: 2010 annual report - Peers: L’Oréal, Avon, Estée Lauder
-
Average EV/Sales: 1,61 Calculation: average EV * Sales – net debt minorities = market capitalization Price per share = market cap/ shares outstanding Price per share = € 0,62 = very low price due to selected peers, sets a bottom limit for the ballpark
L'Oréal Market value of equity Market value of debt Cash and Cash equivalent Sales
-
Average EV/EBITDA: 10,805 Calculation: average EV * EBITDA– net debt minorities = market capitalization Price per share = market cap/ shares outstanding Price per share = € 0,986 = Confirms our first ballpark
EBITDA EV
AVON
Estée Lauder
43628640263 18509166000 5201487000 1591300000
3136200000 1228400000
1550400000
1179900000 1120700000
19495800000 10731300000 7795800000
3791100000
1267900000 1116500000
43669540263 20465466000 5309187000
EV/EBITDA
11,5189629 16,14123038 4,755205553
EV/SALES
2,239946053 1,907081714 0,681031709
An IPO at €0,99 would drive the most equity - ECM, Company versus Bank-side
Company
The tradeoff is between obtaining a 7% fixed fee on the total issuance and making the margin on the stock price increase after issuance. Usually-speaking, it is better not to seek a too high fee in absolute and trying to lower the IPO price in order to make the margin which is usually of 10% minimum over the IPO price but is uncertain
Discounted average first-day return
Perpetuity rate
Maximizing the par value at issuance should be logical because it would maximize the funding obtained from the IPO. Yet, if the price is too high, investors wont buy and the stock price will decrease leading to long term disinterest from the investors
Bank
RATIONALE
A 1.5% perpetuity growth is low, yet realistic. The lower the rate is, the lower the valuation is, and the more an Investment bank can make on the first day of trading. 1,5% is consistent with the sales growth of the cosmetics industry in the most mature markets provided in exhibit 2: France, the US and Japan are respectively at 1.1, 1.9 and 1.5%. Discounted average first-day return to : - Compensate for investors taking the risk of the IPO - Increase the post-issue trading volume of the stock - Ensure a wide based of owners - Increase publicity on the opening day
COST OF EQUITY Conservative assumption PERPETUITY RATE conservative assumption EQUITY VALUE
PARIS EURONEXT
HONG-KONG
9.09%
9.24%
1.50%
2.00%
€ 1,655,375.54
€ 1,710,178.26
NB OF SHARES PRICE PER SHARE FIRST-DAY RETURN* FINAL PRICE PER SHARE
1,500,000,000 1.10 €
1.14 €
10.60%
15.40%
€ 0.9978
€ 0.9878
6
Considering corporate governance to lock-in the price - ECM, Investor-side TWO CATEGORIES OF CORPORATE GOVERNANCE ISSUES
1- Issues that are apparent right now, that can be inferred from the past transactions and that creates conflicts with shareholders’ interests 2- Prospective issues that might arise and effect the shareholder rights, consequential of the eventual listing in a particular exchange
EXISTING ISSUES 1) Board : contrary to best practice, Mr Reinold Geiger holds both CEO and Chairman position - Can lead to “Agency Conflicts” and shareholders’ control rights can get reduced - If the situation does not change post IPO (highly plausible), Equity risk premium could be higher 2) Only three independent directors - if there are less independent directors in the board ,that’s a red flag with regard to corporate governance in the company. - Can lead to less controlling rights, which is riskier for investments and it would lead to a lower price 3) 25% interest held by Geiger and another management group, financed with a €174 million debt (31st December 2009) - Buy Out partially financed in part with debt with a senior credit facility with a limit of 205 Million Euro
PROSPECTIVE ISSUES
1) Listing on HKSE -
-
-
With a listing on the HKSE, regulatory framework and how that might have impact on the rights of minority shareholders must be taken into account Although HKEX benefits from its geographical proximity to mainland china ,it has relatively less stringent corporate governance requirements One share, one vote
7
Considering corporate governance to lock-in the price - ECM, Investor-side LSE
NYSE
HKEX
7
Considering corporate governance to lock-in the price - ECM, Investor-side
Our approach consists in analyzing the potential governance of L’Occitane through the lense of the Governance Risk Indicator of the Institutional Shareholder Service. Then, we determine if L’Occitane is approaching towards the “Dictatorship Company” or the “Democracy Company” described in the “Corporate Governance and Equity Prices” Paper by Gompers and Ishii (Harvard) and Metrick (U Penn). Once this is done, we reflect the impact of such governance on the share price by taking into account the stock market performance of Dictatorship and Democracy Companies of the paper. First Step: In light of the following ISS criteria…
B1.7: classification of the Chairman of the Board? B1.8: are the Chairman and CEO the same person? B3.2: how many other boards does the Chairman serve on? S1.1: does the company have shares with different voting rights? Also, we will look at the ownership structure of L’Occitane. … We can conclude: Because Geiger is classified as an executive, is Chairman and CEO, this is not favorable for L’Occitane. However, Geiger does not sit on other boards, which mitigates the negative impact on the company. Concerning shares, since we are considering Paris Euronext, we believe Geiger will probably keep more voting rights for himself. If they list in Hong Kong, this will not be possible. Let’s note that given our estimation of total equity equal to 1.54 Billion and the 189 Million that Geiger possesses, he would theoretically own 12.27% of the company. That would make him a very big shareholder, which is negative for governance. All in all, L’Occitane presents major concerns relative to Geiger’s power.
7
Considering corporate governance to lock-in the price - ECM, Investor-side
Second step: In light of step 1, it is possible that L’Occitane will be close to a “Dictatorship Company”. Per the authors, these companies have lower sales growth over 5 years. Indeed, over 5 years, sales growth is 44.7% for dictatorship companies versus 62.7% for democracy companies. Given the scoring that was used (democracy: 5 points / dictatorship: 14 points) and the statistical distribution of companies (average score is 8.5), an average sales growth of 51.7% seems reasonable (one point under the median for a dispersion of 9 translates into two points under the median for a dispersion of 18). Therefore, sales are 7% under the average company for the dictatorship company.
We have modified our DCF accordingly: projected sales for the next five years are 7% lower. EBIT is on average equal to 18.5% of sales in the analyst’s projections so we noted EBIT as equal to 0.185*Sales for this new DCF. This gives us a new value of 1.38 Billion for L’Occitane, and a share price of 0.92 euros. Conclusion: The fact that so much power is concentrated in the hands of Geiger at L’Occitane has resulted – in our model – in a share price that is lower by 0.1 euros. That is, approximately 9% lower.
7
Wrap-up: Listing on HKEX Alternatives
Denomination
1
Paris Euronext and HK
7
Specifics
Rationale
2/3 of the shares on Paris Euronext with 60% Class B shares and 40% Class A shares + 1/3 of the shares on HKEX
-
2
Paris Euronext
3
HKEX
60% Class B shares and 40% Class A shares
Limit
Paris Euronext Allows an higher IPO price Hong-Kong does not allow dualand the issuance of two different classes class of shares and the costs of a of shares double IPO would be too high Two classes of shares would allow to raise more money and better distribute the ownership Paris Euronext is also qualitatively the best place of issuance for market acceptance Hong-Kong allows to raise slightly less capital but the financial success is allegedly superior and it would help M&A strategies in the Asian market
Same as above
Impossible macroeconomic situation, all the more so for a penny stock
Same as above + HKEX allows an equal recognition benefit and better growth opportunities
Less capital to be raised but superior chance of success
