A good day for Naspers shareholders. Dare they hope for Tencent-like performance in the future?
Naspers had a very good day yesterday. It ended up over 5% in rands and almost as much in US dollars. It took the JSE higher with it thanks to its large size and share of the JSE by market value (approximately 20% of the All Share Index). Demand for Naspers shares from abroad may even have helped the rand recover on the day. The JSE All Share Index ended up by 15%. Naspers is now worth approximately R1.4 trillion.
The reason for this renewed enthusiasm for Naspers shares was a surprisingly good set of results from Hong Kong-based Tencent – reported after the Hong Kong market closed. Tencent is currently up by 6% in New York. Naspers has a 31.01% share of Tencent worth approximately R2 trillion at the close of trading on the JSE the day before. Naspers understandably rises and falls on a daily basis with the value of Tencent – though not necessarily to the same degree.
That is because there is more to Naspers than its stake in Tencent. We show in the figure below that the market value of Naspers has trailed behind that of Tencent, when both are measured in US dollars. Tencent is up 12 times since 2010 and Naspers has added (only!) about six times to its 2010 value.
Tencent and Naspers have also outperformed the S&P 500 Information Technology sector that includes all the big names in US technology stocks (the famous FAANGS) Facebook, Apple, Amazon Netflix, Google (Alphabet) to which Microsoft could be added, another superb IT company. On a day-to-day basis there is also a highly correlated movement between Tencent and the S&P Information Technology Index. Tencent and Naspers are high beta plays on global IT, but with significant alpha to add to returns.
Yet Naspers, while worth R1.4 trillion, is valued at significantly less than its stake in Tencent. Naspers furthermore has other assets – as well as debts and cash – that would add further to the difference between the sum of Naspers’ parts – its net asset value (NAV) and its market value. This difference between what Naspers would be worth if broken up and sold off and what it is worth as a going concern is a mammoth R700bn. Put another way, the Naspers management, while to be congratulated on their decision to invest in Tencent in the early 2000s, could possibly be accused of wealth destruction elsewhere. Everything else that it has done, other than invest in Tencent, has reduced the wealth of its shareholders.
Naspers conducts a very large investment programme, investing far more than the cash it has received as dividends from Tencent – US$248m in 2017. According to David Smith of Investec Securities, Naspers injected net cash into its ventures of US$3.43bn in 2014, US$1.43bn in 2015 and US$1.98bn in 2016. In 2017 it extracted cash (reduced debts) by US$1.8bn.
Recently Naspers enjoyed a major success when it sold its stake in Flipkart – an Indian internet company for US$2.2bn, realising a gain of US$1.6bn, or a rate of return of about 21% p.a. over six years and for about 30% or US$500m more than the market had thought it was worth. Clearly value adding but not as value adding as the 41% p.a. returns generated by its investment in Tencent over the same period.
The proceeds of this sale, as well as the R10bn received from reducing the Naspers share of Tencent to 31%, has since been added to the Naspers cash pile. Were investors of the view that this cash could produce cost of capital-beating returns of the Flipkart kind, the market value of Naspers would benefit and the gap between NAV and market value would narrow. Or equivalently, Naspers could then perform more closely in line with Tencent.
But this appears not to be the case. The market appears of the view that the stronger the Naspers balance sheet, the more its stake in Tencent is worth and the more cash it has to invest, the more it will be inclined to invest in ventures that destroy value for shareholders. That is to say, the cash invested by Naspers is expected to earn less than if the cash were returned to shareholders and invested by them. The large difference between NAV and the market value of a Naspers share reflects in part the losses expected to be incurred in the investment decisions the company will make in the future. The market value of Naspers is set lower to compensate shareholders for this danger that their capital will be wasted on a large scale. Only a lower Naspers share price can then offer market equaling returns; hence the gap between NAV and the market value.
A further reason why Naspers has lagged behind Tencent is that Naspers has issueda large number of shares. Shares have been issued not only to fund its investment programme but also to reward its managers. There were 290.6m Naspers N (low voting) shares in 2006. By 2017 this had grown to 431.5m shares in issue, an increase of 48%. Between 2012 and 2017, Naspers issued an extra 46.8m shares with 58% of the new issues going tp staff compensation. Tencent by contrast has issued very few shares over the years. Clearly the value of a Naspers share reflects in part the danger of further dilution of this order of magnitude.
Naspers could add market value and close the value gap by adopting a more disciplined approach to its investment and incentive programmes and convincing investors that it would do so. In other words, to quote its one time MD and now chairman, Koos Bekker, to throw less spaghetti at the wall so that perhaps more will stick. And to align the interests of managers and its shareholders by rewarding both in some proportion to a reduction in the absolute gap between the NAV and market value of Naspers.
Perhaps some progress in this regard is being made. This year the performance of Naspers and Tencent has been better aligned – as we show below and is reflected in a more stable ratio Naspers/Tencent over recent months. Shareholders in Naspers will hope for more of this more comparable performance. 17 May 2018