Tim Gosling in Prague -
The Czech Republic is now a "developed economy," according to the likes of the European Bank for Reconstruction and Development. But as the rough treatment of minority shareholders by one of the country's most powerful financial groups illustrates, there's still plenty of risk for investors.
There is "no reason to hold shares" in the Czech Republic's largest telecommunications company O2, analysts at Erste Bank stated on November 4. That dire warning comes in the wake of moves by PPF Group – which bought control of O2 12 months previously – that suggest it wants to squeeze out remaining minority shareholders and use the company to funnel cash to its other businesses.
The market has been wary of the intentions of PPF – the investment vehicle of the Czech Republic's richest man, the reclusive Petr Kellner – since it agreed to pay Spain's Telefonica €2.47bn (or CZK305.6 per share) for its 65.9% stake in O2 in November 2013. Kellner's company negotiated a €2.3bn loan to fund the deal. Analysts promptly began speculating that O2 would soon be delisted, as PPF is not in the habit of operating under shareholder scrutiny.
That process looked to have begun six months after PPF took control of O2 in January. Following a drawn-out debate with the central bank over the pricing, PPF acquired in July a further 7.16% in a buyout of minority shareholders at CZK295.15.
However, PPF rejected around half the applications from shareholders looking to take part. It claimed this was due to "formal shortcomings," but did not elaborate. In August, the local subsidiary of UniCredit Group stepped in to buy 5.68% from those investors still seeking to sell.
The process suddenly accelerated in the autumn, with PPF growing more pushy. The last day of October it announced it has boosted its holding to 83.15%. UniCredit provided around 5.5%, with the assumption being that a further 4% or so was bought from Telefonica, which had retained 4.9% during the original sale.
Milking the cash cow
However, it was a move in mid-October that really caused consternation. O2 announced on October 14 it had received a request from the majority shareholder, PPF, for a loan of CZK24.8bn (€892m) to be used to pay down part of the debt it took on to fund the acquisition of the telecom firm.
This is a highly antagonistic move for minority shareholders, who have got used to high dividend payments under Telefonica. Additional interest in the stock had also been driven by the fact that O2 had very low debt, opening the way to speculation in recent years that the telecommunications company could borrow to improve its capital structure to the benefit of all. "But now it seems that only the majority shareholder will benefit from increasing O2’s indebtedness," says Josef Nemy at Komercni banka.
To add insult to injury, while the details of the loan are not yet public, O2 has said that interest will only be paid at maturity – the facility is for seven years. In other words, PPF – which is reported to be struggling due to its high exposure to Russia, whose economy is floundering as sanctions start to bite – would get an additional boost thanks to zero cash interest costs.
O2 now needs to call a shareholder meeting to approve the demand, but that emergency general meeting is likely to be little more than a rubber stamp. "The quorum needed for approval is two-thirds of participating shareholders, according to law," points out Petr Bartek, head of equities research in the Czech Republic for Erste Bank. "PPF has a 73% stake in O2, so it will be a formality." The only two significant minority shareholders in O2 at the time the loan was proposed were its bank UniCredit and Telefonica.
The rough treatment of minority shareholders looks to be part of a strategy by PPF to collect the rest of O2 stock at a knock-down price and take it private. Without a chance of fighting the loan proposal, minority shareholders face years without a dividend, and that will depress the value of their shares.
Lowering Erste's target price for the shares from CZK300 to just CZK225, Bartek's colleague Vera Sutedja predicted in a note on November 4 that, "PPF might launch another bid with a price lower than the previous bid of CZK295.15".
Delisting is possible if 75% of shareholders approve. Meanwhile, PPF could trigger a squeeze-out of minority shareholders if its stake reaches 90% of the share capital and voting rights.
Kellner is not the only Czech billionaire causing shareholders headaches. Mining magnate Zdenek Bakala's New World Resources pushed through a rights issue in September as it struggles in the face of weak global coal prices. The shares were sold at a discount of over 80% to the price of NWR shares in July to raise €118m. Bondholders will also take a hard hit.
While Bakala is immensely unpopular in his home country, with both politicians and the public – he is considered the Czech billionaire most likely to have gained his fortune unscrupulously, according to a poll by the weekly Tyden published in early November – his name may not be so muddy amongst international investors. His holding company CERCL Mining did itself put in €75m in during the issue, and Bartek insists that the restructuring of the company "was a tough fight, but fair".
However, investors in some other Czech companies have more reason to complain. One high-profile case was that of second-hand car trader AAA Auto. The company drove into a brick wall almost immediately following an IPO at CZK55 per share in 2007. In early 2013, CEO and majority shareholder Anthony Denny announced plans to delist.
Although Denny failed to get to the 90% squeezeout threshold, he did manage to pull AAA off the main stock market in Prague, despite some effort by investors to resist the move, points out Nemy. That sent the shares tumbling, and minority shareholders were offered just CZK23 a share. Private equity fund Abris Capital Partners announced in October that it was buying a majority stake in AAA at CZK94 a share.
Still, Bartek suggests that events at PPF should not necessarily raise wider concern over the risks of investing in the Czech market. "PPF's request is certainly not friendly to minority shareholders," he admits. "However, it is legal and our law is in line with EU standards. PPF could theoretically do the same anywhere in the EU."
He also points out that despite the warnings from across the market, and even his own bank's suggestion that there is no reason to hold onto shares in the telecom firm, PPF is yet to twist the knife. "We don't know O2's future dividend policy," he says. "The loan would be acceptable (ie. not that high) if O2 continues to pay solid dividends. I thus would not draw any broader conclusion from this single case."
Nemy draws a different conclusion, however. "All in all," he sighs, "I'm afraid this case once again supports the concerns of some investors that corporate governance is weaker on emerging markets, including those in Central and Eastern Europe."
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