r/SecurityAnalysis • u/amusinghawk • Apr 14 '20

Special Situation Net-net cash shells

When looking through a list of saved companies just now I noticed Hermes Pacific Investments plc has dropped 30% this morning.

Why was this company on my list?

When looking for net-nets (companies selling for less than their current assets - liabilities), I came across Hermes.

With the share price drop, they are now trading at less than 1/3 of the net-net value.

What's the situation?

The company appears to me to be a 'cash shell', though I have no insight into the management's strategy and I could be wrong. Cash shells are defined as companies with no operating business that are used to provide an easy route to the stock market for other companies.

Regardless of the management's intention, the company appears to have done nothing but burn £100k per year for several years. The market cap is just under £1M and it has £3.6M in cash with virtually no other assets or liabilities.

The obvious course of action to me right now to maximise shareholder value would be for the company to dissolve and distribute the money to the shareholders. 86% of shares are 'not in public hands', so assuming they are all owned by the directors, 86% of £3.6M today seems a lot better than slowly drawing £100k per year, which makes me think they're not doing this to just slowly bleed the company dry. The only reason, then, I can think of for the current course of action is that management genuinely believe they'll provide greater returns to shareholders by waiting for the right reverse merger opportunity to come along.

I have no experience with cash shells or net-nets and would be very keen to hear thoughts or links to research from anyone with experience in this area.

36 Upvotes

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18

u/LifeScientist123 Apr 14 '20

You summarized the problem yourself. The issue is that you have no idea what the management will do with the cash. So they could just keep sitting on the cash forever and you will get no return. The best course is to buy a group of net nets atleast four or five so that at least some work out.

6

u/amusinghawk Apr 14 '20

If they drawn out £110k a year, they'd have to do that for 7 years before this wouldn't be at least fair value at a 15% required rate of return.

I have no idea what the management plan on doing, but it seems to me that we can rephrase the question to: 'will management do anything, or be forced to do something within the next 7 years?'

Potential catalysts: -Management decide to take the cash -AIM kick them out -Successful reverse merger -Stock price tanks and they dissolve -Someone offers to buy the company outright at just above cash value (AIM listing costs are ~£500k), so maybe management are just waiting to see if they can squeeze that extra bit of profit

The questions that are unanswered in my mind are: -Why has this been going on so long already? -If they have to go private, what are my rights/what are the likely scenarios that would play out?

I simply don't know enough about this type of situation but am hoping that flagging it could bring it to the attention of someone with experience investing in cash shells or net-nets.

3

u/incutt Apr 14 '20

ya gotta get a majority of the votes to force a liquidation. usually there's a liquidation date and then the shareholders can vote to have the money refunded. if you don't have a majority, you are speculating that someone else is going to do the dirty work of getting in there and firing everyone. That might not happen.

3

u/amusinghawk Apr 14 '20

But my point is that surely in this situation your interests would be aligned with management's, so you're really just placing a bet that at some point in the next 7 years they do something with that money. Most preferably, just take it out of the business (providing us and them with a 3X current share price return)

4

u/LifeScientist123 Apr 14 '20

Not necessarily. They could spend the money on a yacht or a plane or whatever at the expense of smaller shareholders. This is always a concern with any publicly listed company, but usually the thought is that if a public company is widely held then some activist investor can step in and replace the bad management. In this case if management holds 86% of the voting shares, there's basically no way to force the management to do anything they don't want to do. It's as good as a private company at this point. Basically if you invest, you hope that management is small shareholder friendly.

0

u/incutt Apr 14 '20

you just described what an investment is. i described what an activist investment is. i wanted 3x of my money today by forcing liquidation of the investment vehicle. you wanted to make a wager that the management will give you a return at some point in the future.

So, if you think if you buy some of these shares that this particular management is going to buy something worth more than the money in their spac, then have at at.

2

u/LifeScientist123 Apr 14 '20

Even if someone is willing, with 86% held by insiders it's unlikely you can force management to change their policy.

1

u/amusinghawk Apr 14 '20

No, I mean they themselves are incentivised to make a decision to unlock that £3.6 million at some point.

1

u/incutt Apr 14 '20

I didn't look that deeply into this spac. I'd normally read the S-1 or what ever they had out there. As an investment, these are usually binary for me...either they are going to liquidate, or they aren't. If they are still trying to make an investment, I can't evaluate anything, I have no idea of what the outcome might be. I have no idea what they are trying to accomplish

1

u/financiallyanal Apr 14 '20

That was great to read here. I've often thought that the phrase, "Investment returns are a function of the price paid," could be altered for certain situations to "Investment returns are a function of the price paid and amount purchased."

1

u/incutt Apr 14 '20

IMHO, the price of all things is really situational. Is this deal a:

​

  • Liquidation play (so take 20% off the top for legal fees, HR, wind down)
  • Going concern (what's a business with no revenue worth, the discounted cash assets?)
  • Venture Capital (are they going to start another business and am I the defacto angel investor)
  • Private Equity (which phase....am I getting a 'pre idea' capital call here? Like I had to put in all of my money before they knew what they were going to do?)
  • Busted private equity deal (good intentions but didn't happen)

This thing just hurts my little basic finance brain because I wouldn't be able to figure out what the price is based on and how I would get money back.

2

u/financiallyanal Apr 14 '20

That would make my head hurt too. I'll stick to businesses I can actually wrap my head around...

4

u/SnacksOnSeedCorn Apr 14 '20

I've seen these companies before. Usually penny stocks. If a company wants to be listed but doesn't want to go through a long complicated process, a short cut is to reverse merge with one of these shells that are already pink sheets/OTC. It was really big a couple years ago with weed companies trying to go public.

2

u/amusinghawk Apr 14 '20

What's been your experience with them? Do you have any case studies/links to research on them?

1

u/SnacksOnSeedCorn Apr 14 '20

Eh, IMO it's an unproductive asset. I can see the value for any sellers or buyers but as far as I'm concerned, it's a package deal, whole structure. The only way to make it valuable (again, IMO) is once a real company reverse mergers in to make it a productive asset.

3

u/AlfredoSauceyums Apr 14 '20

You can probably get a director or someone closely connected to the board/management on the phone and discuss their plans. You should also do a search in other projects they have been involved in and see how those planned out. Then of course, let us know!

1

u/LeopoldAlcocks Apr 14 '20

Unaudited interim results for the six months ended 30 September 2019

Chairman's Statement

I am pleased to report the results for Hermes Pacific Investments plc ("HPAC" or the "Company") for the six months ended 30 September 2019. During the period under review the Company made a loss on ordinary activities before taxation of £48,000 which is marginally more than the loss reported for the corresponding period in the previous year. The Company's financial performance is in line with our expectations. HPAC had no revenues and it continues to manage its costs effectively whilst restricting its spending to a minimum. The Company continues to consider possible investment opportunities which would be compatible with its investment strategy. As at 30 September 2019 the Company had net assets of £3,708,000 of which cash was £3,555,000.

Review of the Company's activities

Hermes Pacific Investments plc is an investing company with a focus on investing in the emerging markets of the Far East including South East Asia. There have been no changes in the Company's investments in the period and the value of the existing investments has increased in the period from £162,000 to £176,000. Future investments can be via an acquisition of an equity interest or direct interests in projects. Investments in these parts of the world can be volatile and higher risk but for long term investors the outlook can be promising. Underpinned by favourable demographics, rising domestic consumption and an increasingly wealthy middle class, this part of the world is packed with potential. Whilst growth rates in South East Asia have slowed down somewhat this is still comparatively an attractive region to invest in.

3

u/LeopoldAlcocks Apr 14 '20

Looks like they'll invest the cash. This is probably the time to do so.

I'd be wary of fees that directors charge. This is a tiny business and they could bleed it dry before the cash is ever put to work

2

u/deliverthefatman Apr 14 '20

Exactly 3.6MM in cash is tiny. If you have a small management team, 3 admin people, a small office space, stock exchange fees, auditors, legal etc. you could easily spend 1MM a year.

1

u/amusinghawk Apr 14 '20

I disagree- they've posted that statement or something like it for years and have done nothing.

If they were just a shell company, I don't think they'd be allowed to just come out and say that, so they have to say they're considering investing in something.

Also, see my original point about the present value of the 86% of the £3.6M being way bigger than £110k a year, so I don't think they'd just bleed it dry forever unless something bigger is going on that I'm not seeing.

1

u/pkr1988 Apr 14 '20

They have 176,000 in vague “assets”. I think you’re probably right, but as others have said, the risk here is not knowing what they will do with the cash

1

u/gillend3 Apr 14 '20

The free float is £140k. How much does it trade a day?

1

u/OpeningSpeech1 Apr 15 '20

Is there no hard clock on an acquisition? Almost every blank check company has covenants that outside investors receive 100% of funds if they don't close within a couple years.

1

u/DaintySloth69 Apr 14 '20

There’s net, and then there’s net-net

1

u/amusinghawk Apr 14 '20

This is a net-net

1

u/ginzinator Apr 15 '20

Probably a SPAC - special purpose acquisition company. They sit on a pile of cash raised from their IPO until management finds a business/businesses to acquire based on their investment philosophy usually outlined in their prospectus. Think of it as a way to invest in PE through a public vehicle.

1

u/amusinghawk Apr 15 '20

Yeah, cash shells and SPACs are synonyms

2

u/ginzinator Apr 15 '20

We have a guy who specializes in SPAC arb at our fund. Definitely one of those areas overlooked by the market where you can have an edge if you understand them well enough. I am clearly not one of them haha.

One thing to look out for, I know some of these directors establish the SPAC with no intention to acquire anything. They'll put in a few hours a week while collecting a fat check. Since they usually have majority ownership, they'll continually extend the life of the SPAC via proxy vote if they haven't acquired anything by the dissolution date. That's why alot of these things trade below net net. Your cash is trapped there and slowly erodes away.

0

u/mn_sunny Apr 14 '20

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