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Brian Gaynor 's Opinion

Investment columnist for the NZ Herald

Brian Gaynor: Tortoise and hare applies in business, too

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Dairy firm's buying frenzy contrasts with Ryman's measured approachChairman Keith Smith said NZ Farming Systems Uruguay was a unique investment opportunity. Photo / Greg Bowker
Dairy firm's buying frenzy contrasts with Ryman's measured approachChairman Keith Smith said NZ Farming Systems Uruguay was a unique investment opportunity. Photo / Greg Bowker

Recent developments show business success is more about execution than ideas.

Two of the most obvious examples are NZ Farming Systems Uruguay, which has succumbed to Olam's third takeover offer, and Ryman Healthcare, which has announced its interim result for the March 2013 year.

NZ Farming Systems Uruguay (NZS) issued its initial prospectus in November 2006 for the sale of new shares to the public at $1 each.

Chairman Keith Smith wrote: "NZ Farming Systems Uruguay is a unique investment opportunity. The board considers that PGG Wrightson (the promoters of the issue) has an unmatched combination of knowledge, experience and demonstrated capability, and the infrastructure to be able to put in place the comprehensive package of skills necessary to create a profitable farming business in Uruguay."

Smith was a PGG Wrightson director as were three other NZS directors, Craig Norgate, Murray Flett and Sam Maling.

There was a huge conflict of interest between NZS and PGG Wrightson because the latter had a management contract over the Uruguay-based company.

The management fee structure was as follows:

*1.5 per cent per annum of the gross value of NZS until June 30, 2008, thereafter reducing to 1 per cent per annum.

*A performance fee equal to 20 per cent of any NZS total shareholder returns (capital plus dividends) in excess of 10 per cent per annum.

The management company had a major incentive to grow NZS as quickly as possible because its core management fee was based on the gross value of NZS's assets and this would decrease after June 2008.

NZS's initial plan was to buy 2686ha of farms from PGG Wrightson and a further 4000ha shortly afterwards. NZS's long-term target was to buy 24,000ha of Uruguayan farmland.

However, contrary to its prospectus projections, NZS went on a frenzied farm purchase spree and by June 2007 had acquired 26,523ha.

This had grown to 36,300ha by June 2008.

As at June 30, 2008 NZS had total debt of US$96.6 million ($118.3 million), compared to a nil projection for that date in the 2006 prospectus, and revenue of US$8 million compared with the prospectus projection of US$12.3 million.

NZS was a good idea but its execution was dreadful and the blame lies fairly and squarely on PGG Wrightson and the NZS board.

Its poor performance has not been due to any unforeseen developments. The board allowed PGG Wrightson to adopt a frenzied farm acquisition strategy that was inconsistent with the plans in the 2006 prospectus.

The company was severely weakened by too much debt and Singapore-based Olam International has made three takeover offers for NZS.

Olam reached 77.98 per cent through its 70c a share offer in 2010. It achieved 85.93 per cent through its 2011 bid at 70c a share and it has reached 90 per cent, and is moving to compulsory acquisition, through its latest 75c a share offer.

One of the more interesting aspects of these bids is that the independent valuation has fallen steadily from the 64.9c to 79.2c range at the time of the first bid to only 52c to 65c for the latest bid.

The reasons for this are two-fold:

*NZS's net debt has soared from US$42.7 million in 2010, to US$118.1 million the following year and US$149.7 million in the latest independent valuation.

*The NZD/USD exchange rate has risen from US70.5c to US79c to US82c over the same period.

By contrast another New Zealand-owned dairy company, Chile-based Manuka SA, has performed much better than NZS.

Manuka, which owns 22,578ha in Chile and produced 103 million litres of milk in the June 2012 year compared with NZS's 152 million litres, has higher productivity in terms of cows per hectare and litres of milk per hectare.

But the biggest difference between NZS and Manuka is that the former paid far too much for its land during its frenzied buying spree and, as a consequence, has far more borrowings than Manuka.

The Craig Norgate-controlled PGG Wrightson took NZS on a roller coaster ride, which must have been sanctioned by the remaining NZS board members, whereas the Manuka board is dominated by a number of sensible and experienced dairy farmers, including chairman Mark Townshend and fellow director Sir Henry van der Heyden.

Manuka seems to be managing and executing its South American investments far more effectively than NZS.

While on the topic of poor decisions the $10.2 million term loan by NZX-listed Livestock Improvement Corporation (LIC) to Agria, PGG Wrightson's controlling shareholder, is one of the poorest lending decisions in recent years.

This loan, which has second ranking security of Agria's PGW Wrightson shares, was not repaid on its due date of October 28.

It is difficult to understand why this money was lent to Agria when the latter has such a poor level of disclosure and its only significant asset appears to be its shareholding in PGG Wrightson, which doesn't pay a dividend.

At the other end of the execution and decision-making scale is Ryman Healthcare, which has consistently proven that it is the best governed and managed NZX-listed company.

Ryman was founded by John Ryder and Kevin Hickman in 1984 and opened its first retirement village in Christchurch two years later.

The company listed on the NZX in mid-1999 following the issue of shares to the public at $1.35 each.

The company has subsequently had a five for one share split and its original $1.35 shares are now worth the equivalent of $20.75. In addition the company has paid taxable dividends of $222 million, or $2.22 per original share, since listing.

The similarity between NZS and Ryman is that they both had to acquire land, the former for dairy farms and the latter for its retirement villages.

However, they went about it in totally different ways with NZS acting as if Uruguay was rapidly running out of farm land whereas Ryman has adopted a much more measured approach.

NZS was an overconfident hare while Ryman is a measured tortoise.

Ryman has 25 New Zealand villages with 3274 units and 2174 rest home/hospital beds at the end of its March 2012 financial year.

The company's next big step is its expansion into Australia.

Twelve months ago it acquired a 2.2ha site in the Melbourne suburb of Wheelers Hill where it plans to have 80 aged care beds and over 250 retirement units. This village will be built on a stage-by-stage basis.

All planning approvals have been received and construction, which is expected to get under way in the New Year, will take around 12 to 14 months.

Therefore no meaningful economic benefit will be felt until the company's March 2015 financial year.

Ryman could easily take its successful business model offshore but it is taking a typical tortoise-like approach towards Melbourne.

Managing director Simon Challies had this to say about the Wheelers Hill village in the company's 2012 annual report: "We recognise that the first village will present a relatively steep learning curve for the company, and we are therefore not committing to any further sites until we have some runs on the board at the first village".

Shareholders can be assured that Ryman Healthcare won't buy any additional Australian sites until the first one is successful.

This is in total contrast to NZ Farming Systems Uruguay which bought more and more farms even though its existing ones were unprofitable.


Brian Gaynor is an executive director of Milford Asset Management which holds Ryman Healthcare shares on behalf of clients.

bgaynor@milfordasset.com

- NZ Herald

Brian Gaynor

Investment columnist for the NZ Herald

Brian Gaynor has written a weekly investment column for the Weekend Herald since April 1997. He has a particular passion for the NZX and its regulation. He has experienced - and suffered through - the non-regulated period prior to the establishment of the Securities Commission in 1978 and the Commission’s weak stewardship until it was replaced by the FMA in 2011. He is also a Portfolio Manager at Milford Asset Management.

Read more by Brian Gaynor

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