Brian Gaynor: Baycorp swoops down the roller coaster

The McLaughlin family are experts at taking investors on roller coaster rides.

When Baycorp was listed in June 1986, after the issue of ordinary shares at $1 each and the granting of one free option for every two shares, Neil McLaughlin was chairman and chief executive.

The company quickly became a market darling and in 1987 its shares traded at a high of $8.60 and its options at $7.50.

The sharemarket crash had a devastating impact on Baycorp and it experienced major operating problems, particularly in Australia. The debt collection company's share price plunged to just 2.5c in 1990 as it sank in a sea of debt and had one foot in the corporate graveyard. It had to close down and write off its Australian operations.

In the early 1990s Baycorp began its strong recovery under the leadership of Charles Bidwell, Jim Boult and Keith McLaughlin, Neil's brother. Its share price rose to $14 in August 2001 and its market value soared to $1.18 billion (the company had a one-for-three share consolidation in 1994 and a two-for-one share split in 1999).

Baycorp took a big step back into the Australian market in December 2001 when it merged with the Sydney-based Data Advantage, a supplier of credit-based information. The merger was supposed to produce synergies, including significant cost savings.

Shareholders were told at the meeting that approved the merger that it would deliver greater management depth and a 41 per cent increase in earnings.

Since then former Data Advantage chief executive David Grafton has resigned and earnings a share for the June 1993 year will be about 50 per cent below the pro forma post merger figure of 17.6Ac. Factors blamed include higher costs, extraordinary write-offs, the poor performance of some divisions and slower than expected returns from its Telstra debt collection contract.

The sharp decline in Baycorp Advantage shares is a salutary lesson of the risks associated with high price/earnings multiple companies. At the time of the merger the new group had a p/e multiple of 36 based on post merger earnings a share of 17.6Ac. Baycorp's p/e multiple has fallen in unison with its earnings a share and at $1.12 the company has a prospective June 2003 year p/e of 12 based on forecast earnings a share of 9Ac.

Investors should not give up on Baycorp as it has a strong business and Keith McLaughlin has proved himself to be a good operator in the past. But he now faces a huge challenge. In the early 1990s Baycorp's recovery began after it closed down its ailing Australian operations. This time McLaughlin has to prove that he can successfully run a business based in Australia.

DB BREWERIES

DB Breweries' recent annual meeting was a low-key event but the shareholders who turned up had plenty to cheer about.

Under managing director Brian Blake the company has divested its non-core activities, particularly wine interests, and focused on brewing. These asset sales enabled the company to pay back $151 million in capital in 2001 and to maintain its earnings on lower revenue and working capital.

In the September 2002 year the company achieved a net profit of $22.6 million on revenue of $287.3 million whereas in the 1998 year it achieved net earnings of $24.6 million on revenue of $664 million. Stocks and debtors have fallen from $159 million at the end of the 1998 year to $53.3 million.

DB has just completed the redevelopment of its Waitemata Brewery site in Otahuhu and chairman David Sadler told the annual meeting that "a significant increase in earnings will flow from the investment". He said the company's capital expenditure and trade investment requirements will be modest from now and the 67 per cent dividend payout ratio will be reviewed, as will the company's debt and equity requirements.

These comments indicate that DB shareholders can expect higher earnings and dividends and another capital repayment.

Sadler and Blake have done a top-class job at DB. Sadler, who retired at the recent annual meeting, was appointed chairman in 1994 and has played a major role in the group's recovery after the disastrous tenure of Brierley Investments as the controlling shareholder.

Blake has turned the company into a highly profitable brewer with a wide range of popular brands.

The board's optimism suggests the company will achieve net earnings of at least $25 million in the current year and could pay a dividend of 37.5c a share and have another capital repayment.

DB is an attractive investment for conservative investors who are looking for high-yielding defensive stocks.

PROPERTY V SHARES

Any commentary on property versus shares attracts more than its fair share of emails and last week's column was no exception.

A number of readers accused me of being little more than a real estate salesperson, producing inflated figures on housing prices by failing to take into account money spent on home improvements. The main complaint was the house price index was inflated because a house purchased for $400,000 and sold for $600,000 is considered to have realised a $200,000 profit even though $200,000 has been spent on improvements. The assessment is incorrect.

Quotable New Zealand's house price index is based on the relationship between the sale price of a property and its Government valuation (GV). The index is determined by calculating the ratio of all sale prices to GV in a given period and comparing this to the sales price/GV ratio in the previous period. The change in the ratio determines the percentage rise or fall in the index.

If a house was bought for $400,000 10 years ago and had a GV of $320,000 then the sales price/GV ratio would have been 1.25. If $200,000 is spent on improvements and it is sold for $600,000, and its GV has risen to $500,000, then its ratio is 1.20. As far as the house price index is concerned this property realised a loss of 4 per cent over the decade (1.20 divided by 1.25) and not a profit of 50 per cent as some critics have claimed.

Quotable New Zealand's house price index attempts to take into account the different size of houses and money spent on improvements. The index is not perfect but is much realistic than figures produced by the real estate industry.

* A mistake appeared in last week's column when a reference was made to December 1999 instead of December 1989. The piece should have read: "Since December 1989, the base period for the house price index, national house prices have risen 74.8 per cent. In Wellington City, the increase is 80.3 per cent and in Auckland City 126.5 per cent. The NZSE40 Capital Index has fallen 2.5 per cent over the same period."

A subsequent paragraph on gearing should also have referred to December 1989, not 1999.

Disclosure of interest: Brian Gaynor is a Baycorp Advantage shareholder

* Email Brian Gaynor