Pepper Group (PEP) is the leading non-bank mortgage lender in the country and a global consumer finance company with operations spanning Europe, South Korea and Hong Kong. TBF Small Cap Value Growth Fund took a position in PEP approximately 4 months ago below $2.80. Our thesis for investing in PEP ticked many of the boxes of what we seek to identify in a company, mainly:
- The business listed over 2 years ago and since then has only exceeded expectations.
- An impressive 5-year track record of growth. AUM growing 91% CAGR to $45B, Total income growing 51% CAGR and NPBT growing from $33M in 2012 to $80M in 2016.
- Management and board that has retained its shares with over 40% equity ownership.
- A diversified business across several geographies and lending segments that survived the greatest financial crisis of all time (GFC).
- Track record of savvy acquisitions or investments – investment in a Chinese consumer finance joint venture that has been recently valued at potentially a billion dollars (PEP ownership is circa $100M valuation), and the acquisition of a deposit taking bank in South Korea, transforming one of the smallest banks in the country to the 10th largest and a major contributor to profits.
- Forecast earnings growth of 15%+ pa over the next 3 years yet the market was only pricing it on 6x PE multiple compared to sector average of 13x.
- A misunderstood business with only 2 brokers covering it.
Based on the company’s guidance the business should earn $68M NPAT in CY2017 or 38 cents EPS. Next year with the addition of the recently announced acquisition of a consumer finance bank in Portugal, we think PEP should earn circa $80M NPAT or an EPS of 45 cents. The stock last closed at $3.50. On 12x multiple the business is worth at least $5.40.
PEP received a takeover offer at $3.63 from private equity firm KKR in late June. We think the takeover offer significantly undervalues PEP based on the above reasoning. KKR is offering the current board equity ownership in a new unlisted entity and so convinced them to recommend the takeover offer.
Our holding in PEP at this stage is too small compared to the market cap of the business to be able to influence the outcome of this takeover, but if it was we would be rejecting the bid at the current indicated price.
Unfotunately it seems that this bid will go ahead and due to our mandate prohibiting us from holding unlisted equities, we have no choice but to take the cash. Overall the TBF Fund returned 30% from its investment in PEP over the last 4 months.
This article is an extract from the TBF July 2017 Monthly Report.
Ron Shamgar is the Chief Investment Officer and Co-founder of TBF Investment Management and has been the Portfolio Manager of the TBF Small Cap Value Growth Fund since 2013. Ron has joint responsibility for research, company analysis, portfolio...
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