Ann: REH - ASX Announcement Equity Raise, page-11

@nicarena,

I agree with you about being wary of debt; I am a debt averse investor generally.

But that's principally because most companies lack the sort of robust business model that can bear much debt.

That said, looking at a company's borrowings, in isolation, risks giving false signals.

To obtain the full picture one needs to assess the level of borrowings in the context of the capital intensity of a company and the capital commitments it may have.

In Reece's case, before this capital raising the company's Net Nebt was $1.6bn, corresponding to Net Debt to EBITDA ratio of 2.7x.

That's on the high side, but not extraordinarily so, and would be eminently manageable given the company's significant free cash flow generation:

For context even when Reece is undertaking significant investment in its assets, Operating Cash Flow is over 5 times higher than the level of Investment in PP&E+Intangibles.

As a result, the company currently generates in excess of $350m pa of Free Cash Flow (out of which it pays out around $160m pa in dividends, so ~$200m pa of surplus capital is available for debt reduction).

Within two years, the company's Net Debt to EBITDA metric would have been almost at 2x.

I was a decidedly circumspect when Reece's acquired MORESCO, but Reece's most recent financial result provided the first signs of the value creation potential of Morsco (9% like-for-like top line growth after only been in Reece's hands for 12 months).


Make no mistake, had the world not been impacted by the dramatic events of the past few weeks, Reece's share price - like the prices of every other listed company - would have been a lot higher than it is today.

And the company would certainly not have been tapping shareholders for additional funds.


But here's the really interesting thing, which some posters seem to have missed:

If we take a meaningful investment time horizon of, say, 12 months, then Reece's share price today reflects a smaller 12-month fall (13% down) than the overall market (17% lower than a year ago).

And that's even after the company has gone ex- capital raising!

So let's consider the beneficial impact for small investors of this capital raising:

Assume one 12-months ago bought, say, $35,000 worth of Reece shares (the price this time last year was $10.00, so one would have owned 3,500 shares).

And then assume one sold those shares today at the average daily price of $8.80 (realising $30,800) in order to fund participation in the 3 for 55 entitlement offer (so 191 shares @ $7.60, for $1,450 outlay) and the SPP (3,862 shares @ $7.60, so ~$29,350).

Then one's investment in Reece would now be worth $35,380 (4,053 shares at the closing price of $8.73).

In other words, one's capital position would be unchanged over the past 12 months, compared to the 17% fall in the overall market.

Actually, one would be 1% better off, so your investment in Reece would have outperformed the market by a whopping 18% over that investment time horizon. (Oh, and one would also have a $4,200 capital loss with which to use as an offset against other capital gains).




So, to simply adopt the view of, "They got it wrong and took on too much debt and now they need to raise capital and that is a bad thing for shareholders", is actually a completely flawed conclusion because it fails to properly consider the mechanics of the capital raising.

Some capital raisings are quite value accretive for small shareholders (if directors make it their business to consider the position of minority shareholders... which is what has happened here).

And in this case, it is the Wilson family that is being diluted.


The fact is that the stock has outperformed the market (I know it might not feel like it) even after it went ex- the entitlement to participate in the capital raising [*], and by participating in the capital raising small shareholders are even more better off than they would have been if they owned the Index.


[*] Reece Investment Returns vs The All Ordinaries Index (XAO)
3-Months: REH = -24%, XAO = -23%
6-Months: REH = -17%, XAO = -20%
9-Months: REH = -11%, XAO = -21%
12-Months: REH = -13%, XAO = -17%