Asset Value Investors of the UK with a 1.5% stake in Tokyo Broadcasting System (TBS) (9401:JP) is campaigning for TBS to sell or reduce its long-held 4.7% stake in Tokyo Electron (TEL) (8035).
TBS was a serial under-performer from 2008 to 2014 but, with the shares having doubled since 2012, its recent relative performance has improved.
The TBS securities portfolio now exceeds ¥300b with unrealized gains of ¥216b, of which the stake in TEL constitutes about half. Securities at market are 43% of Total Assets and, with other Financial Assets/Liabilities included, the total rises to 57%.
TBS has relatively modest returns on Operating Assets – 5% for the most recent trailing twelve-month (TTM) period, having improved from the recent lows of 3%.
As working capital only takes up 10 days of sales, the return ‘pick up’ from Operating Leverage is an additional 4.7% taking the TTM Return on Net Operating Assets (RONA) to a respectable 9.9%.
Removing ‘non-core’ items and the trend in Core RONA over the last 28 quarters is one of continual improvement.
The extent to which TBS’s investment portfolio dominates the operating business is clear when comparing the ratio of Net Non-Operating Income (which includes the Securities Valuation Differences component of Other Comprehensive Income) to total Comprehensive Income.
Investors in Japan do not pay much attention Comprehensive Income (CI) as it is not included in JGAAP Shareholder’s Equity. Comprehensive Income does, however, impact Net Assets and should not be ignored. TBS currently has a Comprehensive Income margin of 24%.
As a result, the contribution of Financial Leverage to Comprehensive Return on Equity is over 7% and CI RoE is nearly 18% as of the latest TTM period.
Selling or reducing the TEL stake will reduce the volatility of CI margins and returns but will, at least in the short term, also reduce both. The recent relative out-performance of TBS stock has been driven more by the increase in Residual Comprehensive Income than by the more modest gains in Residual Core Operating Income, which is still negative over the last 7 years. For TBS investors, the investment in TEL is a net positive.
TBS is, as AVI say, currently an investment in TEL. For TBS and their shareholders, the investment in TEL is providing better residual returns than both the core business and cash.
There are few precedents in Japan of companies selling portfolio investments and returning the proceeds to shareholders. There seems to be little incentive for TBS to take any action, especially having seen off both Rakuten and Murakami in 2005/6. This is Round 2 for TBS and their playbook is well rehearsed.
AVI are left holding a proxy for TEL – a company with, as of the most recent quarter, the best results (as measured by our Results Score) of any large cap company in Japan which is also trading at 17-year absolute and relative highs in a market that is itself at a 21 year high.
Value investors like to play a long game, TBS will play longer.