Reasons to Pass by Ralph Birchmeier

Author:Ralph Birchmeier
Language: eng
Format: epub
Tags: BUS036070, Business & Economics/Investments & Securities/Analysis & Trading Strategies, BUS050020, Business & Economics/Personal Finance/Investing
Publisher: Columbia University Press
Published: 2023-03-07T00:00:00+00:00

Controlling Insiders

Occasionally, public companies are majority owned or controlled by parent companies. A number of European, Canadian, and Asian publicly traded holding companies own controlling positions in other companies. Corporate governance at these subsidiary companies is only as good as (1) structural protections accorded to minorities and (2) the integrity of management at the parent. You are essentially a silent partner in their business with proportionate rights to the earnings power.

Case Study: Ambev

Ambev is the dominant brewer in Brazil with strong positions in other countries in the Americas. It checks a lot of boxes for a desirable publicly traded investment. It has a dominant franchise, is net cash, and has a history of conservative balance sheet management. It currently trades at a reasonable multiple of earnings while paying a 4 percent dividend yield. A series of transactions over the past ten years led to Ambev being 61.8 percent owned by Inbev, the world’s largest brewer. Inbev is the product of mergers, most notably the acquisition of Anheuser Busch in 2008 for $52 billion cash. This transaction levered up Inbev’s balance sheet. It continues to be levered, with $83 billion net debt at year-end 2020 versus EBITDA of $17 billion.

A levered parent and a net cash subsidiary can lead to potential problems. The parent could potentially drive down the share price of the subsidiary and then seek a take-under. The parent could force a large, extraordinary dividend beyond what is prudent for the subsidiary’s long-term prospects. It could force underinvestment in the franchise and then raise the dividend or have Ambev extend a loan at “reasonable” terms to the parent. Alternatively, Inbev could become a forced seller of large blocks of shares, driving down prices. This has no bearing on Ambev’s intrinsic value and conceivably could be an excellent buying opportunity unless these stakes are sold to another even less benevolent parent.

Most countries including Brazil have some minority rights protections that can protect against unwanted take-unders and outright pilfering of assets. Some parent subsidiary relationships involve multiple classes of shares. Fortunately for Ambev, only one share class exists. The risks to Ambev seem manageable overall and an investment in Ambev viable at the right price.

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