European firms see opportunity in crisis
While conditions in Europe have been a little less volatile than they were a year ago and talk about “the end of the euro” is rarely heard anymore, the sovereign debt crisis is far from over, as the recent turmoil over a bailout of Cyprus has demonstrated.
Not surprisingly, a crisis of this magnitude has frightened many investors who decided that the most prudent course is to avoid the European continent altogether. The history of investment markets however has demonstrated that those who run from crisis may also be running away from a tremendous opportunity.
In every crisis event of the last 50 years, investors who stepped up in the midst of the turmoil were able to reap the greatest benefits. A great example is the 1997 Asian Contagion, when investors fled from the Far East, saying, “It turns out China’s not what we thought.”
Those investors who identified opportunities among Asian companies at that time were probably early in the game and needed the fortitude to stomach additional losses. But those who did were able to realize multiples of what they had put in and in many cases were disappointed that they had not made a bigger bet. Our view is that Europe is likely poised for the same thing.
What many investors have failed to realize is that many European companies have reacted to the crisis around them by taking drastic steps to reinvent themselves.
In some cases, it’s simply a matter of kicking into survival mode, but there are also management teams who “don’t want to see a good crisis go to waste,” and view the current economic turmoil as an opportunity to streamline and restructure their operations in order to come out of the crisis stronger and more competitive.
And although many were slow to get moving, governments in most European countries have reacted by relaxing some of the labour and other regulations that have hampered business development. They have realized that if they don’t help companies, they’re going to have even more people unemployed.
For the first time in decades, European firms have been pushing back against labor unions in order to take steps like reducing headcounts, closing redundant facilities and creating a much more productive workforce.
The herd mentality of the investing class leads to an indiscriminate selloff in times of crisis resulting in a precipitous decline in stock prices. Over the last few years, this has created opportunity in Europe for investors able to see the value in companies whose stock prices have declined precipitously but still hold significant assets or great potential for a turnaround.
Opportunities abound for discriminating investors to acquire stakes in such undervalued yet fundamentally attractive businesses at highly appealing levels.
What the flight from Europe fails to consider is that although location is a relevant factor, it is much more important to focus on the company’s business and what steps it is taking to address the crisis. Investors shouldn’t buy every company just because stock prices are so low. A successful effort requires diligence and painstaking research, but there are numerous opportunities in the European market, an extensive collection of what I like to think of as “diamonds in the rough.”
An excellent example of a large undervalued company with the potential for explosive growth is Vivendi. This media conglomerate controls the global brands Activision and Universal Music, not to mention broadcast and pay television operations, telecom businesses and a broad range of assets with minimal synergies in markets around the world. Vivendi’s stock has represented a tremendous value for a decade now and has only gotten cheaper of late. There had been some issues with management, but the CEO was replaced last summer and the value of the firm’s assets is strong.
Another company that appears to have refocused itself is Sky Deutschland, the largest pay television company in Germany. That company has undergone a complete turnaround over the last few years. This was another case of a good company with bad management. It’s currently 54 percent controlled by Rupert Murdoch’s News Corp., who, after buying in, called for an audit and discovered a significant fraud that had dramatically inflated the number of actual subscribers. Since then, there has been a complete change in management, refocusing the business and changing the way the company operates.
There had been a significant level of debt on the Sky Deutschland balance sheet and after the fraud was discovered, investors ran away as fast as they could and the price dropped to about €1. After Murdoch came in, cleaned up the management and pumped in hundreds of millions of dollars to fix the balance sheet, the stock price began to rebound. Today it is trading at about €4.5/share and we believe it is still significantly undervalued.
Sky Deutschland had a good business, but bad management and a bad balance sheet. Today it has a good business, a good management team and a good balance sheet. The company is turning the corner and in 2013 will probably have the first profitable year in almost a decade. In the midst of a crisis, they’re actually making money, and if you can make money during a crisis, when the crisis dissipates, you’re going to do really well.
Another company that has used the crisis to their advantage is Exor, the holding company for the Agnelli family in Italy through which they control Fiat Industrial and Fiat SpA, and through Fiat they control Chrysler.
A few years ago, Chrysler was losing hundreds of millions of dollars, and Fiat was able to buy it on the cheap because in the U.S. it was seen as a distressed asset. Chrysler has had a tremendous turnaround, and now Exor hopes to do the same thing with its European auto brands, which, in addition to Fiat, include Alfa Romeo, Ferrari and Maserati. Under the guise of the European economic crisis, it is thought that management will be able to take actions it could not in normal times, such as closing under-utilized factories and pushing back on labor unions.
History has shown that long-term, patient investors who do the research and take advantage of opportunities during times of crisis and panic have been well-rewarded.
The preceding examples represent just three of the European-based companies that have seized upon the debt crisis to transform their ways of doing business, but there are many more gems waiting to be discovered. There are many investors who still haven’t taken a fresh look at Europe, but those who are waiting for an all clear signal are going to find themselves late to the party — again.
David Marcus is Co-founder, Chief Executive Officer and Chief Investment Officer Evermore Global Advisors, LLC.