Strategy
Events Trades
Australia

Event Trade: Zenith Energy (ZEN:ASX)

31 Jul 2020
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Zenith Energy Limited of Australia (ASX:ZEN) develops renewable energy projects. The Company designs, installs, and manages off-grid power generation plants for hybrid energy solutions. Zenith Energy operates in Australia and South East Asia.

Current Recommendation: HOLD

Update – 31 July 2020

ZEN finally held its virtual scheme meeting today and, as now expected after the drama over the last couple of weeks, the acquisition of the company by Elemental (comprising PEP and OPTrust) was overwhelmingly supported. This is the last major hurdle before payment is guaranteed, with the Federal Court approval more procedural than anything.

Shares are expected to cease trading next Friday, with payment of the $0.91 in capital plus $0.14 fully franked dividend due on 21 August. This will result in total gross proceeds of $1.11 (including the $0.06 in franking credits attached to the dividend) which represents a profit of 15.6% on our entry price of $0.96 for a holding time of around five months. Given the volatility on the broader market, this is a result we’re very happy with given the low risk nature of the investment.

To view the rest of our current Event Trades, please click here.

Update – 21 July 2020

ZEN finally provided shareholders with the update we had been hoping for, as it confirmed that bidder Elemental (which includes Apex and OPTrust) had agreed to increase the scheme consideration to $1.05 per share. Additionally, ZEN will pay an increased dividend of $0.14 per share to come off the consideration which will provide an extra 0.4c per share in franking credits. This price has been accepted by holdout shareholder Westoz and it is now a near-certainty that the deal will go ahead on the improved terms.

We have to tip our hats to Westoz for using its stake to negotiate a better price, and while it meant we had a nervous week it has ultimately paid off in another 4.4% or so in extra value. All up, members will receive gross proceeds of $1.11 per share (made up of $1.05 in cash and $0.06 in franking credits) which is a 15.6% gross return on our investment price of $0.96 per share, although some members may have even yielded a better return with the stock dipping to as low as $0.79 in March.

The stock has opened this afternoon and is trading at $1.04. To receive the franking credits, we will need to hold this until its completion, so it is time to get in our votes for the scheme. To do so, you can visit https://investorcentre.linkmarketservices.com.au/Login/Login and login to access your single holding of ZEN. Follow the link to vote for the scheme of arrangement, and we recommend all members vote ‘FOR’ the proposed resolution. Votes need to be in by 29 July, although they probably won’t be needed to see the deal proceed.

Assuming everything goes to plan from here, we should get confirmation the deal has been supported on 31 July and members should be paid on 21 August.

Update – 21 July 2020

We had been hoping to see ZEN trading again this morning but still no word from the company yet. The ‘Street Talk’ column in the AFR is suggesting that the bidder has agreed to increase its offer to $1.05 (plus franking credits), but the delay in getting an announcement out suggests that discussions are still ongoing. An extra $0.04 isn’t huge considering the profit upgrade the company has announced since the bid emerged, so potentially substantial shareholder Westoz is still holding out for more. We will update members as soon as an announcement is made.

Update – 20 July 2020

ZEN has gone into a trading halt this morning which is what we were hoping for. Our best guess is that bidder Apex is in negotiations with substantial shareholder Westoz about an increase to the offer that it would accept, and the stock will re-emerge from its trading halt with an increased price. There is no guarantee of this but the whispers in the market are that this is what is happening. We will update members once an announcement is made.

Update – 13 July 2020

We have awoken this morning to a major development in what seemed a very straightforward investment in ZEN. The company provided an update this morning stating that it had received a vote from a significant shareholder (plus a number of smaller shareholders) voting ‘AGAINST’ the proposed acquisition at a price of $1.01 per share. While the shares voted aren’t enough to block the deal outright, the margins are now fine enough that the deal is a real risk of falling over. While it’s impossible to know who is trying to block the deal, our best guess is that it is Westoz Funds Management which has been buying up stock recently, and looking through online chat rooms it seems there are a number of small shareholders agitated at the offer being supported by the board.

So, what do we think is actually happening here? Well, the short answer is that it is likely that Westoz is angling for an increase to the offer price. Bidder Apex (made up of Pacific Equity Partners and OPTrust) have very deep pockets and may be willing to pay more, but right now this looks like it will be a game of chicken. Westoz is able to change its vote before the 31 July but Apex may not want to risk that eventuality and engage with Westoz right now. It is certainly a bold strategy in this environment to agitate for a higher offer, but if Westoz is happy holding the stock for the long-term on the view that it will eventually see more than $1.01 then Apex may have to act.

Considering ZEN has effectively upgraded its earnings since this deal was first announced, arguably ZEN is worth more today than when the deal was signed. In our view, the odds of Apex increasing its offer is strong, but it will probably hold off on doing it until closer to the meeting to see if any shareholders change their votes or enough other votes come in supporting the deal. Unfortunately for us, this means what looked like a slam dunk result will now come with extra risk/reward caked into the investment proposition. The chance of a higher offer just increased dramatically, but so too did the odds of the deal falling over. We are therefore going to change our classification of ZEN from low-risk to high-risk and encourage members to ensure that your portfolio weighting is appropriate.

In the meantime, it’s imperative that all members vote for the deal. It makes sense to wait another week or so to ensure Apex considers raising its offer, but in the absence of an increase we need to make sure as many ‘FOR’ votes are submitted. To vote, you can manage your holding in ZEN through the Link Market Services investor centre (https://investorcentre.linkmarketservices.com.au/Login.aspx/Login) and all you need is your holding identification number (HIN). We will provide further instructions on how to vote next week.

Update – 29 June 2020

ZEN last week began sending out its scheme documentation which is the next important step in the deal. The scheme meeting is due to be held (virtually) on 31 July, with payment due on 21 August assuming shareholders support the deal (which is a foregone conclusion in our view). As earlier disclosed, a special dividend of up to $0.13 will be paid as part of the $1.01 consideration which translates to another $0.05 in franking credits.

ZEN has also provided information on how to vote online at https://agmlive.link/ZEN20 but the link is not working so we will update members once the website is functioning. As the deal is being done by way of scheme of arrangement there is no downside to voting early so we will vote the moment we are able to. With the record date of the deal now within 45 days we are not advising anyone to buy the stock for the franking credits, but for any members interested in the 2-3% arbitrage on offer right now you are welcome to buy the stock at these levels. At this stage the deal is highly likely to complete without any hiccups, so the stock remains a good parking spot.

Update – 01 June 2020

ZEN provided an update that confirmed our expectation that major shareholder OPTrust would join Pacific Equity Partners in its acquisition of ZEN. While this is disappointing in that it ends any chance of OPTrust counterbidding for ZEN, it does remove the question mark on a big blocking stake which could have terminated the deal if things went pear-shaped.

The other outcome from this new alliance is that the timeline for completion has now blown out to August which, while a bit of a nuisance, does mean that anyone buying the stock up until mid-June will be eligible to receive the value of the franking credits which will be worth roughly $0.05 per share. We are therefore going to increase our recommended buy price to take this into account (and for those who can take advantage of the franking credits).

In summary, while this update effectively ends any chance of further bids, it has also increased the certainty of it completing which will return shareholders $1.01 in cash plus $0.05 in franking credits.

We therefore recommend members continue to hold the stock, or for those members yet to own the stock we recommend buying at up to $0.99 up until 15 June.

Update – 26 May 2020

We have yet to hear word on whether bidder Pacific Equity Partners (PEP) has had any luck engaging with Canadian pension fund OPTrust, but in the meantime it looks like this detour has delayed the release of the Scheme Booklet which implies that their negotiations have progressed. The delay in the release of the Scheme Booklet will likely mean postponement of the scheme meeting and hence the completion of the deal.

On the original timeline, the deal was supposed to complete towards the end of June which would mean anyone buying the stock today would no longer qualify for the $0.05 of franking credits that come with the deal consideration. As the offer is $1.01 per share, there is still upside in holding with the closing price of $0.945 yesterday and until we hear otherwise there remains a chance of OPTrust bidding for sole control of ZEN.

The odds of a competing bid from OPTrust have lowered though, and now that the franking credit value is no longer on offer (unless the deal is postponed by more than three weeks) we are going to lower our recommended buy price to $0.95.

Update- 07 May 2020

We have been waiting to find out the intentions of new significant shareholder OPTrust. OPTrust has history of interest in these sorts of assets – it tried to buy Pacific Energy last year – and, as a Canadian pension fund, would see ZEN as the sort of asset that will generate long-term consistent cash flows that fits with its own long-term liabilities.

It seems we were not the only ones wondering what the next move was, as ZEN announced this morning that bidder Pacific Equity Partners (PEP) had requested that it be allowed to share confidential information with OPTrust with a view to seeing if a deal could be negotiated whereby OPTrust would effectively buy into the bidding vehicle for ZEN. This looks a strategy by PEP to move before a counterbid is made, likely because OPTrust now has roughly 17% and therefore the front-row seat if it wished to make an improved offer.

ZEN itself has been unable to engage with OPTrust because of the terms of its agreement with PEP, and PEP can only do so with ZEN’s support. This is an interesting development in the fight for ZEN, and if OPTrust resists the offer from PEP then there is a good chance we could see a competing bid. ZEN remains a hold while we await further developments.

Update- 30 April 2020

We have still yet to hear any noise about a potential counterbid but were pleasantly surprised when ZEN updated the market about the performance of its underlying business. The ‘material adverse change’ clause (MAC) is the main threat to any bids in this uncertain period, and we had previously speculated that ZEN’s business was unlikely to be threatened by the restrictions that governments have placed on many businesses.

ZEN actually reported that while its revenue will be slightly softer that previously guided, its earnings before interest, tax, depreciation and amortisation (EBITDA) will be around $30m which compares to earlier guidance of $26m-$27m. This is a very impressive result given the environment, and certainly eliminates any chance of the bidder walking away on the MAC clause. And perhaps this is enough to shake loose the interest rumoured counterbidder OPTrust may have in ZEN, so the situation remains exciting.

ZEN remains a hold at current levels.

Update- 8 April 2020

While we have still yet to receive official confirmation, the AFR reported overnight that the mystery buyer of the large line of stock was indeed OPTrust. After trying to buy Pacific Energy last year, the logical conclusion here is that OPTrust may be trying to get its hands on a consolation prize in ZEN. Remaining a passive investor doesn’t seem a likely plan and trying to scuttle the existing deal would take more shares.

The share price has jumped to the level at which these shares were bought, but volume remains low, so it seems investors aren’t ready to bet on a new bid just yet. Given OPTrust’s history, a bid is a strong possibility, so we like our position right now and remain happy for members to buy/hold the stock at the current price.

On another note, the company did provide a good update regarding the existing scheme. The update related to the special dividend that we previously advised members could come with the bid. We predicted as much as $0.06 in franking credits could be paid out via a special dividend, and we weren’t too far off the mark as ZEN announced that it would pay a special dividend of $0.13 which would have roughly $0.05 worth of franking credits attached. This will take total gross proceeds to $1.06, and with the deal set to complete in late June we have roughly a month to buy to qualify for the franking credits.

 

Update- 7 April 2020

ZEN, like our other Event Strategy holdings, has been sold off heavily over the last month as volatility on global markets has ramped up. Given the relatively stable nature of its business, we have remained comfortable holding the stock with the view that the deal with Pacific Equity Partners would proceed.

We saw an interesting turn in the story yesterday as a large line of stock – equivalent to roughly 8% of the company – crossed the market around lunchtime at a price of 95c. There have been rumours that Canadian pension fund OPTrust was hanging around on the register below the 5% substantial shareholder mark, and after losing out on Pacific Energy last year (which members bought and returned a good profit on) OPTrust may be looking at a counterbid for ZEN.

We will find out who the buyer of stock is in the next day or two, but in the meantime, ZEN shares have bounced strongly and closed yesterday at our initial buy price. Hopefully, members were able to average down on their entry and we will continue to hold on the hope of a competing bid or even just completion of the original deal. The stock remains a hold/buy at the current price of $0.96.

 

Original Recommendation on 9 March 2020: BUY no higher than $0.96

It seems that private equity is looking at the current market volatility as a buying opportunity, with another private equity deal announced today. This time around the company is Zenith Energy Limited (ZEN) which is a remote power station operator quite similar to Pacific Energy, which was bought by QIC last year. There definitely seems to be a land grab in power generation right now, so despite this being a friendly deal we could easily see competing interest on ZEN although the market environment may rule out a counterbid.

The conditions attached to this deal are standard and do not include index fall clauses as is sometimes seen in volatile times. The offer is for $1.01 per share, with the stock trading at $0.96 which leaves investors with a 4.95% arbitrage at these levels. ZEN has also stated that it will be potentially in a position to pay a special dividend to pay out franking credits which would come off the offer price but would add extra value to the offer. Based on the franking credit balance at the end of January, that could be as much as an extra 6% (roughly $8m).

We are therefore going to recommend members buy ZEN at no higher than $0.96 – there is currently plenty of stock available to sell at that level – for a short-term arbitrage. The deal is expected to complete in June, so members are looking at an annualised return of around 12% excluding franking credits.

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