CMI – change of business nature

I was pretty excited last Friday when CMI announced a trading halt. I saw the trading halt notice first and didn’t notice the prospectus until much later in the day. So for a moment there, I had hope that a takeover or a return on capital was on cards but unfortunately it was not to be.

It turns out that CMI wants to morph into an investment holding company and will appoint Glennon Capital to manage the surplus funds. The idea is for the portfolio to have a 100% interest in the electrical division and with stakes in about 10 to 20 small companies (listed and unlisted) which will be selected by Glennon Capital.

Having read the prospectus, I think this idea is silly and I get the impression that it was not thought through well enough by management. My concerns in order of priority are:

  • I invested in CMI to get exposure to Minto and the coal sector. I certainly didn’t invest on the basis that CMI could make profits from punting its capital in the stock market. Therefore, I believe that management should seek to increase shareholder value by prioritising the use of its surplus funds to increasing the competitive advantage of its business, for e.g. spending on marketing activities, research and development or integration/ acquisitions. If there are no other avenues to increase the competitive advantage then it should return the surplus capital to its shareholders, period.
  • Potential conflict of interest. Glennon Capital is also the manager of Glennon Small Companies Ltd, ASX code GC1 (a listed investment company) with Michael Glennon, the chairman having 4.5% interest in GC1. In the event that a stake in a great investment is available for purchase, I wonder how Glennon Capital will divide the available investment opportunity between GC1 and the new CMI fund? Or if a similar investment in both funds goes bad, which fund will be able to sell first? Or worst still, what if GC1 sells its bad investments to the new CMI fund? I’m not implying that Glennon Capital is run by dishonest individuals but I’m concerned that management has not considered these conflicts as there were no safeguards mentioned in the prospectus.
  • If Glennon Capital invested in unlisted securities, how will their performance be measured when the securities are unable to be marked to market? Will a friendly valuer be called in to determine the value?
  • If management believes that Michael Glennon is a great stock picker, why not invest directly in GC1? At least in that fund, Michael Glennon has skin in the game with the performance fee hurdle being fairer (see below).
  • Management and performance fees.  Glennon Capital will charge 1% management fee and 20% performance fees with the performance fee hurdle being cash rate plus 2%. GC1 has comparable remuneration structure with one distinct difference; its performance fee hurdle is based on the S&P ASX Small Ordinaries Accumulation Index. This is a much fairer (and more difficult to achieve) hurdle than the cash rate plus 2%. Compared to GC1, why is CMI making it easier for Glennon Capital to earn their performance fees?

I will be voting against the resolution to change the nature of the business but I think it will be futile exercise given management has 40% of the votes. However, I hope that at the very least some of my concerns above get addressed so that we can get a better overall deal.

Sigh, a dividend would have been such a great way to utilise those franking credits ….



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