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This Russian Business Isn’t Up to Standard
11/29/2011 3:29 pm EST
This isn’t a rumor about a Russian billionaire buying a piece of Central European Distribution (CEDC), but an actual filing with the Securities & Exchange Commission.
Yesterday, November 28, Russian Standard Corporation and its chairman Roustam Tariko filed with the SEC, stating that they had acquired a 9.9% stake in Central European Distribution. The stake of 7.2 million shares was acquired between November 15 and 21 at an average price per share of $3.52. The SEC filing calls this a strategic investment.
The stock is up 26% today, as of 2:30 p.m. New York time, to $4.28, a 22% gain over Tariko’s average purchase price.
Tariko, a billionaire with a fortune estimated at $1.9 billion by Forbes, founded Russian Standard, a leading consumer group in Russia. (He also owns the Miss Russia beauty pageant.)
In August, Mark Kaufman, a business consultant for the wines and spirits industry and the founder of the Whitehall Group, an importer and distributor of wines and spirits in Russia, disclosed a 9.6% stake in Central European Distribution. Kaufman, born in Moscow, sold the Whitehall Group to Central European Distribution in 2011.
I think it’s fair to say that Central European Distribution is in play. Kaufman is co-chairman of the LVMH Moet-Hennessy Louis Vuitton (LVMUY in New York or MC.FP in Paris) advisory board for Russia. Tariko’s Russian Standard Vodka is one of the top premium vodka brands in Russia.
Now the question is, do you want to stick around to see how this plays out (and how long that might take) or take the recent gains and move on? Central European Distribution is a member of my Jubak Picks 50 portfolio, where the stock is down 77% since I bought it on December 30, 2008. The stock is, however, up 47% from its November 10 low of $2.93.
I’m inclined to sell and take my profits (and losses) here. (By the rules of my Jubak Picks 50 long-term portfolio, I can only buy and sell once a year, at the end of the year. So in that online portfolio, I have to hold until the next revision in January 2012.)
Let me tell you why I’d like to sell now, so you can make up your own mind.
It helps if you think of Central European Distribution as two companies—both troubled, but one much more troubled than the other.
The Polish company is troubled by slow volume growth—forecast at just 3% in 2012 by Credit Suisse—and some cannibalization as some of the company’s new brands ate into sales of existing brands. That resulted in a charge of $88 million from impaired goodwill in the third quarter of 2011.
But the Russian company is struggling not only with slow volume growth—forecast at just 2% in Russia—but price erosion too, as higher taxes in Russia put pressure on customers and forced Central European Distribution to cut prices, slicing into company margins. The Russian part of the company also took a much bigger hit—$459 million—for impaired goodwill in the third quarter.
It looks like turning around the Polish part of the business is well within management’s capabilities. Poland is likely to escape a recession in 2012, and to continue to be one of the fastest growing economies in Europe. That should support prices and slow growth in volumes.
In Russia, the problems are, in my estimation, beyond current management. The Russian consumer feels very strapped now, and is likely to feel even more so in 2012.
Taxes slapped onto the vodka by the government will also make it hard to produce any volume growth at all without price cuts. In Russia, the company needs more distribution and more market share.
The company as a whole faces another big problem in 2013, when it will need to pay about $1.2 billion in senior notes. (It looks like the company has the cash to meet its needs before then.) Moody’s Investors Service downgraded the company’s credit rating after third-quarter results reported November 4.
Management has lowered its estimates for six straight quarters now, and I think its guidance will be high again for the fourth quarter (which ends in December.)
For example, the company told analysts it expects an EBIT (earnings before interest and taxes) margin of 20% in the fourth quarter—that’s significantly above the 10% EBIT margin for the first nine months of the year. So there’s definitely a strong possibility of another negative surprise when the company reports those results. (The company missed analyst estimates by 11 cents for the third quarter.)
On a fundamental basis, I have trouble seeing this as more than a $3 stock.
If you want to hold on in hopes that somebody will acquire the company, just try to stay reasonable in your expectations. The stock already trades at a premium to its closest Russian peer, Synergy (SYNG.RU in Moscow.)
Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. The mutual fund I manage, Jubak Global Equity Fund, may or may not now own positions in any stock mentioned in this post. The fund did own shares in Central European Distribution and LVMH Moet-Hennessy Louis Vuitton as of the end of September. For a full list of the stocks in the fund as of the end of September, see the fund’s portfolio here.
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