Recurring income, value, and takeover potential in one value stock – are you kidding me?

by admin on June 9, 2012

I have heard a lot of discussion of various value stocks based solely on one value attribute. E.g. A net current asset value exceeding the market (but what about pension liability?), or stocks that are cheap on assets in a cyclical industry. So, how many stocks have you heard of that combine being cheap on assets, cheap on cash flow, have the potential for a corporate action, AND have recurring revenue?

Marusei (丸誠, 2434) is a general building maintenance contractor.

There is fierce competition in the building maintenance industry, and severe pressure on costs. In other words, I should hate this industry.

However, it does have one exceptional advantage – long-term contracts.

I love long-term contracts where the company can potentially improve margins through efficiencies at some point, because this enables much better visibility than in other industries, particularly those in net-net land in Japan (i.e., mostly nausea-inducing cyclical stocks).

As you can see below, there has not been so much variability in sales and margins in the last few years:

Marusei value stock sales and net margins

Marusei sales and net margins

The company is focused on specialist facilities, such as hospitals. Their customers are mostly property management companies which will outsource maintenance to Marusei. The company says that there is continuing downward pressure on property management costs. If there ever is a turnaround in the Japanese property market it would be good for Marusei. Jones Lang Lasalle reckons there will be one in the not too distant future (can’t remember where I saw the reference), but that is hardly something to hang your hat on.

Meanwhile, Marusei is expanding into energy saving and medical facility maintenance. It is not really clear how the whole power situation in Japan is affecting the company. In their last quarterly release, they make some bland typical Japanese comments related to working hard, sweat pouring from brow, etc., but basically there is huge pressure to reduce energy consumption in building maintenance due to the increase in power costs and due to power outages. Last year there were quite bad power outages throughout the area around Tokyo (known as “Kanto”), and at that time there were about one third of all of Japanese reactors in operation. At the moment, with baking hot summer potentially only weeks away (the rainy season started today), the above situation is going to get a lot worse. However, it is still not clear what the impact on companies like Marusei will be, but presumably, companies which can offer energy-saving services will be taking market share when contracts roll over.

No segment data

One thing that is a little bit annoying is that stopped giving segment data. We do have the data up to 2010, however:

Marusei segment data

Marusei segment data

The largest segment does maintenance and inspections of facilities. The other two do building cleaning and various kinds of management (e.g., car park management).

We also know that they have a fairly broad range of customers, however, as their largest counterparty made up 13.9% of sales as of the last annual report. They have 932 employees, of which 550 are temporary contractors, which is quite high for Japan.

Tender offer

On March 13 of this year there was a tender offer for most of the company by高砂熱学工業 (Takasago, 1969) made at 600 Yen. 高砂熱学工業 bid for 66% of the company and is “considering” whether to buy the rest.

高砂熱学工業 itself is a high-technology air-conditioning manufacturer. For a capital intensive business like that to buy a stable free cash flow generator like Marusei at bargain prices, and which also has potential revenue synergies, is a good idea. Marusei says that there will be synergies, but I will not put that kind of thing in my estimation of their value.

Exceptional items

For those looking at the last quarter, it is worth noting that there were quite a few unusual items, making comparisons difficult.

Marusei P&L last quarter

Marusei P&L last quarter

Balance sheet

Pension shortfalls are expensed. This is very good transparency relative to most Japanese value stocks. They recently moved from defined benefit to defined contribution.

Marusei balance sheet

Marusei balance sheet


Cash flow is summarized here:

Marusei cashflow

Marusei cashflow

They are getting a bit of a boost from not spending a lot on capex while depreciation is still running along, but basically you would not expect this business to be capital intensive. Nice and stable, too. Dividends are going to increase next year to a yield of over 4% at the current price.



What to say? This is a complete joke. Stable free cash flow of 170M yen with heavily negative enterprise value and with a somewhat-stress-case bankruptcy value 27% above the current market price (no pension hangover), the recent near takeover bid 27% (coincidentally) above the current price, and a relatively flexible workforce.

Disclosure: Not long, but that is only because the price keeps on getting better! Likely to get long soon.

{ 10 comments… read them below or add one }

gaalzinho June 14, 2012 at 10:54 pm

Nice post! But why is FCF half of mkt cap? Its market cap is 2.5 bln yen as far as I can see..


admin June 15, 2012 at 8:18 am

Sorry – I just noticed that – you’re right – basically that is completely nuts. Thanks for spotting.

I think I was trying to compare just the net cash or something to the fcf. Whatever. The EV is massively negative.


gaalzinho June 19, 2012 at 4:48 am

What do you make of the fact that the top two shareholders (an individual 西村隆 and Employee Stock Ownership Association both sold to Takasago at 600yen/share? At that price it only accounts for the net cash on balance sheet (not even including long term investments). It’s total liability is well covered by non cash/investment assets, and its operating business is profitable/FCF positive, so basically they are giving the operating business + 500 mn LT investments up for free.

This business generated non trivial cashflow/earnings almost every year for the past 10 years, and the top two owners should know that it’s worth more than zero. Why did they sell at a price way below liquidation value then? Sure it’s 25%-30% higher than where it was trading before, but 600 yen/share is still way too low.

And it’s amazing that Takasago was able to get filled with its 66% upper limit shares so quickly.

I am not a native Japanese speaker so I can only use Google docs to translate company’s statements. Do you see anywhere that makes sense for insiders to sell at this (still) pretty ridiculous price?


admin June 19, 2012 at 8:37 am


Good effort in doing the research!

I will look into this, but I suspect that there is little light to be shed on the motivation. The business is clearly worth more than the 600y/sh, but often there is a large “political” component.

The valuation itself was done by an investment bank – the analyst would be examined for brain damage in the west.



gaalzinho June 19, 2012 at 10:49 pm

Thanks JP.
Maybe I am paranoid but when I see big shareholders giving away profitable business for free it makes me a little worried that the cash on balance sheet might not be unencumbered or they have hidden off balance sheet liabilities.. From your experience in investing in Japanese companies, do they have big pension deficit that’s not on balance sheet? Does Japan GAAP require companies to include ALL pension deficit on balance sheet?
Another thing is that I thought they would issue shares to Takasago but after double checking, I realized Takasago got 66% of EXISTING shares.. that means most people sold to the tender offer. How does that make sense???
Also another question I have is that if a non Japanese investor hold the stock (disclosure I don’t) through say Etrade in the US, how does the investor get to make the decision on the tendor offer since presumably the stocks are not held under the foreign investor’s name?


admin June 20, 2012 at 12:05 am

Yes, it was a weird two-thirds buyout. I am not sure why they did not go all the way, but this does happen surprisingly a lot in Japan – I certainly run across much more companies with that kind of structure than in the UK or US.

Regarding the shareholders who sold, yes, I can see your point – and I am glad you bring it up. I sometimes feel like I am turning Japanese myself until I get jolted back to normal. You have to remember that in Japan, you cannot be seen to be “profit maximising”. The government controls more than what you would expect (e.g. I was reading a few days ago about the government’s department for the promotion of the manga industry, where the government guy responsible called a meeting to get about five different companies to start exporting manga contents to the US). Also, insider connections create a kind of hidden Sovietism. Things are back to front in so many ways here, not least in avoiding profit maximisation in order to keep other people happy, going for market share with no regard to profitability in many cases, etc.

I checked their last annual report again for anything dodgy-sounding in terms of major lease obligations or other off-balance sheet liabilities, but turned up nothing significant. They overstate their “Other investment assets” by a few percent and long-term deposits by around 12%, but that is not significant given the situation

The pensions are expensed using a 5-yr moving average, and they have a very high proportion of temp staff, so that is not likely to be a reason. However, you should be careful with Japanese companies’ pension funds in general – they have a system where they pool their assets with other companies in the same business and if one company goes bust the rest have to take on the remaining liabilities – plus, many of them do not have all their pension liabilities on their balance sheets.

The release says they got a “fairness opinion” from SMBC, which came up with 762 to 800 y/sh by doing a multiple comparison with other (undoubtedly depressed) peer stocks. They also did a DCF and came up with 580 to 887 y/sh. I would like to see their model “using future cashflows” (but not, probably, residual assets). They said they set the premium to the prior share price based on previous cases of takeovers – this is typical in Japan, and basically illustrates the biggest problem it faces economically (apportioning resources by a committee of old men in identical suits, based on what other people are getting, not on what should be given according to supply and demand). They then go and mangle various useless estimates until they get to 600. This was not an economic transaction but a business transfer with factions disagreeing quietly, in my opinion.

So, my take on it is this:
– The CEO of the bidder is the former CEO of Marusei
– He was also a major shareholder in Marusei, at 10.7%
– He (and another guy in a similar position but with a much smaller holding) sold about 7.7% of the companies stock into the tender
– The bidder already owned a portion of Marusei before the bid
– Just reading the language in the release, they keep on using language such as “although the bidder does not intend to remove the Company from the market, they will consider…”, which gives me the impression that there is some sensitivity
– The impression I get is that there is a power struggle. I suspect that the people left holding the Marusei stock want it to remain independent – or are “strong hands”, while the “weak hands” sold

Answer re: voting: Forget about it


gaalzinho June 21, 2012 at 10:57 pm

Thanks JP, that’s very informative. One of the small cap trading below net cash companies I own actually sold 20% of their business for 0.8X book recently while the whole company trades at 0.4X. But stock plunged 20% and now trades at 0.5X net cash (not counting the cash they will receive for the business sold). So I guess Japanese market is weird like that.


admin June 21, 2012 at 11:16 pm

Which stock was that?



gaalzinho June 22, 2012 at 10:39 pm

6930. Do you know anything about it? I bought a basket of 6 Jap small cap that are profitable over the past 10 years but trading at discount to net cash. This one is blowing it up.


admin June 23, 2012 at 12:03 pm

I will look into it at some point.



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