There will be one person who will benefit greatly from Harvey Norman's latest capital raising -- septuagenarian founder Gerry Harvey.
Gerry Harvey has long been a luddite when it comes to good corporate governance, but his latest capital raising is setting a new precedent for the Australian market.
Harvey Norman was one of the few companies that didn’t need to raise capital after the GFC, because Harvey has always had a conservative approach when it comes to taking on debt. However, the downside of this approach is that the company built up excessive franking credits because insufficient dividends have been declared in recent years.
The 75-year-old company founder finally yielded to the franking campaign a few weeks ago when he announced
a $120.7 million equity raising for the specific reason of funding a 14c special dividend.
But this payout will barely dent the current $659 million in franking credits. If he were serious, a special dividend of closer to 50c should have been paid, something the Harvey Norman balance sheet could comfortably absorb.
Borrowing 11.4c from shareholders to fund a 14c payout on December 30 is a strange state of affairs, but the worst aspect of the capital raising is the way it preys on apathetic shareholders during the busy holiday season.
This is because the offer was only half renounceable. Sure, you could have sold your rights on market when they were trading, but Harvey has structured the offer so that he will personally scoop up new cheap shares not taken up by his 12,000 small shareholders. The biggest losers in Australia’s highly flexible capital raising system are those retail investors who don’t have the wit or wherewithal to take up an in-the-money offer.
Participation rarely gets above 50%, and former mutuals with accidental customer shareholders produce the lowest results, as evidenced by the fact only about 5% of IAG’s shareholders participated in this year’s modestly in-the-money share purchase plan.
So how do you protect non-participants? The simple answer is that you make a pro rata capital raising renounceable, with a bookbuild at the end. This means that the entitlements to forfeited new shares are sold off to the highest bidder in a competitive auction. The ASX’s own Onmarket Bookbuild service
is the perfect platform to maximise the price.
With heavily discounted offers, if they are not renounceable it is better if the declined stock simply lapses rather than goes to an under-writer who can pick up new shares on the cheap, further diluting non-participants.
And this is precisely what Gerry Harvey has done. Perth-based stockbroker Paterson Securities has agreed to underwrite the $120.7 million raising for a modest fee of just $55,000. This is effectively just for the use of its brand name and ASIC licence, because Harvey himself has kindly offered to sub-underwrite the entire shortfall.
Given the new shares are being offered at just $2.50 -- a hefty 24.2% discount to the $3.24 trading price yesterday -- Harvey's personal position is maximised if as many of his shareholders as possible don’t participate so he can increase his stake on the cheap.
For many shareholders, a 1-for-22 offer is barely worth the trouble. As the proud owner of 20 Harvey Norman shares, I was offered a chance to buy one new share for $2.50. This right could have been sold on market for about $1 last week, but why bother given the minimum brokerage of $20 per transaction?
Instead, I applied for 21 new shares just to demonstrate the inequity of Harvey Norman’s executive chairman being given a monopoly opportunity to buy all the lapsed shares for himself.
This will no doubt lead to a $50 refund cheque at the same time as Harvey himself writes out a seven-figure cheque to scoop up the entire retail shortfall and lift his existing 29.51% stake.
Compare that with the dozens of ASX 300 companies, such as Fairfax Media, Onesteel, Suncorp, Bluescope Steel, Santos, Goodman Group, Wesfarmers, Alumina, Stockland and Billabong, that have done entitlement offers in recent years including an unlimited ability for small shareholders to take up lapsed shares left by their colleagues.
The Harvey Norman offer closed on Monday, and the shortfall will be announced tomorrow. I’ve written and spoken to Harvey asking him to pay the market price for the shortfall rather than $2.50. The difference should go to his non-participating retail shareholders.
He reckons there will be a massive take-up because everyone will act rationally. We’ll see.
If there is a big shortfall, Harvey knows there will be a board tilt on this issue at next year’s AGM because major Australian companies just have to learn the lesson that there will be consequences when they structure capital raisings to take advantage of their less sophisticated small shareholders.