The UAE’s earnings season kick-started the year with two basic themes:
- The impact of the introduction of corporate tax, and:
- Increased finance costs for most of the companies.
Whilst the latter had a differential impact across sectors, it drove home the point that focusing on EBITDA, as opposed to ‘owners’ earnings’, is that much more silly, especially since owners absorb all the costs that come into the equation after EBITDA is calculated.
Indeed, the EBITDA was higher pretty much across the board, and yet equity prices remained sluggish.
Whilst there is no way to determine the path that equity prices can take over the short-term, the real risk investors must assess over the longer term is whether the aggregate after-tax receipts that accrue from holding the asset exceeds the net present value of the purchase price plus a modest rate of interest (defined by the risk-free rate) on that initial stake.
On an aggregate basis, that is the way decision-making is supposed to be done for the purchase of all assets and or investments, regardless of whether you are an investor or part of the management of a company.
Yet there are plenty of instances of misallocation of capital across the board. In boom times, the frequency of misallocation increases, especially as there is greater liquidity to throw around. Occasionally, investors will come across an asset that is easy to understand and can judge investment risks with a useful degree of accuracy.
Missing out on valuation gains
We have seen such cases with the Dubai RTA spin-offs, but a useful case that can be examined is that of DEWA, which since its IPO, has delivered consistent profitability and dividends, but has not yet seen this being reflected in its valuation.
When compared to its peers in the US, companies such as Devon Energy have performed better for its shareholders, despite having higher valuations and lower dividend yields. This is partly explained by the manic phase that Western equity markets have been going through, and ignores the relatively higher expenditure that DEWA is incurring not only to account for the rapidly expanding population base, but also its investments in clean energy, whose returns can be estimated with a fair degree of accuracy given its regulated status.
The competitive status of DEWA are obvious to even a casual observer of business. Yet this has not been reflected in its share price since its IPO (all of the returns that shareholders have received have been through dividends). and similar to the Abu Dhabi giant IHC (which has resorted to share buybacks as a way to signal that management feels its share is undervalued).
This is a gift for shareholders in a market where otherwise valuations have generally gotten more aggressive, and where there has been share market volatility in some of the more recent IPOs. Despite the enthusiasm for activity that has swept the corporate sector, and the prospects for further IPOs in the pipeline, there is the ‘stay put’ behavior that serves as a relocation center at which money is moved from the ‘active to the patient’, to quote Warren Buffett.
Just right for the long-term investor
DEWA represents a large business with prospects for above average growth, despite the regulatory changes that have accrued since the start of the IPO train (such as corporate tax, stubbornly high interest rates and inflation).
In this instance, the aberrational behavior of the markets is a thing to celebrate and not (as some of the perplexing commentary suggests) to jettison the investment in favor of newer share offerings.
An investment strategy that borders on lethargy may well be contrary to the frenzied zeitgeist of Dubai, but in the case of capital (and real estate) markets (the latter where mid-market homes are finally starting to outperform their luxury counterparts), fits perfectly for the long-term outlook.
For any prospective investor, based on any investment candidates that they may draw up, it is obvious that DEWA would be at the top of the list.
