FREE KIC - NO. 17 FEBRUARY 07

HIDDEN ASSETS

During the 1980s boom, Japanese property prices rose at a rapid pace. The share prices of companies that owned surplus property assets also rose. Companies with these property assets were known as 'hidden asset' plays. A lot of the time companies had bought property as far back as the early part of the 1900s and this property was still valued at its purchase price. The accounting standards only recognised the value if the property was sold.

Little did I think that less than 20 years later a similar theme would develop in the Irish stock market. I think Jurys Hotel was the first situation that reminded me of Japan.

At investment meetings over the years, Jurys Hotel would have come up for discussion at fairly regular intervals. Those discussions would have covered issues like the supply of four and five star hotels in Dublin, the growth opportunities for the Jurys Inns concept, labour costs, etc. The one thing that I can never remember being discussed was the possibility of their hotels being massively undervalued as property assets. If we had thought about the property values we might have had an even bigger exposure to the shares.

Having missed Jurys I began to ask myself if there were any other hidden asset plays on the market. Given what had happened to Jurys I presumed that I wouldn't be alone in this hunt.

Could it be Greencore with its sites in Carlow, Mallow and Sussex? Could it be Readymix with its site at East Wall? Could it be Grafton with the Heiton head office site on the Naas Road? One company that until a few months ago was never mentioned was DCC. The DCC all time high share price up to then had been around €20.

At investment meetings over the years DCC had also come up for discussion. Back in 1999 I had even been part of a group that went out to their head office in order to meet senior management. I had always felt that there was a reasonable story in relation to the fairly predictable earnings and cash stream generated by their energy, food and medical divisions. Technology product distribution was always a more difficult area to predict but overall we were shareholders because the valuation appeared reasonable.

For many years I had driven along Brewery Road in Stillorgan past their headquarters. When the DCC property story began to emerge with the sale of the Fannin head office in Sandyford I began to wonder if the DCC head office was another hidden asset? Did they own or rent the site? How big was the site? I also knew that DCC owned 49% of Manor Park Homes. What was the true asset value of Manor Park? Was it in the share price? Did DCC have many other property assets among all their group companies?

I therefore felt that there was little to lose by digging a bit deeper into DCC. I started my search by looking at the value of property assets on the balance sheet. In the 2006 annual report land and buildings were valued at €97m. This figure is of little use because it does not tell you anything about the location of the properties. If it were made up of oil depots in Scotland it would be highly unlikely that there was much in the way of hidden assets. If there were a lot of prime sites in Dublin it might be a different story. I needed some way of finding out about the locations of the property they owned.

In the annual report there was a list of all the subsidiary companies with their business address. There were plenty of Dublin addresses. Sharptext Dublin 12, Fannins Dublin 18, TechnoPharm Dublin 20, Virtus Lucan, Broderick Brothers Dublin 22, Kelkin Dublin 12 and Robert Roberts Dublin 24. I again had the problem of not knowing whether they owned or rented.

The next thing I did was to take a closer look at Manor Park. I went into the CRO (Companies Registration Office) website and bought a copy of their accounts. I was disappointed to find a very complex company structure. A lot of their fixed assets were financial investments in subsidiary companies. In particular a company called 'King of the Castle' appeared to have substantial assets. (I wonder whether calling a company King of the Castle tells us anything?). I then bought the accounts of King of the Castle. King of the Castle had land assets of €7m and cash of €27m. I was getting nowhere fast. Trying to estimate the true value of Manor Park would be nigh on impossible from looking at publicly available information..

I felt that the next stage was to talk to the company directly. Between one thing and another I did not do this immediately. I decided to contact Conor Murphy head of Investor Relations. He was impossible to get on the phone as he was always at meetings. Eventually I decided to email him and he agreed to meet me. Before we had a chance to arrange a meeting DCC announced that Manor Park was up for sale. The media speculated on a price tag of at least €700m. The share price went up to a high of around its €28.

Was it possible that there were even more hidden assets? Even if there were no further hidden assets meeting Conor would be a useful way to learn about the operating divisions. It would be great if it were good value even without additional property assets.

DCC 1 YEAR CHART
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I finally met Conor Murphy and Chief Financial Officer Fergal O�fDwyer yesterday. I asked them about their property assets. First of all I asked them if they had ever re-valued their property assets. (If I had gone through their annual reports I would have known this) They said that they had never re-valued any property assets. This means that the €97m on the balance sheet is a fairly meaningless number. They told me the profit on the sale of the Fannin site was at minimum €20m.I then mentioned that I didn�ft know if the head office was owned or rented and I also said that I didn�ft know if any of the other Dublin sites were owned. They said that they owned substantial freehold property assets but these properties were needed for their core business and therefore they would be unlikely to sell them. The Fannin sale was due to the need to get a bigger warehouse not because of the property price realised. They want to concentrate on their operating business. They accepted that they had not bought the Shell forecourt operations because as petrol stations they were making very low margins. They did not look at it as an opportunity to make money from the property assets.

We then spent the rest of the time talking about the core operating assets of the group. I will not go into that discussion in this opinion piece but I may return to it in a later one because it is quite interesting.

The only conclusion I can come to at this stage is that DCC has 'significant property assets' but current management are not looking to immediately realise that value. Whether shareholders will put pressure on management to change is unclear. With reasonable core divisions DCC is still a good buy because there are �ghidden assets�h I only wish I knew just how much they were worth!!!

If there is any other hidden asset stories out there please let me know.......

NOTE
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The Berkshire Hathaway newsletter was published on March 1st. If you have read my opinion piece 'Brilliant Buffett'(March 06) you will know that I highly recommend that you read it. (www.berkshirehathaway.com) I have just finished it and I must say that if you haven't the time to read all 23 pages please read the piece about Walter Schloss on page 21 because it should be essential reading for all students of investment.

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