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This must be the craziest thing I've seen on the stockmarket in years…

by , 24 November 2015

I can still remember the first car I ever owned. It was a 1.4 VW Golf Chico with 110,000km on the clock. I got it second hand when I went to university. My dad's deal was I had to maintain it. The little car did its job well and took me everywhere I needed to go, even through the Karoo during noontime in December without air-conditioning!

Through all the sweet memories I made, there are a few things that really stick out in my mind. As the car aged, maintenance increased. It eventually hit the 230,000km mark and running costs soared! I actually started evaluating buying a new car - more fuel efficiency and a service plan could possibly beat the costs on my old Golf. I kept on fixing the little problems that crept up breakdown after breakdown though…

Eventually the car was in an accident. It's market value was around R20,000. To fix it would've cost me R34,000.

At that point I realised I needed to cut my losses. The car was written off, scrapped. And I bought a new one…

I've always believed this was a logical decision. But a recent decision by investors on the JSE just have got me questioning what sanity really means

Would you keep throwing good money after bad?

Lonmin is a JSE listed platinum producer. Just like my old Golf the company is aging. It’s platinum mines produce at high costs and it just isn’t competitive anymore.

But, like I kept my old Golf running even though it’s maintenance cost me an arm and a leg, so investors are keeping the ailing Lonmin alive…

You see, since 2009 Lonmin has gone through FOUR rounds of capital raising. Every time going to investors begging for a bit more money.

In 2012 the company outdid itself, it asked sharholders for R7.12 billion. At that stage the company was worth around R8 billion.

Ok, so to save their investment in Lonmin investors recapitalised the company for the same amount it was worth.

This is the same as it would’ve been for me to spend R19,000 on my Golf which was worth R20,000 to keep it running. At least I’d have been able to justify my decision, I needed the car to continue generating an income by getting to work.

And in 2012 investors could still justify their decision with the hopes of Lonmin continuing to generate profits and thereby provide them with a return on investment.

Lonmin: The ultimate case study in value destruction

I believe Lonmin will become a university textbook case study in value destruction though.

You see, in less than three years, Lonmin has managed to burn through the entire R7 billion investors gave it in 2012…

Now it's come back to investors begging for more money. This time though, the decision by investors to continue backing Lonmin is simply ludicrous!

You see, today Lonmin has a market value of R1.18 billion. Yet it’s asking investors to recapitalise it with $400 million. At today’s exchange rate that’s R5.6 billion or more.

This is the same as if I’d spent R94,000 fixing my Golf that was worth R20,000…

There’s one big difference though.

Lonmin is a car that’s not driving itself out of trouble any time soon.

Lonmin’s target is to become cashflow neutral in three years.

That’s right my friend, Lonmin will use the entire R5.6 billion cash injection investors is giving it and still not become profitable. It will
consume all of this money over the next three years and have nothing to show for it.

Or rather it will have LESS than nothing to show for it.

That’s because the company will retire mines and lower production over the next three years.

It’s at 750,000 ounces platinum production now and will lower this to 650,000 ounces in two years' time.

How do you make a decision this bad???

Why would you throw this kind of money into a seriously bad investment?

By its own admission the company says it HOPES to reach breakeven in three years’ time. And that’s not accounting breakeven, it’s just cash flow breakeven. Add in depreciation of its assets and the losses will still be there in three years’ time!

What are investors hoping for?

Because over the course of the next three years they will lose their entire investment, and that’s if things go as planned with Lonmin’s restructuring.

Unfortunately, government was involved with this restructuring. The PIC (Public Investment Corporation) owns 7% of Lonmin and has agreed to underwrite the rights offer up to 25%.

Call me crazy but I believe the capitalist system should be left to its own devices.

Bad companies should be left to fail. New capital should be formed and the business assets should be left to take apart and new businesses will form in its place.

I don’t know about you but I’m sure our government can spend R1.4 billion better than throwing it at a failing company.

Imagine what could be done in the hands of entrepreneurs with proper plans and good ideas?

Well, in the meantime we’ll have to sit and watch as investors throw good money after a bad company. I for one wouldn’t partake in the rights offer.

But I would keep my eyes open for a takeover of Lonmin somewhere in the future. I’m sure there’s another company out there that will be able to take Lonmin apart bit by bit, keep the good, cut the bad and do something effective with R5.6 billion in cash, just like the scrap dealers bought my broken down car from me and stripped it for spare parts…

Here’s to unleashing real value

Francois Joubert

Editor, Red Hot Penny Shares

This must be the craziest thing I've seen on the stockmarket in years…
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