SoftBank Group (SBG) reported its earnings results for FY2019 on Monday (May 18, 2020), including record losses — mostly driven by adjusting the value of its investments like WeWork and Uber, downwards. Son announced another share buy back program and that SoftBank would invest in startups on its own, since finding outside investors for SVF sequels is unlikely. Time to update my sum-of-the-parts valuation…
Recap of recent events
Investors strongly sold off SoftBank Groups stock after the global outbreak of the corona virus resulting in financial markets turmoil and global lockdowns. The share price fell to a low of 2,687 JPY on March 19, representing fears of many cash strapped startups going bankrupt and credit stress for SBG. After appropriate measures taken the stock rallied strongly. With the benfit of hindsight, it is clear that prices in March offered a nice entry point.
SBG reported a record loss for the FY 2020 ending March 31, 2020. SBG reported an operating loss of JPY -1,365 bn (US$ -12.8 bn) after an operating income of JPY 2,074 bn ($ 19 bn) for FY2019. This record loss is almost exclusively attributable to the SoftBank Vision Fund or SVF segment, which recorded a segment income (loss) of JPY – 1,931 bn vs 1,257 bn in FY2019.
Activist investors bought into SBG and were pushing for changes, mainly for shareholder value creation through selling assets, buying back shares hoping to reduce the NAV discount (i posted here, here and here). The initially announced buy back program of 500 bn Yen fell short of Elliots expectations, but the second one to buy back 2 trn Yen worth of shares delivered and send shares soaring, as reported by reuters.
SBG owns assets worth JPY 28.5 trn or about US$ 260bn, according to a recent presentation. These assets mostly consist of economic interests in three listed companies Alibaba, Softbank Corp (SBC) and TMUS. Additionally SBG owns a share in SoftBank Vision Fund or SVF and its directly held stake in ARM.
I discuss the various assets and how I will account for them in my SOTP valuation in more detail below.
Alibaba stake is worth $ 137 bn or 50% of total assets. SBG entered into various derivative contracts involving Alibaba shares (see page 10, slide 60/61). Assuming a 30% tax cut on its Alibaba stake seems reasonable to me, even if only a partial stake might be sold in the near future. Since most of the asset value is derived from SBGs Alibaba stake, this clearly represents an obvious key risk (and potential chance). Alibaba forecasts sales growth to slow down based on economic uncertainty.
SBC is worth $ 42 bn (16%). SBC pays significant annual dividends to SBG and thus represents its main cash generating asset. Rumors are that a small stake of 240 m shares ( 5%) might be sold off for c. $ 2.9 bn (reducing SBGs stake to 62.1%) in addition to the TMUS stake. This would match to former statements that SBG wants to sell of slow-growth asets and pour more cash into higher-growth ones. I believe a (tax) discount is not warranted.
TMUS is worth $ 30 bn (11%). The merger between Sprint and TMUS finally succeeded, resulting in a stake of 24% in New TMUS or 304,606,050 shares, according to the accounting presentation, p4. Rumors are, TMUS shares are to be sold off (mostly to DT) in the near future. Taxes should not be a major issue, since Sprint was bought at higher prices. To be on the conservative side, I will assume they sell shares at a small sidcount of 10%.
SVF is significant but … . In my former valuations I accounted for SVF clculating with a value of zero. Now, I feel rather comfortable not resting my valuation on SVF. But, I hoped for significant upside potential. This could result from a positive leveraged performance of SBGs equity stake and management fee income of SVF (and potentially any sequels).
ARM significant but not listed. SBG shows its ARM stake at historic cost – SBG bought it in 2016 for GBP 24bn (US$ 31bn), according to theverge.com. ARM seems to perform strongly but without generating cashflows (FY2019, p24f). Based on the notion that chips are an essential part of todays commerce, I believe it is at least worth what SBG payed, but most likely much more (of course, it is possible that SBG overpaid tremendously). The iShares PHLX Semiconductor ETF performed strongly since 2016 (+125% since Oct 2016). Since SBG contributed a stake of ARM into the SVF paying for its equity commitment, SBG seems to hold 75% directly. Accounting for the directly held stake, it is worth the directly held stake (75%) times the historic costs ($ 31 bn) times an assumed performane factor (base: 1.3x).
Other assets are negligible, representing about 3% of total asset value.
Standalone debt of SBG is shown as JPY 8,281 bn or c. $ 77 bn. Standalone net debt is shown as $ 64 bn.
My last valuation from February indicated a discount from Net Asset Value (NAV) to Market Capitalization (M Cap) of 43%, applying a 30% discount to SBGs Alibaba and YahooJapan stakes as well as valuing SVF at zero. With such a high discount, I deemed it worth holding my SoftBank shares, especially with activist investors driving value creation.
Conservative discount of 28% from NAV to M Cap currently calculated, applying tax discounts to Alibaba (30%) and TMUS (10%) and not taking into account any value from SVF or Other Assets. Assuming a (holding) discount from NAV of 10% is warranted/fair, this results in a conservative profit potential of 25 percent.
Further upside potential … is not unlikely! Any value from SVF and Other Assets could provide huge upside. Additionally, ARM is (only) accounted for at historic acquisition costs, but comparable companies performed strongly (125%) since 2016. If SBG manages to pay less taxes effectively when selling stakes or holding stakes so that invested capital can compound further without paying taxes (today), could add yet more value. SBGs SVF equity stake is a leverage play on the underlying assets performance, providing not only assymmetric payoffs from its equity stake, but additionally management fee income. Below I illustrate an aggressive (and highly unlikely) upside scenario without taxes or other discounts, resulting in a theoretical upside of 124%:
A fair valuation is probably somewhere between, and closer to the conservative valuation approach.
Share buy backs are a strong lever. If one believes that an undervaluation exists, one should love all these buy backs as a tool for shareholder value creation. If asset sales proceed as planned, I guess there is hardly a chance for a strong sell off for months to come, since the buy backs will be a strong support.
Note to myself: When everybody expects something to work out well,
there is the possibility of negative surprises or downside risk (sell side analysts are overwhelmingly bullish).
SoftBank Group publishes its own calculation of shareholder value per share on a daily basis, based on an SOTP, but without taking into account any taxes or discounts. Additionally, there is a lot of fine print at the bottom of the page outlining assumptions and methods (some of them questionable).
Use With Caution !!!
Summary and Decision
I feel very comfortable holding my current shares in SoftBank Group, based on the above, and reinforced by activist shareholders and tha e recently announced considerable asset divesture plans and share buy back programs. The high contribution of Alibaba to total asset value is certainly a key risk (which I am willing to take). Exposure to startups and new business models is also something which I do not perceive as purely negatively.
Though, Sons statement that SBG will pursue startup investments with its own funds (since finding investors for SVF II is currently unlikely) represents a high risk that SBG could destroy shareholder value and needs to be monitored going forward.
I hope you enjoyed my SoftBank post (read all SBG posts if you want). I will update my valuation if deemed appropriate.
Do you agree with my main assumptions and opinions on SoftBank?