Decision time for Dunloe shareholders

Does Dublin solicitor Noel Smyth sing?

Well, whether he can warble or not, he could be singing his swan song on Wednesday: if his proposals to privatise Dunloe Ewart get the green light in May/June, then Wednesday's annual meeting will be Dunloe Ewart's last as a publicly quoted company.

Wednesday's meeting, of course, will not be the decider. A Scheme of Arrangements will have to be first approved by the High Court and the shareholders, at an extraordinary general meeting. Then the shareholders will have to decide to get out, or stay in.

Until the Scheme of Arrangement is published, it will be difficult to be definitive about the proposals. But they are unique.

The deal, a type of management buyout, uses Dunloe Ewart as the vehicle. The ordinary shareholders - but not all of them - can stay in if they want to, and there will be an exit mechanism for them in five years.

Two questions need to be addressed. First, is this course of action necessary? Second, who will be the winners and who will be the losers?

It would be difficult to question the motives behind the proposals. Dunloe Ewart has an insatiable appetite - and need - for fresh funds because of its preponderance of development properties with an end value of some £2 billion (€2.54 billion). While the funding of these would not all crystallise at the same time, and while some could be partly funded by joint ventures, it is top heavy for a group capitalised at only €155 million (£122 million).

The strategic review group, set up by Dunloe Ewart, concluded there would be "limited support" for a major rights issue above 32 cents (25p) per share and "a successful outcome could not be guaranteed". That would have represented a 13.5 per cent discount on the share price before the speculation about the company's future. The board was not prepared to "consider issuing shares at that level". Hence the proposed move to privatisation.

But Dunloe Ewart also faces a downturn in profits this year. That would not have created a conducive environment for a rights issue. Also profits could be cyclical with developments coming on stream in a lumpy fashion. With these factors in mind, the group is probably correct in its privatisation decision.

So who is going to gain and who will lose out? The company proposes to offer shareholders 47 cents (37p) per share which its statement says represents a premium of 27 per cent over the pre-announcement price. But 13 cents, or 27.7 per cent of the consideration, is deferred for up to three years, and will be funded when certain assets are sold. If the deferred payment goes out to three years, the present value of that payment goes down to 11 cents, giving a lesser premium of 22 per cent.

On that basis, the offer price is just okay and represents a premium on the net asset value (NAV) per share of 40.5 cents. But the net asset value does not reflect the €132.5 million of development stock which is at cost in its balance sheet. A valuation could add at least 10 cents to the NAV which makes the offer look on the light side.

But the valuation of development stock, particularly a number of years ahead, is prone to error. In an up-cycle, valuations soar, in a down-cycle, values plummet.

A condition in the offer which has not been highlighted is the requirement that the management ends up holding 75 per cent or more of the company. That is understandable from the company's view; it can pass special resolutions without going to the other shareholders. The minority shareholders, however, with less than 25 per cent, lose some of their legislative protection rights.

Mr Noel Smyth, chairman, and family interests, own 22.5 per cent, and other management members hold 2.3 per cent. They will not be able to vote on the proposals. But to get the 75 per cent they will need to convince only 50 per cent of the other shareholders to push the deal through. With institutions unlikely to want to stay in, that goal is attainable.

If the proposals get the green light, will Dunloe Ewart not end up even more financially burdened? That is likely but it depends on what it gets from its property sales and joint ventures.

The bid values Dunloe Ewart at €182 million but as Mr Smyth and the management have around 25 per cent of the equity, there is a need to finance only 50-75 per cent of that. Mr Smyth said he would contribute £20 million. If sales netted £40 million and £40 million came from joint ventures, then the company would end up with the same gearing. In theory that is possible but it would be a difficult goal.

By creating Dunloe Ewart, an all-Ireland property group, out of the diminutive Dunloe, Mr Smyth has demonstrated his undoubted entrepreneurial flair. Privatising the group will give him far greater flexibility to bring the group forward without the constraints of a public company.

It is not without its risks. The accelerated move in inflation and interest rates and labour unrest and shortages have made forecasters look silly. Who then, in this rapidly changing economic environment, would like to predict the state of the property market in five years time? Obviously those who say Yes to the privatisation route will be followers of Mr Smyth who will be hoping his warble in five years time has a sweet tone.