Inital Public Offering | First Rock Capital Holdings Ltd.
First Rock CH has marketed itself as the premiere Real Estate Company in the Jamaica capable of partaking in the full gamut of real estate investment including property development, investing in real estate related securities and the purchase of property for sale or lease/short term rental. The company proposes to maximize shareholder’s returns by taking advantage of tax efficiencies related to its jurisdiction of incorporation and the double taxation treaty in CARICOM which would see investors’ cash flows (dividends) being taxed at a rate of 1% instead of at a rate of 15% in Jamaica. The company also proposes to maximize shareholder’s returns by remaining strident in its investment philosophy which emphasizes investments in income producing assets which is complimented by investments in assets which demonstrate the potential for capital appreciation. We view this philosophy positively and are of the opinion that, given good management, the company should be able to enhance shareholder value.
However, while acknowledging that the company’s plans are ambitions, due to it being a start-up (and consequently presents significant risks to investors), it has not, to date, demonstrated a track record which indicates that it is capable of sustainably executing its proposed business strategy. Furthermore, the company also did not disclose or provide any information relating to its management team to demonstrate to investors the team’s competences or experience. Consequently, the expectation of sound management, which is often taken for granted in most companies, has not been established. For existing companies this level of diligence is usually taken for granted. However, because First Rock CH is a start-up, it is our opinion that not establishing the competency of the management team presents investors with unnecessary uncertainty. These fears are enhanced by the fact that the company’s directors reported that First Rock CH generated an operating loss of approximately US$155K in the twenty three (23) months ended September 30, 2019. Putting that operating loss into clearer context, the company generated an operating loss of approximately US$155K while it expended in excess of US$184K in marketing expenses during the period. We find this level of expenditure interesting because at this time First Rock CH was a start-up, non-public company which did not manufacture or sell any goods/services which may have required a significant marketing budget. Adding further context, First Rock CH incurred expenses of US$185K to compensate its fund manager during the same period. In other words, the company almost spent as much on marketing as it did on managing the core functions of the business. The financials also revealed that were it not for a US$374K gain on foreign exchange during the period, the company would have made a net loss for the period instead of a net profit of US$218K. These considerations, in our opinion, enhances the execution risk associated with the company and do little to put at ease the aforementioned concerns relating to the management team.
Investors are left with more uncertainties going forward as First Rock CH opted to omit the terms of the leases for long term rentals and the occupancy levels and average daily rate relating to short stay residential rental properties. We also are wary of the utilization of short term rental strategy in the portfolio as it has the potential to add unpredictability and volatility to the portfolio’s earnings. The company indicated that 9 of its 20 residential units were earmarked for short term rentals. While we acknowledge that short stay rentals could prove to be lucrative if all goes well, the opposite is also possible. Furthermore, the utilization of such a strategy could undermine one of the core reasons why investors usually opt to invest in real estate investment companies, which is for relatively stable and predictable cash flows (i.e. dividends). However, we view favourable the geographical diversification of the properties, which counterbalances some of the risks. It is our opinion that the geographical diversification of the company’s short term rental properties may help to reduce the probability of all short term properties suffering from low vacancies at the same time due to the an identical non-systemic hazard.
Lastly, it is our opinion that the company’s offer price of US$0.12 per share is overvalued. Our estimates indicate that the company is fairly valued at approximately US$0.095 per share. This would suggest that at an offer price of US$0.12 per share, the shares are overvalued by 25.28% relative to our estimated fair value. Consequently, when all the risk factors are tabulated and considered alongside the, in our opinion, premium at which the company’s shares are being offered, we would not recommend (risk averse) investors to partake in First Rock CH’s IPO. Therefore, we are recommending First Rock CH shares as a SELL at this time.
|Estimated Fair Value||US$0.095|