Is Softbank the next Berkshire Hathway, the world’s most undervalued company or an overvalued, overhyped dud?
Over the past few months, the Japanese conglomerate has attracted the attention of analysts across Wall Street, who've each put their own spin on valuation.
Chris Lane, an equity analyst at Sanford Bernstein, has compared the company to a 21st Century Berkshire Hathaway as the company reinvests cash flow from its core telecoms operations into tech businesses. Companies that will have a significant part to play in the future of the world's development such as e-commerce, microprocessor designs, and robotics.
Lane believes that Softbank is undervalued because investors "fear Masa’s [Masayoshi Son Chief Executive Officer] big bets on the future.” Meanwhile, investors feel safe with Berkshire Hathaway because investors "Buffett’s instincts and understand his value investing approach."
The Softbank story
There's a good reason for investors to be cautious about Softbank's tech bets. Founded in 1981 as a software and media publisher, the group's market value surged during the tech bubble. At its peak, the group's market cap was $180 billion, but then, as the bubble burst, the stock lost 99% of its value a decline that cost Son an estimated $70 billion.
It took several years for the company to recover from this boom and then bust. However, it was back on the road to growth by 2006 when Softbank paid $15 billion for Vodafone’s Japanese telecom carrier unit. Following this deal, Son invested $20 million in an upstart Chinese e-commerce company lead by Jack Ma. Ma’s company Alibaba market value is now more than $450 billion, and Softbank's investment is now worth an estimated $139 billion.
Son has devoted $28 billion of Softbank's capital to his Vision Fund, a $100 billion fund also backed by Saudi Arabia’s Public Investment Fund, Apple and Abu Dhabi’s Mubadala Investment Company. Son is using this fund to make his big bets on the future and make a profit for Softbank's shareholders.
Even though Softbank's capital accounts for less than a third of the overall fund, it is structured in a way that the conglomerate will receive more than half of its gains if the fund triples in value.
And according to Son, these big future bets are already starting to pay off. At the Future Investment Initiative summit in Saudi Arabia last month, Son said that the Vision Fund had made a $3 billion profit and a 22% return over a five-month period.
Trying to value all of Softbank's various parts is proving difficult for investors. The opaque nature of the Vision Fund, coupled with the group's boom-bust history only adds to the confusion.
Is Softbank Undervalued?
According to analysts at Macquarie, based on Softbank's valuation today, the Alibaba holding accounts for 49% of the SOTP calculation, and as a result, the shares are trading as if Sprint is worth $0 and the e Domestic Telecom business is 1x EV/EBITDA. There's also no value being attributed to the Vision Fund.
"While no Sprint deal and higher CapEx has weighted on its share price, the BABA price continues to increase. BABA is now 49% of our SOTP. As a result, we estimate Softbank shares are trading as if the Sprint investment is worth zero, SVF has zero value and the Domestic Telecom business is 1x EV/EBITDA. We see this as an excessive discount of the business."
Most analysts agree Softbank is trading at a deep discount to its SOTP valuation, but what will it take for this discount to narrow? Oliver Matthew analyst at CLSA believes that there are three factors that could make the stock rerate over the next few years.
Firstly, as with any company, better earnings should improve investor sentiment towards the business. Over the past year, earnings have been shrinking at Softbank's core divisions. Japan mobile has been on the decline; Yahoo Japan has been under pressure, and Arm margins are shrinking on the back of aggressive investment, but over the next 12 months, these headwinds should abate.
Secondly, greater transparency for the Vision Fund should help. While the company has provided some information on how the accounting of the fund works, management fees, hurdle rate, coupon fees and performance fees have not been disclosed. More transparency will help investors understand the opportunity here.
Third, the current holding company discount needs to narrow. Matthew notes Softbank's current valuation only really gives value to Alibaba because investors don't believe in the rest of the group. This creates a self-reinforcing cycle. A lack of clarity regarding the vision fund and poor performance from other divisions is preventing the valuation gap from closing, but at the same time, investors are avoiding the stock because of the vast difference. Instead, if they want to own Alibaba, they can just buy Alibaba. Until the above issues are addressed, this is likely to continue.
Even though each analysts' price target varies, all of them conclude that on a sum of the parts basis, the stock is worth at least 30% to 40% more than its current valuation.