A look at Gowing Brothers

Alan Kohler with the CEO interview today and one of our subscribers asked for some information and an interview with Gowing Brothers which is a listed investment company run by John Gowing, the great-grandson of the Founder of Gowing’s which was a department store that was started in 1863 in Sydney.  Gowing Brothers is a famous department store, it’s still got the name of the Gowings on the building on the corner of Market Street and George Street, just over the road from David Jones.  About 11 years ago it became an investment company because they sold the store and now they just invest in shopping centres in Northern New South Wales, around Coffs Harbour and Port Macquarie and they’ve got a $55 million dollar share portfolio, a lot of them in unlisted investments. 

But the reason for the query about Gowings was that they are currently selling at a discount to NTA of 40%, which is enormous!  And the share price has fallen in the last 18 months from $3.60 to $2.60, so quite a big fall.  John Gowing tells me that they’ve always been at a discount to NTA, but never at this sort of discount, and obviously part of it’s because everyone’s worried about shopping centres and what Amazon’s going to do to them, among other things that they’re worried about.  Apparently someone’s been selling as well, which he explains in the interview. 

But look, it’s a bit of a gamble in a sense that maybe everyone’s right about shopping centres, particularly regional ones, that they’ll be hit hard by online shopping.  It’s a bit hard to tell but a 40% discount gives you a bit of a margin of safety I would have thought, a bit of a buffer.  I find it interesting, I think it’s an interesting little business, market cap of $140m and John Gowing owns 38% of the company.  There’s a couple of other shareholders with 20%, so it’s pretty tightly held, but as I say, a 40% discount.  Here’s John Gowing, the Managing Director of Gowing Brothers.

Listen to the podcast or read the full transcript below:

John, I think Gowings became purely an investment company in 2001 when the department store was demerged, is that right?  

Yes, that would be the case, but I mean actually we’re actually, strangely, not really that different today because we have Gowing’s Department stores but now we own Surf Hardware International, which is a global retail surf business.  I think we probably became an investment company really in 1950 when Dad, my father, started reinvesting part of the annual profits in the listed equities, that by the time I started in 1987, had already become at least half the value of the business. 

The website actually says, I think, there’s 150 years of investing experience, but what you’re saying is up until 1950 it was just a department store, is that right?

Yes, but we owned the building, so I suppose my grandfather had been – he was one of the founding investors in Woolworths, with his own money, not necessarily the company money… Most retailers in those days, probably your biggest asset was your property.  If you were Inner Sydney, your biggest asset is obviously your property in Sydney CBD.  We moved from a single fronted shop, to a double fronted shop, to three shops on George Street and eventually building the Gowing’s Building on the corner of Market and George Street.  

What’s your relationship to the John Gowing who started the company in 1863, is he your great-grandfather? 

He’s my great-great-grandfather, so I’m the fourth Managing Director of the company. 

Obviously, very famous for that iconic store on the corner of Market and George Street which it became something else for a while and now it’s a Top Shop, is that right?

That’s right.  When we sold the building, after the Gowing’s retail had shut, we had leased it out to Supré and then we sold the building and strangely we sold it to our neighbours which was Event Hospitality and they re-leased Supré to Top Shop.

Right.

Interestingly, the building’s still got the Gowing’s name on it so we get free advertising whenever anyone walks or drives up and down George or Market Street.

That’s right, I have noticed that.  As you say, you own Surf Hardware International, but that’s by far from your largest investment.  Your largest investments are shopping centres on the North Coast of New South Wales.

That’s correct, Alan.  We’ve got four shopping centres from Port Central and Port Macquarie which is in the centre of town, Kempsey Central which is in the middle of Kempsey, Coffs Central which is in the middle of Coffs Harbour, and Mooney Beach which is 12 kilometres north of Coffs Harbour on the Pacific Highway.  Probably at least 70% of all of our capital is tied up in those centres at the moment.

Can you give us a sense of how the business has evolved or the company has evolved since the department stores actually sold or got rid of?  Where did the money go to begin with and how did you end up owning so many shopping centres or having it mostly in shopping centres?  

There’s a good story.  When we shut the business in George and Market Street, well Gowings shut down, and I said to my father, “We don’t really have a strategic reason to continue running this property.”  We had tried to do a redevelopment with adjoining properties and we couldn’t get agreement with those owners.  We were earning on the valuation of the building at that time about 3%, and then you had to pay tax on that, so we were probably only getting 2% return on the building.  We said, “Well we’re getting on average 15% return from our share portfolio including dividends and appreciation in value over the last 20 years.  Let’s sell the building and redeploy it into listed investments and managed private equity.”  So that’s what we did, that was in 2007 I think, or 2006 or 2005 – I can’t remember, but there’s a timeline on our annual reports so I suggest anyone who wants the real detail get into reading our annual report. 

We actually bought quite a few mining shares at that stage and we did very well for the next three years and then we sort of saw some headwinds coming, we had a Coolangatta note, one of those CDOs, and we had another CDO – we sold one of them for about $10 million and got our money back and we didn’t get out of the Coolangatta note for $5 million in time, we eventually recovered all our money fortunately over about 5 years.  But we sold down most of our equity portfolio just before the GFC.  We didn’t sell all of it and we sat on Commonwealth Government bonds for about 12-18 months and then we were looking where we should deploy that money. 

We wanted to buy things that were earning good income so we could pay good dividends to our shareholders and buying shopping centres became – we first looked at Port Macquarie and we bought Port Macquarie from Dexus and at that stage you could buy them because of the state of the market and the fact it was very hard to secure finance from the banks.  You could buy the shopping centres on about a 10-11% yield and that’s when we redeployed our Commonwealth Government bond war chest slowly and surely.  We bought Port Macquarie, we bought Kempsey – and we’d known Kempsey quite well because we’d actually owned the site where the Kempsey Centre was and had sold that and we bought that back from a distressed seller. 

Then we bought Coffs Harbour from the AMP because it was a closed end fund or a fund that had to be wound up and they needed to sell it, so we bought that quite well and we bought Mooney Beach also as a distressed sale – or it wasn’t really a distressed sale but it was at a very good price because it had been built before all the houses around that area had actually built.  We were paying sort of half what it cost to build that centre at the time.  The strategy was to have four shopping centres – or it wasn’t necessarily to have four, but to have a significant investment in that North Coast region where you could actually manage them all by driving between the centres, rather than…

We could have bought centres in Tamworth or Darwin but being in the one area you have synergies because you can advertise in the same TV thing for the centres because they all come under a banner, Pacific Coast Shopping Centres and our centre management and marketing people can drive between the Coffs Harbour and Port Macquarie in about 2 hours now.  I actually live at Foster on the weekend, so I can sort of drive into Sydney, I can drive up to the centres and spend a week up there and it’s quite manageable.  That’s sort of the story, Alan.  

I note that you own 38% of the company.  Is that what you inherited from your father or has it changed?

I’ve bought some shares over the years but not a significant amount, so it is what I’ve inherited from my aunt, my father and my mother.  But we, over the years, have had some fairly significant buybacks.  I think when I started at Gowing’s we owned 30%, but buying back some shares probably about 10 or 15 years ago, that increased substantially, but haven’t really added that much to it apart from the last dividend, I partly participated in the DRP scheme.

The share price obviously over the last 18 months has fallen from around $3.60 to $2.60.  Can you explain why that’s happened?  Because I think it might’ve been related to a decline in the NTA per share.

No, the NTA per share has held up quite strongly.  I can’t explain how the stock market works except that when you look at it on a computer screen, you look at IRESS and you’ve got four or five sellers and four or five buyers and the price is set by the last one or two of those who decide to trade.  It has been one of our larger shareholders who has been selling down.  That was, I think, John Serbia when they got bought out by Magellan.  I haven’t spoken to them, I don’t know, we’re just seeing the actual holding slowly decrease, I think that has an impact on it.  I think shopping centre REITs, although we’re not actually a REIT, because of our large weighting towards shopping centres.  I think there’s been quite a negative view on how Amazon’s going to impact on shopping centre owners and so on and so forth, so I think it’s just a combination of a number of different factors.

You’re actually at a 40% discount to NTA at the moment, which is actually why our subscriber asked me to talk to you, because it’s such a discount, everyone’s going, “Well geez, is that a buy or what?”  I mean, are you saying that it’s gone over the last 18 months from a smaller discount or a premium or in line with NTA, is that what’s happened?

It’s been at a discount for quite a while.  Most of the time I’ve been at Gowing’s there’s always been some level of discount, not as high as it is at the moment.  The last time it actually traded at a premium would have been in the 80s when we introduced bonus issue in lieu of dividend scheme.  A company like Gowing’s, when the family owns close to 40%, you’ve got two or three other shareholders who own 20-30% between them, it’s actually such a small float that it doesn’t really, the actual share price, it doesn’t really reflect what’s going on.  I mean, if we didn’t have a better use for our money, which we do because we’re developing, still doing shopping centres, we’ve got a land sale division we’re about to start at Coffs Harbour, theoretically I could start buying the shares back which would be in the interest of all the shareholders and that would diminish very quickly, but that would be an artificial way of changing the market and I haven’t done that.

Let’s talk about Amazon, because I think the conventional wisdom is that first to go in the demise of the Australian retailing will be regional shopping centres like yours.  Are you seeing any problems now from online shopping for your centres?

Any of our retailers who are doing a good job are, no.  I honestly have not seen any impact at all, in general, on our retailers.  I think some of the fashion retailers probably are struggling a bit but a lot of them, if they’re vertically integrated or they’re in food or they’re in nails or they’re in travel, it’s a constant remixing.  You even have your anchor tenants like Big W and K-Mart and Target.  At the moment, K-Mart’s doing a fantastic job and Target and Big W are sort of a little bit moribund.  We’re just constantly working on that mix and it’s interesting, if you think about a store like – say we had a Woolworths in our shopping centre, which we don’t at the moment, but they average about $60 million in sales and if each one of their customers – if we lose all of our customers online, it’s hard to imagine how many trucks you’d have to have driving around delivering each one of those particular orders, it’d be actually physically impossible. 

We actually own the Centre of Town in Coffs Harbour and Port Macquarie, it’s a community hub.  There’s a constant evolution.  It’s the same as when I’ve run Gowing’s in the city, we had to anticipate the needs of our customers and it’s my job to be thinking five years ahead of what they’ve even thought about what they’re wanting to do or what they wanted to buy.  It’s the same sort of process we’re bringing to running the shopping centres.  I think it’s a bit more difficult regionally because you can’t just go and say, we’ll cherry-pick from all the different retailers that are around at the moment because a lot of them don’t want to go up the coast.  But I actually think regional shopping centres are less likely to get impacted than centres that are closer to potentially the logistics hubs in Sydney and Melbourne. 

So, no, I don’t agree.  I think it’s something we have to be very aware of and make sure in our product ranging, which is when I look at ranging it’s looking at who do we get in and who do we talk to about – do we get a tea shop or a coffee shop or a nail bar?

Is this why you’re developing some residential property as well, just to hedge your bets?

No, not really.  Because we had such a good team of people at Coffs Harbour managing the redevelopment, because we’ve just spent $36 million in Coffs Harbour upgrading, extending the centre, bringing K-Mart in, building a brand new K-Mart store, adding two levels of commercial office space to it.  They’ve had the team there and they had an approval for a reserve subdivision and we thought, we could actually manage that quite easily even though it’s at Coffs Harbour.  And we were looking at things that would have a bit more short-term profitability and return, so we’re quite excited about that subdivision at the moment.

It says in your latest presentation, you’ve got equity investments of $54.1 million and the Pacific Coast Shopping Centres are in there at the presentation at $58.9m, so it looks like about a quarter or maybe 20% of your assets are in equities.  I look on my IRESS screen about you and it says your top five holdings in listed entities include Blackmores Ltd, 17.36%.  What does that refer to?  Because it can’t possibly be – you don’t own 17.36% of Blackmores, do you?

No, no, we don’t own any Blackmores at the moment.  We did own Blackmores, it was the best investment I ever made.

I see, you’ve sold?

Yeah, we sold out when they were $215 dollars and I bought them for $4 in 1988, I think, so that was the best single investment that I’ve made since I’ve been with Gowings.  We made $16 million profit. 

And you picked the top.

Yeah, I actually worked out when obviously… Blackmores was a very good example of how we like to invest.  I had always been looking at alternative medicine and therapies and stuff and I managed to meet Marcus Blackmore at the time and I thought, this is potentially a growth company, I didn’t realise how much growth there was actually going to be.  We invested about $400,000 dollars and we rode along on a positive ride, we received lots of dividends along the way and there may have been a couple of bonus issues and went through the GFC and held on and then it got to a point where I just thought it was the value…

I mean, because I don’t like selling because you end up having to pay tax, but it got to a point where I thought it was just an unsustainable valuation and we sold.  So far, that’s proven to be a good decision.  Often, I’ve sold things and it’s been a very poor decision, things like CSL and Macquarie Bank which I’ve sold and thought we’d made a lot of money, have gone on to grow at least 10 more times in value.

Oh well, that’s what happens.  Anyway, Blackmore’s are down to $125 dollars now, so you did the right thing.  But your biggest equity holding is the company you mentioned before, Surf Hardware.  I’ve never heard of that before, is that an online retailer or has it got stores?

No, Surf Hardware International is a holding company for a group of surf brands, the main brand is a brand called Fin Control Systems, which is FCS, and they have sort of a global monopoly on the surf board fin market.  They wholesale surfboard fins and other surf adventure related products to all the surf shops all around the world.  They have offices in the west coast and east coast of US, Mona Vale, France, England, Japan and they have distributors in other countries.  One of the big challenges that we’re working through with them at the moment is to balance the existing distribution model of wholesaling to surf shops with selling online and direct to consumer which is a fantastic opportunity. 

Surfboard fins are quite expensive, they sell for about $120 for a set, and they’re also very small, so a small package – you could ship them from a central location to anywhere in the world for a reasonably low price.  They’re an ideal product for direct to consumer.

I take it it’s unlisted, Surf Hardware?

That’s right, we bought the whole lot.

You own the whole thing?

It was owned by Surf Stitch.  That why I was saying before, we actually are back in retail.

Yeah right, I see.  Just looking at your listed equity investments, most of them seem to be unlisted.  You’ve got Carlton Investments, but I’m struggling to see any listed ones there apart from that.

Well, we have Air New Zealand, Huon Aquaculture, Temple & Webster, Webster, Event Hospitality, Carlton Investments, Carsales, [unclear 23:48] Group, Seek…

Oh okay, I stand corrected.  They are in the other holdings down the bottom, $4.3 million?  

Yeah.  The biggest investment we have which isn’t listed and has been proving – and I touch wood to be another Blackmores, is Boundary Bend, which we bought into about eight years ago, the largest olive oil vertical olive oil producer in Australia.  They own Cobram Estate and Red Island and they also own the olive groves in Boort and Boundary Bend in Victoria.  That’s an unlisted public company.

It’s a big call to say they’re another Blackmores.  

Well, I’m hoping, Alan.  But they both are, they’ve gone from about – original investment cost price was around $2 million and the latest valuation – unlisted companies we value according to some proper methodology, but normally at the last sale price or the last round of investment that they’ve taken in, so based on the last round of money they raised our investment would be worth about $14 million, so it’s gone from $2m to $14m.

How long ago was that capital raising by them?

That capital raising was just earlier this year.

What do you think will cause your 40% discount to close?

There’s a number of different issues.  Probably the biggest issue is there’s one shareholder who’s been selling down, finishes selling to – I think at the moment there is this negative perception about shopping centre owners and I don’t know when that will change but it could change.  There’s also one of the other major tailwinds I’d say is the interest rate outlook at the moment, although that seems it may have just changed in the last week or so.  You’ve seen the US yield curve – I was looking at something yesterday – it had gone inverse over the first five years. 

That could have a tragedy because people see interest rates going up and think, well that’s going to have an impact on income earning assets valuations, and/or any one of these terms when we successfully start selling blocks of land at Sortal for very good prices and are able to pay some special dividends as a result of that to our shareholders, then that will have a positive impact as well.  But that obviously depends on the market remaining reasonably strong in Coffs Harbour, which we’re reasonably confident it will, but you can’t predict the future.

And I suppose the key risk to your business is those who are negative about regional shopping centres turn out to be correct?

That’s correct.  We never know what the future is, Alan.  At Coffs Harbour we still have the approval to do a seven-storey hotel on top of the shopping centre.  At Port Macquarie, because we own the whole centre of town, we’ve got 12,000 square metres of land, which is a car park in the middle of town and the car park has dramatic views over Port Macquarie Harbour and up the cost, so there’s sort of ongoing development opportunities in both those locations which have very little to do with shopping.  

You need to put some apartments on that car park in Port Macquarie.

Well, that’s certainly in the plan down the track.  That was the interesting thing, like when we sold our Gowing’s Building which was quite a sad day in some ways, but there was no further development opportunity there.  Unless we could buy the adjoining building and use adjacencies and so on to add value, there was nothing else we could do because we’d completely renovated it at that stage, connected it all to the QBV and we really couldn’t add any more value.  

And you couldn’t pull it down?

No, you weren’t allowed to pull it down, but the beauty was that when we did the renovation of the building, which was the first major renovation since it’d been built in 1929, I think about $15 million dollars’ worth of renovation was repairs and maintenance, which was wonderful, and we made $7 million dollars’ profit on the sale of shares and Open Technology at the same time.  The sale of shares in Open Technology actually paid for the whole façade upgrade of the building.  When we did sell it, all the profit was tax-free.  Unfortunately, that’s not the case anymore, but that was all because we bought it pre-capital gains tax, everything was tax-free. 

We’ll have to leave it there… Sorry, go on.

Just one thing, because Gowing’s is actually a listed investment company, which I don’t think a lot of people understand, so when we do make capital gains we can actually pay those to shareholders as LIC capital gains tax dividends, which is a fairly significant advantage.

Just explain what that means.

Well, normally when you pay a fully franked dividend you get the franking credit at the company’s tax rate…

Yes.

With an LIC capital gains tax dividend, if you own the shares in a super fund or in your personal name, you get a credit for what would otherwise be the tax credit you get on your annual capital gains tax discount which is 50%.  You actually end up getting a tax refund from the tax office.

Unless the Labor Party comes to power.

Yeah, well that’s quite true.  Anyway, hopefully that was helpful.  

It was great, thanks very much, John.

Thanks, Alan.

That was John Gowing, the Managing Director Gowing Brothers.