Medibank Sale: Trick or Treat?

Yesterday we told you about the forces pushing the stock market higher.

The officials of governments and central banks around the world will do whatever it takes to force up asset prices — and long after those officials are gone, taxpayers like us will have to clean up the mess.

You don’t have to agree with their policies — but while they’re serving up a crooked market, you owe it to yourself to play the game in your own best interest.

But what if the authorities slant the deals they serve up toward their interests? If you sleepwalk into the wrong stock by accident…couldn’t you end up taking a big loss while the ‘smart money’ lights up Cuban cigars with your hard earned?

The stock market is always a risky proposition…and every transaction leaves a winner and a loser.

That’s why one high-profile deal worries us…

We’re sure you’ve heard the news about Medibank Private.

The Australian government is selling its health insurance company. It will float on the Australian Securities Exchange (ASX) through an initial public offer (IPO).

The offer opened to Australian retail investors two days ago. It will close on Friday 14 November.

Once it floats, Medibank’s market capitalisation will be as much as $5.5 billion. That will place it among the 70 biggest companies listed on the Australian Share Market.

It’s a big deal in anyone’s language. But is it a good deal?

Our analysis suggests it’s a great deal for the seller. But private investors like you need to tread carefully.

Don’t buy the spin

The government’s public relations machine is making plenty of noise about the ‘opportunity’ this float represents. They’d have you believe they’re doing Aussie mums and dads a favour by graciously offering them valuable shares in Medibank Private at a discount price.

We don’t buy that spin.

The only opportunity that anybody is grasping here is the chance to kick a huge float out of Canberra’s back door while market conditions are good. In case you hadn’t noticed, companies only list on the ASX when the broker can assure the vendor of a nice high sale price.

Our eyes widened when we saw the indicative price range for Medibank Private shares. The government has set the range at $1.55 to $2 per share.

The price itself is another issue. It’s the range between those figures — nearly 30% — that troubles us.

When we think back to our days in London selling US IPOs to European investors, a 30% price range would have been out of the question. If we had pitched a deal of this size with such a wide range of potential prices, the fund managers would have laughed us out of the room.

For example, back in 2010, we helped sell General Motors Company [NYSE:GM] to institutional investors on behalf of Uncle Sam. The indicative price range before we sealed the deal was US$26 to US$29 per share.

That’s a much tighter price range — for a much riskier business in much dicier markets —than how the Australian government is pitching Medibank Private today.

We don’t see why investors should have to suffer such uncertainty around the price of Medibank Private shares.

To us, this stinks of a government and stockbroking fraternity that sees hopeful mums and dads and can’t help but take advantage.

Most Aussies have neither the time nor the expertise to analyse what a fair price for this business might look like.

To answer that question, they’re relying on the goodwill of a cabal of financial vampires.

We think we’ve seen that movie before…

‘They’re getting a good price…the buyers not so much’

Earlier this week, my pal Greg Canavan examined the pricing for Medibank Private.

Greg writes Sound Money. Sound Investments. He’s a great analyst and a sober voice of reason.

The way Greg sees it, this is a decent business. But the price is a problem.

Greg says,

‘When you apply for the shares you don’t know what you’ll actually pay. The stock may cost you $1.55 per share or it may cost $2. Based on the interest in the offer, my guess is that the company will come onto the market closer to $2.’

By the way, even if you hold back until closing day to order shares in this IPO, the cabal of vampires won’t reveal the true price until a week after you’ve posted your cheque.

But like Greg, we think you have to assume the IPO will price at $2 per share or close to it.

At that price, and based on the $258.2 million the government projects the company will earn in the year ending 30 June 2015, Medibank will trade on a price-earnings ratio of 21.3 times.

As Greg told us,

‘That’s quite high for a mature company operating in a competitive marketplace. It’s a decent indication that the sellers are taking advantage of an expensive market to sell into.

I think those numbers represent a poor risk/reward trade off. They’re getting a good price…the buyers not so much.’

Sure, the industry might look attractive. And the mainstream financial press will sing its praises, cribbed directly from the Medibank Private prospectus.

But it’s all about the bottom line — the price you pay. The rest is conversation.

Any company can benefit from the best trends in history, but if somebody sucks you into paying too much for the stock, you’ll lose money.

That’s why we remind our readers in Australian Small-Cap Investigator only to buy the shares we tip at or below the maximum buy-up-to price.

There are many opportunities in this market for you to buy exciting stocks at discount.

Don’t let the government pressure you into paying too much for this one.


Tim Dohrmann+
Editor, Money Morning

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