Via Wolf Street

Russian billionaire rues the day he bought it. “We should have been more cautious and done our due diligence better.”

By Nick Corbishley, for WOLF STREET:

Dia, once one of Europe’s largest supermarket chains but now struggling with cascading losses and a near-bankruptcy experience, has just disclosed its results for the first three quarters of 2019. The firm racked up even more losses (€504 million) in the first nine months of this year than it did in the whole of last year (€365 million), when it was rocked by accusations that its executives, with the complicity of its auditor, KPMG, had engaged in accounting fraud to conceal the true extent of the firm’s losses.

Luxembourg-based investment fund LetterOne (L1) took over the supermarket group in the summer with the purchase of 70% of the group’s shares. L1 is owned by Russian billionaire corporate raider Mikhail Fridman who had made his fortune in oil, retail and banking during Russia’s chaotic transition to a free market economy in the 1990s and who was listed by Forbes this year as London’s richest resident.

In the first nine months of this year the supermarket chain’s EBITDA (earnings before interest, tax, depreciation and amortization) plunged 80% from a year ago, to €48.3 million. Sales dropped 7.4% to €5.1 billion and its total net debt soared by €1.1 billion, from €1.5 billion at the end of 2018, to to €2.6 billion in Q3 2019.

Dia’s main creditors include not only big Spanish lenders like Santander, BBVA, CaixaBank and Banco Sabadell and European heavyweights like Barclays, Société Générale, and Deutsche Bank, but also the ECB which as of last year held at least €200 million worth of Dia’s bonds, although it may have since sold them at a multi-million euro loss.

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Another €500 million is owed to L1, which is in the process of carrying out a €605 million rights issue for Dia, which will further dilute shareholders who didn’t sell out to L1 in the June takeover. Since then, the value of Dia’s shares have plunged 75% to €0.17. Two years ago, they were worth close to €4.

If the capital expansion is successful, L1 will be able to repay itself €500 million of the €1.37 billion it paid to take the company over, and Dia’s net debt will subside to a slightly less daunting €2 billion. Thanks to a debt extension agreement struck with Dia’s main creditors, L1 has been able to put off paying back Dia’s huge debt load. The first bond repayment, for €95 million, now won’t be payable until September 2020. That will be followed by a repayment of €300 million in April 2021. But the vast bulk of the debt won’t have to be paid back until Spring 2023, when €984 million will come due.

To accomplish all this, Dia needs to attract enough interest from outside investors to complete this month’s rights issue, otherwise all bets are off. It then needs to deliver a viable long-term business plan to its creditors by the end of this year. As part of that plan, it will need to convince creditors that there’s at least some possibility of returning to profit before its bond repayments begin to kick in.

Turning a profit is something Dia has struggled to do for quite some time. Huge doubts remain about the viability of its hard-discount business model in an already overcrowded market. It still faces intensifying competition, including from online retailers. This is particularly true of its domestic Spanish market where the supermarket giant Mercadona now controls almost a quarter of the entire grocery market after years of ruthless cost cutting, while the German discount chains Lidl and Aldi are rapidly wresting market share from domestic low-cost retailers like Dia.

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In Spain net sales have fallen 7.8% so far this year, “hit by lack of stocks, negative coverage in the media, negative perception in society at large, and the sharp decline in marketing investment,” the company said. In Portugal, net sales fell by 7.5%, while in Argentina they slumped 45.5% to €984.7 million, due partly to the collapse of the Argentina peso. In Brazil net sales dropped by 17.6%, to €999.7 million euros.

Even Dia’s new owner, Fridman, has begun to express reservations. In a recent interview with El Pais, he said he could not have imagined the sort of problems that would come up in the company.

“We made mistakes,” he said. “We should have been more cautious and done our due diligence better. That was our mistake and we’re paying for it… The fact is we have lost a lot of money.”

Now, Fridman is facing trial in Spain on charges of artificially depressing the value of Spanish digital entertainment firm Zed Worldwide in order to take it over after the company declared bankruptcy. Lead prosecutor Jose Grinda said the technique involved using legal and financial means to economically “strangle the company until it goes bankrupt.” Those means allegedly included getting Russian telecoms firm Vimpelcom, which is also controlled by Fridman, to abruptly cancel its contracts with one of Zed Worldwide’s Russian subsidiaries, depriving the Spanish firm of significant revenues.

Fridman also faces allegations in a separate trial of conspiring in a “criminal corporate network”, that included Goldman Sachs, to trigger the collapse of Dia’s shares so that L1 could pick up the supermarket chain on the cheap. Fridman bought his first packet of Dia shares in 2017, at €5.10 a share. At that time, the company had a total market cap of €3.7 billion, almost €2.4 billion more than the amount Fridman paid to buy it outright two years later.

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Fridman denies the charges. “I am the biggest victim of the collapse of Dia’s shares,” he told El Pais. “We have invested €1.6 billion in the company. When we came in we thought, ‘this is a listed company. As such, its level of transparency and the quality of information should be very high.’ It was only later that we discovered that its accounts were a sham.”

Whatever the outcome of the two trials may be, what is clear is that for Dia, its new management, employees and new owners, they represent an unwelcome distraction from the day-to-day business of just trying to keep the company alive. By Nick Corbishley, for WOLF STREET.

In funds with a liquidity mismatch, the First-Mover Advantage is huge, as Woodford’s investors found out. Read… Redemptions Rip Through UK Equity Funds as Fallout from Woodford Collapse Grows

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