James Glass: ARCH offers rapid discount narrowing opportunities

ARC Capital Holdings (ARCH) is an AIM-traded private equity vehicle with a portfolio of retail and consumer businesses that provide exposure to domestic growth in China.

ARCH has a focused portfolio of 13 investments, with 50% by value invested in consumer products, 38% in department stores/hypermarkets and 12% in speciality retail.

The largest holdings include supermarket chain Shanghai Supermarket (which represents 22% of the portfolio); the mobile phone retailer and distributor Funtalk China (15% share); and Department Store Holding (14%).

The investment manager is well resourced, with about 30 investment professionals across Shanghai, Beijing and Hong Kong, and is part of Pacific Alliance Group, which has $5 billion (£3.2 billion) assets under management.

Net asset value (NAV) performance since the initial public offering in June 2006 has been robust, enjoying growth of 9.1% per annum in US dollar terms. However, the fund’s discount widened sharply during the global credit crunch due to a combination of risk aversion and forced sellers. 

In response to this, ARCH ceased making new investments in April 2009 and instead focused on portfolio management, with the aim of preparing its investments for realisation.

The share price has rallied strongly since the realisation strategy was announced, rising from $0.40 to $1.05, with the discount tightening close to 25%. 

To date, progress on realising the existing investments has been slow but the prospects for realisations this year look encouraging. 

The fund’s stake in HNA Airport, which was established to capture the growth opportunities in Chinese domestic air traffic, has been partially sold this year and a full realisation of HNA Airport is expected by the year-end.

Electrical retailer Huiyin Household Appliances (8.7% of portfolio) listed on the Hong Kong Stock Exchange in March and is still subject to sale restrictions but lock-up periods on other quoted investments – notably the Nasdaq-listed Funtalk China and Department Store Holding – have now expired.

The portfolio companies typically have little or no leverage, other than short-term working capital loans.

ARCH’s share price has risen by 21% in US dollar terms over the past 12 months as investors have become more comfortable with its portfolio prospects and balance sheet.