Further one-legged update on the reporting season

Well folks, we are at the tail end of reporting season. I don't know about you, but I will be glad to give my one leg a much needed rest after this bout of ass-kicking.

23 August 2013

LYL results out. NPAT for FY 2014 will be reduced by 50%. Price is getting interesting, but my call is that there could be slightly more pain for LYL given their position in the food-chain.

CAB analysis. Postulate that market is overweighing the impact of ACCC recommendation to reduce 10% to 5% for payment systems.  The absolute downside is that $45m being wiped from the top travels right to the bottom, reducing FCF from $60m to $15m. Multiple compression follows as ROE of 20% becomes 5%, turning a good business into a capital intensive substandard business. A compression of multiple to 8 means the current market cap of $500m falls to $120m, which is a 75% drop. It is probably obvious that the outcome lies somewhere in between the absolute downside and the current situation, therefore it will be helpful to map out multiple scenarios in preparation for a price opportunity.

26 August 2013

SCD results.  Operating cashflow of $2m, resulting in $7.2m in cash, but there is $1.2m in tax liability and $1.6m tied up with banks as security for bank guarantees.  Factory revalued downwards from $4.4m to $3.2m. Equity increased from $10.2m to $12.6m.  Service revenue increased from $4.5 to $5.2m.  Orders on hand $6.9m. One customer made up 30% of revenue. I have covered this company in a previous post.

MTU results.  Underlying margins appear to be declining.  ROA declining. Debt increased.

VTG results.

MLD results.

HSN results out.

27 August 2013

SRV results out. Operating cashflow of $27m (after paying tax of $10m). Occupancy increasing. Cash on hand $99m. Weakening AUD may boost earnings in FY14. 23 out of 38 immature floors will mature in FY14.  Opening another 8 large floors which will boost total office space by 10%.  All USA floors are cash flow neutral and all expected to mature in FY14. Occupancy rate is 88% as at June 2013 (USA recovery).  Using $27m of FCF, with 10% RRR, assuming zero growth for 10 years and adding unencumbered cash of $90m, yields $345m value.  Using dividend discount model, on grossed up dividend figures, current market cap requires dividend to rise by 5% every year, and terminal value of 10x grossed up dividend.  Current price means that an investor gets growth for free. I have held this for over 5 years now (first post here), and this long holding period has been helped immensely by a very competent management.  

FLT results out. NPAT up 20%.  Amazingly, current price implies growth of 5% per annum in FCF for the next 10 years. I missed picking this up during the GFC for under $4, which means a 10-bagger has gone down the gurgler.

VEI results out.  All metrics declined. Revenue down, gross margins down, cashflow down, but surprisingly, wage expenses and doctor payments were also down.  FCF of $18m, debt of $45m. DCF of $168m, less debt of $45m, yields $123m. 148m shares on issue.

Examples of edge- information, analysis, behavioural, structural. From Robert Robotti.

28 August 2013

TWD results out.  Good yield. Exposure to housing in SE Queensland. Worth a deeper look.

AMA results out. Revenue up, but EBIT down. EBIT margin increased by 2%.  Company is debt free, with cash at $10m in August 2013.  Cashflow very strong at $10m. 332m shares. Net of cash, AMA priced for no growth. Good to see a capable and honest CEO delivering on his promises.

IFM- founder CEO is leaving and has sold all his shares.

WTF results out.  Revenue down, profits down, and cashflow down. But somehow market is valuing shares for 10% growth pa for 10 years. Madness.

MLB results out. Heavy in cash, new management team coming in, but premium core business under pressure.  Core business valued at 5x cashflow after backing out cash chunk.

TTI results out. Debt still of concern.

29 August 2013

VOC prelim results out. Revenue increased to $66m. Profit down. Cashflow $18m, tax $3m. Free cashflow $15m.  Fibre and DC showed tremendous growth.  Cash balance of $14m will fully fund next year’s $13.3m capex. Locked in recurring cashflow will pay off IRU obligations of US$10m next year. USD hedge runs out in Dec 14, so some exposure to declining AUD. FCF $15m, current market cap implies 5% growth pa for 10 years. Adding debt to get EV of $220m, with FCF $15m, implies less than 10% growth pa.  In the presentation, VOC stated that FY14 capex is in response to customer demand, and this was repeated.

CTE Prelim report out. NPAT $1.25m. Operating cashflow $1.9m. FCF $1.6m. Cash on hand $5.7m. No dividend declared.  Wage costs up $300k and one-off capex spend.  $2m tax losses remaining.  Record number of blood cord clients. FCF estimated at $1.7m. Fair value at $23m, assuming no growth. But note:   “The Board is confident that subject to any unforeseen circumstances, the benefits of its common infrastructure and operations systems to support the business units will allow it to increase revenue, improve margins and overall financial performance of the Company during the next financial year.”

IPP HY report out.  Revenue period to period hardly moved.  Not a good sign, as M’sia went backwards due to elections, but increase in prepaid services plus record month in July, so momentum will continue. HK shows very good growth and is close to breakeven, locking in 4 out of 5 major developers.  INA growth slowing but still strong, whereas Singapore is lagging (still number 2). REA trading at 14X revenue. IPP is trading at 12x revenue.  We await next quarterly cashflow statement.

30 August 2013

DDR results out. Cashflow negative.

SST results out. Loans paid to other entities??

UOS HY results out. I have held this for over 3 years, and posted about it here. Within the HY report, I found an amazing and pristine balance sheet:

Cash	$429m
Receivables	$159m
Inventories	$294m
Land held for property development	$20m
Property plant and equipment	$28.2
Investment properties	$566.8m
Total of Asset Items above	$1497m
Financial liabilities	$319m

Rent and parking fees for half year is $20m.  Shares on issue is 1.1b, market cap is AUD$580m.  Book value increased 15% over 6 months.

That's it folks.  Time to sit back and think through ideas. By the way, the reading list has been updated, for those interested.

Disclosure:  My family and I own shares in AMA, CTE, SRV, SCD, TWD, IPP, VOC and UOS.

Disclaimer: the content of this post is not to be relied on as financial advice.  It contains my personal opinion only, plus facts that I cannot verify to be accurate.  Do your own research and seek financial advice where appropriate. I have made many mistakes in the past, and will continue to do so in the future.

CMI Limited

I recently tweeted that I am examining 3 shares which I believe are undervalued.

The first of these is CMI Limited.

CMI operates two divisions, Electricals and TJM. 

Electricals revenue for FY 12 is $74m, returning EBIT of $21.5m.  TJM revenue for FY 12 is $40m, but EBIT is only $1m.

Electricals are facing headwinds due to declining coal sector investments in Qld, and also subdued industrial and housing activity.  

TJM has a lot of room to improve when performance is compared with ECB and ARP.  TJM is an established high quality brand with steady revenue, however the division is saddled with high costs due to the number of distribution centres, and management appears to be trying to contain costs by moving manufacturing to China.  ECB and ARP both generated EBIT margins in the mid teens, and if TJM can do just 10% EBIT, the EBIT from this division will go up 4x. I suspect that the TJM division is being dressed up for an eventual sale, and logical acquirers are AMA and ARP.

The problem with CMI has been management’s treatment of minorities over the last several years, culminating in litigation brought by Troy Harry last FY. With the death of long time owner Catalan, and succession to his daughter Leanne Catalan, the situation with management is still less than optimal, especially as management owns a controlling stake.  We suspect management’s actions account for the perennial share price underperformance, made worse by the previous unwieldy structure of having two classes of shares.  The structure has since been rationalised this FY following litigation brought by minority shareholders.  There is still some overhang of a big parcel of shares bought by Leanne allegedly in contravention of the provisions of the Corporations Act which was the subject of litigation at the Takeover Panel.  This matter is still subject to appeal, although I believe this is unlikely to matter in the big scheme of things.

Valuation

CMI has 38.2m shares on issue.  At AUD$1.70 cents, market cap is AUD$58m.   Operating cashflow is AUD$9.5m, giving P/Cashflow multiple of 6, and the multiple is slightly less than 7 if we include debt of about $8m.  Normalised EBIT is about $20m. A very conservative 5x EBIT puts CMI at AUD$100m. Current AUD$58 implies a 42% discount to a very conservative valuation. Even if EBIT drops by half to $10m, the EBIT multiple of 6 is still within conservative territory.

Earnings

Trailing PE (normalised without write-off based on NPAT of $14m) is 4.   Outlook given on 30 November 2012 appears to indicate that Electricals is holding and TJM is improving.  Market cap of AUD$58m allows an earnings deterioration by 50% to $7m,  and even then, the PE is still a lowly 8.  This provides a degree of margin of safety

Balance Sheet

As at June 2012, CMI has $8m in bank debt.  This is more than covered by operating cashflow of $9m. There are $16m in franking credits. There is also an impairment provision for a third party loan of $17m which has been written off to zero, but which I am confident will result in some recovery. There is a personal guarantee for $2.5m for this loan which CMI is now pursuing.  Working capital is about $37m which is about 1/3 of sales, and I expect there is some room for improvement here to boost the balance sheet.

Disclosure: The author owns shares in CMI.

Disclaimer: the content of this post is not to be relied on as financial advice.  It contains my personal opinion only, plus facts that I cannot verify to be accurate.  Do your own research and seek financial advice where appropriate. I have made many mistakes in the past, and will continue to do so in the future.

Seeking Patience

 "All man's miseries derive from not being able to sit quietly in a room alone.”   Pascal, Blaise

Patience is a great asset, and I believe, a major differentiator of performance between fund managers.  Every one of us are blessed (or cursed, depending on your viewpoint) with different abilities. It is a simple logical inference that the more actions we take, the more mistakes we are likely to make. This is an undeniable fact in the highly probabilistic world of business and investing.

Once again, patience is a simple concept in theory, but very difficult in practice. As some pundits say, even inaction is an action by itself. Stock prices can meander for years before a sudden spurt brings prices back to fair value.  The time period for such spurts varies between 2% to 9% of the total holding period. So in a holding period of say 5 years, the share price performance comes in a period lasting only 1.2 to 5.4 months. In the meantime, glamour stocks are flying, and other opportunities appears to be zipping by while your own stocks do nothing. A similar situation arises when we attempt to resist the temptation to sell stocks which have increased in price. Let your winners run, they say. It is not an easy task to maintain equanimity and objectivity in such situations. 

Needless to say, this week has been quite trying on my patience.

22 October 2012

Listening to TGA presentation. TEF aiming for $50m critical mass, funded by debt. Both TEF and Cashfirst to start major contributions in 2014 and 2015. One person kiosks reminds me of Bank Rakyat.  Pretty significant competitive advantage once fully rolled out. NCML getting some major exposure to QBE, CBA and SDRO.  Rentals maintaining excellent performance and spitting back cash to fund other lines.  I can easily envisage a situation within 3 to 5 years when TEF, Cashfirst and NCML collectively contributes as much as Rentals, and a doubling of EPS.

23 October 2012

Rereading Competition Demystified by Greenwald.

UOA DEV Q3 results out. Total assets increased by 13.5% to MYR$2430m.  Total liabilities increased by 21% to MYR$357m. Total equity increased by 12.3% to MYR$2072m.  MYR$88m NPAT for quarter. 4 quarters=MYR$300m-$360m. UOS 66% share is MYR$200-$240m=AUD$60m to $80m. On a lowly PE 8 range, UOS should have a valuation range of AUD$480m to AUD$640m, and this ignores rental from investment properties held at parent level. A second way to value is taking UOADB’s market cap of MYR$2.1b, of which 66% is MYR$1.4b=AUD$460m, which ignores UOA REIT and also all assets held at parent company level. Every which way I cut it, there is a significant undervaluation. A slap in the face type of undervaluation.

Assessing CAB- bearing in mind that the market usually overdiscounts near term uncertainties. AGM on Wednesday 28 November 2012.

26 October 2012

IPP still headed the right way. http://blog.iproperty.com.my/ceo-blog/the-iproperty-group-is-gaining-weight/  Cannot wait for this baby to turn cashflow positive.

IPP extended leadership in HK- arguably the most important of all its markets. Waiting for news that the other 3 property developers have joined the party, and it will all be game over for the competitors. HK will make more money than Malaysia, Indonesia and Singapore combined. IPP revenue running at AUD$15m per annum now.  Compared to REA in 2003 with AUD$9m revenue.  In 2004 REA revenue jumped to AUD$19m, and it started making a profit.  REA revenue is AUD$280m in 2012 with penetration of 60% of RE spend. IPP  currently at 5% penetration of RE spend. A six-fold increase to 30% RE spend will online will see revenue at AUD$90m.  Current market cap for IPP is AUD$160m.

27 October 2012

CSL- profit guidance up 20% despite currency headwinds. This is a sad miss for an entry price below $30 in February 2012. The opportunity cost is a whopping 66% gain forgone, not counting dividends.

AMA- CEO address. Appears to be squeezing out growth and good performance from all divisions, especially FluidDrive with quarterly EBIT up a stunning 200% pcp.

Disclosure: The author owns shares in AMA, IPP, UOS and TGA.

Disclaimer: the content of this post is not to be relied on as financial advice.  It contains my personal opinion only, plus facts that I cannot verify to be accurate.  Do your own research and seek financial advice where appropriate. I have made many mistakes in the past, and will continue to do so in the future.

A Post Mortem of a Fairy Tale

On 5 October 2011, the Motley Fool Australia kindly published an article written by yours truly.  You can find the article here:

http://www.fool.com.au/2011/10/investing/road-map-to-riches-treasure-hunting-on-the-asx/

The Fairy Tale

A portfolio of the 5 small cap shares I mentioned has not done too badly in the intervening 13 month period. The five shares are AMA, IFM, UOS, KNH and ZGL. If an investor has allocated $10,000 equally to these five shares on the date of my article, the portfolio will be worth $14,838 today, and this does not include any franking credits attached to the hefty dividends from AMA and IFM.  A satisfactory 48% per annum return.

As a matter of comparison, the benchmark All Ordinaries Index returned about 6% during the same period.

The Reality

So much for the hypothetical portfolio.  What actually happened in reality?

AMA was bought in two tranches with average entry price of 11.8 cents. About 20% of portfolio was allocated to AMA.  It is still being held today with a gain of about 215% on initial stake.

IFM was never purchased. To put this omission into perspective, IFM could have been bought for below 20 cents, and it is now selling for 35 cents after paying 2.4 cents of fully franked dividends. That is an 87% gain thrown away.

KNH was bought for 23 cents.  About 2% of portfolio was allocated to KNH. It was sold for 20 cents after publication of its annual results in February 2012, in the wake of massive diworsefication by management into unrelated low margin businesses, and a rapidly deteriorating financial position. KNH trades at 13 cents today. The loss was about 13% of initial stake which would have ballooned to 43% if held till today.

UOS was purchased at 34 cents. About 4% of portfolio was allocated to UOS. Gains from share price appreciation, capital returns and dividends total 14 cents, resulting in a gain of about 41% of initial stake.

ZGL was purchased in two tranches with average entry price of 26 cents. About 10% of portfolio was allocated to ZGL. It was sold in February 2012 for 22 cents for a loss of about 15% of initial stake. The sell was prompted not only by deteriorating business conditions, but also due to increasing unease over management’s self-interested actions and late disclosures of bad news on projects in hand.

Overall, the total gain is about 110% of initial portfolio stake. The gain is still sitting as unrealised gains in the two remaining shares being held, namely AMA and UOS.

The Lessons Learned

I need to have the courage of my convictions. The sad omission of IFM resulted in outsized gains being missed which would have vastly improved the returns.

Buy and hold does not mean buy without regard to valuation and holding on blindly. The 5 shares were picked based on valuation, and the hypothetical portfolio shows that even if an investor held blindly until today, the gain is still a satisfactory 48% per annum. By not holding blindly and following the companies closely and continually doing due diligence, further losses in KNH and ZGL were avoided.

A concentrated portfolio is risky if I lack competence in judging the quality of a business. When these 5 shares were selected, I remember being equally optimistic about all 5 of them, with the least optimistic being IFM, resulting in its sad exclusion. Yet I choose to concentrate my holdings on AMA. In hindsight, this was a mistake despite the great outcome. I had no real rationale why AMA was preferable over the rest, I could have concentrated my holdings on KNH and suffer some significant losses.  The hypothetical portfolio assumes an equal weighting, which returned a lower result, but is still more than satisfactory with much less risks involved.

Management matters a lot more than I initially assumed. It is a very rare business that could withstand the ravages of bad management. AMA had the guidance of Ray Malone, a man of discipline and integrity, even though the business did have some industry tailwinds. UOS continues to benefit from its management of several decades of experience. IFM staged a turnaround with the return of founder Richard Graham to the helm. On the other end of the spectrum, KNH was skewered by bad diversification choices from management. ZGL’s management lost the confidence of the market when they belatedly disclosed problems that should have been apparent much earlier.

Disclaimer: the content of this post is not to be relied on as financial advice.  It contains my personal opinion only, plus facts that I cannot verify to be accurate.  Do your own research and seek financial advice where appropriate. I have made many mistakes in the past, and will continue to do so in the future.