Monday, 27 October 2008

FerroChina trigger cashflow concern – Part 3: MIDAS, Hongwei

MIDAS
In the last half year result.

Asset:
Cash and equivalent 64mil
Trade and receivable 44mil

Amount repayable in a year 18mil (secured)

Cash before working capital 11mil
Cash after working capital and others 10mil
Net increase in cash for half year 6mil

The company has little debt and sufficient cashflow. No cause for concern.

Hongwei

This is another harshly battered down fiber stock. In the past half year.

Cash and deposit 66mil
Trade receivable 97mil

Amount repayable in a year 48mil

Cash before working capital change 36mil
Cash after working capital and others -17mil (cash outflow, because increase of trade receivable by 38mil)

Just by using the cash on hand, it is more than enough to pay off the debt. The negative cashflow is because of the increase of trade receivable as a result of sales increase. Looking at current environment, there might be impact on collection. We have to see the impact on next quarter announcement. The significant drop in oil price is a good news to fiber stock, but if the customer sales is geared towards export, there would be impact on the sales order.

Tuesday, 21 October 2008

FerroChina trigger cashflow concern – Part 2: Hongguo, Synear, Celestial

Hongguo

In the latest second half result.

Asset:
Cash and equivalent 66mil
Trade receivable 128mil
FD 16mil

Current liabilities 144mil
Amount payable in one year 16mil (secured by FD)

Operating cashflow before working capital 81mil
Net cash from operating activities 10mil

Assume the trade receivable is easily collectable, the company should have sufficient cash to cover the liabilities. After the working capital change, the net cashflow is only 10mil. The cash are converted into form of inventories. Retail consumption might slow, but there shouldn't be a sharp drop till the company cannot convert the inventories into cash. Looks alright.

Synear

In the latest half year result.

Asset:
Trade receivable 261mil
Cash bank balance 1335mil

Current liabilities 285mil
Amount payable in one year 20mil

Cash from operation 162mil
Cash used in investing 652mil
Cash used in financing 150mil

The negative cashflow is the result of aggressive capacity expansion. The operating cashflow remain healthy, but negative consumer sentiment might affect sales. Earning might come down but loss is unexpected. The cash balance should last the company quite a while. Once the new factory is running and consumption recover, we might see a substantial surge of earning. The cashflow is not a concern to me.

Celestial

The company has two major business – industrial soy product and consumer product. In the last half year result.

Asset:
Cash and equivalent 1651mil
Trade and other receivable 488mil

Current liabilities 1690mil (Borrowing of 1277mil)
Amount repayable in one year 1257mil (Convertible bond)

Operating cashflow before working capital 352mil
Cash from operation 173mil
Cash used in financing activities 140mil

Looking at the convertible bond, it is possible for holder to do early redempt at June 2009. The holders are unlikely to convert them to share now given the market condition. Worst case if the bond is redempted after a year, the current cash should be sufficient to buffer it. Given the business is cash generating, this shall not be a big concern.

Sunday, 19 October 2008

FerroChina trigger cashflow concern – Part 1: FerroChina, China Hongxing

China stock suffered another hit after Ferro China announced that the company is unable to repay working capital loan of 706 million and could default on another 4.52 billion of debt. Obviously, the company is unable to generate cash fast enough to repay debt dued. Give the economic condition and credit crunch, this became a big issue.

Looking at the company last half year result. (Figures in RMB)
Revenue rose to 6,516mil (+206%)
Net profit rose to 418.9mil (+186%)
EPS is 50.52 cents (+43%)

Selling and distribution expenses 25.6mil (+40%)
Administrative expense 64.2mil (+94%)
Finance expense 158.7mil (+174%)
Income tax expense 41mil (+327%)
Net debt/equity 55.7%

The usual numbers show a strong growth. However, the increase of expenses also quite staggering. If you just focus on the profit growth, you might thing the company is doing quite well. Let's look at the liabilities and cashflow.

Current liabilities 6,223mil
Non current liabilities 2,437mil
Amount payable in a year 2,336mil

Operating cashflow before working capital 611mil
Net cash from operating actitivites 198mil
Cash used in investing activities 948mil
Cash from financing activities 709mil
Cash at end of period 125mil
Fixed deposit 915mil

I didn't drill down further to their funding approach and timeline. But if you look at the figures above, you shall be alerted the company might have funding problem. The current cash, FD and operating cashflow is not enough to meet the payable within a year.

Looking at the profit figure is not enough, investor should also study the company cashflow. I am usually not comfortable investing in company with fair amount of debt. The use of debt would enhance the shareholder return, but at the same time increase the risk of default. As a result, I am more favourable to consumer stock which generate strong cashflow.

Questions were raising against other China companies whether they might hit the liquidity problem. Let's take a look at the companies inside my portfolio.

China Hongxing

I have done the Q2 review two months back. This round only focus on the liabilities and cashflow.

Current asset (all figures in RMB)
Bank and cash balance 2,201mil

Current liabilities 227mil
Amount payable in a year 18mil

Operating profit before working capital (6 months) 280mil
Cash used in operating activities (263mil)

The company have negative cashflow due to significant increase in prepayment, deposit and other receivable 592mil. The money was advanced to distributors to set up 219 new stores for six months ended June 2008. Taking into consideration of investing and financian activities, company has 392mil negative cashflow.

As the company complete the store expansion this year, the cash advancement amount should reduce. Together with distributors paying back the amount. Next year, the company should turn cashflow positive. Furthermore, there is cash balance of 2,201mil. No big concern.

Others in part 2 and 3...

Wednesday, 15 October 2008

Reflection on the financial turmoil

For the past 1 year, the global financial market was in turmoil. Now, it is still very unstable. It started as an US problem and later the contagious effect spread to the whole world.

It started long way back when US housing market was booming. The bank packaged many creative product like subprime loan. Financial institution lend to those without good credit record, package the loan into securities and sell to investor. When the subprime borrower default, it cause ripple effect on financial market.

Bank bought those subprime product suffered big loss and need to recapitalise. Housing market slump and cause more borrower to default. Credit become precious and banks became careful in lending to each other. The lack of credit would choke the economy and this became a very serious problem. When the banks are not functioning, the economy is not functioning.

The main problems are credit crunch and mortgage base asset losses. Housing market suffered and economy outlook looks dark. Therefore stock market keep plunging, in sync with the outlook. It is like a vicious cycle, the falling asset price cause more loss and in turn cause asset price to fall further. We are at the so called de-leveraging cycle. It is very painful to unwind all the credit in such a short frame of time. Because of the weak outlook, the commodity price - hard or soft is coming down. As the investors turn risk adversed, attention is on gold and this is the only asset where price is going up.

The cyclical industry turns down first – properties, shipping etc. When property was hot and money is easy, when the foreigner are buying high end property like no tomorrow, analyst keep adjusting their forecast and target price. The ever surging commodity price – oil, palm oil, soya bean, corn, iron ore cause port congestion, analyst foresee a long time boom, thus shipping stock flying high. Look at what happen to them? Analyst forecast is usually too reactive.

Now, the construction is not doing well. Financial stocks which are tied to the health of economy are coming down. Consumer stock is also expected to be affected because of the spending slow down. However, China didn't show sign of slowing down. I read today's chinese newspaper, the China consumer is much insulated from the external shock and is still spending. The China consumer stock might be more resilient than what we think. The defensive sector are telco, consumer staple, transport and monopoly. Since no matter which cycle you are in, you still have to use their service or products.

  • Watch out for real bargain. Company with unique competitive strength and brand, is able to survive the bad time should come back stronger.

  • Avoid cyclical company, especially those with analyst downgrade. It is hard to swim against the current. Only exception is you have strong belief in your stock picking skill

  • Avoid the company with high gearing. This is usually my key stock selection criteria and it save you during the bad time.

  • Avoid buying too soon and too much. Wait for the sky to be clearer and the financial market has really stabilized.

  • Think independently, but don't lose sight on the economy implication and what others are doing.

Thursday, 9 October 2008

Market thoughts @ 09 Oct 08

After a few days of selling, STI finally staged a rebound of 69.10 to 2,102.71. This is after the rate cut from several central bank. Although the rate cut is good news, but in the developed market, the market selling continues. The financial and credit crisis is serious, but the real problem is seems to be fear or lack of confidence. If US fall into a deep recession, the stock price is going to fall a lot. Some analyst cautious the use of forward PE at the time when the growth prospect is not clear.

When people are selling, Warren Buffett started buying aggressively. He bought General Electric and Goldman Sachs. His principal is simple, invest in the business he can understand and significantly undervalued for a long term. When the cycle turns up, the investment could be worth much much more. Crisis mean buying time for him. To the others, this principle seems simple yet difficult to apply. The human nature of risk aversion prevent you to participate in bargain hunting, you would cut loss instead.

The growth picture is not going to improve anytime soon, some advocate to wait and see until 2Q 09. I tend to agree with this view point. Even though the market seems to be cheap now, before the sanity returns, most probably we would see more sell off rather than big gain. So, no worry here, waiting for more opportunities. The only question now is whether what to buy, what would give a significant upside when the cycle turns? I am still searching. The strategy is to concentrate on a few best idea and hope for the best in 3 years time.

By the way, there are few interesting events in the market recently.

Guangzhao IFB - Trading suspended now for the company. This is after the company defaulted on one of the convertible note issued. They are waiting for the fresh money to come in to support the bond redemption. This highlights the potential risk of investing in small and unproven company. The business model is very interesting, but the cashflow is negative. Before the real money comes in, they run out of fund and need to pay back debt. Yet to see if anybody come to rescue.

SGX - It is like the barometer of Singapore stock market. So many analysts are calling for a sell now, since the trading volume is going to reduce amid the bear market. This is true without considering the potential of the company on the long run. It is like you sell, I sell situation now. Watch out for it, when the tide turns, analyst is going to come out and call for strong buy again.

Celestial Nutrifood - The tainted milk scandal in China is supposed to boost the soya bean sales. Even starbucks also start using soya milk as a replacement. The other good news is the falling of commodity price. The two factors seem favourable but the stock cannot escape the broad base sell off we are having now. The inevitable down turn might hurt consumer sentiment and reduce consumption. Although the company is poised to do well in the long run.