Will Singapore follow China's method of lowering child-rearing cost?

Over the weekend, the investment community will have heard and felt the impact on China's drastic policy in banning weekend enrichment classes and control over the education industry advertising. 

This brought fear and destroyed the market value of many listed China Education companies. While many have covered on the totalitarian implementation of the policy by the Chinese government, the undercurrent is due to China's aim of increasing the low TFR it faces now. It saw that rising education cost and stress in the education rat race was affecting TFR and hence nipped the root cause in its bud.

Will Singapore do the Same?

Singapore faces a similar issue in which education cost has been rising as parents compete in this education race. This has given rise to a large number of enrichment centers popping out and because of the fees they can command on parents, they are able to afford and moved to centralized locations in transport nexus such as retail malls in recent years.

Since the start of 2016, one will notice shop directories of malls having enrichment centers listed. This particular segment starting to rent retail spaces have helped to mitigate the rise of e commerce and ensure retail/commercial properties maintained their valuation on the balance sheet. Enrichment centers has been filling the void left behind by brick and mortar retail outlets, ensuring that the retail vacancy has been hovering at the 8-9% level.

It will be interesting to see if Singapore decides to follow the footsteps of China's policy direction of reining tight on enrichment centers. Due to the unique structure of Singapore economy where the property sector dominates, such a move will affect the valuation of retail/commercial properties. If the government does indeed move in the direction, I will be less sanguine on the local REITs market.

A turnaround in Earnings: Global Invacom

The company is in the business of selling satellite communication equipment. My investing premise is on a turnaround in the company's profits from potential cost savings in manufacturing efficiencies.

Earnings

In 1HFY20, the company recorded only a US$300k net profit. However for the full FY20, it had a US$2.6mil profit. 

Revenue wise, 1HFY20 was $52 mil vs 2HFY20 of $50 mil

Gross profit, 1HFY20 was $12.3 mil vs 2HFY20 of $13.3 mil

This means its margins improved in 2HFy20 and its partly due to the relocation of its manufacturing operations, which was completed in the first half of FY20.

Expectation of FY21

With the Covid recovery, I expect revenue for Global Invacom to improve. At USD$104 million revenue level, it can be expected to clock a full year net profit of US$4.4 million, assuming 2HFY20 margins. The current market capitalization is SGD$36 million (USD $26.6 million). Therefore, purchasing this company at a current P/E of 6 times is a worthwhile investment.

There is some room for revenue to grow because in FY20, G Invacom saw a decline of revenue to $104 million from US$134 million. Assuming a 20% growth in revenue (its 5 year revenue average), I expect future profits to be at US$5.4 million. 

Cashflow Quality

The company has been generating free cashflow over the years (including during Covid periods). Free cash flow yield is in the 20% region as compared to market capitalization. Usually companies only trade at a low free cash flow yield of 10% and below.

As the company is trading at a low price earning ration and high free cashflow yield (above 20%), I have invested in it. Unfortunately, I was not lucky enough to spot it early on and had bought it at 11.7 cents when it had a run up in prices last week. I am projecting the company to be worth SGD $60 million (USD$44 million) at 10 time P/E to FY21 profits. Forecasted FY21 profits should be US$4.4 million with further profit growth as revenue recovers. 

2 Palm Oil Companies that may benefit from the Palm Oil Rally

The world is on a commodities rally where prices of raw materials have increased by double digits over a 1-year period. This is largely due to the economic recovery post COVID as well as monetary accommodative environment.

Besides the oil rally, there is another produce that is abundant in South East Asia which has rallied. On a one year basis, the price of palm oil has grown by at least 40%. Hence I took a view of searching for SG-listed companies in the palm oil planation business; two businesses appeared - Golden Agri Resources (GAR) and Bumitama Agri (BA). Their business is simple, grow palm fruits, extract the oil and sell them.

Both companies have seen profit growths and I expect with the higher CPO prices, the revenue recorded will remain elevated which in turn means higher profits.

P/E Ratio- In terms of P/E, GAR is selling a high P/E due to its tax expense last year. However, this year's Q1 profits is already higher than the entire FY reported earnings, hence i suspect the tax expense is also a one-off line item. Hence, GAR is likely trading at a forward single Digit P/E. BA on the other hand, has consistently been trading at a single digit P/E over the past year. This is something interesting as I thought markets would price in future earnings given the rising CPO prices.

Plantation Age- Both companies have a relatively large proportion of mature palm oil plantation with GAR having a slightly older plantation age. However given that many of their plantation are in the peak oil yield stage; I am not sure why the market is ascribing such a low valuation.

Risk

Forward Sales (hedging)- It seems BA has done quite badly in hedging because it hedged some of its future palm oil at a low price and had to be pay the difference for the recent hike in Indonesia export levy. This could explain why profits are not growing as fast as GAR.

Indonesia Export Levy- Indonesia has increased its export levy. A risk is another higher than proportion hike especially when the government needs money to rebuild post COVID

CPO prices fall- It's the end of the commodities cycle and CPO prices falls back.

Conclusion

All in all, I think the commodities rally will still continue and am interested in investing in at least one otherwise both of these companies. Current CPO prices are at US$3500 per ton and I expect levels to be maintained. This will ensure FY21 profits will be higher than FY20's profits when CPO prices were at US$2500/ton.

I am not invested in any of them but will be taking a further look at weighing their plantation age vs their forward sales (hedging) strategy

Letter asking about Sembcorp Marine's pricing of rights- to SIAS

Reflecting on Sembcorp Marine's recent price action, I have sent a letter to SIAS as they are the only authority to help retail investors. 

Below is my letter to SIAS, for Sembcorp Marine Shareholders, please feel free to send it to SIAS as a form of collective action against Sembcorp Marine's Corporate Action

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I will like to request your assistance to raise a query to Sembcorp Marine due to its recent Corporate Action.

 

Sembcorp Marine has announced a rights issue of 3 rights for every 2 shares at 8 cents. I find this share issue unfair to minority shareholders and would request your team to raise it.

 

Firstly, while we understand Sembcorp Marine is raising money for its business, I question the huge discount required for 2021’s right issue. In this round of rights, the discount to TERP for the last day (35.7%) and 5- day VWAP (36.2%) is much higher than 2020’s; in 2020, it was 35.1% and 21% respectively. This does not make sense because SembCorp Marine is (i) now in a stronger financial position than its pre-2020 rights issue, (ii) the industry has become better and (iii) Sembcorp Marine has a higher net cash balance. All these points to the fact that TERP could have been done at a 20+% discount value.

 

Secondly, while Sembcorp Marine may argue that 2021 rights issues had to be priced lower due to investor’s fatigue in the company’s frequent rights, it points to the question of the need to raise $1.5 billion. The cash burn rate for SCM in FY 2020 was not high (about $850 million) during a disastrous COVID year. With SCM, recently raising $500 mil in green bonds for its projects and a cash balance of $770 million, it is definitely plausible SCM could have raised $850 million and be able to last to end 2022. SCM could have staggered the cash raising to smaller tranches on an annual basis. This would allow minority shareholders (who do not have the financial backing of a country’s past reserve) to participate in SCM’s rehabilitation.

 

Based on these two pointers, I hope SIAS could flag them as a query to SembCorp Marine about (i) how its has priced the discount to TERP and (ii) on the amount raised.

 

Thank you.

Semb Marine Latest Rights- Bitter For Shareholders but Sweet Money Making Opportunity for Temasek

 Today, SCM announced an unexpected 3 rights for every 2 shares at the price of $0.08.

In my view, this rights exercise is an unnecessary corporate action and a maneuver by Temasek Holdings to profit off minority shareholders.

Why is it unnecessary

Sembcorp Marine has a strong balance sheet since its previous rounds of rights raising since balance sheet is not massively over levered and has a cash pile of hundreds of million.

Rights Exercise

Existing Shareholders are going to be fatigued by the amount of rights and be constrained by their own financial resources.

In 2020, SCM did a shares issue of 5 new shares at $0.20 for every one share held. In 2021, it is now proposing 3 new shares for every two shares held at $0.08. Let's break it down with an example. Assuming in April 2020, you bought 10,000 shares at $0.70 at a cash outlay of $7,000. After the first rights issue, you would have 60,000 shares and have to fork out an additional $10,000. 

With the upcoming round of rights, the 60,000 shares results in 90,000 more shares to be subscribed at the cost of $7,200. Therefore, for just a $7,000 initial outlay, you have to put an additional $17,200. That is throwing another 250% more cash into your initial SCM investment. It is very difficult for investors to fork out so much cash in just one year.

2021 rights issue is priced at a higher discount than 2020 Rights Issue which dilutes Shareholders

In this round of rights, the discount to TERP for the last day (35.7%) and 5- day VWAP (36.2%) is much higher than 2020’s; in 2020, it was 35.1% and 21% respectively. This does not make sense because SembCorp Marine is (i) now in a stronger financial position than its pre-2020 rights issue, (ii) the industry has become better and (iii) Sembcorp Marine has a higher net cash balance. All these points to the fact that TERP could have been done at a 20+% discount value.

 Many Ordinary Investors wont be able to keep putting in money unless you are....

Temasek. No doubt SCM is issuing new shares at a discount to the tangible book value; however, I don't think many small time investors will be able to benefit from it due to the limited cash they have

It will only benefit Temasek who has deep pockets and the reserves of Singapore. Temasek has the opportunity to subscribe to the excess cheap shares, up to 67.0% which tells you how willing they are to buy additional SCM shares on the cheap.

All in all, this is a bad rights exercise where SCM is doing it from a position of strength. It is totally unnecessary. The latest corporate actions benefits Temasek tremendously and I will definitely vote against it.

Avarga, a Potential Gem?

One company that got me interested is Avarga (U09 stock code). The company has three business segments in (i) Building Construction in Canada/US, (ii) Paper Mill business in Malaysia and (iii) Power plant business in Myanmar. 

(ii) and (iii) are stable business which have seen little growth and a fall in profits during the last COVID hit year. 

Taiga Building Products- a 69% owned subsidiary listed on Canadian Exchange

This segment interests me. Due to the bumper year in Canada and US housing starts, Taiga's profit grew tremendously and the company is trading at 3 time PE on the stock exchange. Analysts in Canada are predicting that Taiga Building products profit was only a one-off event. In the past, Taiga traded at a band of 6-8 times Price Earnings in the Canada Exchange. Its current market cap is valued at C$313 million.

However, I think Taiga is due for a re-rating soon because the housing market in Canada and USA is still booming and Taiga's latest quarter results showed no sign of slowing down with profits higher than the corresponding quarter of last year. This might mean that Taiga's elevated profits will remain for a period of time.

Avarga Share buyback

In the month of May 2021, Avarga had conducted share buybacks at s$0.305-0.315 in the open market. This is a signal that the company thinks its shares are cheap. This has been ongoing since the start of this year and despite the share price having doubled over the year.

In addition, Avarga's dividends has increased as well and it now stands at 1.9 cents based on the past 4 quarters of dividends. At a share price of 30.5 cents, this gives a dividend yield of 6.2%. While Avarga has a sustainable dividend policy where it pays only 40% of its earnings as dividends, it shows that earnings is a function of the dividend yield. Avarga had increased its dividends a lot due to the growth in earnings at Taiga Building.

Conclusion

I am bullish on Taiga's Building Products due to the housing boom in the US and Canada. I did not invest directly because I do not have access to the Canadian Market; hence my interest in Avarga. With Avarga's dividend policy and frequent share buybacks this year, it is a sign that the company is undervalued.

I have not invested in it but am likely to start investing capital due to its high dividend yield and share buybacks.

It is difficult to ascribe a valuation to Avarga because it depends on the North America housing market which has just started to expand. But assuming the housing market is as hot as it is now, this means Taiga can be re-rated to 6-7x PE, a doubling in share price. To avarga, it means an addition of SGD$220 million in value. This represents a 77% upside to Avarga's current market cap of SGD$285 million.

Are China Banks that Cheap?

One industry that intrigues me is China's Banking Sector. China banks are currently priced at dividend yields of above 6% with price earnings ratio of less than 8 times. In comparison, the Singapore banks, are priced at dividend yields of 3-4% and price earnings ratio of 14-17 times.  

Based on these metrics, if China banks are to be of the same valuation as Singapore banks, their share price has to double.

Reasons why China Banks have such low valuations

A quick review online shows many analysts are skeptical about China banks' assets and their "earnings". They point to the lending bubble in China with claims that the Chinese banks are financially engineering their loan portfolio to report a low "non performing loans (NPL)" ratio of 1+%; this ratio is similar to what Singapore banks report. This allows China banks not to report a large credit provisions which will affect their P&L annually.

Online sources claim that the NPL of China loans are in the region of 10%, as opposed to the 1+% reported.

The skepticism of China's banks financial reports are the main reason why these banks valuations are that low.

Do I believe the online sources? Financial Ratios vs Credibility

This is something I have to think: whether to trust China banks' financial reports while weighing against the attractive valuations of these banks at annual dividends of 6 to 8% (Bank of China is providing 8% yield, while the rest are giving 6% yields). In addition, I notice that the Chinese banks earnings are stable with slight growth in earnings year on year. My evaluation is that there is a 50% upside when more individuals start to believe the financials of the banks or are attracted to these bank stocks.

Therefore, I plan to position a maximum of 2% of my overall portfolio in the Chinese banking sector. Above this, it might be too much of a risk.

I have started investing in the largest two banks in China - ICBC and CCB from today. Currently I have about 0.5% of my portfolio in the Chinese Banking sector. It will serve as my dividend stocks with some upside to be gained.