Chapter 11: Case Studies on
Growth Companies Using the
Jigsaw Puzzle Model
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 1 Unearthing Growth Companies
By now, you should be equipped with knowledge on value-growth
strategies. At this stage, you are ready to start unearthing new gems listed in the
local or overseas market. With the Jigsaw Puzzle Model in hand, you have more a
comprehensive insight on what to look out for in a potential growth company.
In the following case studies, we will be sharing with you the types of
potential growth companies that you will face when you start searching for
companies on your own. These case studies will enrich your understanding and
serve as a good start for you to learn how we ascertain a growth company using
the model. In doing so, you can apply the same approach to your future
investments and learn how to monitor them along the way.
Upon graduating from Millionaire Investor Programme (MIP), we have
examined hundreds of growth stocks for our personal portfolio. We have
experienced different types of growth stocks in Singapore, Malaysia, Indonesia,
and Hong Kong, ranging from initial public offering (IPO) growth stocks to
companies that have been around for decades. Others are businesses that are
located outside of Singapore but are listed on the Singapore Exchange (SGX), also
called S chips. One such example is Hsu Fu Chi. It is considered a fast-growing
company based on its historical compounded annual growth rate at more than 20
percent from 2005 to 2010. Hsu Fu Chi is presented as one of the following five
case studies. However, Nestlé bought this company at a premium price in 2012.
The five case studies presented here are actual companies we have looked
into and analyzed based on the Jigsaw Puzzle Model. Most of these companies
have major operations mainly in Asia. To let you understand our thinking process,
we present them based on different scenarios and circumstances at the point when
we were assessing them.
As you read on, please note that our take on these case studies does NOT
serve as investment advice, but merely showcases how the Jigsaw Puzzle Model
can be applied. Remember, to be a successful investor, you have to be your own
judge and accept full responsibility for any investment decisions you make.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 2 Case Study 1: Hsu Fu Chi
International Ltd.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 3 Business
Referring to Figure 11.1, Hsu Fu Chi, founded in 1992 and listed in SGX in
2006, manufactures and distributes candies, cakes, and cookies, as well as
Sachima (a traditional Chinese sweet puff pastry cake) in China. It was founded in
China by the Hsu brothers from Taiwan. It could be the next potential Sees Candy
(owned by Warren Buffett) because of the nature of its business—simple and
boring. To date, it is one of the best-selling and leading confectionery groups in
China. Of its overall sales, 99.5 percent of the group’s products are sold in China.
Candy Products Cake & Cookies Products Sachima Products Figure 11.1 Core Businesses of Hsu Fu Chi
When one acquires this company, one can sleep peacefully at night because
this company does not need to spend a huge amount of money on R&D to address
future product development (i.e., changing or upgrading its machinery to compete
with its competitors). As such, this company is exposed to fewer risks. In addition,
it has an easy-to-understand business and one that is recession-proof. Even with
the 2008–2009 financial crisis and the China tainted milk incident in 2008, the
company has been doing very well in terms of revenue and net profits growth.
According to the National Bureau of Statistics of China, Hsu Fu Chi’s
candy has topped the sales charts in China since 1998. Needless to say, this
company is a well-received brand in China. It has also established strong
relationships with certain sales channel including Carrefour, RT-Mart, Trustmart,
Wal-Mart, Lotus, and Metro, with more than 110 sales offices located all over
China in 2010. With a strong distribution channel, this company is likely to
generate a huge volume of sales.
Regionally and internationally, Hsu Fu Chi is surrounded by many small
competitors. However, it has remained the top brand in China. That said, one of its
close competitors is Want Want Holding, which is listed in the Hong Kong stock
market.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 4 Hsu Fu Chi faces risks of increasing prices in raw materials and rising labor
costs. With growing affluence, the expectations of workers’ salary in China are
expected to increase as well. Being in the F&B industry, it is also susceptible to
food contaminations. Once tainted, Hsu Fu Chi will be greatly affected in terms of
its brand name. One of the biggest risks is that the group’s production is based
mainly in Dong Guan, China. If any natural disaster occurs in that region, it will
greatly affect the manufacture of its confectionery products. There are many other
risks that simply cannot be all covered here. However, investors should be made
aware of the major risks that can be found in the prospectus. Although companies
in China are subjected to the regulation of the Chinese government, many of them
are still guilty of questionable ethnics and weak corporate governance.
Lower per capita consumption rate of confectionery products in China,
compared with many developed countries, is another issue. However, rising
affluence and growing overall population in China should bring an increase in
demand for confectionery products, potentially leading to a larger volume of sales
in future. Traditionally, the Chinese provide confectionery products like candies
during Chinese New Year’s celebration. This has remained unchanged for the past
decades and it will definitely sustain in the future. For this reason, we believe Hsu
Fu Chi will be more profitable in future.
Hsu Chen is the executive chairman. He is one of the founders and one of
the highest paid among other directors, with compensation based on a profitsharing bonus scheme (see Table 11.1). In other words, if the company makes
money, his pay will be increased proportionately, based on the performance of the
company. In 2010, the company generated net profits of RMB602 million ($120.4
million) and yet none of these directors has taken more than half a million
Singapore dollars. What does this tell us? Hsu Fu Chi is likely to be trustworthy—
this is the management team that we want to help manage our money. As stated in
its prospectus in 2006, management intends to use capital raised to increase its
sales office network and production capabilities. In 2006, it had 56 sales offices
across China with production capabilities of 176,000 tons per annum. In 2009, it
had over 97 sales offices with an increase in production capabilities at 317,100
tons.
Table 11.1 Extract of Annual Report on Remuneration Bands, 2010
Remuneration Bands
Name of Directors
≥ SSGD500,000
Directors’
Fees (%)
Salary
(%)
Bonus
(%)
Benefits
(%)
Total
(%)
Hsu Chen
≤ SSGD250,000
8
27
65
-
100
Hu Chia Hsun
22
68
10
-
100
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 5 Hsu Hang
Hsu Pu
18
100
46
-
36
-
-
100
100
Cheong Kok Yew
Shaw Sun Kan Gordon
(Alternate: Cheong Tuck Yew
Kenneth)
100
100
-
-
-
100
100
Lim Hock San
Lam Khin Khui
Lee Tsu Der
100
100
100
-
-
-
100
100
100
From Table 11.2, CEO, Hsu Chen has a 16.86 percent stake in the
company. Hsu Hang, COO, has 13.48 percent shares held by Ophira Finance Ltd.,
of which he is the sole shareholder. Hsu King has 15.17 percent shares held by
Suncove Investments Ltd., of which he is the sole shareholder. Thus, it is not
necessary for them to be highly paid because when the company announces
dividends, they will be rewarded through the shares they hold.
Table 11.2 Extract of Annual Report 2010 on Major Stakeholders
No.
1.
2.
3.
Name
UOB Kay Hian Pte Ltd.
Hsu, Chen
Suncove Investment Ltd.
No. of Shares
138,024,854
134,000,000
120,600,000
%
17.36
16.86
15.17
4.
5.
6.
Ophira Finance Ltd.
Hsu, Pu
HSBC (Singapore) Nominees Pte Ltd.
107,200,000
87,200,000
81,016,000
13.48
10.97
10.19
7.
8.
9.
Citibank Nominees Singapore Pte Ltd.
United Overseas Banks Nominees Pte Ltd.
Morgan Stanley Asia (Singapore) Securities
Pte Ltd.
DBS Nominees Pte Ltd.
40,748,462
29,769,160
21,679,000
5.13
3.74
2.73
14,806,809
1.86
10.
No options were issued to any internal staff in 2010. This is one of the plus
points because the board does not dilute shareholders’ shares. In 2010, the
numbers of outstanding shares have been the same since the company was listed
December 1, 2006, at a total of 795 million shares. Without an issuance of new
shares, it was still able to fund internal expansion with an internal cash flow
generated by an increase in sales at more than 20 percent per annum. Thus, it
appears that Hsu Fu Chi is aligned with shareholders’ interests.
Certain key executives in the top management have more than 20 years of
experience in the confectionery industry in China. Most of these executives are the
founders with the same surname—Hsu. And these managers have remained
unchanged since it was listed. With their combination of experience in the F&B
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 6 industry, they are likely to have a greater advantage over their competitors.
Besides, the management team has been launching new products that are in line
with the company’s core businesses every year and is thus able to grow the
business further.
Numbers
Hsu Fu Chi has been growing at a compounded rate of more than 20
percent per annum, in terms of revenue, while net profits and operational cash
flow grew at 29.9 percent and 36.6 percent, respectively (see Table 11.3). Based
on revenue figures, this is definitely a growth company.
Table 11.3 CAGR of Revenue, Net Profits, and Cash Flow
Year
Revenue
Net Profits
CAGR (2005–
2010)
18.9%
30%
Cash Flow
23.6%
Referring to Table 11.4, the cost of goods sold (COGS) has been
maintained at the same rate of sales. One way to confirm this is to look out for its
gross profit margin, which has been improving since 2005 from 37.6 percent to 47
percent in 2010. This means that management is able to produce its materials
using the latest technology with the help of lower-cost materials. With the growth
of gross profits, net profit margins have also been improving from year to year. In
2010, it grew at 13.98 percent. Although inventory increased from year to year,
this was followed by an increase in sales of more than 20 percent per year. It tells
us that the company is increasing its inventory to cater to the demand for its
products. The management team is making the effort to make the company more
liquid by cutting the number of trade receivables and other receivables, where this
figure has decreased drastically from RMB 371 million to RMB 314 million. With
this decrease, cash has increased. This is a good sign because management is able
to use cash to fuel expansion or pay dividends to shareholders. As Table 11.4
shows, management slowly increased the payout ratio from 2008 to 2010. Hsu Fu
Chi has been displaying positive increments for both counts of return-on-equity
(ROE) ratio and cash ratio, and it is deemed to be a low-risk company to invest in,
as it has low debt and high cash volume.
Table 11.4 Financial Numbers and Ratios from 2005 to 2010
Year
No. of Outstanding Shares (mil)
Income Statement
Revenue (RMB mil)
2005
-
2006
-
2007
795
2008
795
2009
795
2010
795
1809.4
2056.3
2712.4
3391
3784.9
4305
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 7 COGS (RMB mil)
Gross Profit (RMB mil)
1128.8
680.6
1273.3
783
1649.4
1063
1991
1400
2068.4
1716.5
2280
2025
Net Profit (RMB mil)
Balance Sheet
Inventory (RMB mil)
Trade & Other Receivables (RMB mil)
Cash & Cash Equivalent (RMB mil)
161.7
211.36
255.3
344.8
460.4
602
141
371.7
110.4
197.7
373.1
131.9
183
348
645
216.3
245
841.4
227.7
287.7
1000
381
314
Short- & Long-Term Borrowing (RMB
mil)
70
260
170
230
30
0
Current Liabilities (RMB mil)
Shareholders’ Equity (RMB mil)
Cash Flow Statement
Operation Cash Flow (RMB mil)
Capital Expenditure (RMB mil)
703.3
984.8
699
1144.4
810.7
1893
991
2143.3
1052
2485.9
1180
2857
291
251
144
248
567
432
687
408.4
1014
520.6
841
Free Cash Flow (RMB mil)
Dividend (RMB mil)
Financial Ratio
Gross Profit Margin (%)
40
0
-104
41.4
135
0
278.6
103.5
493.4
119.25
572
230
37.61
38.08
39.19
41.29
45.35
47
Net Profit Margin (%)
Return-on-Equity (ROE) Ratio (%)
Cash Ratio
8.94
16.42
0.16
10.28
18.47
0.19
9.41
13.49
0.80
10.17
16.09
0.85
12.16
18.52
0.95
13.98
21.07
1.09
Debt-to-Equity Ratio
CAPEX Ratio (%)
Dividend Payout Ratio (%)
0.07
155.2
-
0.23
117.3
-
0.09
169.3
-
0.11
118.4
30.02
0.01
113
25.90
0
44.68
38.2
1285
269
However, one of the biggest concerns is its CAPEX ratio. Hsu Fu Chi is
spending more than it earns to spur an expansion in production capacity, therein
raising development costs. In the long run, we want to see free cash flow coming
into the company. In which case, CAPEX ratio should decrease to less than 100
percent in order to fulfill the criterion to have free cash flow. Hopefully, this cash
flow would be returned to shareholders in the form of dividends. If the CAPEX
ratio does not drop, then it must be justified with increasing sales and year-to-year
profits to prove that capital expenditures are directed for development and
expansion. Otherwise, the expenditure incurred would indicate high maintenance
costs, and we do not want to own a capital-intensive company where all the money
is being ploughed back into machinery costs. Although the company has had a
high CAPEX ratio for the past five years, except in 2010, it was subsequently able
to generate an increase in sales, net profit, and cash flow at the same time. In
summary, Hsu Fu Chi has great fundamentals and consistent growth, indicating
that the numbers have not been manipulated.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 8 In Table 11.5, we compare it with its close competitor, Want Want
Holding, which has its core businesses in manufacturing, distributing, and selling
products such as rice cracker and flavored drinks in China.
Table 11.5 Comparison between Hsu Fu Chi and Want Want Holding
Year 2010
Consistent
Growth
GP%
NP%
ROE%
Debt/Equity
Ratio
CAPEX
(%)
Hsu Fu Chi
Yes
47
13.98
21
0
44.6
Dividend
Payout
Ratio
(%)
38.2
Want Want Holding
Yes
37
15.99
34.76
0
37.6
77.3
From Table 11.5, Want Want is an attractive company that has a better cost
measurement compared to Hsu Fu Chi. However, in 2007, Want Want Holdings
Pte Ltd. was delisted from SGX and relisted in Hong Kong in the company’s bid
to search for better valuations. It is now trading with a PE ratio of about 27 times
earnings, compared with 10 to 15 times in Singapore. Otherwise, we would have
paid more attention to Want Want because it has well-known brands, locally and
internationally, and is strong in its number and valuation. That said, Hsu Fu Chi is
still a great growth company with good numbers and also enjoys a competitive
advantage in China.
Valuation
All the calculations are based on 795 million outstanding shares and a share
price of $3.50 in the first quarter of 2011. When working out a company’s
valuation, remember that some Singapore-listed companies are represented using a
different currency. Thus, investors should do the necessary conversion. At the
point of analysis, the exchange rate between $ and RMB is $1 = RMB5. In 2010,
Hsu Fu Chi had a net profit of RMB602 million, equivalent to $120.4 million
(RMB 602 million/5). Therefore, the earning per share was $0.1514 ($92 million
/795 million).
PE Ratio
PE
= Price ÷ Earning Per Share
= 3.5 ÷ 0.1514
= 23.11
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 9 PEG Ratio
PEG @ 10% = PE ÷ Growth = 23.11 ÷ 10 = 2.31 PEG @ 20% = PE ÷ Growth = 23.11 ÷ 20 = 1.155 Discounted Earnings Model
Intrinsic Value (Interest Rate: 4% and Growth Rate: 10%) based on:
Discounted EPS Model
Table 11.6 Calculation of Intrinsic Value
2011
0.167
0.962
0.160
2013 2014
0.202 0.222
0.889 0.855
0.179 0.189
Intrinsic Value
Hsu Fu Chi has a net cash of SGD0.323. EPS
DF
DV
2012
0.183
0.925
0.169
2015
0.244
0.822
0.200
2016
0.268
0.790
0.212
2017
0.295
0.760
0.224
2018
0.325
0.731
0.237
2019
2020
0.357 0.393
0.703 0.676
0.251 0.265
SGD 2.088
Margin of safety = Intrinsic value@0% – (Share price – Net cash) × 100% Intrinsic Value = SGD2.088 – (SGD3.50 – SGD0.323) × 100% SGD2.088 = –52.1% Verdict
Although it has a fantastic business with good management that has
produced a strong track record, which can be seen from the financial numbers, it
definitely does not fulfill the Jigsaw Puzzle Model as it is trading at a price higher
than its intrinsic value, which works out to be around SGD2.088, assuming a 10
percent growth rate (half of historical growth rate) in Table 11.6. From these three
valuations, we can see that the price has not dropped below the valuation to allow
a buy. In short, we have three pieces (business, management and numbers) of the
puzzle, but we are lacking one other piece, valuation. We will be more interested
if we can own this piece of the business at a bargain price. Meanwhile, we will
continue to monitor this company. You, at the same time, can take this opportunity
to learn how to monitor them. As time goes by, the prices and fundamentals may
start to change. Thus, it is your duty to reassess all the factors accordingly.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 10 Case Study 2: Super Group Ltd.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 11 Business
Super Group Limited, founded in 1987 and listed in SGX in 1994, consists
of two divisions (see Figure 11.2). The first division comprises instant food and
beverages brands such as Super Coffeemix, Café Nova, and Owl in South East
Asia. It has over 300 types of products that are manufactured and distributed to
consumers through direct sales and distributor networks to over 50 countries.
According to reported sales in Figure 11.3, the biggest contributor to sales is
coffee products, amounting to 62 percent of its total revenue in 2010. The second
division comprises of products that are non–coffee related, such as cereal flakes.
In term of sales by geographic region, South East Asian countries (excluding
Singapore) account for 63 percent of the total sales amount, followed by
Singapore, East Asia, and the rest of the world that account for 11 percent, 20
percent, and 6 percent of the total revenue, respectively.
Figure 11.2 Core businesses of Super Group Ltd.
Food & Beverages Others • Instant Food & Beverages • Ingredients Sales • Non-­‐Coffee Related Products Figure 11.3 Breakdown of Revenue in 2010
Revenue 2010 ($ mil) 14% Coffee Products Cereal Products 16% 62% 8% Ingredients Others Super Group Ltd. is one of the leading brands for instant coffee mixes and
instant cereal in Singapore, Malaysia, Thailand, and Myanmar. In 2009, it was the
one of the few companies in the world and the only company in Singapore that
was able to manufacture ingredient products such as soluble coffee powder and
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 12 nondairy creamer. Some of Super’s instant food and beverages are supplied to the
military as ration packs. As such, the military is one of its biggest customers in
Singapore. It has a strong brand presence in Singapore, Thailand, and Myanmar,
which gives Super Group a competitive advantage. Moreover, the business model
is simple to understand. In addition, coffee contains caffeine, which can be
addictive in nature. This creates more demand. People seldom change their brand
of coffee; if they like that particular brand and they will stick with it for a long
time.
Peer Competitors
Food Empire—Food Empire Holdings, a food and beverage company,
has as its main business in the manufacture and marketing of instant
beverage products, frozen convenience foods and confectionery. It also
has a wholesale business that trades in frozen seafood. The company also
distributes its products to over 50 countries in markets such as Eastern
Europe, Russia, Australia, Central Asia, China, Indochina, and the
United States. Food Empire has more than 200 types of products under
its own brands—MacCoffee, Klassno, FesAroma, Bésame, OrienBites,
MacCandy, Kracks, MacFood, Zinties, and Hyson.
VizBranz—VizBranz is the leading manufacturer and distributor of
instant beverages in Asia. Its first instant beverage, Gold Roast instant
coffee mix, pushed the group to success. VizBranz exports over 35
product lines of coffee, cereal beverages, snack foods, and tea. Other
than manufacturing and distributing, it also provides contract
manufacturing services for private labels and flexible packaging printing
services to third parties. Some of its major products are Gold Roast,
BenCafe, Calsome, CappaRomA, and Café21, the market leader in 2-in1 coffee mix. VizBranz exports its products to regions such as China,
South East Asia, and Indochina.
From the profile of these two companies, you can understand that Food
Empire’s main focus is in regions such as East Europe and Russia. Its products are
also targeted at countries such as China and Indochina. As for VizBranz, its main
focus is in the South East Asia, China, and Indochina markets. By looking at
regions, Super’s main competitor is VizBranz because it focuses on the Asian
market, which is similar to Super.
Three possible risks could dampen growth:
1. Key markets in South East Asia starting to lose their market leadership
2. Failure to penetrate the China market
3. Increased competition for instant beverages
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 13 The highest growth rate is in South East Asian and East Asian countries,
which show a compounded annual growth rate of 10.5 percent and 49.8 percent,
respectively (see Table 11.7). Super has been focusing on these few regions in
order to increase their profits, and both these regions have a lot of room for
expansion, while the Singapore and others regions grew at 5.8 percent and 5.7
percent, respectively. Therefore, the results show that Super’s main growth drivers
are in South East Asia and the East Asia regions, with most of the sales accounted
for by Thailand, Malaysia, Myanmar, China, and Taiwan, as shown in Table 11.7.
Table 11.7 Breakdown of Five-Year Average Compound Annual Growth Rate
(CAGR) by Countries
Countries
South East Asia
Singapore
East Asian
5 Years Revenue
CAGR (2006–2010)
10.5%
5.8%
49.8%
Others
5.7%
Here, the potential growth driver is ingredient sales, which has already
increased more than tenfold since 2007, selling to industrial users in China. It has
a scalable production capacity and also a huge demand from food and beverage
(F&B) chains. Currently, the production plant for ingredients is in Malaysia. Super
has plans to build ingredients manufacturing centers in Wuxi China to supply
more of the demand in ingredients and to further improve cost efficiency. Super is
also looking to increase its nondairy creamer production from 75,000 tons to about
100,000 tons annually, by the third quarter of 2011, which will also add growth to
Super’s earnings.
Management
Super Group Limited is run by a management team comprising veterans in
multiple industries. Out of the 16 directors on its board, 4 are founding members
of Super Group Limited. The rest of the executive and nonexecutive directors have
worked with Super between 4 and 16 years. Most of the directors and key
executives have a stake in the company. For instance, four founding members are
substantial shareholders of the group—Goi Seng Hui (also known as Popiah King
in Singapore) is also chairman of Tee Yih Jia Food Manufacturing. Goi Seng Hui
has extensive experiences in the F&B industry in China.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 14 Most of the directors (e.g., Teo Kee Bock and Te Kok Chiew) and key
executives are paid based on profit sharing. It shows that the interest of
management is likely to align with shareholders’ since they are not paid well when
the company is not performing. In fact, in the past five years, the remuneration
plan for the management team has remained stable or decreased. The total
compensation to the board is to be estimated slightly more than SGD7.7 million.
Thus, when compared to its net profits of SGD58.3 million in 2010, the
remuneration ratio is 13.2 percent of net profits.
The chairman has been talking about cost cutting and efficiency in the
company’s operations since 2005, stated in the shareholder letter. In 2006, he,
together with the board, decided to shift the manufacturing of soluble coffee
powder from Singapore to Johor Bahru, Malaysia, in order to cut costs and
increase the quantity manufactured by twofold. True enough, year after year, the
operations have become more efficient and expenses have been reducing. It can be
said that he is a man of his word; the chairman meant what he said in the
shareholder letter and executed the plan to achieve it. In doing so, he definitely
benefited the shareholders.
In 2006, management set a direction to focus on product development and
market development. Management has been focusing on building the brand of
Super under product development by maintaining market leadership in 3-in-1
coffee mixes, while diversifying into non–coffee products. The management has
been branding itself in key markets by working with events, TV shows, celebrity
endorsements, and media. Due to extensive branding efforts by management,
Super has become one of the top three market leaders in Singapore, Thailand,
Malaysia, and Myanmar, according to Euromonitor. Young coffee drinkers in
China also started to increase due to Super’s branding activities. Super also
continued to focus in market development to penetrate the South East Asian
markets and to develop into new areas such as introducing more variants of coffee
under the Super brands, which immediately received overwhelming response. For
example, Super Group introduced Ipoh white coffee and super power with
Tongkat Ali that won over consumers in Malaysia.
During to the subprime crisis, the stock market started to crash. The
management engaged in a massive share buyback exercise when it was trading at a
discounted price. Once again, this would reward shareholders. On top of that, the
directors purchased equities to increase their percentage of ownership, indicating
that the management has confidence in the company even when stock prices
tumble.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 15 Numbers
From Table 11.8, it can be seen that the group has been growing at a
compounded rate at around 13.4 percent to 20 percent in terms of revenue, net
profit, and operation cash flow from 2006 to 2010.
Table 11.8 CAGR for Revenue, Net Profit, and Cash Flow
Year (2005–2010)
Revenue
Net Profit
CAGR
13.4%
20%
Cash Flow
20%
Now, let us look at their financial numbers and ratios from 2005 to 2010
(see Table 11.9).
Table 11.9 Financial Numbers and Ratios, 2005–2010
Year
No. of Outstanding Shares (mil)
2005
493.4
2006
542.5
2007
542.5
2008
537.7
2009
537.7
2010
557.3
Income Statement
Revenue (SGD mil)
187.9
210.69
253.5
300.1
296.2
351.8
COGS (SGD mil)
Gross Profit (SGD mil)
Net Profit (SGD mil)
Balance Sheet
Inventory (SGD mil)
111.6
76.3
23.3
135.1
75.6
24.5
167.1
86.4
29.3
200.4
99.7
25.1
192.8
103.4
40.2
220.4
131.4
58.3
38.9
55.9
61.9
76.9
55.2
69.8
Trade & Other Receivables (SGD
mil)
54
66.5
67.8
63.2
64.7
81.5
Cash & Cash Equivalent (SGD mil)
Short- & Long-Term Borrowing
(SGD mil)
Current Liabilities (SGD mil)
Shareholders’ Equity (SGD mil)
Cash Flow Statement
Operation Cash Flow (SGD mil)
22.8
2.7
22.8
35
21.5
7.2
25.8
8.5
70.4
3.9
141.7
3
63.3
172.3
86
186.6
56.6
227.7
64.8
249.8
61.9
277.2
94.8
329.7
21.7
5.5
5.1
35
66.4
55.4
Capital Expenditure (SGD mil)
Free Cash Flow (SGD mil)
Dividend (SGD mil)
Financial Ratio
Gross Profit Margin (%)
Net Profit Margin (%)
Return-on-Equity Ratio (%)
19.1
2.6
5.5
18.9
–13.4
6.3
11.4
–6.3
8.2
7.2
27.8
8.6
6.8
59.6
8.6
14.5
40.9
20.4
40.6%
12%
13.5%
35.8%
11.6%
13.1%
34%
11.5%
12.8%
33.2%
8%
10%
34.9%
13.5%
14.5%
37.3%
16.5%
17.6%
Cash Ratio
0.36
0.26
0.37
0.39
1.13
1.49
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 16 Debt-to-Equity Ratio
CAPEX Ratio (%)
0.01
81.9%
0.18
77.1%
0.03
38.9%
0.03
28.6%
0.01
16.9%
0.009
24.8%
Dividend Payout Ratio (%)
23%
25%
27%
34%
21%
34%
Referring to Table 11.9, Super Group Ltd. shows consistent growth in key
performance indicators such as revenue, net profits, and cash flow for the past five
years. Although revenue growth was not within the 15 percent benchmark—a
criterion for it to be considered a growth company—we feel that this company will
grow based on its business and expansion plans set by the management team for
China. Thus, we consider this growth to be qualitative.
In 2008, there was a sudden drop in the net profit margin, which was due to
fair value loss in investment securities. It was mainly paper losses of its equities
investment, which did not reflect real operation losses. When the economy
recovered, net profit margins increased to 13.5 percent in 2009. In a nutshell,
Super Group is able to keep its gross profits and net profit margins from
decreasing further owing to its efficient cost controls and gain in fair value
investments.
Super has always maintained a healthy cash position. Super had SGD141.7
million in cash and its debt-to-equity ratio had been maintained at a low, ranging
from 0.009 to 0.03 from 2007 to 2010. This shows us that the operation is less
financed by debt. It can be financed through internal cash flow instead. Thus, it
does not need to borrow money from a bank or issue additional shares to pay for
its growth. The return on equity (ROE) is maintained within the range of 10
percent to 14.5 percent from 2005 to 2008 and hit the 17.6 percent mark in 2010
due to improved earnings. This created over SGD58.3 million in net profit. We
believe that in the next three to five years, it would be able to achieve better cost
management and higher revenue through massive expansion plans.
Referring to Table 11.10, Super is able to show consistency in its key
performance indicators such as revenue, profits, and cash flow because it is more
resilient to the economic crisis. As for Food Empire and VizBranz, they meet our
criteria for consistency in revenue and profit but not cash flow. Although
VizBranz has the highest gross profit margin, it has a low net profit margin as
compared to Super. In other words, the management team might be struggling to
keep expenses low. Super is said to have better cost management compared to
Food Empire and VizBranz. Moreover, Super has a much lower CAPEX ratio as
compared to Food Empire and VizBranz, which means that Super is able to spend
less on its CAPEX and generate more profits. In Chapter 6, we mentioned that we
prefer companies with a high ROE and a low debt-to-equity ratio, which means
that the company is able to finance itself to generate more returns instead of
borrowing from the bank. In this respect, Super meets our requirements.
Nevertheless, both Food Empire and VizBranz are still doing well. Based on both
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 17 the qualitative and quantitative aspects, we are more bullish on Super compared to
VizBranz and Food Empire.
Table 11.10 Comparison between Super and Its Competitors
Year 2010
Consistent
Growth
GPM%
NPM%
ROE%
Debt to
Equity
CAPEX
(%)
Super Group
Food Empire
Yes
No
37.3%
31.8%
16.5%
7.7%
17.6%
10.1%
0.009
0.045
24.8%
50.7%
Dividend
Payout
Ratio
(%)
34%
22.1%
VizBranz
No
38.5%
8.5%
15.4%
0.25
40.1%
40.6%
Valuation
During the 2008–2009 crisis, Super’s stock price plunged from a high of
SGD1.14 per share to a low of SGD0.32 per share, within nine months, and
dropped 72 percent in the first quarter of 2009, which reflected a market
sentiment—fear. Let us proceed in doing the valuation during the market crash
and see whether it fits our three-valuation method.
PE Ratio
The calculations are based on figures from 2007; the outstanding number of
shares reached 542.543 million, the net profit after tax was SGD29.3 million.
Therefore, the earnings per share were SGD0.054.
PE Ratio = Price ÷ Earning
= 0.32 ÷ 0.054
= 5.9
Hence, the PE ratio of Super, at the time of crisis, was 5.9, which met our
criteria of finding growth company at a PE ratio of below 10.
PEG Ratio
PEG @ 15%* = PE ÷ Growth = 5.9 ÷ 15 =0.39 PEG @ 20% = PE ÷ Growth = 5.9 ÷ 20 = 0.29 The CAGR for revenue and earnings was at 15 percent and 27 percent,
respectively, from 2003 to 2007. To be conservative, we used a growth rate of 15
percent and reduce CAGR earnings of 27 percent to 20 percent, when calculating
the PEG ratio. In this case, it actually met the criteria of being below 0.5.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 18 Discounted Earnings Model
Super’s revenue growth from 2003 to 2007 is around 15 percent. Let us be
conservative and reduce the 15 percent growth to 10 percent to project the intrinsic
value for the year of 2007.
Intrinsic Value (Interest Rate: 4% and Growth Rate: 10%) based on:
Discounted EPS Model
Table 11.11 Calculation of Intrinsic Value
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
EPS
0.059
0.065
0.072
0.079
0.087
0.096
0.105
0.116
0.127
0.140
DF
0.962
0.925
0.889
0.855
0.822
0.790
0.760
0.731
0.703
0.676
DV
0.057
0.060
0.064
0.068
0.071
0.076
0.080
0.085
0.089
0.095
Intrinsic Value
SGD 0.745
Super Group had a net cash per share of SGD0.13 at the point of crisis.
Margin of safety = Intrinsic value@10% – (Share price – Net cash per share) × 100% Intrinsic Value = SGD0.745 – (SGD0.32 – SGD0.13) × 100% SGD0.745 = 74.5% Referring to Table 11.11, the intrinsic value of Super Group during the
crisis was around SGD0.745, which worked out to having a margin of safety of
74.5 percent, indicating that Super Group was undervalued during the 2008–2009
crisis.
Verdict
We feel Super Group is definitely a potential growth company at the point
of writing this. Its past revenue growth rate has not met the criterion of 15 percent
growth, but it has growth drivers based on qualitative factors such as its business
and the management. It has growth drivers mainly in countries like Thailand and
Myanmar for its coffee products, and in China, there is also a huge increase in
demand for ingredient sales. Super Group’s board has many veteran investors and
businessmen whom they can leverage on their experience. Although this company
is judged based on quality, in the long term, its numbers must be in line with its
growth plan.
Based on our analysis during the 2008–2009 crisis, Super proved to be an
attractive stock that fitted all four jigsaw pieces of business, management,
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 19 numbers, and valuation—and could be bought at a bargain price with a margin of
safety of more than 50 percent. Super continued to perform well from 2008 to
2010.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 20 Case Study 3: BreadTalk Group
Ltd.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 21 Business BreadTalk Group Ltd. was founded in 2000. The principal activities of
BreadTalk’s subsidiaries are operation of retail outlets selling a wide selection of
breads, buns, cakes, and pastries island wide in Singapore and in 16 other
countries. Looking at Figure 11.4, BreadTalk Group manages and owns
proprietary brands such as BreadTalk®, Toast Box, Food Republic, RamenPlay,
and The Icing Room. It also franchises third-party brands such as Din Tai Fung
and the United States’ Carl’s Jr. As of December 2011, the total headcounts of
global staff was around 6,000, with total number of F&B outlets of 472 bakery
outlets, 26 restaurants, and 39 food atria. By revenue breakdown, shown in Figure
11.5, bakery is the highest contribution to BreadTalk Group’s revenue at 53
percent. Food Atrium contributed nearly 26 percent and the restaurant segment
contributed about 21 percent.
Figure 11.4 Core Businesses of BreadTalk
Bakery • BreadTalk®, Toast Box • Bread Society, The Icing Room Food Atrium • Food Republic Restaurant • Carl's Jr • Ramen Play, Ding Tai Fung Figure 11.5 Breakdown of Revenue, 2011
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 22 Revenue 2011 (S$m) 21% Bakery 53% 26% Food Atrium Restaurant In terms of sales by country, as shown in Figure 11.6, Singapore accounted
for 52 percent of the sales in 2011. China and Hong Kong, together, accounted
nearly 42 percent of sales.
Figure 11.6 Breakdown of Sales by Geographical Regions
Sales by Geography 2011 10% 6% 32% Singapore 52% China Hong Kong Others Here are some of the factors that we like about BreadTalk:
Branding—BreadTalk Group has a strong branding in Asia. It’s the
brand power that creates a sustainable business and maintains this brand
loyalty among customers.
Location—The success of any retail business is highly dependent on its
ability to draw customers. Therefore, choice of location is very
important. Most of the BreadTalk outlets are located conveniently along
high-traffic area such as shopping malls and public transport.
Scalability—Having seen BreadTalk outlets across countries in
Indonesia, China, Malaysia, and Singapore, we are convinced that
BreadTalk’s businesses are highly scalable. Moreover, management has
strong track record of growing the number of bakery outlets from 1
outlet in 2000 to 437 as of December 2011.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 23 After looking through competitive advantage, there are risks of which we
need to be aware. First, the nature of bakery business is very competitive. It has a
razor-thin margin due to high rental and staff expenses. Any F&B outlets are
considered BreadTalk’s peers. Moreover, the retail business has relatively low
barrier to entry. Anyone could easily pick up bakery skill and start the bakery
business. Other risks such as being unable to secure a good site location in malls,
poor contamination, and changes in terms and conditions during recontract of their
outlets are part and parcel of retail F&B businesses.
Peer Competitors
Auric Pacific Group—This is one of the closest competitors for
BreadTalk in SGX. It manufactures and distributes bakery products such
as Sunshine and Top One. The Group also operates Delifrance
restaurants. It has bakery, restaurant, and food atria to compete with
BreadTalk directly.
Food Junction Holdings—Food Junction operates and manages 19 food
courts under the brand Food Junction. The number of self-operated stalls
and Toast@Work is 35 and 9, respectively. Food Junction is 61 percent
owned by Auric Group.
ABR Holdings—Not a direct competitor to BreadTalk, but ABR does
operate a chain of restaurants under the brand Swensens. It also manages
other brands such as The Cocoa Tree, Oishi!Pizza, Gloria Jean’s coffees,
and Tip Top the Puff Factor.
When it comes to F&B retail business, there are many direct and indirect
competitors among all the players and private competitors such as 4Leaves, Polar,
PrimaDeli, and so on. BreadTalk Group faces tough competition from other public
listed companies operating in the restaurant segments such as Soup Restaurant,
Tung Lok, Japan Food, and so on. Under the bakery segment, the Group also
faces competition from QAF, which owns and operates Gardenia. Thus, the
success of BreadTalk is highly dependent on management’s ability to brand
BreadTalk differently from the rest of its peers and managing its costs well.
In its FY2011 annual report, one would have notice that Chairman of the
Board George Quek has a vision to grow the number of F&B outlets from 500 to
1,000 outlets in three years and revenue of S$1 billion in five years. In other
words, that is nearly three times the size of its existing revenue of S$366 million.
In short, we will continue to ride along its growth.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 24 Management
The BreadTalk Group was founded by George Quek and his wife,
Katherine Lee. As of December 2011, both of them have a combined stake of
around 34 percent in Table 11.12. Any decisions made on the business direction
will affect their stake as well. Thus, we are convinced that two of them will most
likely align to our interests since the money is in the same basket.
Table 11.12 Extract of Annual Report on Major Stakeholders, 2011
No.
1.
2.
3.
Name of Shareholder
Katherine Lee/ George Quek
Morgan Stanley Asia (Singapore)
Securities Pte Ltd.
Keywise Greater China
Opportunities Master Fund
No. of Shares
95,538,556
29,379,000
%
34.06
10.87
30,282,000
10.79
Table 11.13 lists the five directors sitting on the board. George Quek and
his wife, being top management, are drawing a salary of less than $1 million each
(with performance bonus).
Table 11.13 Extract of Annual Report on Remuneration Bands, 2011
Name of Director
S$700,000 to below S$800,000
George Quek Meng Tong
S$500,000 to below S$600,000
Katherine Lee Lih Leng
Below $100,000
Ong Kian Min
Chan Soo Sen
Tan Khee Giap
Salary Bonus
(%)
(%)
Fees
(%)
Allowances and
other Benefits
(%)
Total
(%)
55
39
-
5
100
63
32
-
5
100
-
-
100
100
100
-
100
100
100
During the 4Q2011 euro debt crisis, the BreadTalk Group initiated share
buyback activities from open market. This is one of the signs that management is
confident in the business potential and believes that it is worth more than what it
was trading back then. However, some of the shares are reissued to its employees
(who consistently outperform in the company) as a restricted share plan (a plan
that is much better than share options). This is to reward their talents and convert
their mindsets to those of the company’s shareholders’.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 25 Numbers
From Table 11.14, it can be seen that the group has been growing at a
compounded rate of around 19 percent to 27 percent in terms of revenue, net
profit, and operation cash flow from 2006 to 2010.
Table 11.14 CAGR for Revenue, Net Profits, and Cash Flow
Year (2006–2011)
Revenue
Net Profits
CAGR
24.2%
27.3%
Cash Flow
19.4%
Now, let us look at their financial numbers and ratios from 2006 to 2011
(Table 11.15).
Table 11.15 Financial Numbers and Ratios, 2006–2011
Year
No. of Outstanding Shares (mil)
2006
200.9
2007
234.9
2008
234.9
2009
233.9
2010
281.3
2011
280.6
Income Statement
Revenue (SGD mil)
123.5
156.6
212.2
246.4
302.9
365.9
55.5
68.0
3.4
69.8
86.7
7.3
96.8
115.4
7.7
112.3
134.2
11.1
137.6
165.2
6.7
165.9
200.1
11.6
2
2.5
3.9
4.8
6.1
7.4
Trade & Other Receivables
(SGD mil)
2.9
3
10.5
10.3
9.1
15.1
Cash & Cash Equivalent (SGD
mil)
18.5
35.5
47.9
58.4
71.1
87.1
Short- & Long-Term Borrowing
(SGD mil)
12
11.8
16.5
16.0
19.1
39.3
Current Liabilities (SGD mil)
Shareholders’ Equity (SGD mil)
Cash Flow Statement
Operation Cash Flow (SGD mil)
Capital Expenditure (SGD mil)
53.9
25.9
68.4
44.1
91
52.5
105.9
60.7
129.1
68.6
176.8
78.0
20.6
18.6
28.7
18.0
32.7
25.6
42.6
24.1
45.5
36.5
48.9
37.1
Free Cash Flow (SGD mil)
Dividend (SGD mil)
Financial Ratio
Gross Profit Margin (%)
2
0.8
10.7
1.3
7.1
2.3
18.5
2.3
9.0
2.8
11.8
4.2
55.07%
55.39%
54.39%
54.43%
54.55%
54.67%
Net Profit Margin (%)
Return-on-Equity Ratio (%)
2.81%
13.38%
4.68%
16.63%
3.66%
14.80%
4.50%
18.28%
2.21%
9.76%
3.17%
14.86%
COGS (SGD mil)
Gross Profit (SGD mil)
Net Profit (SGD mil)
Balance Sheet
Inventory (SGD mil)
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 26 Cash Ratio
Debt-to-Equity Ratio
0.39
0.46
0.56
0.27
0.58
0.31
0.60
0.26
0.63
0.28
0.57
0.50
CAPEX Ratio (%)
537.18
%
245.43
%
329.47
%
217.49
%
545.29
%
319.93
%
Dividend Payout Ratio (%)
19.0%
17.4%
28.1%
20.1%
42.6%
35.8%
From Table 11.15, BreadTalk Group Ltd. shows consistent growth in key
performance indicators such as revenue, net profits, and cash flow from 2006 to
2011. Revenue and cost of goods have been growing consistently side by side, a
rate of 24 percent, year over year (YoY). Net profit has been slowing down due to
higher rental, food costs, and wage inflation in both China and Singapore.
On the one hand, cash has been constantly increased from $18 million to
$87 million, mainly due to higher cash from operating activities, payables, and
loans from bank. On the other hand, borrowing has been increasing, due to heavy
expansion from $12 million to $39 million.
Even though the expansion is considerably aggressive, BreadTalk still has
had the ability to generate free cash flow for the past few years. In fact,
depreciation has taken a huge chunk of the Group’s profit. To put it simply, the
Group reported a profit of $11.6 million in FY2011. On the other hand, the
operating cash flow is four times higher than its reported earnings at $49 million.
Is earnings underreported? No, not according to generally accepted accounting
principle (GAAP), as it states that depreciation (paper loss of $23.4 million)
should be deducted from profit as part of operating expenses. You be your own
judge and jury—not GAAP.
Looking at its ratio, BreadTalk managed to achieve consistent gross profit
margin and net profit margin at around 55 percent and 3 percent, respectively.
Owing to its thin margin, BreadTalk is indeed operating in a very competitive
environment. We would have probably skipped this company if we were just focus
on these numbers. Taking into account its qualitative strength, however, it has
both branding and scalability. A company that has a thin profit margin is fine if it
possesses economic of scale. For instance, in 2010, Noble Group reported a net
profit margin of only around 1 percent. But if we looked closely, we would have
noticed that Noble Group recorded $73 billion in revenue. That represents
substantial net profit of $730 million! So the key lesson is, look at scalability if the
margin is razor thin.
Cash ratio and debt-to-equity ratio is still within our benchmark. However,
one should take note of the increasingly level of debts. The Group has relatively
low dividend payout because the majority of earnings are retained to fund
expansion.
Compared to the competitors shown in Table 11.16, in 2010 BreadTalk had
the highest gross profit margin and ranked second highest in net profit margin. The
Group has achieved moderate return on equity. However, its debt is getting higher
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 27 due to higher financing needed to grow its business. On this note, we would
continue to track this closely if the company is overly aggressive in its expansion
plan.
Table 11.16 Comparison between BreadTalk and Its Competitors, 2010
Year 2010
BreadTalk
Food
Junction
Auric
ABR
Consistent
Growth
Yes
No
GPM%
NPM%
ROE%
55%
47.3%
3.2%
1.4%
14.9%
2.7%
Debt to
Equity
0.50x
-
No
Yes
41.2%
42%
2.2%
4.5%
3.8%
16.2%
0.02x
0.06x
Valuation
During the mini euro debt crisis, 2Q2012, BreadTalk’s stock price plunged
from S$0.575 to S$0.48 per share, within two weeks. Mr. Market was having a
mood swing and came back to us with a better offer price. Let us proceed in doing
the valuation during the mini crash and see whether it fits our three-valuation
method.
PE Ratio
The calculations are based on figures from 2011; the outstanding number of
shares was 280.6 million, the net profit after tax was S$11.6 million. Therefore,
the earning per share were S$0.0413.
PE ratio = Price ÷ Earning
= 0.48 ÷ 0.0413
= 11.6
The PE ratio might be considered high when we calculate, but it does not
take into account the growth.
PEG Ratio
PEG @ 15%* = PE ÷ Growth = 11.6 ÷ 15 =0.77 PEG @ 20% = PE ÷ Growth = 11.6 ÷ 20 = 0.58 The CAGR for revenue and earnings was at 19 percent and 27 percent,
respectively, from 2006 to 2011. We proceed to use 20 percent growth because we
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 28 believe BreadTalk would be able to achieve that. That works out to a PEG of
around 0.58, or 42 percent discount to its fair value.
Discounted Model
Assuming a projected growth of 15 percent, here is BreadTalk’s intrinsic
value.
Intrinsic Value (Interest Rate: 4% and Growth Rate: 15%) based on:
Discounted EPS Model
Table 11.17 Calculation of Intrinsic Value
EPS
2012
2013
2014
2015
2016
2017
2018
2019
2020
2021
0.047
0.055
0.063
0.072
0.083
0.096
0.110
0.126
0.145
0.167
DF
DV
0.962
0.046
0.925
0.050
0.889 0.855
0.056 0.062
Intrinsic Value
0.822
0.068
0.790
0.075
0.760
0.083
0.731
0.092
0.703 0.676
0.102 0.113
SGD 0.748
BreadTalk had net cash per share of S$0.17 at the point of mini crisis.
Margin of safety = Intrinsic value@15% – (Share price – Net cash per share) × 100% Intrinsic Value = S$0.748 – (S$0.48 – S$0.17) × 100% S$0.748 = 58.6% From Table 11.17, the intrinsic value of BreadTalk worked out to be
S$0.748, which gives us a margin of safety of 58.6 percent, indicating that
BreadTalk was undervalued during the mini euro debt crisis.
Verdict
BreadTalk proved to be an attractive stock that fitted all four jigsaw pieces
of business, management, numbers, and valuation—and could be bought at a
bargain price with a margin of safety of around 50 percent. At the point of writing
this book, its share price has appreciated back to S$0.68 within 6 months. That’s a
decent return of 41 percent!
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 29 Case Study 4: Hartalega Sdn
Bhd
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 30 Business
Hartalega is the worldwide largest nitrile gloves producer, with 17 percent
market share. The majority (90 percent) of its sales are derived from nitrile gloves
and the remaining 10 percent is from latex gloves (see Figure 11.7). Most of their
gloves are sold to the United States and Europe, which account for 52 percent and
30 percent of its sales, respectively. It has a current production capacity of 9.6
billion gloves per year. It is expected to expand production to 13.5 billion by 2015.
It is able to produce two times more than the industry benchmark of gloves
because of its advances in proprietary technology and automation. Hence,
Hartalega is the lowest-cost producer in the industry. Due to its extremely low
production costs, its net profit margins are nearly double the nearest competitors.
Figure 11.7 Percentage breakdown of Revenue, 2012
Sales 10% 90% Nitrile Gloves Latex Gloves Hartalega has successfully changed the company into a major nitrile gloves
producer. The amount of nitrile gloves being sold has increase about ten times
since 2007, growing at 60 percent CAGR. The huge increase in production of
nitrile gloves in recent years is due to consumers switching from latex to nitriles
gloves.
Peer Competitors
Top Glove—Top Glove was founded in 1991 with only one factory and
three production lines. It is now the largest latex gloves producer, with
21 factories. The total production lines increased from 3 in 1991 to 395
lines as of 2011, producing 35.25 billion total pieces. Top Gloves
exports to 185 counties and has over 10,000 employees worldwide.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 31 About 80 percent of its sales are derived from the health-care sector,
while the remaining is from the non–health-care sector. Top Gloves
produces 77 percent natural rubber gloves; the remaining 23 percent
production is synthetic rubber gloves. Of the synthetic rubber glove
production, only 16 percent are nitrile gloves.
Supermax—Supermax is the leading international manufacturer,
distributor, and marketer of latex medical gloves. It exports gloves to
145 counties around the world, which includes America, Europe, Middle
East, and the South Pacific. Supermax manufactures and markets a range
of in-house brands such as Supermax, Aurelia, Maxter, Medic-dent, and
Supergloves. Its yearly production capacity is about 16 billion pieces of
gloves per year, meeting 11 percent of the world’s latex gloves demand.
Latexx Partner—Latexx Partner was established in 1988 and today is
one of the largest latex medical gloves producers. It is the largest glove
manufacturing company with its facilities under one roof. Its current
yearly production capacity is 9 billion gloves, with a production goal of
12 billion per year by 2013. Its gloves are distributed to about 80
countries around the world.
Riverstone—Riverstone was founded in 1989, specializing in
manufacturing cleanroom and health-care nitrile gloves. It has grown to
become the leading world supplier for cleanroom gloves. Its products are
widely used in the hard disk drive industry, where it has a niche. It
exports more than 85 percent of its products to key technology parks in
America, Asia, and Europe. Riverstone has an annual production
capacity of 2.8 billion gloves.
Of the four competitors, the majority are latex gloves producers except
Riverstone. Due to the recent huge increase in natural rubber pricing and the high
growth potential of the nitrile gloves, Hartalega’s peers have been shifting to
produce more nitrile gloves (see Figure 11.8). However, Hartalega is still able to
maintain its competitive advantage and resilience because it is the first mover in
the nitrile glove segment. The closest nitrile competitor is Riverstone, but it
focuses on producing nitrile gloves for the cleanroom industry. Riverstone only
recently started producing nitrile gloves for the health-care industry, which
Hartalega is in. Overall, Hartalega is able to hold its competitive advantage even
as competitors are switching to nitrile gloves because of its high net profit
margins, proprietary technology, and automation.
Figure 11.8 Breakdown of Sales of Nitrile Gloves by Million Pieces
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 32 Gloves (Million Pieces) Nitrile Sale (Million Pieces) 10000 5000 0 Nitrile Sale (Million Pieces) 2007 2008 2009 2010 2011 2012 732 1482 3077 4348 5947 7752 Management
Hartalega is managed by the Kuan family, who are the substantial
shareholders of the company. Since the start of Hartalega, Chairman Kuan Kam
Hon has had a vision to expand Hartalega to be the lowest-cost producer in the
industry by using technological innovation and automation. The company had
been spending a lot of time in research and development to improve its
productivity, lower costs, and ensure good quality. Because of Kuan’s vision,
Hartalega has been able to stay ahead of its competitors.
Despite challenging economic conditions such as a fluctuating U.S. dollar,
increases in raw material prices, increases in fuel costs, and competitive pressure
on the nitrile segment decreasing profit margins, Hartalega has been able to
maintain margins way above its peers to produce 40,000 pieces of gloves per
hours, which significantly exceeds the industry average. This reflects the
management vision and capabilities that cause Hartalega to be ahead of the curve.
Hartalega’s board consists of four executive directors and four
nonexecutive directors. From Table 11.18, the four executive directors were paid a
total of RM3.07 million in 2012 in term of directors’ fees, salary, and benefit in
kind. The four nonexecutive directors are paid a total of RM0.21 million.
Therefore, the total amount paid to the board in 2012 work out to be RM3.28
million. Thus, when compared to its net profits of RM201.38 million in 2012, the
remuneration ratio is 1.6 percent of net profits. Looking at this the management is
really efficient in generating profit for the shareholder.
Table 11.18 Extract of Annual Report on Remuneration Bands, 2012
Category
Directors’ Fees (RM)
Salary (RM)
Executive Director
183,000
2,834,092
Benefit in Kind
(RM)
50,200
Nonexecutive Director
168,000
42,723
0
In order to further enhance Hartalega’s competitive advantage, management
has come up with a sustainable growth strategy. First, the company will construct
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 33 plant six, which will increase nine more production lines by mid-2013. Once plant
six is completed, Hartalega’s production capacity will increase by about 30
percent, adding production of 3.7 billion gloves per annum. Second, the company
will construct a next-generation integrated glove manufacturing complex (NGC)
project. It is an eight-year growth plan for Hartalega, which will commence in
2013 and end in 2021. The project will be split into two phases. Phase one will be
from 2013 to 2017, where 40 new production lines will be introduced. These help
Hartalega to add production capacity of 14 billion gloves per annum. Phase two is
2017 to 2021, in which 30 new production lines will be introduced, adding
production of 10.4 billion gloves per annum. Once NGC is completed, Hartalega’s
total annual production of gloves will be 38 billion pieces per annum. This helps it
to further increase productivity, efficiencies, and lower costs through automation
and technology innovation.
The Kuan family, who own Hartalega Industries Sdn Bhd, also own 50.31
percent of Hartalega Holding Berhad (see Table 11.19). Kuan stated in the 2012
annual report that it is committed to create more value to shareholder by having a
minimum dividend payout ratio of 45 percent of their profit.
Table 11.19 Extract of Annual Report on Major Stakeholders, 2012
No.
1.
Name
Hartalega Industries Sdn Bhd
No. of Shares
367,854,304
50.31
2.
3.
4.
Budi Tenggara Sdn Bhd
Kelana Citra Sdn Bhd
DB (Malaysia) Nominee (Asing) Sdn
Bhd Exempt AN for BNP Paribas
Wealth Management Singapore
Branch (Foreign
Citigroup Nominees (Tempatan)
Sdn Bhd Employees Provident Fund
Board
Seow Hoon Hin
Jason Ten Jhia Seeng
36,294,000
30,459,000
4.96
4.17
27,890,836
3.81
26,308,700
3.60
18,470,000
15,510,326
2.53
2.12
5.
6.
7.
8.
9.
10.
HSBC Nominees (Asing) Sdn Bhd
Exempt AN for BNP Paribas Wealth
Management Singapore Branch
(A/C Clients-FGN)
14,790,700
Tye Holdings Sdn Bhd
HSBC Nominees (Tempatan) Sdn
Bhd Exempt AN for BNP Paribas
Wealth Management
Singapore Branch (Local)
AngChng/Value Investing in Growth Companies %
2.02
10,200,000
1.40
8,747,636
1.20
Online Chapter 11, Page 34 Numbers
It can be seen that the group has been growing at a compounded rate at
around 35.2 percent to 54.3 percent in terms of revenue, net profit, and operation
cash flow from 2008 to 2012 (see Table 11.20).
Table 11.20 CAGR for Revenue, Net Profit, and Cash Flow
Year (2008–2012)
Revenue
Net Profit
CAGR
37.9%
54.3%
Cash Flow
35.2%
Now, let us look at their financial numbers and ratios from 2005 to 2010
(Table 11.21).
Table 11.21 Financial Numbers and Ratios, 2008–2012
Year
No. of Outstanding Shares (mil)
2008
242.312
2009
242.312
2010
242.312
2011
363.731
2012
731.106
Income Statement
Revenue (RM mil)
257.6
443.2
571.9
734.9
931.1
195.88
61.7
35.55
332.93
110.27
84.51
363.76
208.13
142.9
461.86
273.06
190.3
634.44
296.62
201.38
22.05
24.6
28
64.67
97.53
38.62
65.5
82.96
101
117.12
Cash & Cash Equivalent (RM mil)
Short- & Long-Term Borrowing (RM
mil)
Current Liabilities (RM mil)
Shareholders’ Equity (RM mil)
Cash Flow Statement
Operation Cash Flow (RM mil)
8.34
38.26
74.73
116.98
163.22
41
57.7
41.5
39
24.6
49.43
179.47
52.84
254.42
69
354.09
78.85
494.44
85.5
619.5
59.97
85.32
163.93
184.8
200.3
Capital Expenditure (RM mil)
Free Cash Flow (RM mil)
Dividend (RM mil)
Ratios
Gross Profit Margin (%)
Net Profit Margin (%)
Return-on-Equity Ratio (%)
78
-18.03
19.38
60.84
24.48
44.83
67.08
96.85
46.04
81.27
103.53
87.30
60.1
140.2
91.45
23.95%
13.80%
19.81%
24.88%
19.07%
33.22%
36.39%
24.99%
40.36%
37.16%
25.89%
38.49%
31.86%
21.63%
32.51%
Cash Ratio
0.17
0.72
1.08
1.48
1.91
COGS (RM mil)
Gross Profit (RM mil)
Net Profit (RM mil)
Balance Sheet
Inventory (RM mil)
Trade & Other Receivables (RM
mil)
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 35 Debt-to-Equity Ratio
CAPEX Ratio (%)
0.23
219.41%
0.23
71.99%
0.12
46.94%
0.08
42.71%
0.04
29.84%
Dividend Payout Ratio (%)
54.5%
53.0%
32.2%
45.9%
45.4%
In Table 11.21, Hartalega shows consistent growth in key performance
indicators such as revenue, net profits, and cash flow for the past five years.
Revenue growth is within the 15 percent benchmark—a criterion for it to be
considered a growth company—we feel that this company will continue to grow
based on its business and expansion plans set by the management team. The
increased number of shares in 2012 is due to management issuing bonus shares to
existing shareholders to increase the liquidity of the shares. Hence, there is no
share dilution.
In 2012, there was a slight drop in the net profit margin, which was due to
competitors switching to production of nitrile gloves and lowering their cost to
gain market share. Nevertheless, Hartalega has still been able to maintain its net
profit margin above 20 percent. Hartalega has maintained a healthy cash position
with RM163.22 million in cash, and its debt-to-equity ratio fell from 0.23 to 0.04
from 2008 to 2012. This shows the strength of Hartalega’s business model with
increasing cash position and reducing debt level. This business is a cash cow and
does not need to be financed by debt in order to grow the business. The ROE has
been increasing since listing in 2008 from 19.81 percent to 32.51 percent.
Consistently maintaining ROE above 30 percent and with low debt-to-equity ratio
of 0.04 really indicates the strength of this business.
From Table 11.22, all the glove manufacturers are able to maintain a
consistent growth of their key performance indicators. When comparing the
margins, Hartalega had the highest gross profit margins of 31.86 percent and net
profit margins of 21.63 percent. The superior margins reflect consistent research
and development in technological innovation and automation. It has ROE of 32.51
percent, which almost doubles the rest of the competitors
The lowest debt-to-equity ratio comes from Riverstone, which is 0.004,
while Hartalega’s is 0.04. As long as the debt-to-equity ratio is below 0.2 the
company is in a healthy position. Hartalega has the lowest CAPEX ratio of 29.84
percent, while the rest of the competitors are above 30 percent. The payout ratio
for Supermax and Latexx Partner is below 40 percent. Based on Table 11.22,
Hartalega is the superior glove manufacturer among its peers.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 36 Table 11.22 Comparison between Hartalega and Its Competitors
Year 2012
Consistent
Growth
GPM
(%)
NPM
(%)
ROE
(%)
Debt to
Equity
(x)
CAPEX
(%)
Hartalega
Yes
31.86
21.63
32.51
0.04
29.84
Dividend
Payout
Ratio
(%)
45.4
Top Gloves
Supermax
Latexx
Partner
Riverstone
Yes
Yes
Yes
16.64
22.03
20.62
8.96
10.19
9.09
17.1
14.3
16
0.24
0.43
0.38
70.4
36.56
38.25
48.8
21.2
22.2
Yes
22.6
14.16
18.2
0.004
73
48.6
Valuation
In December 22, 2012, Hartalega’s share price is RM4.83. Let us proceed
in doing the valuation and see whether it fits our three-valuation method.
PE Ratio
The calculations are based on figures from 2012; the outstanding number of
shares reached 731.106 million, the net profit after tax was RM201.38 million.
Therefore, the earning per share was at RM0.275.
PE ratio = Price ÷ Earning
= 4.83 ÷ 0.275
= 17.6
Hence, the PE ratio of Hartalega was 17.6, which does not meet our criteria
of finding a growth company with a PE ratio below 10.
PEG Ratio
PEG @ 20%* = PE ÷ Growth = 17.6 ÷ 20 = 0.88 PEG @ 25% = PE ÷ Growth = 17.6 ÷ 25 = 0.70 The CAGR for revenue and earnings was at 37.9 percent and 54.3 percent,
respectively, from 2008 to 2012. To be conservative, we used a growth rate of 20
percent and reduce CAGR earnings of 54.3 percent to 25 percent, when
calculating the PEG ratio. In this case, the result of the PEG based on 25 percent
growth gives a slight undervalue of 0.70. Our criterion is to look for companies
with PEG below 0.5. Please note that we are being conservative, as Hartalega’s
past growth had been above 35 percent for the past five years.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 37 Discounted Model
Hartalega’s revenue growth from 2008 to 2012 is around 37.9 percent. Let
us be conservative and reduce the 37.9 percent growth to 20 percent to project the
intrinsic value for the year 2012. For the risk-free rate because it is a foreign
company, we will increase it by 1 percent to 5 percent in order to be conservative.
Intrinsic Value (Interest Rate: 5% and Growth Rate: 20%) based on:
Discounted EPS Model
Table 11.23 Calculation of Intrinsic Value
2012
2013
2014
2015
2016
2017
2018
2019
2020
2021
EPS
0.330
0.397
0.476
0.571
0.685
0.822
0.987
1.184
1.421
1.705
DF
DV
0.952
0.315
0.907
0.360
0.864 0.823
0.411 0.470
Intrinsic Value
0.784
0.537
0.746
0.614
0.711
0.701
0.677
0.801
0.645 0.614
0.916 1.047
RM 6.17
Hartalega had a net cash per share of RM0.19.
Margin of safety = Intrinsic value@20% – (Share price – Net cash per share) × 100% Intrinsic Value = RM6.17 – (RM4.83 – RM0.19) × 100% RM6.17 = 24.8% From Table 11.23, the intrinsic value of Hartalega for 2012 is RM6.17,
which works out to having a margin of safety of 24.8 percent, indicating that
Hartalega was slightly undervalued on December 22, 2012.
Verdict
We feel that Hartalega has a superior business and is the lowest-cost
producer in the industry. It has the highest margins and is able to produce double
the amount of gloves that its competitors can produce. Management has vision and
plans to further strengthen its competitive advantage in the industry by expanding
production capacity and enhancing technological innovation and automation. In
short, Hartalega is ahead of the curve because of its first-mover advantage.
Based on our analysis, Hartalega is an attractive business with superior
management and good numbers. It has fulfilled three jigsaw pieces of business,
management, and numbers. The only one left is valuation, where the margin is
only 24.8 percent.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 38 AngChng/Value Investing in Growth Companies Online Chapter 11, Page 39 Case Study 5: Japan Food
Holdings Ltd.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 40 Business
Japan Food Holding Limited was established in 1997 by Takahashi
Kenichi. Japan Food operates a chain of restaurants in Singapore, Malaysia, and
Indonesia. Its most well-known restaurant brand is Ajisen (franchised from
Shigemitsu Industry Co. Ltd.), which sells Japanese ramen noodles and
contributed about 60 percent of total sales in 2012 (refer to Figure 11.9). The
group has been expanding rapidly in Singapore. It has other franchise brands from
Japan, such as Botejyu, Hokkyokusei, Sapporo Curry Yoshimi, Aoba, and
TokuToku. Besides franchising brands, Japan Food has been coming out with its
own self-developed brands, such as Fruit Paradise, Aji Tei, Manupuku, and
Japanese Gourmet Town in Singapore. It has continuously built its competitive
advantage and niche in the F&B market, such as the introduction of Japanese
Gourmet Town and Manupuku (Japanese theme food court), where various F&B
brands come under a single restaurant. In Singapore, Japan Food has established
its presence as a restaurant that provides modern, high-quality, healthy, and
authentic Japanese food within a reasonable price range.
Figure 11.9 Breakdown of Revenue by Restaurants, 2010
Revenue by Restaurants Year 2010 Fruit Paradise 4% Botejyu 10% Aoba 9% Others 8% Ajisen Ramen 61% Hokkyokusei 3% Aji Tei 6% Other than operating its own restaurants, it subfranchises the Ajisen Ramen
brand to operators in Indonesia and Malaysia. Self-developed brands such as
AjiTei have also been franchised to Indonesia operators. As of March 2010, the
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 41 company operates a total of 38 restaurants under various brands in Singapore,
Malaysia, and Indonesia.
Under the brands that Japan Food franchises from Shigemitsu,
subfranchisees must pay a monthly franchise royalty fee for each restaurant they
operate under the company. Japan Food is able to get 50 percent of the royalty and
franchise fee paid to them by its subfranchisees (Indonesia and Malaysia
operators).
Under the franchising (AjiTei) and subfranchising (Ajisen Ramen)
agreement, Indonesia and Malaysia operators are supposed to pay a one-time
initial fee to Japan Food, a fixed monthly royalty fee for each restaurant they
operate and other fees such as marketing, training and administration for
franchising or subfranchising the brands. In addition, franchising or subfranchising
operators have to purchase certain food ingredients such as soup base, noodles,
and dessert ingredients from Japan Food.
The F&B industry is a highly competitive industry in Singapore. Barriers to
entry are low, mostly because the requirements and regulations to start an F&B
outlet are not stringent. Hence, in order to stay competitive in this industry, F&B
companies have to build a strong brand. Ajisen has been in Singapore since 1997,
and it is an internationally established franchise brand. It has been advertising in
the local media to increase its brand awareness. Therefore, when people think
about ramen, they often think of Ajisen Ramen—brand association. The company
has continuously built competitive advantage and its niche in the F&B market by
focusing on Japanese food products that can be harder to imitate. Its products
command a premium price but consumers are willing to pay it, knowing that they
are getting the highest-food quality. In addition, Ajisen Ramen stores are
strategically located in malls where there are throngs of crowds and the restaurants
are easily accessible by commuters.
The major competitors of Japan Food listed in SGX are Sakae, BreadTalk,
Thai Village, Soup Restaurant, Food Junction, and ABR. Other privately held
F&B players exist as well. As an investor, we should compare the listed F&B
companies.
Peer Competitors
Sakae—Sakae was established in 1996. It owns and operates restaurants
and kiosks under 11 brands such as Sakae Sushi, Hei Sushi, Sho-U, Uma
Uma Men, Nouvelle Events, Sakae Teppanyaki, Sakae Delivery, Sakae
Izakaya, Hibiki, Seniyu, and Crepes & Cream. The company operates
over 70 outlets in Indonesia, Singapore, China, Hong Kong, Thailand,
Hong Kong, Philippines, and United States.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 42 Thai Village—Thai Village was established in 1991, and has operations
consisting of two business segment—restaurant operations and
restaurant management service. It currently runs 7 restaurants and 14
franchise restaurants in regions such as Singapore, China and Indonesia,
serving Thai-Teochew cuisines.
Soup Restaurant—Soup Restaurant was founded in 1991 and sells
dishes that originate from the founder’s family recipe. To date, there are
25 outlets under the brand Soup Restaurant and Dian Xiao Er in
Singapore and overseas operations.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 43 AngChng/Value Investing in Growth Companies Online Chapter 11, Page 44 Looking at the business model of Japan Food, we are able to foresee
possible risks that will harm the business. And investors should take note of these
risks:
1. All of its franchise brands are from Shigemitsu Industry Co Ltd. As
seen in Figure 11.9, its main revenue contributor is Ajisen Ramen. If
Shigemitsu does not continue their franchise agreement, it will have a
very great impact on their revenue and profitability. However, it was
granted the agreement to continue using the brand, Ajisen, in countries
like Indonesia, Singapore, Malaysia, and Vietnam for a term of 50
years, which might be subjected to other terms and conditions.
2. The industry has low barriers of entry (is highly competitive), where
other F&B businesses can bring in a newer concept of dining to
compete. Even though its emphasis is in Japanese food, there are still
competitors in this area that have similar F&B concepts.
3. In the F&B business the right location is one of the key factors to
success. Having the right location with heavy traffic, reasonable rental
costs, and a conducive environment for dining for the targeted customer
is an ideal scenario for Japan Food. But there is no guarantee that the
company will be able to get such good locations to expand into. In the
event that it lands a bad location, expenses will erode profit margins.
Japan Food has plans to expand its brands regionally. For instance, we
carried out a scuttlebutt check in its Indonesia restaurants during the holidays and
realized that three out of four outlets in Indonesia have higher traffic, even during
off-peak periods, than other F&B restaurants. From our observation, all the tables
were still occupied after we had finished our meal at Ajisen, during an off-peak
period. This tells us that Ajisen in particular, is commercially viable elsewhere.
Thus, expanding the number of outlets would not be an issue. At the same time,
Japan Food should also focus on expanding its existing market in Singapore, by
bringing in more tried and tested F&B brands from Japan. In addition, at the point
of writing this, the company intends to penetrate into Hong Kong and China,
based on the Aoba brand, to increase its presence.
Management
The management team consists of five directors and five key executives.
The management team is managed by Chairman and CEO Takahashi Kenichi,
who is also the founder, and has more than 13 years of F&B experience by 2010.
The president and CEO of Shigemitsu (Shigemitsu Katsuaki) is a substantial
shareholder and nonexecutive director of Japan Food. In this case, it is unlikely
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 45 that Shigemitsu Industry will pull out of the franchise agreement with Japan Food,
but we still have to take note of this risk, as nothing is impossible. It also means
that Shigemitsu Industry is likely to give priority to Japan Food to franchise Japan
F&B brands and in doing so, bring them into Southeast Asian countries. Eugene
Wong, the founder of Sirius Venture Consulting Pte Ltd. (venture capitalist) is the
nondirector of Japan Food and is also the nonexecutive director of Ajisen (China)
Holding Limited, which is also a listed company in the Hong Kong Stock
Exchange.
Among these managers, shown in Table 11.24, the highest paid is
Chairman and CEO Takahashi Kenichi, who manages and oversee the company’s
profitability. On top of his salary, half of his pay is based on profit-based sharing.
In other words, he would get a higher pay when the company is doing well and
vice versa. Due to the highly competitive F&B industry in Singapore, the
remuneration of the top five executives was not disclosed to prevent poaching of
staff. However, the company has disclosed the total remuneration of these five
executives, which amounted to a total of SGD750,000. We have counted the total
remuneration among the board as SGD1.5 million. It is equivalent to less than 30.4
percent of net profits (SGD1.4 million/SGD4.6 million).
Table 11.24 Extract of Annual Report on Remuneration Band, 2010
Remuneration Bands
Name of Directors
SSGD500,000 to
SSGD625,000
Takahashi Kenichi
SSGD25,000 to
SSGD50,000
Tan Lye Huat
Yeo Guat Kwang
≤ SSGD25,000
Shigemitsu Katsuaki
Eugene Wong Hin
Sun
Directors’
Fees (%)
Salary
(%)
Incentive Bonus
and other Benefits
(%)
Total
(%)
-
45
55
100
100
100
-
-
100
100
100
100
-
-
100
100
As shown in Table 11.25, Takahashi Kenichi owns 77.45 percent of Japan
Food’s shares, Sirius Venture Consulting Pte Ltd. (owned by Eugene Wong) owns
4.52 percent, followed by Shigemitsu Katsuaki, which owns combined shares
(under Shigemitsu Industry and Shigemitsu Katsuaki) of 4.24 percent. With high
ownership of shares, the chances are very high that they would work hard to drive
earnings. It reflects their alignment to shareholders.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 46 Table 11.25 Extract of Annual Report to Major Stakeholders, 2010
No.
1.
Name
Takahashi Kenichi
No. of Shares
68,286,000
77.45
%
2.
HSBC (Singapore) Nominees Pte
Ltd.
4,000,000
4.54
3.
4.
5.
Sirius Venture Consulting Pte Ltd.
Loh Yih
Shigemitsu Katsuaki
3,981,000
2,973,000
1,867,000
4.52
3.37
2.12
6.
7.
8.
9.
Shigemitsu Industry Co. Ltd.
Tan Kay Toh or Yu Hea Ryeong
DBS Vickers Securities (S) Pte Ltd.
Long Shing Yuan
1,867,000
1,033,000
655,000
253,000
2.12
1.17
0.75
0.29
10.
Lim Mei Chen
180,000
0.20
During its IPO phase in 2009, management announced that it intended to
innovate and introduce new Japanese brands and concepts in Singapore. This took
place in 2010 when Tokyo Walker and Aoba were first introduced in major
shopping centers in Singapore.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 47 Numbers
Referring to Table 11.26, the historical compounded growth rate is more
than 15 percent. Thus, we classified Japan Food as a growth company.
Table 11.26 CAGR for Revenue, Net Profits, and Cash Flow
Year
Revenue
CAGR (2006–
2010)
27%
Net Profits
Cash Flow
84%
62%
Japan Food Holding Limited was listed on SGX in 2009. Hence, the results
from 2006–2008 were unaudited. Nevertheless, in Table 11.27, it serves as a good
indicator of the company’s growth rate in terms of its revenue, net profits, and
cash flow, which stood at 27 percent, 84 percent, and 62 percent, respectively.
Japan Food had a debt-to-equity ratio of 0.23, which is still below our criteria of
0.5. The company’s cash and cash equivalent have also been increasing, doubling
from SGD4.5 million in 2009 to SGD8.3 million in 2010. This is a good sign, as
we like growth companies that have lots of cash and little debt financing.
Table 11.27 Financial Numbers and Ratio, 2006–2010
Year
No. of Outstanding Shares (mil)
2006
N.A
2007
N.A
2008
N.A
2009
88,170
2010
88,170
Income Statement
Revenue (SGD mil)
16.6
19.2
26.8
33.5
43.7
COGS (SGD mil)
Gross Profit (SGD mil)
Net Profit (SGD mil)
5
11.6
0.4
5.9
13.3
1.2
8.3
18.5
2.9
8.7
24.8
2.7
9.6
34.1
4.6
Balance Sheet
Inventory (SGD mil)
N.A
N.A
0.261
0.516
0.606
Trade & Other Receivables (SGD
mil)
N.A
N.A
0.634
0.543
0.903
Cash & Cash Equivalent (SGD mil)
Short- & Long-Term Borrowing
(SGD mil)
Current Liabilities (SGD mil)
Shareholders’ Equity (SGD mil)
N.A
N.A
N.A
N.A
4.7
0.5
4.5
1.4
8.3
3.1
2
3.9
2.4
5.1
6
5
8.8
9.3
8.1
13.4
Cash Flow Statement
Operation Cash Flow (SGD mil)
0.9
2.1
7.6
5.4
6.2
Capital Expenditure (SGD mil)
Free Cash Flow (SGD mil)
Dividend (SGD mil)
N.A
N.A
N.A
N.A
N.A
N.A
2.3
5.3
N.A
7.8
-2.4
N.A
3.7
2.5
0.441
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 48 Financial Ratio
Gross Profit Margin (%)
69.6%
69.5%
69%
73.9%
77.9%
Net Profit Margin (%)
Return-on-Equity Ratio (%)
Cash Ratio (x)
Debt-to-Equity Ratio
2.4%
9.7%
N.A
N.A
6%
24.4%
N.A
N.A
10%
57.4%
0.78
0.1
8%
29.2%
0.51
0.15
10.5%
34%
1.02
0.23
CAPEX Ratio (%)
Dividend Payout Ratio (%)
N.A
N.A
N.A
N.A
79%
N.A
288%
N.A
54%
9.5%
Customers dining at F&B outlets commonly pay their bills on the spot,
either using a credit card or hard cash. Thus, receivables are low, which is a good
sign. The capital expenditure of Japan Food in 2009 was SGD7.8 million, which
resulted in a negative free cash flow of SGD2.4 million. It was due to a massive
expansion plan and was also one of the reasons why it got listed to raise more
capital to spur this growth. This resulted in higher capital expenditure to build
more restaurants in 2009. This is in tandem with net profits in the subsequent
years, in which net profit increased 70 percent, from SGD2.7 million to SGD4.6
million.
In 2009, ROE decreased from 57.4 percent to 29.2 percent due to its listing
and issuance of more shares. In 2010, the ROE increased by 16 percent, resulting
in a 34 percent ROE. This indicates that the company is performing well and is
adding more value to its shareholders. The gross and net profit margins were able
to increase steadily due to cost control and reduction in food waste.
Based on Table 11.28, we are able to eliminate Sakae and Thai Village, as
they are unable to provide consistent figures. Looking at fundamentals such as
gross profit and net profit margin, Japan Food has been performing above industry
average, compared to all the F&B restaurants in Singapore. It has consistently
generated net profit margins of 10 percent, while the industry’s average for net
profit margins is only at 5 percent. We love this company because it has a good
competitive advantage working in its favor and even though it commands a higher
price, customers are still willing to pay for it.
Table 11.28 Comparison between Japan Food and Its Competitors
Companies
2010
Consistent
Growth
GPM%
NPM%
ROE%
Debt to
Equity
Japan Food
Yes
77.9%
10.5%
34%
0.23
Dividend
Payout
Ratio
(%)
9.5%
Sakae
Thai Village
Soup Restaurant
No
No
Yes
69%
65%
74%
3.6%
9.3%
6%
16%
15%
16%
0.64
0
0
0%
51%
62%
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 49 Valuation
From March 2010 to August 2010, prices of Japan Food fluctuated from
between SGD0.20 to SGD0.25. We decided to purchase some shares of Japan
Food as a way to monitor this company, by being able to attend its AGM. In the
meantime, we would only commit more capital once it has a more reliable track
record.
PE Ratio
The calculations are based on 88.170 million outstanding shares at and a
net profit after tax of SGD4.5 million, in 2010. Therefore, the earning per share
was SGD0.051 per share. At this point of time, the share price is trading at
SGD0.25
PE Ratio = Price ÷ Earning
= 0.25 ÷ 0.051
= 4.9
PE ratio worked out to be 4.9, which fits our criteria of finding growth
company at a PE ratio of below 10.
PEG Ratio
PEG @ 10%* = PE ÷ Growth = 4.9 ÷ 10 = 0.49 PEG @ 20% = PE ÷ Growth = 4.9 ÷ 20 = 0.24 If you have calculated the historical growth rate of Japan Food using the
past five years’ profits, the CAGR is 27 percent based on revenue. That said, it is
rather difficult to maintain this in the long run. Hence, lowering our expectation,
we will use the growth rate of 10 percent and 20 percent to calculate the PEG
ratio, which actually fits the valuation part of below 0.5 (undervalued) as shown
above.
Discounted Model
Intrinsic Value (Interest Rate: 4% and Growth Rate: 5%) based on:
Discounted EPS Model
Table 11.29 Calculation of Intrinsic Value
EPS
2011
0.054
2012
0.056
2013
0.059
2014
0.062
AngChng/Value Investing in Growth Companies 2015
0.065
2016
0.068
2017
0.072
2018
0.075
2019
0.079
2020
0.083
Online Chapter 11, Page 50 DF
DV
0.962
0.051
0.925
0.052
0.889
0.052
0.855
0.053
0.822
0.053
0.790
0.054
0.760
0.055
Intrinsic Value
Margin of safety = Intrinsic value@5% – (Share price – Net cash) × 100% Intrinsic value 0.731
0.055
0.703
0.056
0.676
0.056
SGD 0.538
= SGD0.538 – (SGD0.25 – SGD0.04) × 100% SGD0.538 = 61% While using the discounted model, in Table 11.29, assuming that Japan
Food is going to grow at 5 percent per annum, its intrinsic value is SGD0.538.
Based on these results, its 5 percent growth shows a 61 percent margin of safety.
Moreover, Japan Food is growing at 20 percent annually. Using only a 5 percent
projection gives us conservative projection, and at the same time, a good margin
of safety to purchase this growth company at a bargain price when we discovered
them initially.
Verdict
Japan Food is an F&B business and is recession-proof. Ajisen and in-house
brands continue to expand and prosper in countries like Indonesia and Malaysia,
and this tells us that it can successfully replicate businesses across Asia. In
addition, we are impressed that even though its products command premium
prices, consumers are willing to pay knowing that they are getting high food
quality. Since we know Japan Food both as an investor and customer, we have a
very clear understanding of the business. Furthermore, a great moat protects it
from competitors.
As value-growth investors, we will prefer to buy businesses that have been
listed for a minimum of three years. As Japan Food does not fit this criterion, we
have bought only a small amount of shares in Japan Food so as to be granted
access rights to meet the management. We bought the share at SGD0.25, but at the
point of writing this, it is valued at SGD0.43, with a margin of safety of 60
percent. By applying the monitoring technique discussed in Chapter 8, we are
allowed to attend future AGMs in our bid to continue to track the company.
AngChng/Value Investing in Growth Companies Online Chapter 11, Page 51