Wednesday, October 31, 2007

End-October 2007 Portfolio Review

During the half-month ended October 31, 2007, Ezra Holdings released its FY 2007 results on October 16, 2007. The results were mostly in line with expectations and I have done a review of Ezra’s financials in my previous few posts. In addition, Suntec REIT has also announced its FY 2007 results and declared its quarterly dividend distribution. The market continues to bob at a relatively high level, giving me no chances to buy at a decent margin of safety. Thus, I am patiently waiting for my chance to buy while surveying and analyzing companies at the same time.

Below is the summary of my investments and related news as at October 31, 2007 (STI at 3,805.70 points):-

1) Ezra (Vested since October 6, 2005) - Buy Price $1.30 (bonus adjusted), Market Price $6.90, Gain 431%. On October 16, 2007, Ezra announced their FY 2007 financials and announced a dividend of 7.1 cents per share (3.55 cents per share post-bonus), giving me a dividend yield of 5.5% based on my buy price. At the same time, Ezra has also announced that Saigon Shipyard has won US$130 worth of contracts for fabrication projects, to be completed by FY 2010. On October 29, 2007, they announced that their 100%-owned subsidiary, Lewek Shipping Pte Ltd, has contracted to purchase a second MFSV from Karmsund at a cost if S$167.4 million. The counter is currently on cum-bonus for the 1:1 bonus announced on April 9, 2007 and the ex-bonus date is next Monday, November 5, 2007.

2) Boustead (Vested since September 13, 2006; averaged down November 13, 2006) - Buy Price $1.295 (average), Market Price $2.42, Gain 86.9%. There was no news from Boustead in the half-month ended October 31, 2007. Boustead is expected to report their 1H FY 2008 results some time in November, after which I will be doing an analysis and review.

3) Swiber (Vested since February 14, 2007) - Buy Price $1.01, Market Price $3.66, Gain 262.4%. There was no news from Swiber during the half month ended October 31, 2007. Their 3Q 2007 results announcement is expected during the middle of November 2007, and I will be keeping an eye on their 3Q margins as well as their cash flow usage, as well as looking out for further updates from the company on its plans and strategies for FY 2008.

4) Suntec REIT (Vested since December 9, 2004) - Buy Price $1.11, Market Price $1.81, Gain 63.1%. Suntec REIT announced their financial results for FY 2007 (their year-end is on September 30) and declared a DPU of 2.122 cents per share to be paid on November 28, 2007. For the entire financial year FY 2007, the total dividend declared amounted to 8.15 cents per share, which represents a dividend yield of 7.34% based on my purchase price. Moving forward, the REIT expects to increase its DPU further through its acquisition of a one-third stake in One Raffles Quay; as rental rates for office and retail space continue their upward trend.

5) Pacific Andes (Vested since March 29, 2006; Rights Issue July 11, 2007 at S$0.52 per share; averaged down August 17, 2007) - Buy Price $0.655 (rights-adjusted), Market Price $0.81, Gain 23.7%. There were no updates or news releases from CFG or PAH during the half-month ended October 31, 2007. PAH should be releasing their 1H FY 2008 results some time in mid to late November 2007. This is the first quarter in which they will account for their recently acquired 63.9% stake in CFG (increased from 28.8%) and I am hoping the earnings accretion is enough to offset the dilutive impact of the rights issue. I am also hoping for a decent dividend to be paid out.

Overall Portfolio

My overall portfolio has increased by 143.0% from an adjusted cost of S$43.2K as at October 31, 2007, as compared with 146.9% as at October 15, 2007. The market value of my portfolio is S$105K. Realized gains remain at S$3.9K as the recently declared dividends have not been received yet.

Comparison against STI

The STI was 3,037.74 on January 3, 2007. It is currently at 3,805.70 today, representing a gain of 25.3%.

Adjustment of cost to ensure consistency of comparison – My cost and market value were S$33.9K and S$46.0K respectively as at Jan 3, 2007 while my current adjusted cost (after selling Global Voice) is about S$43.2K. My adjusted market value will be about S$58.6K. The market value of my holdings as at today is S$105K. This represents an increase of about 79.2%.

Thus, as at October 31, 2007, my portfolio has risen by a gain of 53.9 percentage points higher than the STI.

My next portfolio review will be on Thursday, November 15, 2007 after market close.

Monday, October 29, 2007

Investment Mistakes Part 9 - Selling Too Early

One of the most classic investment mistakes is selling too early, in what is also known as "short-termism". This occurs when one does not take a long-term view of a company, and attempts to "trade" a small gain, or maybe one sets a specific target price which is 10-20% higher than their buy price, and subsequently sells when it hits the trigger point. Both methods are price-dependent, rather than being business-dependent. Again, I reiterate that if you have bought into a good company at a fair price, then why in the world would you want to sell ? So begins my analysis of my mistake below....

Please also note that an investment mistake does NOT necessarily consist of transactions which resulted in losses. In fact, this mistake had resulted in a gain, but the opportunity cost is so tremendous that on hindsight, the paltry gain is hardly enough to justify the act of selling so early ! The company in question is Labroy Marine, which is a prominent ship-building company in Singapore and which had recently also ventured into building rigs. Just today, on October 29, 2007, the company announced that it was being acquired by Dubai Drydocks LLC (DD), the same company which took Pan United Marine private in May 2007. DD is offering S$2.8425 per Labroy share and they are planning to take the company private. The chairman Mr. Tan Boy Tee and executive director Mr. Chan Sew Meng have already agreed to sell their combined 65.49% stake in Labroy to DD, effectively making the deal unconditional.

Way back in April 2005, I purchased shares in Labroy Marine at a cost of 64 cents per share, which looks amazingly cheap now eh ? The problem was that at the time, I had nary a clue about value investing, and even less knowledge about how to properly value a company and see its potential. To me, it was all about making a quick gain from the sale of the shares (I did not use contra) at a set price. In the end, I sold at 70 cents in May 2005 for a miserable gain of 9.4% (6 cents) and totally missed the upside as the company grew and the share price ran into S$1, then surpassing S$2. That was one of the hard lessons I had to learn about the essence of long-term investing, and even Warren Buffett had made the same mistake when he sold his first investment too soon. The painful fact is that if I had held on to Labroy till now (when DD announced the acquisition), I would have made a cool 344% profit.

The mistake and subsequent lesson to be learnt is that one should NEVER set a pre-determined target price to exit if one is investing in a company. This is because a company is always growing and its business is dynamic, thus placing a target price on it (like the analysts always do) seems to imply that the growth will terminate when it hits that price. In the end, one may very well sell for a profit but miss out on the huge potential which the company has to offer.

Since that mistake was made, I have held on very tightly to shares in Ezra Holdings which I purchased in October 2005, as I recognized that the company was growing very rapidly and that its earnings were scaling up tremendously. A mistake was made and a lesson was learnt; Ezra has since grown into a different animal altogether, to the extent of reporting 5 years of consecutive revenue and net profit growth and also listing a subsidiary in Norway. Thus, I now approach every company with the view that I am buying a piece of a good thing, and who wants to let go of a good thing to exchange it for something which may not be so good ?

Sunday, October 28, 2007

Ezra - A Brief Update and Commentary

I had followed up with Management on several queries I had on the company and they were happy to respond to clarify. Below are some of the points which I clarified, and I also give a personal view of how I think the company might perform in the coming years:-

1) Presentation Slides for FY 2007 results - According to Management, there will be NO slides for FY 2007 results, unlike during the 1H FY 2007 results release. Thus, it is now difficult to get a quick summary of Ezra's existing fleet and also their vessel delivery schedule for FY 2008. The only way is to wait for their Annual Report, which most likely will contain some important information on their fleet size, strategies and future direction. In the meantime, Management has assured that they remain committed to their asset-light plans which were formulated in FY 2005. They have advised me to look through the reports written by the various brokerages in order to get a clearer picture of what is happening, as the analysts remain in regular contact with the Group. Thus far, I have the latest reports from DBSV, OCBC Research, JP Morgan, Kim Eng Research and CLSA.

2) Cost of MFSV versus 30,000 bhp AHTS - I did bring up the subject of why the cost of the MFSV ordered recently was nearly 4 times as high as the previous newbuilds. Management has advised that the cost of the AHTS (being S$49 million each) did not include equipment and machinery that was supposed to be installed into the vessel. Thus, I assume that the total capitalized cost would increase significantly after this was done. Moreover, the MFSV has many additional capabilites (described in the press release) as compared to an AHTS, and is able to work in waters greater than 3,000m deep. This justifies the much higher cost. The purchase will be funded from the proceeds from the divestment of EOC Limited as well as debt financing.

3) Option for additional 7 MFSV - In the article in The Edge Singapore magazine, it was mentioned that Ezra would exercise the option to purchase an additional 7 MFSV by the end of the year, thus boosting their fleet size to 45 by the end of FY 2010. Mr. Lionel Lee also mentions that capex will hit US$1 billion by the end of FY 2010, as Ezra plans to scale up its fleet significantly. Through email, Management has clarified that there was no express intention to represent that they would incur the US$1 billion. Much depends on whether their current capex and future capex plans will proceed as planned, and it will be better to rely on the press releases which the Group regularly posts on SGXNet to get a better idea of the Group's capex requirements.

4) Clarification on 2nd Fabrication Yard in Vung Tau, Vietnam - According to Management, the current yard in HCMC (Ho Chi Minh City), Vietnam called Saigon Shipyard is expected to be fully operational by FY 2008. The majority of the yard is still under construction and the announcement of the US$130 million worth of contracts relate to delivery by FY 2010. Thus, the earning will not materialize so quickly. The second yard in Vung Tau is just a greenfield now (i.e. empty piece of land on which nothing sits on !), and the Group has plans underway to develop it into a second yard. There have been estimates (some too bullish) by brokerages on the potential revenue contribution from these 2 yards hitting about S$400 to S$500 milllion per year by FY 2010, but I prefer to stay conservative and monitor the progress of HCMC Logistics (which owns Saigon Shipyard) first. I am sure the Group will duly inform shareholders if there is any further progress in developing the Vung Tau site.

5) Quarterly Reporting - Management has cofirmed that they will be practising quarterly reporting from FY 2008 onwards, in order to comply with requirements set by Oslo Bourse for EOC Limited. Thus, any timeline for EOC Limited for the announcement of results should also apply to the Ezra Group. With this in mind, I anticipate that 1Q FY 2008 results should be released sometime in early January 2008 (for period ending November 30, 2007).

My opinion of the Group is that they are rapidly trying to scale up their deep-water vessel fleet in anticipation for FY 2010, when they expect global demand for deepwater vessels to exceed spply significantly. There is an inherent risk in all this, of course, if it fails to materialize. Current charter rates for AHTS are hitting record highs in the North Sea (according to JP Morgan and CLSA reports), and this trend is expected to continue into the near future with oil prices hitting record highs of US$92 per barrel.

The Group may engage in further sale-and-leaseback transactions (S&L) with Pareto or another financier in order to remain "asset-light" and to recycle the cash back into purchasing more vessels. If the option for the additional 7 MFSV were indeed exercised, then the Group would need a lot of cash and funding in the near term, and the options I can think of include S&L, EOC doing a placement of shares (diluting parent Ezra Group in the process), additional debt financing (through banks), additional debt financing through issuance of company bonds or additional equity funding through Ezra Group (direct dilution to existing shareholders). I will monitor Management's decisions with respect to fund-raising to see if they can manage this well without straining the Balance Sheet too much, and give updates on my blog accordingly.

As for the additional business of fabrication and construction, it remains to be seen if the Group can scale up their operations and clinch more contracts to addd to their maiden US$130 million one. Even then, Mr. Lee has mentioned that margins are much thinner (at 10%) as compared to their main business of chartering. Thus, even though revenues may be higher in the future, lower margins may means that profits do not increase proportionately.

One more possible avenue for growth is if EOC manages to clinch their second FPSO contract (as it was mentioned that they were bidding for FPSO contracts right now). Once again, funding becomes an issue even if they manage to do this.

Thus, although the future looks bright for the Group, there are still many uncertainties regarding its growth and I will be closely monitoring developments as time goes by.

Thursday, October 25, 2007

The SembCorp Marine Saga

Hot on the heels of the Uni-Asia fiasco is yet another scandal which makes Uni-Asia’s case pale in comparison. The company in question this time is SembCorp Marine (Sembmarine or SM) and they had revealed on October 22, 2007 that their finance director, Mr. Wee Sing Guan, had engaged in unauthorized foreign exchange (forex) transactions and caused the company to lose an amount to the tune of about US$248 million. The amount includes US$83 million which was already paid to a bank through Jurong Shipyard Pte Ltd (JSPL), while the remaining amount is still subject to confirmation as the positions are still “open”, meaning that the losses have not been realized yet. SM has said that it will engage a special audit from Ernst and Young and also lawyers from Drew and Napier to see if it can contain the losses and to assess the extent of the damage. The announcement by SM that it had sold 39 million shares in Cosco Corp for S$272.2 million is widely seen as a move to stem the losses, and is regarded as a form of "damage control".

Consider the numbers involved here and it will be readily apparent to the average observer that US$248 million is a huge sum, as their FY 2006 net profit amounted to S$238.4 million (yes, it’s SGD, not USD !). This means that if taken in context, it would mean that the unrealized losses in question already more than wipes out FY 2006’s profit, and leave extra losses to boot. Assuming that SM’s profit for FY 2007 grows 50% (just an assumption), it would amount to S$357.6 million, which is still lower than the S$362.8 million loss (using an exchange of 1 USD: 1.463 SGD) from the illicit forex transactions. Of course, such a shocking revelation from the world’s second largest oil rig builder sent its share price reeling and it closed 86 cents (15.4%) down to S$4.74 on the release of the trading halt. A full S$1.8 billion worth of market capitalization evaporated in a single trading day, and this is testament to the magnitude of the damaging announcement made by the company.

Several issues arise as a result of this stunning news, which have also been discussed on ST and BT as well as online share forums. Still, it pays to revisit these issues to discuss what went wrong, the implications on corporate governance and whether confidence can (ever) be restored to this blue chip company. Firstly, the glaring issue of corporate governance comes into play again, and one would have thought that after the likes of CAO, ACCS (now MDR), Citiraya (now Centillion) and Informatics, the entire corporate world would have been more guarded about possible fraud or unauthorized risk exposures. SM must delve deep into the reasons for this lapse of internal controls, resulting in one of the most damaging losses since the CAO back in 2003. Considering that it is a company which prides itself of risk management (as disclosed in its Annual Report) and which recently won an award for transparency given out by SIAS, this latest piece of news seems all the more ironic. All I can say is that SM’s directors and top management have to get their act together to ensure that loopholes are plugged, and to carry out a thorough investigation into how such transactions could have been entered into without their knowledge or authorization.

Another issue at hand is also the question of how the losses became so massive. According to SM, they do normal hedging against possible adverse currency fluctuations, such as entering into forward contracts to “lock in” a favourable exchange rate (they earn in USD but report their financials in SGD). However, it was pointed out by analysts that a loss of this magnitude could only be perpetuated by risky forex speculation, by making heavy bets in the billions (probably) on the direction of exchange rates. As the greenback has depreciated only about 7% against the Singapore dollar in recent months, this has led to even more speculation of how these losses came about. SM needs to clearly explain itself after the inquiry and give full and honest disclosure on the entire debacle. If not, then it will be a classic case of a “crisis of confidence”, which will be very difficult to recover in future. As Warren Buffett has said: “You take a lifetime to build a good reputation and only five minutes to lose it all.”

A final note to add for this post and something I wish to highlight yet again are the inherent risks in investing in quoted equities. Even a value investor who had purchased SM based on fundamentals and growth prospects could not have seen this coming. It is one of those anomalies which can hit a diligent investor and cause him to lose a substantial amount of capital, akin to an “Act of God” incident which can cause freakish damage. After all, how is one supposed to even fathom the possibility of a blue-chip Temasek-linked company being embroiled in a scandal of this scale ? It all boils down to whether an investor had made adequate provision for losses stemming from “unforeseen events” such as these, and whether he has adequately hedged his own exposure by diversifying his investment types (e.g. in gold, commodities, real estate). By investing in equities, all of us have to take up a proportionate amount of risk and it is this risk which we manage every single day as we entrust our monies in the hands of the Management of the companies which we invest in.

Note: I will post more updates and opinions on the SM saga as events unfold and more information becomes available.

Tuesday, October 23, 2007

Ezra – FY 2007 Financial Results Analysis (Part 2)

To continue the financial results review for Ezra, I will continue with the review of the Cash Flow Statement and also the future prospects and strategies for the Group. Unfortunately, there were no presentation slides released by Ezra relating to their results announcement, which is rather uncharacteristic of the company because they are traditionally known to be very shareholder-centric and they have a habit of keeping shareholders updated on the status and progress of the company. Thus, the future prospects of Ezra are compiled from data and information obtained from sources such as the Business Times, Channel Newsasia, The Straits Times as well as The Edge Singapore Magazine.

Cash Flow Statement Review

Ezra reported net cash inflows from operating activities of S$33.5 million for FY 2007, which is a strong indication of recurring cash flows from their core business. This was a 67.5% increase from the cash inflows generated for FY 2006 of S$20.0 million. Starting from a higher net profit before tax base of S$115.1 million, non-cash items such as the gain in dilution of interest in subsidiary and profit from disposal of AFS (available-for-sale) investments had to be removed from the cash flow statement. Depreciation on fixed assets almost doubled from S$4.6 million to S$9.2 million and had to be added back as it was a non-cash expense. Operating profit before working capital changes actually amounted to S$58.7 million for FY 2007 as compared to S$27.8 million for FY 2006; registering a gain of 111.1%. The main culprits for the cash outflow were the huge increase in trade receivables (from S$1.4 million to S$48.0 million) as a result of the scaling up of their business from their enlarged vessel fleet. This was partially offset by the decrease in other receivables but the net effect is still a S$28 million outflow resulting from changes in receivables. This prompts the question of whether the company can maintain a good cash collection cycle as it seems that much of their receivables may yet be uncollectible as at year-end. Fortunately, this factor was mitigated by the cash inflows from the increase in trade and other payables of about S$30.7 million which enabled the company to maintain a healthy overall net cash inflow. Interest and taxes paid also increased as compared to prior year as a result of higher interest on more loans taken up to finance the purchase of new vessels; as well as higher taxes from the overseas taxation of a subsidiary company (which I suspect is HCMC Logistics in Vietnam).

Cash flows from investing activities showed a huge net outflow of S$314.6 million, mainly due to the purchase of fixed assets which came up to a whopping S$300 million. This was more than double of FY 2006’s purchase amount of S$117.5 million and clearly shows Ezra’s commitment to building up its fleet rapidly to take advantage of the buoyant oil and gas industry. Assets purchased and held for sale also increased from S$55.6 million in FY 2006 to S$92.3 million in FY 2007, while the S$22.1 million worth of cash outflow from the purchase of AFS investments would include the 21.83% stake in Ezion Holdings Limited. Although the impact on cash is worrying if one looks at the net cash outflow for FY 2007, note that most of Ezra’s fund raising comes through in the “financing activities” section, which will be explored below. Also, do note that Ezra’s stake in Ezion Holdings has appreciated more than 450% from their purchase price of 33.1 cents per share to S$1.49 as at October 19, 2007. This means that their stake in Ezion is now worth S$74.5 million which is realizable in cash should they wish to sell their stake for cash.

The cash flows from financing activities is where all the “action” is. Ezra has been busy during FY 2007, as they have obtained more banks loans of S$223 million, procured cash of S$62.2 million from the sale of 12% of their subsidiary EOC Limited and also placed out 15 million shares at S$5.18 per share to raise S$76.6 million (net of placement fees). These activities have no doubt managed to generated sufficient amounts of cash for operating purpose and also for fleet expansion, but there is of course a price to pay. Taking up additional bank loans means increasing their gearing and debt-equity ratio; and it also increases interest expenses. Diluting their interest in a subsidiary would mean the recognition of lower profits from as part of the profits belong now to minority interests; while the issue of new placement shares to strategic investors dilutes existing shareholders and lowers EPS. All these moves were undertaken with the implicit assumption that fleet expansion would lead to higher revenues and hence profits, in order to offset the dilution from sale of subsidiary and issue of new shares. An expanded fleet should also generate increased recurring cash flows which would be used to service the higher interest expenses and to eventually pay off the principle amount of the additional loans.

As can be seen from the above analysis, there are inherent risks moving forward into FY 2008 about Ezra’s cash flows, as most of the current inflows are generated from financing activities, and not operating activities. Thus, if their expansion should stall in any way or if charter rates go on a downtrend, the Group could possibly be “squeezed” in the middle as they will end up having lower revenues but higher loans to service. This is the risk of rapid expansion which all shareholders have to bear; and if the company is on track to take advantage of buoyant conditions, then the cash flows would be sustainable in the long run. Do note that subsequent to the financial year-end, Ezra had sold off another 39.1% of EOC Limited to generate gross proceeds of USD 177 million (about S$259 million at today’s exchange rate). This is in part to finance the purchase of deepwater vessels which Ezra has placed orders for; but the company will have to think of other ways of raising more cash if it intends to scale up its fleet, as I perceive that this amount will be insufficient moving forward (see future prospects and strategies for my ideas on how Ezra will make up this shortfall in cash).

Future Prospects and Strategies for FY 2008

In writing about the future prospects and strategies to be used by the Group, do note that some of my opinions may contain forward-looking statements which may or may not represent fully the direction to be taken by the company. Thus, my disclaimer is that I am neither recommending nor discouraging anyone from buying or selling their stake in Ezra.

1) Fleet Expansion and Fund Raising - Ezra plans to continue to expand its fleet to take advantage of buoyant conditions within the oil and gas sector. They have already ordered two 30,000 bhp AHTS for deepwater exploration, a second pipe-lay barge and a multi-functional support vessel (MFSV). It was mentioned that the Group has the option to purchase 7 more MFSV and that this option will be exercised before the end of 2007. Since one MFSV costs S$162.4 million, this would imply that 7 more would cost close to S$1.14 billion ! Mr. Lionel Lee (MD of Ezra Group) had mentioned that the Group will be spending close to US$1 billion from now till FY 2010 to expand its fleet, but he did not give details on how this was to be funded. One option I can think of offhand is for EOC Limited to do fund-raising exercise through the issue of new shares of EOC Limited, thereby diluting Ezra further but in the process raising enough capital to take over the new assets. Similarly, Ezra itself could also draw down more debt or issue new shares in order to raise funds from the capital markets here in Singapore. Another attractive option would be to engage in yet another round of sale-and-leaseback transactions for the newbuild vessels, which was the asset-light method employed by Ezra that enabled it to grow its fleet from FY 2003 till now.

2) Fabrication work to be undertaken by Saigon Shipyard – Ezra is now expanding its scope of business by venturing into the platform fabrication business spearheaded by its 100% owned HCMC Logistics Pte Ltd, which owns Saigon Shipyard in Ho Chi Minh City, Vietnam. On October 16, 2007, the Group announced that the shipyard had won US$130.2 million worth of contracts. Mr. Lionel Lee expects that this area of business could potentially generate “S$150 to S$200 million worth of revenues” by FY 2009, but conceded that margins were lower as compared to their more lucrative vessel chartering business. With the recent contract win, HCMC Logistics seems poised to capture more contracts in future and generate higher value for the Group. Separately, it was also revealed that another shipyard was being built and readied at Vung Tau (a 2-hour drive from HCMC) to handle the additional capacity as the Saigon yard would be running at full capacity by FY 2009. There is much optimism from myself that this area of business could potentially contribute more recurring cash flows for the Group to fund their working capital requirements.

3) Clinching of more FPSO deals – EOC Limited’s other growth driver will be the clinching of its second FPSO deal, after the Group became the first Singaporean company to manage an FPSO. The company is looking to add one new FPSO to its fleet per year and according to The Edge Singapore, they are currently bidding for such contracts worth S$1.18 billion. If they manage to clinch one in FY 2008, delivery will most likely be in late FY 2009 or early FY 2010 (recall that they announced their first FPSO in late CY 2006 and it will only be delivered in 2H FY 2008). Though financing it will be an issue, albeit not a very worrisome one as EOC can raise its own capital in Norwegian markets, the earnings accretion for the Group should still be significant even if it only owns 48.9% of EOC Limited.

4) Charter Rates for Deep-water vessels – Charter rates are projected by Mr. Lee to be on an uptrend for deepwater vessels as there is currently a shortage and the first few such vessels will only be delivered in FY 2009. He predicts that demand will outstrip supply and therefore gross margins should be very good when these vessels are delivered to Ezra.

5) Role of Ezion Holdings – Up till now, the exact role of Ezion Holdings in Ezra’s game plan is still unclear. The question is how is this little-known company going to create synergies for Ezra’s core business; or will it be used to undertake other forms of work which EOC or Ezra will contract to it ? Hopefully, more will be revealed soon.

The next update from Ezra should come when there is more news of the bonus issue and/or dividend payment dates. Also, the Annual Report can be expected some time in December 2007 as well as the AGM.

Sunday, October 21, 2007

The Uni-Asia Fiasco

As many market watchers and investors would know by now, the company Uni-Asia is currently in the middle of an investigation by SGX, brought about by 33 retail investors who stormed towards SGX to complain about possible share price manipulation. This action is unusual in that there have been previous cases of share prices soaring and crashing within weeks for no apparent reason, yet somehow, for this case a group of people actually stepped forward to protest ! So what’s going on actually and what can we learn from this incident ?

First, the background scoop on the company. Uni-Asia is a company an Asia-based structured finance arrangement and alternative assets direct investment firm. The company provides transport-related finance arrangement and investment/management of alternative assets such as ships, distressed assets and real estate. In other words, this is a finance company which earns income based on returns from asset investments and divestments. It is not in a “sexy” industry and neither does it have a compelling growth story; but it does have pretty high margins of abut 50% when I reviewed the IPO prospectus prior to listing. Still, with no definite growth prospects, I had a desire to monitor the company first to see what it planned to do post-IPO.

Suffice to say that Uni-Asia made a relatively lackluster debut on SGX, dropping at one point to 50 cents versus its 55 cent IPO price. However, in the recent 3 weeks or so, the price (for apparently no reason at all) skyrocketed nearly 400% to a high of about S$2.79, then crashed about 30-40% to the current S$1.59. SGX had queried the company on two occasions regarding the surge in the share price, but of course the company replied in the negative because after all, they were NOT the ones trading their own shares, but rather institutional investors, retail investors as well as brokerage firms. Investors and punters were totally in the dark about what was happening, and someone even asked me on another forum a week ago (before the crash) what I thought about the company and its share price. Lacking suitable catalysts, I replied that this kind of “greater fool game” was bound to end someday and the price would crash. Sure enough, brokerages such as Kim Eng and CIMB GK Goh started to institute trading curbs to control speculation in the counter, causing a massive crash of 60 cents in a single day ! Subsequent to that, the share price has lost nearly 50% of its value from its peak, leaving many punters and speculators with massive losses.

There are several points to note in this entire fiaso:-

1) Brokerages seem to have an amazing amount of “control” over trading curbs and one trader even commented that this was standard practice for counters which have been traded to “speculative proportions”. Brokerages are thus assuming that they know best and that such trading curbs will reduce volatility in prices and “force” people to think of why they are buying into a company in the first place. Thus, it seems that investors will be left to their own devices when such fiascos break out.

2) SGX has the “normal” practice of querying a company when its share price goes north too suddenly or rapidly. This is standard procedure on the part of SGX and is part of its corporate governance code but usually, such queries do not lead to any form of enlightenment of information for the retail investor. The companies concerned are in the dark about their share price (which they should rightly be) and no one wants to take the “blame” should anything bad occur. Regulators could do more to come up with more stringent procedures to ensure there is no price manipulation or insider trading. At the least, this issue should be discussed and debated amongst an expert panel to review existing procedures to see if they could be beefed up.

3) Finally, the burden lies on the retail investor himself to ensure that he is not paying for more than he can handle. As mentioned in a report in BT, most of those who complained were CONTRA TRADERS. Hence, they intended to make money from price movements within the T+3 period without having to cough up capital for their shares. Such speculative and dangerous practices should be labeled as highly risky, thus these “investors” should not cry and complain when prices suddenly slump. I had warned of the many dangers in engaging in contra trading, even during a bull market when any share you buy seems to be rising. A further point is that it was mentioned that some of these “investors” were on margin, and any further drop in price may render them bankrupt. This is another point I cannot stress further; do NOT gamble on margin for contra purposes ! It’s like you already stab yourself in the foot (by doing contra), and now you proceed to take a gun and shoot yourself further in the same foot (by using margin to contra). It’s double damage when the price suddenly plunges, and can leave a speculator licking his wounds for many months of years to come.

Comments will be welcome regarding this highly controversial saga. I think we will soon see more news on Uni-Asia in the coming weeks before the curtain is finally closed on this drama.

Friday, October 19, 2007

Ezra – FY 2007 Financial Results Analysis (Part 1)

On October 16, 2007, Ezra reported their FY 2007 financial results for the year ended August 31, 2007. I shall split my analysis of Ezra’s financials into two separate postings, namely one focusing on the Income Statement and Balance Sheet while the other posting will concentrate more on the Cash Flow Statement and future strategies and prospects of the Group. A brief analysis of EOC Limited’s (listed on Oslo Bors) results will also be done in due course.

Income Statement Analysis

Please refer to the table below for a summary of the salient points within the Income Statement:-

As can be seen, revenues surged 98.3%, mainly due to contributions of 12 months from 3 AHTS Lewek Stork, Lewek Snipe and Lewek Heron and one AHT named Lewek Ruby. The inclusion of a few months of operation of 7 new AHTS had also boosted up revenues for 2H FY 2007. On the EOC side, revenue contributions came from a few months of recognition of Lewek Chancellor (Accommodation barge), Lewek LB1 (Launch Barge) and Lewek Champion (pipe-lay barge). Since Ezra has now sold off 51.1% of EOC Limited, the profit contributions from the barges and the future FPSO will only be limited to 48.9% and will be equity accounted for as “share of profits from associates”. Since only a few months of profits were recognized for FY 2007, coupled with the fact that the new FPSO will come on board in FY 2008, the impact to profits from the sale of 51.1% of EOC should not be material (incidentally, this was also mentioned by Mr. Tan Tat Ming during the EGM but I now understand it more fully). Revenues from the Marine Services division also increased due to increased activities in engineering and contribution from Ezra’s 100%-owned subsidiary Saigon Shipyard. With the clinching of contracts worth US$130.1 million, this division is set to grow even more in FY 2009 and beyond (more on this in a separate posting).

Gross profit margin had fallen from 36.6% in FY 2006 to 34.9% in FY 2007, which represented a 1.7 percentage point decrease. This was due to some third-party charter of fabrication and construction expertise as Ezra’s Saigon Shipyard is not fully operational till FY 2009. Other than this fact, gross margins should have stayed fairly constant, which implies that all Ezra needs to do is to ramp up their top line in order to increase their gross margin by the same %. Mr. Lionel Lee had projected that day rates for charters of deepwater vessels would be on an uptrend as these vessels are in great demand (with short supply) and there are very few new vessels of such builds (i.e. 27,00 bhp and higher) in the market currently. The increased day rates would be a positive catalyst for the Group to improve their gross margins even further. Also, once Saigon Shipyard is fully operational, margins will start to improve as the Group is able to deliver the entire value chain by vertically integrating their operations.

Exceptional items made up quite a large chunk of the net profit of the Group, and must be removed in order to get an accurate representation of the Group’s performance with respect to recurrent net profit. After stripping away the exceptionals, it appears that Ezra’s core net profit grew about 42.5% from S$24.2 million to S$34.5 million. While this may not sound very impressive, remember that most companies can only manage to consistently increase their bottom line by about 20-30%; also, Ezra has only recognized a few months of contribution from the larger vessels such as the pipe-layer and the accommodation barge. In addition, their largest asset to date (Lewek FPSO 1) will only come on-stream in FY 2008 and begin contributing about half a year’s worth of revenue and profit for FY 2008 (through 48.9% owned EOC Limited). As long as there is consistent recurring profit growth of at least 20-30% per annum, I will be satisfied as a shareholder. Of course, Management must also endeavour to increase gross margins and reduce operating expenses all the time in order to achieve even better net profit margins.

Taxation increased by a whopping 340% mainly due to taxation of an overseas subsidiary (I suspect this refers to Saigon Shipyard as it has recently started contributing to the Group’s bottom line). The other vessels are operating in international waters and are only subjected to withholding tax.

Balance Sheet Review

A quick glance reveals that available-for-sale investments amount had increased by nearly ten-fold from S$10 million to about S$102 million. Recall that on April 10, 2007, Ezra acquired a 21.83% strategic stake in SGX-listed Ezion Holdings (formerly Nylect Technology Limited). This was made up of 50 million shares at S$0.331 each for a total of about S$16.55 million. By right, Ezra should equity account for Ezion in its balance sheet as investment in associated companies; but it could also be classified as available-for-sale if it is meant to be a long-term investment (as opposed to held-for-trading where marked-to-market gains have to be taken to profit and loss account). As at the balance sheet date of August 31, 2007, Ezion’s closing price was S$1.91, effectively valuing Ezra’s stake in the company at S$95.5 million. This may be the reason for the almost ten-fold increase in AFS investments.

Current ratio stands at 1.43 for FY 2007 as compared to just 1.16 for FY 2006. This is mainly due to increases in assets held for sale and also the addition of the assets of EOC Limited (which have been classified under a separate category of “disposal group assets” due to Ezra’s disposal of its 51.1% interest). The MD did mention in an interview that the Group was planning to make capex of up to US$1 billion in the next 2-3 years; thus Ezra needed a strong balance sheet moving ahead in order to successfully carry this out. Excluding EOC’s assets, current ratio would only be 1.13 for FY 2007, comparable to that of FY 2006. However, after the unlocking of value from EOC Limited, this should increase the current ratio significantly and help to reduce gearing further. Debt-equity ratio stood at 0.9 times before the disposal of EOC and is set to be reduced further to 0.5 times in FY 2008. Note: the impending sale of their 3 million treasury shares (at a minimum price of S$5.60) should also provide a small boost to their current assets and can be used for working capital requirements.

In Part 2 of my review, I will comment on the Cash Flow Statement as well as Ezra’s future plans and strategies for growing their business. Hopefully, the company can come up with some presentation slides which will assist me in analyzing their strategies ! Also, I plan to do a review of EOC Limited’s financials and future plans but this is tentative at the moment.

Thursday, October 18, 2007

The Folly of Target Prices

Looking at the dearth of analysts reports being churned up daily, one can only wonder about the accuracy of such forecasts and predictions. I had commented once before previously about the utility and usefulness of analyst reports, since most of the time brokerages are being paid to produce churning in shares. Remember that the more churning of shares there is (i.e. frantic buying and selling, contra, short-selling and punting), the more money brokerages (not the retail investor !) will make. Brokerages thus have a vested interest in writing such reports, even though on the surface it would seem that they are "helping" investors by recommending what to buy and sell.

What I must add is that the analysts themselves are not to be blamed; most of the time they take instructions from their bosses who are eager for a report to be written so as to “promote” a particular company. This in turn can create an “avalanche” effect as other brokerages also jump on the bandwagon to issue reports on the same company, thus creating a domino effect on prices. For better or worse (usually worse), punters and speculators will jump on every newly released report as a sign that it is the “next hot tip” and that the stock will either move up or down by 10-20%. Exacerbating this problem is that fact that almost all (95%, with the exception of some OCBC) research reports come with target prices for companies.

What is my issue with target prices ? If you noticed for my previous postings, I do not mention or bother about having target prices for the companies I own. A business is dynamic by nature and the concept of having a target price simply implies that there is already a set PRICE at which one has targeted to sell, which actually contravenes value investing principles. Recall my previous posting about “Knowing When To Sell”, where I mentioned that a value investor would sell under four stringent conditions involving the judgement of the intrinsic value of a company, or if fundamentals were eroded to such an extent that no margin of safety exists. The very act of setting target prices for buying and selling seems to imply that the reports are heavily price-driven, instead of being driven by the underlying fundamentals and prospects of the company.

This is the chief reason I do not bother about target prices for selling or exiting an investment. If one has intimate knowledge about a business and knows the future potential of a company within an industry, the cue to sell would only come from a slowdown in the industry (an erosion of fundamentals) or an errorneous judgement call with respect to the intrinsic value of a promising growth company. After all, the intrinsic value of a company changes almost daily as business activities within the company are in constant motion and change, so how can one comfortably settle on a price for a company on any given day, let alone a “one-year price target” preached about by so many brokerage firms ? The entire world out there is so price-centric that most people would rather ask about a company’s share price BEFORE asking about the company’s principal business, target customers and profit margins. It is this pervasive and persistent focus on price which we have to avail ourselves of before we can drill down into the true value of an outstanding business; as value investors we should strive to be business analysts, and not price analysts.

Thus, one should look at analyst reports for the possible insight into the business fundamentals and assumptions used by the analyst in projecting earnings flow. Since analysts do have better access to company resources and can meet up more regularly with company Management than the average retail investor, this does give them more insights into the business and latest assertions made by Management. All one needs to do then is to ignore the target prices set by analysts and absorb the facts; this will then make reports useful and eliminate the price-centric bias.

Monday, October 15, 2007

Mid-October 2007 Portfolio Review

I took the opportunity to avail myself of a non-performing company which was originally purchased based on the “turnaround” theme. The company in question is Global Voice and I am happy to report that it no longer takes a place in my portfolio as I had sold it off at 17 cents on October 3, 2007, incurring a loss of about 4.2%. This coincided with Global Voice’s announcement that they were issuing EURO 35 million worth of convertible bonds, and I had written in a separate posting how this was likely to adversely affect the cash flows for the company, thus making it the last straw for me to sell.

The STI continues to make new highs, even briefly touching the 3,900 point mark before retreating. SGX has unveiled a new set of 30 stocks comprising the new, revamped STI (in collaboration with FTSE) which will be implemented on January 1, 2008. In addition, there will also be new indices for China stocks, oil and gas and mid-cap, to name a few.

Below is the summary of my investments and related news as at October 15, 2007 (STI at 3,862.02 points):-

1) Ezra (Vested since October 6, 2005) - Buy Price $1.30 (bonus adjusted), Market Price $6.90, Gain 431%. On October 1 and 5, 2007, Ezra announced the successful sale of 51.1% of EOC Limited (including April 2007’s sale), leaving Ezra with only 48.9%. They will thus equity account for EOC’s results from FY 2008 onwards and this is in line with their practice of being asset-light. The proceeds from the sale will be used for vessel fleet expansion, working capital, acquisitions as well as a dividend to shareholders. Ezra are due to report their FY 2007 results on October 16, 2007 (Tuesday) after market close. I will be doing a review of their results about 2 to 3 days after the release, in order to compile the information and analyze the numbers.

2) Boustead (Vested since September 13, 2006; averaged down November 13, 2006) - Buy Price $1.295 (average), Market Price $2.38, Gain 83.8%. There was no news from Boustead in the half-month ended October 15, 2007.

3) Swiber (Vested since February 14, 2007) - Buy Price $1.01, Market Price $3.80, Gain 276.2%. Swiber had announced more details of their sale and leaseback on October 1, 2007, in which US$95 million would be received in cash progressively and the company will book in a gain of US$33 million which represented the excess of proceeds over book value of US$62 million. The disposal needs to be approved at an EGM to be held at a future date. My previous posting also mentioned that the Group had purchased 4 new vessels (2 subsea and 2 10,000 bhp AHTS) in an effort to expand their capabilities into deep-water. The vessels will be delivered between 4Q FY 2009 and 1Q FY 2010.

4) Suntec REIT (Vested since December 9, 2004) - Buy Price $1.11, Market Price $1.91, Gain 72.1%. There was no further news on Suntec REIT besides the fact that the resolutions were approved at the EGM held on October 8, 2007.

5) Pacific Andes (Vested since March 29, 2006; Rights Issue July 11, 2007 at S$0.52 per share; averaged down August 17, 2007) - Buy Price $0.655 (rights-adjusted), Market Price $0.835, Gain 27.5%. On October 10, 2007, China Fishery announced the acquisition of a 7th fishmeal processing plant in Chimbote for US$15.3 million. This plant can process 60% steam-dried fishmeal and 40% flame-dried fishmeal and will increase the Group’s total fishmeal processing capacity to 549 tonnes per hour. The acquisition will be funded from the proceeds of the senior notes due 2013.

Overall Portfolio

My overall portfolio has increased by 146.9% from an adjusted cost of S$43.2K (less the cost of Global Voice) as at October 15, 2007. The market value of my portfolio is about S$106.7K and unrealized gains total S$63.5K. Realized gains have dropped slightly to S$3.94K to reflect the realized loss taken on Global Voice.

Comparison against STI

The STI was 3,037.74 on January 3, 2007. It is currently at 3,862.02 today, representing a gain of 27.1%.

Adjustment of cost to ensure consistency of comparison – My cost and market value were S$33.9K and S$46.0K respectively as at Jan 3, 2007 while my current adjusted cost (after selling Global Voice) is about S$43.2K. Thus, I will adjust the market value of my holdings as at Jan 3, 2007 according to the % difference in cost in order to ensure a fair comparison. After adjustment, the new market value will be about S$58.6K. The market value of my holdings as at today is S$106.7K. This represents an increase of about 82.1%.

Thus, as at Oct 15, 2007, my portfolio has risen by a gain of 55 percentage points higher than the STI.

My next portfolio review will be on Wednesday, October 31, 2007 after market close.

Sunday, October 14, 2007

Swiber – Acquisition of 4 New Vessels for US$108 Million (An Analysis)

Swiber had, on October 11, 2007, announced the acquisition of 4 new vessels from Thaumas Marine Ltd through its wholly-owned subsidiary Kreuz Engineering Limited. Two of the vessels are subsea support vessels while the other two are deepwater 10,000 bhp AHTS. The total cost of the vessels comes up to US$108 million and the vessels are expected to be delivered between 4Q FY 2009 and 1Q FY 2010. The cost, however, does not include any equipment which Swiber may retrofit or install on to the vessels once they are delivered, which means the potential cost of getting the vessels ready for EPCIC projects will exceed the stated US$108 million.

The important thing to note about this latest corporate move by Swiber is that this acquisition cements their entry into a whole new market segment; one which is served by deeper waters and subsea activities. These support vessels can further complement and support Swiber’s EPCIC activities in order to perform hardware installation and inspection, repair as well as maintenance. Various enhancements and sophisticated technical aspects on the new subsea vessels such as SAT system, Class 2 DPS and a working monopool (heck, I don’t know what this all is, but it sounds impressive !) all are supposed to add value to the vessels and enable them to command a premium when used for EPCIC activities. This should enable the Group to bid for higher-value EPCIC projects and also to improve gross margins as they can reduce reliance on third-party chartering of subsea vessels. The deepwater vessels, on the other hand, will be available for oil and gas companies for use in their deep sea operations; but the company does not elaborate on what kind of operations this will entail. More clarification is needed on what the deep water AHTS are for, in terms of whether they are used to complement their EPCIC activities or used merely for charter income.

Mr. Raymond Goh succinctly captured Swiber’s prospects for the future by commenting that the expanded fleet (along with the associated new capabilities and enhancements) would give the Group a strong competitive edge as a leading, niche provider to the oil and gas industry. Recall that there is no direct competitor within the South-East Asian region doing EPCIC works and even though it is known that there is one player in India, they are not scaling up their vessel fleet significantly enough to pose a serious threat. Regarding his further comment about “revenue synergies and growth potential”, I would hazard a guess that he is referring to stronger revenues from bidding for higher-value EPCIC projects. It was previously communicated that Swiber is currently mulling over EPCIC projects in excess of US$500 million, but this was dismissed by myself in an earlier post as Swiber had neither the fleet nor technical capabilities to handle such a massive project. Now, it appears that they are gearing themselves up for this eventuality and it may be in FY 2009 that we see such a large project coming on board.

To give a quick recap, below is Swiber’s expanded vessel fleet consisting of their second (and sustained) fleet expansion intiative:-

One main concern which I have is how the Group plans to finance these purchases and whether they have raised enough cash. To give a quick rundown of the costs required in order to expand their vessel fleet, please see the following bullet points:-

a) August 30, 2007 – Acquisition of 4 vessels (1 submersible barge and 3 accommodation barges) for US$70.6 million;

b) September 6, 2007 – Purchase of Derrick Crane for US$53.13 million;

c) October 11, 2007 – Acquisition of 2 subsea vessels and 2 10,000 bhp AHTS for US$108.0 million.

The total consideration of these vessels amounts to US$231.73 million. Referring to my posting on September 5, 2007 on Swiber, I had computed that the first sale-and-leaseback, private placement of 55.35 million additional shares and the inaugural bond issue under their S$300 million MTN program would generate about US$238.1 million. The second round of sale-and-leaseback will bring in cash of US$95.0 million, thus the total cash inflow now from these 4 financing activities is around US$333.1 million, which is about US$101.37 million in excess of their current requirements. Under the MTN program, Swiber has already drawn down S$108.5 million, leaving another S$191.5 million (about US$130.7 million at 1 US$ = S$1.465) yet to be utilized. Thus, Swiber’s potential cash inflow could be a total of US$463.8 million. This would give them a an additional US$232.07 million more cash to place orders for further vessels, which implies that they are only 50% into their ordering of new vessels to scale up their fleet.

It must be noted that the above projections do not account for the fact that increasing gearing may also have further adverse effects such as higher interest expenses. Another point to note is that the US dollar is depreciating and this would affect the amount of US$ they can raise via the MTN program. Underpinning all this aggressive expansion is, of course, the hope that Swiber can clinch more and higher-value contracts in either Brunei, Vietnam or Indonesia (where they recently incorporated a new company PT Swiber Offshore). More sophisticated vessels and an expanded fleet also hint at better gross and net margins for the company which should crystallize in mid to late 2008 through FY 2010.

The company is expected to release its financials for 3Q 2007 in mid-November 2007. Catalysts for further growth would include new contract wins in countries which Swiber does not have a foothold and the order of new vessels to strengthen their fleet; as well as the hiring of more experienced senior management to helm the different business units of the Group.

Friday, October 12, 2007

China Fishery – Acquisition of Fishmeal Plant in Chimbote, Peru

On October 10, 2007, China Fishery (for which Pacific Andes now owns 63.9% of) announced the acquisition of their seventh (7th) fishmeal processing plant in Chimbote, Peru for US$15.3 million. The Group already has two other plants in Chimbote but this is the first plant which is capable of processing both steam-dried and flame-dried fishmeal within the same facility. This would prove beneficial in terms of efficiencies and economies of scale. The plant has a processing capability of 103 tonnes per hour, for which 60% is for steam-dried fishmeal and 40% is for flame-dried fishmeal.

Steam-dried fishmeal is considered a higher quality product than the flame-dried variant (this could be because of the way it is prepared ?); thus it can command a higher market price, which implies higher margins. The fact that the new plant is 60% dedicated to steam-dried fishmeal is comforting and shows that Management was looking out for this factor when considering the acquisition. According to the press release, producing steam-dried fishmeal is also more energy-efficient and thus will lead to better cost savings as well as environmental benefits. The acquisition will increase CFG’s fishmeal processing capability to 549 tonnes per hour, of which 220 tonnes will be exclusively for steam-dried fishmeal. Since these offer higher margins, I expect the Group to gradually shift production towards this higher margin product in order to boost earnings.

The plant also contains a cannery (for canning the fishmeal), an ice plant and 44,500 square metres of ocean-front land for future expansion. The last point is important as it allows the plant to be expanded and extended in future, in case the production volume for fishmeal needs to be ramped up. With this acquisition, the time taken for the fishmeal to be brought to the coast for unloading by trawlers and vessels can be reduced as CFG already has 6 fishmeal plants along the coast. This reduction in turnaround time means that the trawlers and fishing vessels can be put out to sea more quickly in order to improve their catch; and it will help to optimize the supply chain. Chimbote, being the largest fishing port in Peru, will help to aggregate and consolidate the Group’s resources and assist in achieving better economies of scale.

The Group is currently looking out for more plant acquisition opportunities and leasing opportunities in order to scale up their operations more effectively. Currently, CFG already owns over 5% of the total vessel capacity available to the industry. If the Group makes more meaningful acquisitions, it can serve to improve margins significantly, in addition to CFG’s current refurbishment of the super-trawlers to elongate them (so as to increase their hold capacity).

PAH is set to benefit directly from this acquisition as they now own 63.9% of CFG. The financial results for 1H FY 2008 should be out by mid-November 2007.

Tuesday, October 09, 2007

Knowing When To Sell

I have been asked to blog about the above, therefore I shall devote this entire posting to the perennial question asked by almost all investors and speculators: “When Do I Sell ?”

For value investors, the answer is of course radically different as compared to a speculator/punter. Value investors research into the business of the companies they invst in and their role is to be a business analyst. Speculators, on the other hand, observe purely price movements and the psychology of the market and try to make money by “outsmarting” the pack. The modus operandi of the value investor and the speculator are different, thus each has different cues which will tell him when to sell. For the speculator, it seems simple enough; sell when your gain or loss has hit a certain % above or below your cost (respectively). This may be 10%, 20% or even 50% depending on one’s personal preference. Taking profit and cutting loss have almost the same rules for punters because they are usually short-term by nature; and some even engage in risky contra trading which makes this cut loss or take profit rule all the more crucial.

That is all I will be commenting in terms of selling for speculators. On value investing, an article on The Motley Fool sums up pretty well the reasons when value investors should sell. The article states: “Value investors sell for four basic reasons. The first case is where the investor comes to the conclusion that the initial intrinsic value estimate is flawed. Value investing requires intellectual honesty, and errors must be acknowledged early. The second reason to sell is when another, even better value comes along that requires some capital to be freed up. The third case is when the business fundamentals upon which the initial purchase decision have deteriorated to the point where there is no margin of safety in the current price. The final reason to sell is when the stock price has moved up to a point to where the business is being fully valued and no longer offers a margin of safety.” I will now explain each point in turn and give my own views on them, and see if they are applicable to any investments which I had sold recently.

1) Flawed Intrinsic Value Estimate – This reason would imply that the value investor had made incorrect or flawed assumptions regarding the business which he studied, to the extent that those errors now have a material impact on the intrinsic value estimate. It could also be the case where certain factors were overlooked while doing a detailed study of the company in question, and these omitted factors seriously compromised the margin of safety for investing in the company. One example I can think of is Trek 2000 International which I sold some time back. I had incorrectly presumed that the company had a wide economic moat with its many patents for its Thumb Drive, but technology which can rival or replace this would easily erode their competitive edge. Thus, as a result, I purchased without the requisite margin of safety.

2) Better Value Comes Along – This reason to sell obviously correlates to a situation where a value investor sees one of their companies being severely over-valued, while at the same time one which is significantly under-valued comes along. Suffice to say that the right thing to do would be to sell the over-valued company and purchase the under-valued one as it would provide margin of safety and also guarantee a good expected rate of return (which the over-valued company now does not provide). However, in reality, such situations rarely if ever arise and one’s timing, luck and circumstance must be impeccable in order to take advantage of such an opportunity (because as a whole, over-valuation usually occurs on a broad market level and is seldom confined to certain companies only. The converse is true for under-valuation in a bear market).

3) Deterioration of Fundamentals – This reason to sell is fairly common and will surely be encountered at least once (I think) in a value investor’s lifetime. We can use history to show how once strong companies succumbed to competitive forces and lost their competitive edge, causing revenues, margins and hence profits to fall. A good example is Creative Technology, which was recently excluded from the revamped STI (as well as the mid-cap stock index). During its heyday in the boom, Creative traded at a high of S$65 per share and was garnering the lion’s share of revenues for its world-beating Sound Blaster Pro. Now, the company has made 4 consecutive quarters of losses and its products (the Zen player) cannot compete effectively against Apple’s iPod and Microsoft’s Zune. For a value investor, this deterioration should best be detected early, otherwise the investor would suffer a large fall in the value of his/her holdings. This is why I advocate keeping close watch on a company’s plans, strategies, margins, earnings and industry to monitor for possible sighs of decline.

4) Fully Valued Business – I do not fully agree with this given reason to sell. How does one know when a business is “fully valued” ? I guess the best answer to that would be to say that the business has no prospect of growing at a rate higher than the inflation rate. This means that the business may be stagnant or stagnating, and the products or services offered by the company may be close to a decline (due to obsolescence). So maybe we should modify the reason to make it read “sell if you feel the business cannot grow faster than the current inflation rate”. Unless you are a value investor who goes for dividend yield (i.e. your investment turns into a “cash cow”, dropping from a “star”; according to BCG’s matrix) , it is advisable to sell and look for another potential company with a good margin of safety.

Keeping these 4 reasons in mind, a value investor should continually monitor the companies he owns to see if any of them are in “danger”. This would fit Benjamin Graham’s idea of an active investor; one who knows his investments well and puts in time and effort to maximize his investment returns.

Sunday, October 07, 2007

Personal Finance Part 3 – Property & Housing

Ok, first things first, I need to make a disclaimer: I am not an expert at property and am just a passive reader of news bits involving the current property cycle. My observations are purely from the perspective of a layman as I do not fully comprehend many aspects of the property market. The property boom is Singapore now is reminiscent of what happened back in 1994-1995 when prices were rising as well. Since value investing does not really incorporate real estate in its philosophy, I will attempt to discuss properties and housing more from a personal perspective.

I will concentrate my discussion more on HDB flats, as I own one myself. The broader aspects of financing and mortgage loan repayments is also applicable to other types of properties like freehold condominiums as well as landed property. Firstly, when one purchases a HDB flat, HDB will “wipe out” your entire OA balance as part of the down-payment for the flat. You can prevent the full wipe-out by channeling some of your funds into CPF-approved investments like unit trusts or equities; should you wish to retain some balance for future tiding over. This is something which many have to be wary about, because the sudden loss of your job or income generating ability (touch wood !) could hit one hard when the OA balance is swept clean.As for loan interest rates, HDB is granting a concessionary interest rate of 2.6% per annum, which is 0.1% above the prevailing interest rate on the OA. This has been kept constant ever since I obtained my flat in Jan 2004 and I hope they keep it that way for a long time to come ! It’s one of the cheapest loans you can get in Singapore, so for people who wish to opt out of the HDB loan and obtain a bank loan instead (for the lower first 2 years interest), please note that there is no way to “opt-back” into the HDB loan scheme (i.e. you are excluded forever !). Most local banks offer rates of up to 2-2.5% for the first two years, after which a floating interest rate applies which can go to as high as 4-4.5%.

The question of choosing one’s loan period is one of great importance. If you are just starting out to work and not earning a high salary, it would be advisable to take on a slightly longer loan (up to 25 years perhaps) to obtain a lower mortgage monthly payment. As you and your spouse’s salaries and income increase, the monthly repayment can be gradually increased in order to reduce the total loan period. I have found this to be a good method of reducing the loan period in a gradual manner, while saving on interest in future periods as well. Increasing the loan repayment amounts is much preferable to doing a lump sum repayment (on getting your bonus, for example). This can be shown using a loan amortization table (similar to a finance lease amortization table for those of you accounting-trained readers). This is illustrated as follows:-

Assuming a loan of S$250,000 with HDB concessionary rate of 2.6%. The husband and wife are both contributing S$500 each (S$1,000 in total) from their OA towards repayment of the monthly installment. Column A will represent the monthly interest on the principle (column D). Column B represents the repayment amount per month while column C is the net effect of the interest charged versus the repayment amount. Column D in the respective month will then show the new reduced principle amount of the loan for future periods, carried forward. I have only shown a sample of this table which can easily be produced using an MS Excel spreadsheet. If we extrapolate forward, it can be seen that this loan will only be fully repaid by July 2043 (which implies a total loan period of 36 years). Of course, this example is just illustrative as HDB only grants maximum of 30-year loans; but the idea is tweak the numbers to obtain the desired results. Just by changing the gal’s and guy’s contribution to S$1,000 each (S$2,000) in total, the loan period is drastically reduced to just 14 years (loan ending in October 2021).

One final point to note is to ensure you have sufficient balance in your OA to tide you over at least 6 months of installment payment (in case you are out of a job, for example). This means that bonuses (which increase your OA quickly as the full amount of CPF is credited to your OA, not limited to just 23% of S$4,500 per month).should be retained in order to tide one over for a rainy day, rather than being used as lump sum repayment. This is just a personal opinion though, one should tweak the spreadsheet according to his or her financial condition.

For more information on housing loan assistance, I would strongly recommend Mr. Dennis Ng of Leverage Holdings Pte Ltd. He has been giving financial advice and tips on Wallstraits forum for the past 5 years and has also been invited to write articles in BT and give talks on property loans. His website can be accessed here.

Friday, October 05, 2007

Ezra - Successful listing of EOC Limited on Oslo Bors

This evening, on October 5, 2007, Ezra announced that EOC Limited has successfully listed on the Main Board of Oslo Bors in Norway, becoming the first Singapore company to do so. Recall that on April 23, 2007, Ezra had initially sold off their 12% stake in EOC for US$43.3 million, trimming their stake from 100% (wholly-owned) to 88%. EOC was then admitted onto the OTC board of Oslo Bors at the time and plans were already underway to move EOC to the Main Board by the end of CY 2007. The intention of the sale of the 12% stake was to raise funds to expand Ezra's vessel fleet, and plans were already underway then to move the FPSO and the heavy lift accomodation barge to EOC.

On August 31, 2007, Ezra announced that they had obtained in-principle approval from Oslo Bors to upgrade EOC to the Main Board. At the time, Ezra had already expressed their intention to remain asset-light; thus hinting that they would reduce their stake in EOC to less than 50%. The purpose of the listing was to get a better valuation as Norway was the hub for oil and gas company listings. Also, being listed in Europe also allows EOC easy access to the capital markets there in order to raise funds for future expansion, and puts them closer to their target markets in North Sea, South America and West Africa. There were several requirements for EOC to move to the Main Board, which included drafting an approved prospectus as well as getting a suitable number of round lot holders who were retail investors (not institutional investors). All these conditions were easily fulfilled and on September 10, 2007, Ezra announced that it was planning to sell up to 40.1% of EOC in order to raise funds.

Subsequently, on September 20, 2007, Ezra sold off 36,413,500 shares in EOC (about 32.8%) at NOK 22 to instituional investors through a book-building process assisted by Pareto Securities. Another 7 million shares in EOC (about 6.3%) was to be sold to retail investors in order to satisfy the round lot holding requirement. This entire exercise raised proceeds of USD 177 million payable in cash. After this listing and vendor sale of shares, Ezra's stake in EOC will drop to 48.9%; thus in FY 2008 EOC will be accounted for as an associated company and no longer as a subsidiary.

The entire listing exercise from April 2007 till now raised a total of US$220.3 million (about S$323.8 million using 1 USD: 1.47 SGD). This is equivalent to about S$1.105 per share in cash and Ezra will deploy the funds for Ezra's fleet expansion, acquisitions, working capital as well as a dividend payout to shareholders. JP Morgan's report on Ezra on September 10, 2007 mentioned the possiblity of a dividend payout of up to S$0.48 per share assuming 50% of the proceeds from the listing were paid out, but this is purely an assumption was we do not yet know the working capital and capex requirements of Ezra as they move into FY 2008. When the CEO Lionel Lee mentioned acquisitions, I assume Ezra are on the lookout to acquire a company which has vessels and a presence in the North Sea, which is the market they are targeting to enter in order to compete with the larger players. However, also note that Management (comprising the Lee Family) currently hold about 35% of Ezra; thus a good dividend will also benefit them as it will be cash in their pockets. I strongly suspect that Ezra will make the dividend announcement during their upcoming FY 2007 financial results announcement due in mid to late October 2007.

One of the concerns regarding Ezra's listing of EOC and subsequent paring of their stake is that their earnings will suffer a drop, as EOC essentially is holding the major revenue-generating vessels such as the heavy lift accommodation barge and the FPSO 1. It is also uncertain as to whether the new vessels ordered by Ezra (the two 30,000 bhp AHTS and the 27,000 bhp MFSV) will be shifted over to EOC or retained by Ezra. If they are shifted over, then Ezra can only recognize 48.9% of the earnings from these state-of-the-art vessels. Once these questions are clarified (probably at the AGM), a clearer picture can then be formed of the earnings potential for Ezra moving into FY 2008 and FY 2009. I feel that short-term wise, we may see a dip in earnings but in the long-term, the earnings from the new vessels will catch up and still manage to outpace current earnings. Thus, it is more of a case of short-term pain in order to enjoy long-term gain. Readers who do not share my view are welcome to post their comments, I am happy to discuss it.

One last point about this whole listing exercise: EOC is now on the Main Board of Oslo Bors and this greatly enhances its ability to raise funds separately from Ezra (the parent company). Recall that on February 16, 2007, Ezra announced the placement of 15 million new shares of Ezra at a price of S$5.18 per share, effectively increasing the total issued share capital to 292.9 million shares and diluting existing shareholders such as myself. In order to avoid direct dilution to shareholders of Ezra in case more funds need to be raised via an equity offering, EOC can now raise the funds directly through the Norwegian market and it will be Ezra's stake in EOC which will be diluted; thus avoiding a direct further dilution for existing Ezra shareholders. EOC's successful listing in Norway's capital markets also significantly improves Ezra's profile and visibility in the international community and this is an added intangible benefit for the Group when it comes to bidding for charter contracts for its new vessels.

I will be providing a further update on Ezra when they release their FY 2007 financial results, as well as do a review and analysis of Ezra's numbers, prospects and future strategy for growing earnings.

P.S. - As of today, there is still no update on the proposed bonus issue. Perhaps Management is also waiting for the release of the financials to confirm the books closure date. Should there be any news, I will post it on my blog in a small column.

Thursday, October 04, 2007

Global Voice - Issuance of 32 Million Euro Convertible Bonds

I read with some amazement and trepidation the latest announcement by GV relating to their business expansion. They are issuing 32 million Euro worth of convertible bonds (CB) to "accelerate rollout of metro networks and associated services in London, Berlin and Munich". The interest rate on the bonds is 3%. They also need the funds to complete the commissioning of a datacentre in Amsterdam and another next-generation long-haul network in Germany. The conversion price for the bonds is S$0.191 (19.1 Singapore Cents). Recall that in April 2006, GV had issued about 35 million Euro worth of convertible bonds as well, with an interest rate of 3% payable semi-annually.

The question which begs asking is: why does GV need to raise so much cash in order to operate ? Recall that in the RTO of, GV had already purchased the entire metropolitan fibre network at a fraction of the original cost. In fact, one can say that GV had ownership of these assets, which they can subsequently deploy to generate recurring revenues. Back then, utilization rate was very low at 1-2% and it was touted that if utilization increased, then shareholders would see a dramatic jump in revenues, and the company would turnaround from the red. There was intensive coverage of GV during FY 2005 by CIMB and DBSV which promoted the company and said that the metropolitan fibre was about to "take off". Apparently, nothing much came out of it eventually as the company managed to report a loss during each half-year reoprting season. This is despite the fact that it was snaring more and more contracts on a regular basis and building up their customer base. I had highlighted this point before in my review on GV some months back when I analyzed their 1H 2007 financial statements.

So if one glances at the income statement for 1H 2007, it is glaringly obvious that finance costs have increased significantly, up a whopping 630% from 1H FY 2006 ! The announcement of another 32 million Euro worth of convertible bonds only serves to exacerbate the problem of high interest expenses as the interest paid in future years will almost double as compared with FY 2007. Don't forget that being convertible bonds, they also carry the potential to be extremely dilutive once exercised, and the conversion price is not all that far away from the current market price of around 17 to 17.5 singapore cents. A discerning shareholder should then wonder: why does the company need to raise so much cash if it has secured enough contracts over the last 12 months to sustain its operational cash flows ?

The amount raised is not small by any standards and would further raise their interest-bearing borrowings under long-term liabilities in the Balance Sheet to about 61 million Euro. Take a quick glance at the Cash Flow Statement from 1H Fy 2007 and one can see that the operations are not generating sufficient operating cash flows to enable the business to sustain itself, which is probably why they are doing a "fund-raising exercise" every now and then. They already have a 35 million Euro cash outflow for 1H FY 2006; now they are going to have another 32 million Euro outflow for 2H FY 2007 ? When will it end ?

Assuming that even if GV DOES have the means to sustain its operations through the generation of recurring cash flows from their key customers, remember that they still need to service the interest payments, and try to gradually reduce borrowings as well. This all seems like an uphill task for the company as they struggle valiantly to return to the black.

Finally, why are GV undertaking to invest in more assets to bolster their current network ? As I recall, GV already has their fibre network in the regions indicated in the press release, so why are they purchasing another datacentre and another network ? There is insufficient information given to shareholders as to what are the nature of the assets to be purchased, and how these will contribute to improving their value proposition and competitive advantage. This factor, coupled with the opaque reporting for each of their contracts, means that shareholders have no inkling on whether the company is managing to improve revenues significantly or slightly.

The announcement of the new convertible bond issue was the proverbial straw that broke the camel's back. I divested myself of Global Voice once and for all, and incurred a loss of 4.2% (excluding brokerage) on this "long-term" investment. Suffice to say that if I had done my proper due diligence initially when I considered this company, I would probably not have bought it at all. This is my worst investment mistake thus far as I have incurred a huge opportunity cost in locking up my funds in a stagnant company. I will be providing details of this mistake in a future posting under "Investment Mistakes".

Thus, my portfolio now contains only 5 companies; Suntec REIT, Ezra, Boustead, Pacific Andes and Swiber.

Tuesday, October 02, 2007

Paying Too Much for the Future

Weird title eh ? Well, actually this title signifies a person who chooses to put in too much of his money into a company when valuations are rich, thus ending up "paying too much". The problem, of course, is in ascertaining how much you should actually pay and how to avoid over-paying.

Let's start off with the basics: say I offer you a cheeseburger. How much will you be willing to pay for it ? $2 ? $3 ? Maybe even $6 if it was from Carl's Jr ? But would you, in your right mind, pay $20 for a single burger ? Not unless it's justified, you might tell yourself. The same thing happens in the stock market on a daily basis. A company is offering $0.10 per dollar of earnings but people somehow pay $0.20 or even more, not realizing that they over-paid. But wait, you again say, perhaps these people are paying for what the company will be worth in future ! Good point, but then how will we know what the value of the company will be in say, 2 to 3 years time ?

This is where value investing and using valuation methods come in. If we want to pay for future growth, we have to be sure we are paying a good price for it. Even for a good company like DBS, SIA or Cosco, one should NOT pay too much for a certain rate of growth; otherwise you will find that it will take years for the company's earnings to catch up with the price you paid. This is also one of the reasons why people start lamenting that they are not making money even though the company is fundamentally strong; this is because they paid too much for it in the first place !

In today's bull market, where the STI has breached the 3,800 mark, this warning will ring very loudly and serve as an alarm bell for people who may think of purchasing part-ownership of a company. Please do note that many analysts are using FY 2008 valuations to justify their target prices (some even use FY 2009 so they can come up with a more inflated number), and the prices they come up with can be based on very optimistic, idealistic conditions. Thus, as an investor, we should be wary of such assumptions and challenge them assiduously so that we do not end up paying more than we should. Business conditions can sometimes be very rough and unpredictable, therefore investors should take note that in the most optimistic projections, there are bound to be some possible misses in terms of revenue targets, profit targets and margin growth. This is part of the normal business cycle which all investors should think about.

So to avoid over-paying, we have to assess if the sustainability of earnings can be continued through into the future. This depends largely on how a company recognizes revenues. Be acutely aware that property companies tend to use % of completion method, oil and has chartering companies recognize revenue on a time charter basis while retail companies like Hour Glass and Sincere recognize revenue on an immediate basis (at the point of sale). One has to do a simple forecast (using a conservative net margin) to see how earnings will turn out in future periods. This will give a fair value for the company. Add in synergies in terms of JV, tie-ups and other beneficial arrangements and you obtain a rough intrinsic value. Make sure you purchase with a reasonable discount to intrinsic value in order to maintain a margin of safety. This ensures you do not "overpay" for the transaction, using a forward-earnings projection.

All I can say is, in today's market, there is hardly any margin of safety for any company on SGX. Therefore, I will sit, wait and build up my cash hoard in anticipation of the next major crash or correction. Patience will always reward the value investor; most people cannot resist the temptation to constantly buy and sell.