Thursday, November 29, 2007

Pacific Andes – 1H FY 2008 Results Review and Analysis (Part 2)

This is part 2 of my analysis of Pacific Andes’ 1H FY 2008 results. I will be analyzing and commenting on the Cash Flow Statement as well as the prospects and plans for the Group moving forward.

Cash Flow Statement Analysis

Pacific Andes generated a lot of cash inflows from operating activities for 2Q 2008, amounting to HK$856 million, as compared to a much lesser HK$255 million for 1Q 2008. This caused the net cash inflow for 1H 2008 to total HK$1.11 billion. However, this was still about 11.2% lower than the total 1H 2007 operating cash inflow of HK$1.25 billion. This was due mainly to the larger decrease in inventories for 1H 2007, lower trade receivables as well as an increase in bills receivable for 1H 2008 as compared to 1H 2007 which had a decrease (and hence recorded a cash inflow). As PAH scales up their operations in Peru, it is understandable that they have higher inventories and also higher trade receivables, thus causing a slightly lower net cash inflow. The interest paid was HK$173 million for 1H 2008 compared to HK$61.7 million for 1H 2007, a 180% increase; which was due largely to the increased amount of debt which PAH took on. Income taxes were also much higher at HK$33 million due to taxation on their Peruvian operations, all of which ate into cash flows. These 2 items alone accounted for nearly HK$144 million increase in cash outflows, which is more than the difference of HK$141 million between 1H 2008 and 1H 2007.

For investing activities, PAH had acquired property plant and equipment worth HK$364 million in 2Q 2008. However, the main cash outflow was the acquisition of additional interests in China Fishery Group Limited (CFG), effectively raising PAH’s stake from 28.8% to 63.9% currently. A total cash outlay of HK$2.22 billion was paid to acquire the additional interest in CFG. The goodwill recognized for this transaction was HK$2.11 billion, which will be reflected in the Balance Sheet. For 1H 2007, PAH had spent money acquiring PPE, investment properties and paying for charter hire of vessels. The total cash outflow for 1H 2008 was HK$3.32 billion, as compared to only HK$339 million for 1H 2007. I see this move as PAH crystallizing more value from CFG at a good price, thus the positive effects should only be felt some time in the future.

There was quite a lot of “action” within the cash flows from financing activities. For 1H 2008, PAH had a 1:1 rights issue at 52 cents per rights share, thus raising an amount of HK$1.78 billion. This resulted in the issued share capital doubling and caused dilution in earnings per share. However, the rationale for this exercise was to raise PAH’s effective stake in CFG so as to recognize more value from the fast-growing CFG. Thus, I do not expect the earnings dilution to be overcome so quickly. In fact, it will probably take at least half to one year before the increased earnings from their present 63.9% stake kick in to overcome the dilutive impact. Another positive note is that they have repaid more bank loans for 2Q 2008 amounting to HK$97 million. For 1H 2008, they had repaid a total of HK$255 million worth of bank loans, and I hope that their operating cash flows can continue to stay strong for them to gradually reduce their gearing, so as to also reduce their interest costs. A dividend was not declared for 1H 2008 as I believe the Group wishes to conserve cash; instead, a scrip dividend scheme was proposed to allow shareholders to choose between a share dividend or a cash dividend. More details on this scheme should be out in due course.

Prospects and Plans

PAH has plans to grow their fishing division through CFG, as this is the division which shows the fastest growth and most promise. In the fishing industry, getting access to more supply of fish is critical, as the industry is more or less dominated by a few major players and there are also quotas set on the amount of fishing allowed. By purchasing more purse seine vessels and securing more VOA, CFG and hence PAH can increase its fishing fleet and get access to more supplies of fish in order to expand the business. From what I read, PAH and PAIH have a leading position within the global seafood industry, and PAIH’s supply chain management provides fish for about 20% of China’s market, thus this makes PAIH one of the dominant players in the industry. With greater access to fishing vessels and by obtaining their third and fourth VOA, PAH and CFG can then grow their business further. Management should be on the lookout for more earnings-accretive acquisitions of vessels or fishmeal plants, as well as attractive VOA opportunities. These will be the catalyst to further grow the business.

Another aspect which PAH intends to improve on are its margins. CFG is currently upgrading its super-trawlers to increase hold capacity, and this can help to bring back more fish to process at fishmeal plants using the same vessel, thus PAH will benefit as well as it provides the supply chain management services for the fishing division. The upgraded vessels will also be used to hunt for Chilean Jack Mackerel, which is a new species PAH has not utilized yet. Other improvements on operational efficiency will also help to improve margins, and Management is actively working on this.

For 1H 2008, the Group acquired 16 vessels and 3 fishmeal plants in Peru. Another was recently acquired in Chimbote and was announced on October 10, 2007. This gives the vessels greater access to fishmeal plants to unload their catch so that they can be re-deployed to catch more fish.

For their frozen fish SCM business, PAH is working towards reducing chartering expenses by growing their own fleet of reefer vessels. PAIH is also working towards harvesting under-utilized species of fish in order to grow the Group’s product lines, and to avoid over-fishing for the more “popular” species. As such, the Group has also engaged a qualified international audit firm to audit its practices with regards to over-fishing, and so far the report has been positive on all aspects.

Note that PAIH has constructed a new processing complex in Qingdao, China which will be operational by December 2007. This is a 333,000 square metre sprawling complex with state of the art facilities and equipment, built at a cost of US$85 million (about HK$663 million). Once operational, it can greatly enhance the Group’s seafood processing capabilities and help the Group to attain new levels of efficiency and quality.

The future looks positive for PAH and CFG, assuming they can scale up the business and also maintain or improve their margins. The key risk is if they cannot secure more VOA or acquire more vessels in future, thus limiting their ability to grow their supply side. I will be awaiting PAH’s 3Q 2008 as well as CFG’s FY 2007 results, after which I will do another review.


Anonymous said...

hi musicwhiz

this stock is also mentioned by another value investor - prudent in WS forum and I was searching for good buys to rebalance my portfolio.

i am new to value investing and hope you could be kind and patient to advise.

it shows 2 divds payable each year. how can i calculate the dividend returns , say if i buy 5 lots ?

When does a share-buyback takes place in a company ? Is it compulsory or mgmt discretion ? Understand is a boost of confidence to investors. but should this be a criteria for value investors ?

At 0.605 now, could you advise what is the discount for consideration ?

Not vested at the moment.


musicwhiz said...

Hi there,

Add up the total value of the dividends per share for interim and final and take the total to divide by your purchase price. This will be your dividend yield. Market yield will be based on the last done market transacted price.

For share buybacks, the mandate has to be given at an AGM or EGM in order for a company to officially be allowed to buy-back shares. Management proposes it and shareholders have to approve it by voting. It is one of the criteria for evaluating a company but certainly not one of the more important ones, as growth and earnings visibility are more crucial in my opinion.

For Pac Andes, it looks like Mr. Market is giving a good price currently. This is just a personal opinion, and the usual disclaimers are attached.

Regards, Musicwhiz

java_funds said...

Hi MW,

looking fwd to your review of their latest nbrs. Being keeping this one on my watch list and seen its price climb from 45 cts. However, remain hesistant becoz of its high debt. Hopefully your upcomign review can clear my doubts.