Wednesday, June 18, 2008

Pacific Andes - FY 2008 Financial Review and Analysis

This review and analysis was long overdue, I admit, but analysis takes time and I did not want to do an analysis that was too short and shoddy in case I missed out something important. As it is, there was recently an interview with Pacific Andes where CFO Dennis Chan gave updates on PAH's plans for CY 2008 and on how to tackle rising costs. More on that later.

Profit and Loss Analysis

For FY 2008, revenues were 32% up from HK$5.3 billion to HK$7 billion, while cost of sales only increased 26.3% from HK$4.3 billion to HK$5.5 billion. This reflects better efficiencies which PAH was able to employ in their operations, and gross margin improved from 17.8% in FY 2007 to 21.6% in FY 2008. However, selling and distribution expenses rose significantly (by 214%) as a result of higher expenses incurred in selling fishmeal and also PAH's expanded operations. Finance costs also ballooned to HK$402 million (up 76%) due to additional bank loans taken (HK$1.1 billion), coupled with the senior notes and convertible bonds.

As a result, net margin after tax for FY 2008 was 11.8%, when it could have been higher if not for the increased expenses. Still, it was better than FY 2007's net margin of 10.6% (after removing the exceptional item HK$385 million on gain on dilution of a subsidiary). Net profit after tax increased by 47.1% from HK$561 million to HK$826 million, reflecting the increase in business activity as PAH and CFG expanded their operations into Peru and into the fishmeal business in CY 2007. Profit attributable to equity holders increased by 25.2% to HK$481 million, and a dividend of 2.07 Singapore cents per share was declared. At my purchase price of 65.5 cents, this represents a yield of 3.16%.

Balance Sheet Review

For the balance sheet, the most obvious sign of PAH's increased operations is the increase in fixed assets to HK$1.6 billion, up from HK$864 million a year ago. This ws due to CFG acquiring 3 fishmeal plants and 11 additional purse seine vessels, plus the supply chain management division acquiring 2 reefer vessels to increase transportation efficiency.

Current ratio for March 31, 2008 stood at 1.52 versus 1.91 for March 31, 2007. The decrease was mainly due to higher short-term borrowings for PAH, increasing from HK$1.25 billion to HK$2.48 billion. Signs of increased borrowing are not always positive but as the (fishing) industry is capital intensive, I see it as a necessary evil for PAH to borrow so extensively. Whether or not this makes commercial sense, only time will tell and it also depends on Management's ability to utilize assets to generate more cash and earnings. A check on quick ration showed that it had dipped to 1.23 from 1.51 a year back. Cash position had improved slightly but this was mainly due to cash generated from financing activities, which means FY 2008 is a year of "borrowed money". Let's hope FY 2009 will see more cash flowing into the company from operations and investments, rather than financing.

Cash Flow Statement Review

Cash inflows from operating activities was weak at only HK$103 million, compared to HK$436 million a year back. This can be attributed mainly to the high finance costs paid for and much higher income taxes due to operations in Peruvian waters. As a result of this, there was substantially less operating cash inflows, and I hope this situation will improve when PAH releases their numbers for 1Q 2009.

Most of the cash outflow for investing activities went to acquire the additional stake in CFG, upping it from 28.8% to 64.1%. The company paid HK$2.37 billion for their increases stake in CFG. Seems expensive, until you realize that a lot of the value had crystallized from CFG into PAH as a result of the stake increase; and I think there will be long-term benefits coming from this increase in stake. Though of course the question remains whether PAH paid too much for their stake in CFG !

For financing activities, most of the cash came from 3 sources: proceeds from issue of convertible bonds, proceeds from 1:1 rights issue and additional bank loans taken up. This resulted in a net cash increase of just HK$53 million, and PAH are cutting it pretty close by raising just enough money for operations and investment. Since the acquisition of increased stake in CFG is a one-off event, I am not worried about future cash outflows to the tune of HK$2 billion ! Let's hope the company can manage to generate more free cash flows in time to come.

Prospects and Plans

PAH has highlighted several initiatives to grow revenues and to diversify its revenue stream moving into FY 2009. One of these is to deploy 2 additional reefer vessels to improve efficiency and increase performance, another is to send 3 upgraded supertrawlers to South Pacific Ocean for the fishing of new species, to be shipped to new markets. In the XFN interview with Mr. Dennis Chan on June 16, 2008, he mentioned that the aim of this deployment would be to ship 60,000 tons of Chilean Jack Mackeral to Nigeria (Africa). Africa would represent a new market for PAH but there are currently no plans to ship this species to China.

Rising fuel costs were cited as a major concern for PAH as their vessels and trawlers use fuel extensively to fish. I expect increased fuel costs to negatively impact margins in the next few quarters, with the result being a possible dip in earnings as the increase in revenues may not be able to fully compensate for the increase in cost of sales as a result of increased bunker costs. Assuming Management can control selling and admin expenses, net margins will probably dip and PAH may report lower earnings in the near-term. However, a long-term view of the business should see it sailing through the rough patches as it extends its footprint.

Mr. Chan also did not rule out potential future acquisitions within Peru as the fishing industry there is still very fragmented (he did mention this during the CFG AGM back in April 2008). PAH has managed to increase catch volume at Peru and Alaska, its 2 key fishing areas. Mr. Chan also alluded to the fact that PAH will have a "significant share" in the global catch of anchovies and Alaskan Pollock, though he did not provide further disclosure due to confidentiality reasons. I would conclude that it is prudent for one to be cautiously optimistic of PAH and CFG prospects, amid a high inflationary environment and high fuel costs.

8 comments:

la papillion said...

Hi mw,

Learn a few things from your analysis. Most notably is to analyse cash flow, which is never my strong points.

A small point to make: Under balance sheet review, there's a spelling mistake on the 3rd last line of the 2nd paragraph - 'A check on quick ration showed...' - ration should be ratio.

I realised I'm not very interested in fishes/ships, hoho!

java_guru said...

MW,

just an objective observation of your writeup, you use quite a few 'I HOPE' blah blah... indicating an extrapolation rather than a retrospective review of performance.

Also, the massive oil spike should not be underestimated. A highly leveraged biz in an env of rising fuel prices (key cost item) and interest rates spells the ingredients of a perfect storm for a capital intensive biz like this.

Anonymous said...

looking at the food prices increament over the pass months, a lot must have attributed to fuel price increase.. if so, pah biz will not be so much affected by oil price increase as it pass the bug to the consummers.. will the affluent prc people stop eating fish? will the beijing 08 in aug help in pah biz given their catch is in the biz of mcdonald fillet? the empicenter of growth is moving from west to east and prc is the locomotive.. this need fuel at whatever cost.. can't imagine fish will fly onto human dinning table.

musicwhiz said...

Hi la papillion,

Thanks for the information on the typo, I will try to be more careful but sometimes when typing in a haste, I forget to do some spell check !

Well I try to eat fish every other day, and I love Fish & Co because they have good baked salmon. Haha.

Cheers,
Musicwhiz

musicwhiz said...

Hi java_guru,

Thanks for your comments; they are indeed very useful for me to reflect on.

Firstly, the reason for the "I hope" is because my view of the business is using a future-oriented point of view, rather than historical. Thus, these are the areas which I hope Management will address and the coming financial results in the next few quarters will show whether Management has indeed managed to tackle the said issues. It's more of a point by point list on how I think the company should go about maximizing shareholder value; but there is more than one way to get to Rome.

Fuel prices are rising, yes, but bunker costs seem to be under control from CFG's perspective, due to the integration of their SCM, fishing and fishmeal businesses. Moving forward, all companies will be affected by oil prices but CFG/PAH are in the business of supplying fish, which they can raise prices more or less freely as there are high barriers to entry for other competitors and food inflation will justify such an increase anyhow. Hence, I see their ability to price their products higher (without affected demand) as a hedge against the higher oil prices. Also, interest rates are actually pretty low now so PAH taking on more bank loans at this time is a good thing, rather than relying on more expensive debt which CFG issued some time back (9.25% senior notes !). Still, I do concede that higher finance costs could eat away at their net margin.

CFG and PAH are in a business which generates healthy operating cash flows, so I am not worried that they cannot service the debt. Management's track record also proves that it can use leverage to grow the business without stunting cash inflows.

Regards,
Musicwhiz

musicwhiz said...

Hi Anonymous,

I agree with you on certain points - like when you mentioned that PAH can pass on the cost of higher oil to customers. However, I think that in the short term demand may be adversely affected as people adjust to higher food prices, and as economies wobble precariously due to the sub-prime crisis.

Long-term wise, demand for fish should remain healthy and I am in for the long-haul, thus I am not too worried about short-term effects.

Regards,
Musicwhiz

durio said...

i love (eating) fish, thought a little worried about over fishing. depleting source at one side for supply demand at another side ... i guess that's a side effect of globalization

thanks for the good writeup, though a little wordy for old man like me ;P

p.s: btw, are they supplying those blue fin tuna, Alaskan salmon as well too?

musicwhiz said...

Hi durio,

In the recent interview from The Standard, Ng Joo Siang mentioned that the company adheres strictly to quotas and has an indepedent external auditor to check on its fishing practices; thus I do not see a danger of over-fishing.

I do not think PAH/CFG supplies those species, but will confirm again when I get PAH 2008 AR.

Thanks for visiting !

Regards,
Musicwhiz