Monday, September 22, 2008

Tat Hong - Analysis of Purchase Part 1

This is part 1 of my analysis of Tat Hong Holdings Limited which I had recently purchased on September 18, 2008 at an average price of S$1.055 per share. Please feel free to contribute comments and opinions on any part of the analysis. Note: This is NOT a recommendation to buy or sell shares in the company and I disclaim all responsibility for readers who follow any advice on this blog - please do your own research too.

Background

Tat Hong Holdings Limited is a crane-leasing company which also specializes in rental of heavy equipment such as foundation equipment, piling rigs, graders, ski loaders and compaction equipment. The Group has offices in Singapore (HQ), as well as Australia, Hong Kong, Malaysia, Thailand, Vietnam, Indonesia and China. The Group is very diversified and has a pan-Asian as well as Middle East presence. They are ranked No.1 in terms of crawler crane fleet size, and No. 4 in terms of total number of cranes owned.

The Group has five main divisions - rental of crawler cranes, rental of tower cranes (new division), rental of spare parts, sale of cranes and sale of spare parts. I will elaborate more on the separate divisions in a later post. Firstly, I will go through the financials and offer some comments:-


Note
: Market Price on Sep 15, 2008 should be changed to "My Purchase Price". Sorry for the error. How the table should be read: I purchased Tat Hong based on FY 2008's historical PER of 5.95 times and with a dividend yield of 7.2% based on FY 2008's full-year dividend of 7.6 Singapore Cents Per Share.

Comments on Company’s Financials, Gearing, Cash Flow and Dividend Policy

Before FY 2004, revenues were flat and the company had even incurred a net loss. This was due in part to the downturn in Singapore’s construction industry and also because Tat Hong had not diversified its operations into the region (i.e. South-East Asia). Using 1Q 2009 as a gauge of the company’s growth (as their operations are not cyclical through the year), we obtain a revenue increase of close to 20% and a net profit increase of about 38.1%.

Debt equity as at June 30, 2008 was reasonable at 0.38 times, and has not exceeded 0.5 in the past 3 financial years. Considering their prudent growth strategy target of about 10% increase in net profit over the next 2-3 years (till FY 2011), I believe the company will not over-stretch itself.

Gross margin has been increasing over the years, which is a positive sign. From just 26.9% in FY 2005, this has steadily increased to 39% in FY 2008, and the most recent quarter (1Q 2009) saw a gross margin of 36.8% (partly reduced because of their foray into tower cranes, which have a lower gross margin – see Gross Margin by Business Unit table). Net profit after MI (less exceptional gain) has also been increasing steadily to the current S$84.6 million in FY 2008, as a result of expanded scope of operations and increasing diversification into different countries through organic growth and acquisitions (in Australia).

Net margins have been steadily on the climb – a very good sign. Net profit margin was 6.7% in FY 2005 and this has improved to 15.3% for 1Q 2009, more than double compared to 3 years ago. This shows that Management has focused on expense control amidst an environment of rising costs.

The issue of free warrants are exercisable at the strike price of S$2.50 per share. Currently, the market price is only 50% of the strike price and thus there is not much risk of dilution from the exercise of warrants. Tat Hong also has an ESOP which sees about 1 million new shares entering the market every financial year – this is hardly dilutive so can be considered immaterial.

Shareholder’s equity has been steadily increasing while gearing has been relatively constant. This is due in part to good profits made from business activity and also healthy operating cash inflows which help to offset the impact of bank interest payments, taxes and investments in subsidiaries and fixed assets. The annualized ROE for 1Q 2009 is 28.9% and much of it is NOT debt-funded but as a result of higher net profits. ROE has been steadily increasing over the years (from FY 2005) to over 25% currently. Note that maintaining high ROE gets increasingly difficult as the company’s equity base increases with the increase in retained earnings.

Dividend policy is twice yearly with payout declarations in September (interim) and March (final). Note that the company had only started paying interim cum final in the last 2 financial years due to good results and strong cash flows, and this may not always continue into the future. DPS for FY 2008 was 7.6 Singapore cents per share, representing a yield of 6.8% based on last done price of S$1.12. Assuming the company has better years ahead, the possibility of an increased dividend payout is high, assuming the company continues to generate excess cash flows with which it can use to pay out dividends, while retaining sufficient cash for expansion and growth.





As can be seen in the above table, the Group has been generating strong operating cash inflows over the last few financial years, which is an indication that its business is stable and generating strong Free-Cash-Flows (FCF). This gives a confidence boost that the company will not succumb to sudden shocks as it has manageable debt and also gives me assurance that it is paying out dividends with FCF instead of through borrowings.

Territorial Expansion Details

Below are some highlights and summaries I made of Tat Hong's foray into the region:-

Singapore

i. S$12.6 million convertible loan agreement signed with Hiap Tong Corporation Pte Ltd. Convertible into ordinary shares representing 20% stake in Hiap Tong. Hiap Tong will be going for an IPO soon on SGX.

ii. Singapore listing of China-based crane maker, Yongmao Holdings, for S$0.35 per share. Tat Hong currently owns 20% of the company after an open-market purchase of shares (average consideration of S$0.45 per share).

iii. Acquired 30.2% of Kian Ho Bearings Limited

China

i. Established Shanghai Hai Tong on Sep 5, 2006 to enter tower crane rental business

ii. Secured 5-year RMB 87.5 million contract from Sky China Petroleum Services Co, Ltd and a 4-year contract worth US$10.8 million with a China National Oil Company – both contracts carried out through joint ventures with KS Energy Services Limited;

iii. Completed investment in joint venture with Beijing Zhongjian Zhenghe Construction Machinery Co., Ltd (to enter China’s tower crane rental business);

iv. Completed investment in China Nuclear Huaxing Tathong Machinery Construction Co., Ltd (76.4% stake)

Australia

i. Listed Tutt Byrant on Dec 9, 2005 at A$1.00 in an IPO on ASX;

ii. Acquired Queenslands Equipment rental company, North Sheridan Pty Ltd and Muswellbrook Cranes Services Pty Ltd (A$17.8 million acquisition) through Tutt Bryant;

iii. On Dec 12, 2007, Tutt Bryant acquired rental business of Bradshaw Ultra Heavy Haulage Pty Ltd;

iv. Acquired Caradel Hire through Kingston Industries Pty Ltd, which is a wholly owned (100%) subsidiary of Tutt Bryant.

More to be continued in Part 2 of my Tat Hong analysis. The next part will feature each separate division and talk about their revenue contributions and gross margins.

14 comments:

patrick ho said...

Hi musicwhiz,
i see some v similar companies that we are vested in, took up a bit of Tat Hong too. shall share my views with u abt Tat Hong when I have the time;)

Patrick Ho

musicwhiz said...

Hi Patrick Ho !

That's nice to know, that you are a shareholder of Tat Hong as well. Yes please do share your views on Tat Hong too, your blog is very detailed and your analysis of companies is very good as well.

Will look forward to it !

Cheers,
Musicwhiz

MakeTraffic said...

Hi MusicWhiz,

Good analysis! Tat Hong is on my watch list too.

What about CSC Holdings? It has quite a good standing as the leading foundation and geotechnical engineering co.

I know you have analysed it before. But what about now...since their revenue and net profit jumped in FY08 and not a bad performance for 1Q09. With the current price, i think the PER is quite reasonable too. What do you think?

BTW, your blog is a good read and by far the most readable Stock analysis blog i have seen, Keep up the good work. I am your regular reader (have your blog on my favourite list)

Cheers,
Maketraffic

Li said...

Hi, musicwhiz:

I am a regular reader of your blog. Really learn a lot from you!
Now I have one question regarding your calculation for net profit. The numbers in your table is different from the annual report. Can you tell me how to get it?

Thanks a lot!

Anonymous said...

pls enlighten me on these qns :

1. how do you decide to diversify into this new stock instead of plunging deeper into your existing portfolio ?

2. portfolio allocation - how diversified should it be ? can all stocks be in one industry ?

thanks

MakeTraffic said...

Good question.

This is the question i constantly asked myself, especially in this bear market: to buy a new stock at low valuation or to average down existing stock. Hope MW can enlighten us. Cheers, MT

Createwealth8888 said...

Hi maketraffice,

In a prolong bear market, it is risker to average down. It is better to diverisfy. Your beloved stock becomes cheaper and also risk becoming target for takeover and then you are forced to cash out at losses even though you had intended to hold it over long term.

musicwhiz said...

Hi Maketraffic @ Sep 22 10:37 p.m.,

Thanks for visiting ! I am not really interested in CSC Holdings though I had briefly did a simple analysis of the company. Thus, I don't think I will proceed to delve deeper as this is a more "pure" construction company.

Cheers,
Musicwhiz

musicwhiz said...

Hello Li,

Thanks so much for visiting :)

I took the figure from Tat Hong's corporate factsheet for 1Q 2009which has stripped away the exceptional items. You can download it from Tat Hong's website or SGXNet.

Regards,
Musicwhiz

musicwhiz said...

Hi Anonymous and Maketraffic,

I will tackle the same question both of you brought up about portfolio allocation.

My aim was to break away from having too many companies reliant on the oil and gas sector, as Boustead, Swiber and Ezra are all tied to this industry. Thus, you can call it industry diversification.

At the same time, I was also looking for companies with high barriers to entry and held a market leader position so as to have an economic moat. Tat Hong seemed to fit the bill from my analysis.

As for allocation of funds, yes in fact I did average down on my China Fishery purchase. My original cost was S$1.50 and I have sinced averaged this down to about S$1.21; I also averaged down on Pacific Andes from 65.5 cents to 54.75 cents.

This all depends on my available funds and of course, Mr. Market's manic mood swings !

Regards,
Musicwhiz

musicwhiz said...

Hi createwealth8888,

Yes, thanks I think that is a factor to consider. Though whether bear markets will be prolonged or not, there's no way of knowing. I think one should be mentally prepared to tie the money up for reasonably long periods of time. Of course, there are always dividends to collect along the way but in a protracted bear market, the investor has to be able to withstand considerable amounts of mental pain.

Regards,
Musicwhiz

MakeTraffic said...

Hi MusicWhiz,

Thanks for the reply. Yes, i think it is during this time that test those "nerves of steel".

I have learnt in practical ways (made mistakes along the way though i have known the theory years ago) that 'Margin of Safety' can help one withstand the 'pain' and knowing the companies that one has selected has some sort of "economic moat" reassured it further. It is a game of patience...especially when retail investors like us has limited resources. MT

andrewC said...

Hi MusicWhiz

Tat Hong closed at 0.54 today, Nov 20, 2008. What's your buy/sell opinion? Regional construction will slow, contruction projects typically slow in payments, will Tat hing need more working capital ? get a loan will be difficult.

I also noticed that their Directors have been making substanial purchases since Nov 13 from 0.53 to as high as 0.595.

musicwhiz said...

Hi AndrewC,

I do not make recommendations to either buy or sell. All I do on my blog is to analyze companies and see if they offer value 3-5 years down the road. Definitely the world economy will slow and Tat Hong will face lower revenues, but in my opinion the long-term trend should still be sound.

Only during times of crisis can one find attractive valuations, if one buys a company during "boom" years, then one will usually end up paying too much !

Cheers,
Musicwhiz