Wednesday, June 03, 2009

Tat Hong – FY 2009 Financial Analysis and Review Part 1

Tat Hong released their FY 2009 results on May 28, 2009. A first glance would show the severity of the impact of the financial crisis, as their 4Q 2009 numbers were much worse year-on-year when compared to their 4Q 2008 ones. Net profit dropped 50% for 4Q 2009 if we compare year on year and revenues fell 40%, but this was hardly surprising given the extent of the financial havoc wrecked by the crisis. These are other aspects will be reviewed in several parts and will be structured as follows: Part 1 will touch on the Profit and Loss, Balance Sheet and Cash Flow Statement. Part 2 will talk about margins for each division and a divisional analysis will be performed (based on Tat Hong’s current five divisions). Part 3 will discuss prospects for the Company and the general economic climate, including the fiscal measures undertaken by the countries in which Tat Hong has a major presence in.

Profit and Loss Analysis

A revenue decrease was registered for 4Q 2009 of 40% year-on-year at S$110.7 million compared with S$183.7 million. This drop in revenue was mainly due to weakness in the equipment sales division, with sale of cranes dropping sharply by 68% to S$29.7 million as a result of tighter credit from banks and the slowing economy making companies hesitate to spend on capex. Parts and Services and General Equipment Rental also saw dips as the crisis worsened in 4Q 2009, and this will be fully reviewed in Part 2. However, with the change in sales mix, gross margins actually improved to 43% from 37% a year ago. Unfortunately, admin and other operating expenses did not dip in tandem with the drip in revenues and gross profits; hence net profit actually fell 50% from S$30.8 million in 4Q 2009 to S$15.5 million in 4Q 2008.

For FY 2009, revenues only dipped 1% (from S$639.9 million to S$631.8 million) as the 1H 2009 saw strong revenues which offset the weaker 2H 2009. Gross margins only remained fairly constant at 38% due to the change in sales mix, and even though 4Q 2009 registered a much weaker performance. Moving forward, I expect gross margins to stay strong or even improve and I will justify this in Part 2. Due to the 3Q 2009 forex losses adding on to other operating expenses, net profit was significantly weaker at S$76.7 million, down 24% from S$101.5 million. Only S$3.2 million of the forex losses could be reversed out in 4Q 2009, thus Tat Hong ended FY 2009 with a total net exchange loss of S$16.1 million. Looking at the chart above, net margin for FY 2009 was 10.9%, respectable considering the very weak 4Q 2009 results. Net margin for FY 2008 was 14.0%.

EPS based on issued share capital of 506 million shares is 13.6 Singapore cents. Taking the closing price of S$1.04 gives a historical PER of 7.65. Since Mr. Roland Ng mentioned a further weakening in economic conditions which may impact the business in FY 2010, there could be a profit drop of about 20-30%. Taking 30% pessimistic scenario, we arrive at a net profit after MI of about S$48.2 million. Using closing price of $1.04 and EPS of 9.51 Singapore cents, forward PER would be about 10.9x and this does NOT afford margin of safety. Hence, it would be prudent to be patient and wait for better valuations before deciding to increase my holdings.

Dividend per share is 5 cents for FY 2008, down from 7.6 cents for FY 2008 and 10 cents for FY 2007 (includes special dividend). Seeing that cash flows may be a constraining factor, I am prepared for even more dividend cuts in FY 2010, and total dividend for FY 2010 may even be reduced to 1-2 cents per share. At the current price, dividend yield is a respectable 4.9%. At my purchase price of 68 cents, dividend yield would be 7.4%.

Balance Sheet Review

Tat Hong’s balance sheet weakened for March 31, 2009 compared with a year ago. Notably, cash balances have decreased from S$75.4 million to S$46.3 million, while inventories have risen slightly to S$217.7 million, possibly reflecting difficulties in clearing off inventories in order to raise more cash. However, they are still in a better position than they were during the crisis, when the Company was stuck with inventory it could not sell and had to make significant write-downs. This is also because of its policy of converting the Company into a “rental” company; hence its inventory consists of cranes which can be leased out, instead of just bought and sold. It should also be noted that current and non-current financial liabilities (the Company groups them all together) have increased as well by about S$60 million, and this could be due to higher loans taken up to finance purchases of more expensive equipment as the JPY had strengthened from 3Q 2009.

Current ratio stands at 1.29 for FY 2009, a drop from 1.39 for FY 2008 mainly due to the lower cash balances and receivables and a higher financial liability amount (partly offset by lower trade payables). Quick ratio dropped too from 0.66 to 0.51 as a result of higher inventories making up the portion of current assets for FY 2009. Debt equity ratio was 0.57 and has been increasing over the years, which is not a good sign. The Group have to think of ways to reduce their inventory in order to pay off more loans so as to reduce financial expenses. ROE was a respectable 17.7% even though it was below FY 2008’s level of 24.1%.

Cash Flow Statement Analysis

Cash outflows were poor for FY 2009 due to the global financial crisis, and although cash generated from operating activites was positive (i.e. cash inflow and not outflow), it had dipped significantly from S$64.7 million to S$8.8 million. The large drop was mainly due to the increase in inventories (additional cash outflow of S$13.5 million), a decrease in trade payables (resulting in a cash outflow of S$20 million compared to a previous cash inflow of S$34.4 million) and higher income taxes paid (S$10 million extra compared to FY 2008).

Cash outflows from investing activities dipped to S$20 million from S$44.3 million a year ago, mainly due to decreased spending on capex, lower payments for associated companies and lower cash outflow on disposal of subsidiaries/businesses. This alleviated the cash flow situation somewhat and balanced out the drop in cash inflows from operating activities. However, FCF was a negative S$20 million as compared to a positive FCF of S$25.8 million a year ago, a sign of the drastic turn of events due to the global financial crisis. Considering that the last few financial years have seen Management generate positive FCF, this could be one of the few instances where they were unable to avoid the severe effects of the downturn. Based on Management’s experience and track record, I am confident they should be able to leverage more on their rental business to generate more recurring FCF in the months to come.

A lot of cash was used up in financing activities in order to pay off bank loans (S$33 million), repay finance lease obligations (S$38 million) and dividends to shareholders (S$37 million). This was balanced by additional bank loans taken up (which increased gearing to 0.57) and proceeds from new finance lease obligations. All in all, there was a net cash outflow of S$20 million from financing activities, in contrast to the S$9 million cash inflow for FY 2008. However, it should be noted that for FY 2008, S$57 million was raised through the issuance of shares. If we strip this out, there was actually a net cash outflow of S$48 million which is twice the outflow for FY 2009. Granted, part of the reason was due to higher gearing which the Company took up in FY 2009, but the steady and consistent rental income from crawler and tower cranes should be able to provide the Group with much needed cash inflows. Thus, I will closely monitor the Cash Flow Statements of subsequent quarters to see if this is so.

In Part 2 of my analysis and review, I will touch on Tat Hong’s divisional performance, analysis of margins as well as sales mix; and this will carry forward to its prospects.

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