Tuesday, May 31, 2011

May 2011 Portfolio Summary and Review

May 2011 was indeed an interesting month, as it was the month of Singapore’s General Elections 2011. The Election results are widely-known by now, and the Opposition made a breakthrough in being able to secure a GRC, a feat which had never been achieved since GRCs were introduced in 1988. May 2011 also saw the release of financial results for SIA Engineering, Kingsmen Creatives and Boustead; and saw two more dividends being declared (more details in each company’s summary). Cabinet shuffles also made headlines as Minister for National Development Mah Bow Tan finally stepped down after 12 years at the helm of Housing, to be replaced by ex-Health Minister Khaw Boon Wan. It will be interesting to note what effect this will have on property prices, which has been a major gripe for most people who are striving to purchase an affordable flat. COE prices also saw a steady rise to a five-month high, even as the Transport Minister Raymond Lim steps down, to be replaced by Lui Tuck Yew.

To avoid being overly long-winded (again), let me dive right into my portfolio and corporate summaries. My portfolio and comments for May 2011 are as follows:-

1) Boustead Holdings Limited – Boustead released their FY 2011 results on May 26, 2011, along with the usual LIVE audiocast where listeners can write in to ask questions which will be answered immediately by Management (including CEO FF Wong). Revenue for FY 2011 hit a record high of $560.6 million, and gross margin rose to 32% as cost of goods sold increased only 25% while revenues increased 28%. I had expected a full write-down of Boustead’s Libyan projects (both the Al Marj Township and the Waste-water project), but the impact on 4Q 2011’s bottom line was still unnerving. 4Q 2011 registered a loss of $1 million as a result of the write-downs of about $13.8 million in total. However, note that this is a one-off event and does NOT impact cash flows.

In fact, I was pleasantly surprised when the Company announced a bumper dividend consisting of 2 cents/share final dividend and 3 cents/share special dividend, making it a total of 5 cents/share. For FY 2011, total dividend inclusive of interim dividend of 2 cents/share came up to 7 cents/share, which represents a yield of 7% based on the last closing price of $1.00 as I type this (on May 26, 2011). Apparently, the Company’s cash generation ability remains strong despite their Libyan setback, but moving forward, I also have to ask hard questions as to whether they can continue to grow their top-line and bottom-line, as well as what plans and strategies they intend to employ to achieve their goals.

I will be preparing a detailed analysis of Boustead’s FY 2011 results in subsequent posts (after SIAEC’s analysis has been done) and also include a full transcript of the audiocast as in the two previous years.

Hot from the oven was an announcement just this evening of Boustead Projects snaring a $23 Million Design and Build contract for Bell Helicopter MRO Hangar Facility (artist rendering above). This will take up about 15,000 square meters and be completed in 2Q 2012.

2) Suntec REIT
– There was no news for Suntec REIT for May 2011. The dividend of 2.388 cents/share was received on May 30, 2011.

3) MTQ Corporation Limited – As I had already done a detailed three-part review and analysis of MTQ in my previous three posts, I will not add anything else in this portfolio summary.

4) GRP Limited – There was no news for GRP for May 2011, though there was a one-page write-up in The Edge Singapore on the Company. In the article, it was mentioned that GRP was on the lookout for synergistic acquisitions to utilize its cash hoard, and will be looking to divest its uPVC business if it continues to bleed. A worthwhile read, and too bad it does not give me extra comfort as a shareholder that Management is aware of what it plans to do with its 9 cents/share worth of cash!

5) Kingsmen Creatives Holdings Limited – I did a brief write-up on Kingsmen AGM this month, and Kingsmen also released their 1Q 2011 results on May 6, 2011. Revenues fell 22% while gross profit dropped 11%, and the positive aspect was the rise in gross margins from 26.4% to 29.9%, possibly as a result of smaller parcels of work which command higher gross margins; as well as the strength of Export Fixtures which also yields better margins.

The main culprits affecting net profit were staff costs (down just -2.1%) and "other expenses" which actually increased 10% despite the drop in gross profit. I understand from the AGM that Kingsmen were hiring more designers in SEA in order to prepare for theme park projects and also to boost their Interiors segment in China and North Asia; so I guess this is one expense which is hard to keep low. Even the GM Andrew Cheng grudgingly admitted that staff costs were an aspect of expenses which was tipped to rise. The result was a drop in net profit by 42%, and net margin was only in the 3-4% region. Since 1Q is traditionally Kingsmen's weakest, it would not be fair to say that it represents the entire financial year.

Balance Sheet remains strong with current ratio at 1.60, and cash has increased to $30.8 million against a reduced debt level of $4.9 million (versus $5.3 million a year ago). Cash from Operating activities was a +ve $1.8 million and capex was $365K, so there was +ve FCF.

Division wise, M&E saw a drop in revenue as 1Q 2010 recognized some additional projects which were not present in 1Q 2011. Interiors was the shining star with revenues increasing further by 18.7%. It stands to reason that if staff costs can be kept in line as a result of this advance hiring, then if M&E secures more theme park projects in the next few months; and Interiors continues to do well, there would be an improvement in the net margin and net profit levels in 6M and 9M 2011 results. Since cash flow continues to be strong, I'd also expect Kingsmen to at least maintain their interim dividend of 1.5 cents/share.

The order book as at May 5, 2011 now stands at $154 million, of which $138 million is expected to be recognized in FY 2011. Compared to last year, contracts secured was only $133 million, so the order book has increased by $21 million. I believe this quarter's poor result is also due to the timing difference in revenue recognition, hence we have to look at 6M and then 12M performance to see how things pan out. I will not be doing a detailed analysis and review until 1H 2011 results are released in August 2011.

The final dividend of 2 cents/share and special dividend of 0.5 cents/share was received on May 24, 2011.

6) SIA Engineering Company Limited – SIA Engineering released their FY 2011 results on May 10, 2011. FY 2011 earnings rose 9.5% compared to FY 2011 to S$258.5 million, and the surprise was that a special dividend of 10 cents/share was declared in addition to a final dividend of 14 cents/share, bringing total dividend declared to 24 cents/share. Coupled with the interim dividend of 6 cents/share already paid out, SIAEC is paying out 30 cents/share for FY 2011, and this can be attributed to their strong FCF generation capability. I will be doing a detailed analysis and review for SIAEC in June 2011 so I will not add too much detail here.

Portfolio Review – May 2011

Realized gains have increased to S$59.2K as a result of Kingsmen Creatives going ex-dividend for its final cum special dividends. SIAEC and Boustead are still cum-dividend and thus the amounts have not been added to realized gains as yet.

For the month of May 2011, the portfolio has dropped by -1.3% (using XIRR in MS Excel to compute) against a -0.9% fall in the STI; thus under-performing by -0.4 percentage points. This was slightly better than April 2011’s under-performance of -2.3 percentage points. Cost of investment remained at S$210K and unrealized gains stand at +13.1% (Portfolio Market Value of S$237.5K).

I am aware that Kingsmen’s Comprehensive Analysis Part 5 is still outstanding, and I must apologize for not completing it sooner, but I have work commitments, family commitments and also my analyses for existing companies’ full-year results. At the same time, I am also finding time to go to the gym to stay healthy, as well as devoting some time for quality family bonding. There is also an intention to continue my series on Porter’s Five-Forces as well as Behavioural Finance, and I have a topic or two on valuations coming up as well as I have been thinking about this very often while I travel on public transport.

June 2011 is expected to be a very slow and boring month in terms of corporate news, as no results are slated for release until July 2011 (for Suntec REIT).

My next portfolio review will be on June 30, 2011 (Thursday).

Friday, May 27, 2011

MTQ – FY 2011 Financial Results Analysis and Commentary Part 3

Onwards now to Part 3 of my MTQ FY 2011 analysis, which will cover a major transaction by MTQ – that of its 100%-owned subsidiary Blossomvale Investments Pte Ltd purchasing 200 million shares in an Australian-listed (ASX-listed) company called Neptune Marine Services Pty Ltd (“Neptune”) at AUD 5 cents each. This was announced in a March 4, 2011 announcement posted on SGXNet, and costs the Company about S$12.93 million, which forms a significant portion of their cash and bank balances; hence I have classified this as a major transaction and am delving deep into the rationale. From the announcement proper, MTQ mentions that it seeks to participate in Neptune’s business as a significant investor and views Neptune’s capabilities as a “strategic extension of its predominantly workshop based operations in Singapore and Bahrain”. Kuah Boon Wee, CEO of MTQ, will also take a seat on the Board of Directors of Neptune. I will be breaking down this transaction into parts by analyzing and reviewing Neptune as a company, its proposed strategic changes made, and providing a summary of the actions taken to date to signify its commitment towards corporate overhaul and re-structuring.

Neptune – Introduction

Neptune is a company which specializes in providing offshore engineering solutions to the oil and gas, marine and renewable energy industries. It was founded in 2003 and is headquartered in Perth, Western Australia. Neptune has a comprehensive focus on subsea services with operations spanning Australia and the UK.

The Company, however, has been performing poorly thus far. In its 1H FY 2011 financial statements ended December 31, 2010 (it has a June 30 year-end), it recorded revenue of A$70.8 million and gross profit of A$22.1 million (gross margin of 31.2%), but posted a loss attributable to shareholders of A$11.5 million (after adding back one-off impairment charges). The main reason for this was the very high administrative cost base of A$31.4 million and also high finance costs of A$2.9 million. In the Balance Sheet, interest-bearing loans came up to A$50 million while cash was only A$8.7 million; and the Company is in a net current liability position (technically insolvent). Cash flows used in operating activities was A$4.9 million, capex was A$2.5 million and repayment of borrowings came up to A$4.4 million, resulting in a cash drain of A$11 million in total.

In view of the above poor results, which stems from Neptune’s inability to control costs and is also a result of unfocused operations spanning too many countries, an operational and structural review was undertaken (with PriceWaterHouse Coopers assistance) and has resulted in an offering to raise up to A$80.6 million. More details of it are provided in the next section. The CEO was also replaced in late November 2010.

Neptune – Summary of the Re-Structuring Review

As can be seen in table above, Neptune is planning to embark on a “Back to Basics” philosophy to streamline operations and to refocus on their core competencies once again. Apparently, the impression I got when I read through Neptune’s original businesses was that they had strayed too far off their core competence and had “diversified” too extensively. This had resulted in expenses rocketing up while profits were being eaten away as some business units may be languishing due to lack of focus or expertise. Apparently, the PWC review also brought up many aspects of cost reduction which should have been implemented in an expedient manner, instead of letting the problems fester and drag the Company so deeply into the red.

Some of the key initiatives include focusing more on organic growth versus an aggressive M&A path, which had pushed the Company into a heavy debt-laden position. The strategic review also identified businesses which are working and which should be retained and grown, versus those which are bleeding money and need to be divested. Overheads were too high and the previous CEO did not maintain a lean ship, hence cost-cutting was to be effected (more on this later). Owning assets is also a very expensive affair (as can be seen with Ezra and Swiber) and so JV relationships were more practical and would be easier on the cash flows. Most importantly, the Company wanted to de-gear its Balance Sheet and save on crippling finance costs.

Neptune – Rationalization of Regions

As can be seen in the table above, Neptune’s business is split up into four distinct regions, of which Australia remains their main base of operations. For Australia, though this region is profitable, staff head count was reduced in light of high overheads and commercial focus on NEPSYS was revised in Jan 2011. NEPSYS is a unique, class approved technology that produces a permanent surface quality weld in an underwater environment. For more on NEPSYS, check out this link.

USA is not sustainable and hence Neptune will exit from the business there, cutting costs and saving valuable cash in the process. As for Asia and Middle East, control will vest from Australia under a streamlined regional management structure. For Europe, though the business is profitable, further steps have been taken to reduce the cost base and to perform a more detailed review of options available to grow the business there.

Neptune – Rationalization of Businesses and Assets

Other than just rationalizing regional operations and streamlining operational control by region, Neptune has also undertaken to rationalize its business units and assets to see where it can achieve the greatest benefits, and to find areas to further cut costs. For USA diving business, the decision is to exit from this and look for other partnerships for NEPSYS. This does remind me of MTQ’s own subsea robotics business which was divested in 2006 as it was expensive and unprofitable. The fabrication business in Australia was also deemed not a “strategic fit” and there are plans to exit this. However, I was wondering if this division could complement Neptune’s other business units as even companies like Ezra have a fabrication sub-division even as they provide marine support services.

The ROV (Remote-Operating Vehicle) Supporter and Neptune Trident are to be sold off as these assets no longer contribute meaningfully to the business, and hence should be divested. As of this writing, Neptune Trident has already been sold off (announced in April 2011) for A$14.025 million (more on this in the next few sections). While Neptune has made clear their focus for re-positioning NEPSYS, I am still unclear as to how this technology can be harnesses effectively to produce good profits and attract more reputable clients. By saying that NEPSYS has the “potential for future profits”, one may take it to mean that the technology is slated for a revamp or re-positioning. Since there have been no concrete announcements or plans relating to NEPSYS as of this writing, I assume Management is still hard at work at the problem.

As for the ROV business, I am unaware of how it contributes to Neptune’s bottom line (I only took a cursory look at the financials and did not drill too deep), but since it is profitable but has low utilization, there is thus potential for utilization to increase if the business is positioned correctly and marketed properly. A “full strategic review” will be performed and I guess we can look forward to some corporate decisions regarding this business unit in the near term.

Neptune – Proposed Financial Effects of Restructuring

The first line of “offense” (if it can be called that!) as depicted in the above table should result in annual savings of about A$9.5 million (for Phases 1 and 2); and these involve cutting staff strength and reduction of corporate overheads to make the organization more lean and trim (it’s surprising how inefficiently some processes and operations are structured as a Company expands over the years). This represents the first drastic cost cutting (for Phase 1) which was executed successfully in January 2011 and which resulted in cost savings of up to A$8.5 million. Another A$1 million will come from further corporate restructuring which also includes (ahem) cutting out some Managerial-level staff which may be redundant.

Interestingly, the divestment of non-core businesses is expected to save from A$2 million to A$4 million, as these businesses probably soak up expenses which not churning up sufficient cash and profits to justify their continued existence. Another positive from the divestment is that cash is immediately freed up which can be used to pay down debilitating debt, and also for general working capital purposes. It is expected that such divestments will result in a one-time charge (i.e. loss on disposal) which will hit the Income Statement for FY 2011 (and which may drag into part of FY 2012 as well), but this is inevitable and moving forward, the annual cost savings and cash retained will actually benefit the Group in the medium-term.

If we assume that Neptune can really reduce overheads and administrative expenses by A$12 million to A$13 million annually, and that the Company can continue to garner contracts of significant size, then there is a very good chance of them recording an operating and net profit down the road.

Neptune – Fund Raising and Contract Awards

Neptune had suggested raising funds of up to A$84 million, but in the end they managed to hit the minimum level of A$60 million, which will allow them to pay off almost all of their debt, and un-gear their Balance Sheet. The rest of the money will be used for working capital. New shares were offered at A$0.05 per share, with MTQ subscribing for 200 million shares as many of the existing shareholders did not take up their pro-rata share of the offer. A total of 1.2 billion new shares were issued, bringing total issued share capital to 1.648 billion shares. NTA per share post-rights issue will be A$0.043 cents against the issue price of A$0.05.

Meanwhile, contract flow continues to remain strong for Neptune, as can be seen from the Table above. In Nov 2010, A$8 million worth of contracts were secured, while in Jan 2011 A$12 million more were secured. This may not seem much when compared to its half-year revenue of A$70 million, but note that the rationalization will cause revenues to drop, but expenses to drop even more, thus ensuring that the overall result is profitability even while operating on a lower revenue base. High revenues make no sense at all if they are accompanied by growing losses and continual bleeding of cash. Australia still has its huge Gorgon project which requires the services of many O&G companies, of which Neptune is one. Since Management claims that contract flow continues to be strong, I guess shareholders like MTQ should be expecting a decent top-line performance. Hopefully, this can be coupled with a pleasing bottom-line performance as well.

Neptune – Recent Updates

As mentioned above, Neptune Trident vessel has already been sold for A$14.025 million. A loss on disposal of A$7.5 million will be recorded in 2H FY 2011 as the Net Book Value of the vessel is A$21.5 million, but the good news is that this generates cash which can be used to pay down long-term debts. The targeted completion of sale is in May 2011.

In another recent announcement on May 17, 2011, Neptune confirmed that key initiatives had been completed. These include the finalization of annual cost savings of A$9.5 million (as previously explained), ongoing marketing and planned orderly sale of ROV Supporter vessel, as well as the planned sales of the Australian Fabrication and USA Diving businesses. At the same time, a board renewal plan was also put in place to appoint three (3) new non-executive directors to the Board via a succession plan.

As a result of these measures, Neptune managed to achieve unaudited, normalized break-even operating EBIT for quarter ended March 31, 2011, before write-downs and one-off costs. Greater impact can be seen on the bottom line only in FY 2012, as the measures take effect for the full financial year ended June 30, 2012.

Neptune – Conclusion

It would seem, from all the available evidence and presentation materials, that Neptune is a so-called “turnaround” play, where a major restructuring can bring about much-needed changes to push the business back to profitability and growth. Neptune reminds me somewhat of MTQ back in 2000 to 2004 where they also engaged in all sorts of businesses, from Foundry to Subsea Robotics, and incurred losses every year till Kuah Kok Kim streamlined all the business units, divested the unprofitable ones, and retained just Oilfield Engineering and Engine Systems. For MTQ’s case, it took about 4-5 years (and a skilful divestment of RCR Tomlinson back in FY 2007) to build up core competencies and streamline costs. I would expect roughly the same amount of time for Neptune to realign its business divisions and achieve the efficiencies which it targets. So for MTQ, this should qualify as a medium to long-term strategic investment. As to how Kuah Boon Wee is able to contribute to Neptune’s fortunes and how MTQ is able to synergize, I am as yet unclear until there are further announcements by either company.

MTQ – Resignation of CFO and Company Secretary Mr. William Fong

On April 29, 2011, it was announced that Mr. William Fong, as Group CFO and Joint Company Secretary for the past 12 years, will be resigning from MTQ with effect from June 15, 2011. The Board has appointed Mr. Dominic Siu as CFO with effect from May 18, 2011. I was certainly saddened when I read this piece of news as I had been liaising with him for about a year regarding matters relating to MTQ, including AGM and the recent news on Bahrain. I had also met up with him before during the AGM and found him to be helpful, friendly and supportive. I’d like to wish him all the best in his future career and I guess I now have to start liaising with the new CFO, Mr. Dominic Siu!


MTQ will be going through a very interesting phase of its growth, with its Oilfield Engineering Division firing off the new FY 2012 with its operations commencing in Bahrain. Coupled with high oil prices and investments by major O&G players to the deepwater segment, as well as more stringent regulations governing BOP after the BP Deepwater Horizon incident, this should bode well for the Division and ensure its slow and steady growth. For Engine Systems, I am confident that MTQES can continue to build on the momentum of recent acquisitions as well as their partnership with Bosch to further improve margins and increase top-line contribution. Of course, this will all take time and watching the growth of a business through the years is a very satisfying process and validates my commitment to being a value investor who has his eye on the business performance of a Company rather than constantly tracking its share price.

As for Neptune, the detailed analysis and summary which was provided above made me realize that MTQ is in this for the medium-term of at least 3 to 5 years, similar to their previous investment in RCR Tomlinson which was divested in 2007. While it may look like a bad idea in the short-term (with Neptune’s recent share price hovering around AUD 3.6 to 3.9 cents), I am also quietly confident of Mr. Kuah Kok Kim and Mr. Kuah Boon Wee’s business acumen in being able to identify suitable investment opportunities in mis-priced businesses to grow MTQ’s business value over the years.

For future reviews of MTQ, I will also be including a review (both financial and operational) for Neptune. The next review for MTQ should only be out in late October 2011 as they will be releasing their 1H FY 2012 results then. In the meantime, I await the final issue price (yet to be decided) for the final scrip dividend of 2 cents/share; and also await the arrival of FY 2011’s Annual Report.

Sunday, May 22, 2011

MTQ – FY 2011 Financial Results Analysis and Commentary Part 2

Part 2 of my MTQ FY 2011 analysis will focus more on MTQ’s business division performance, and I will comment on how well each division is doing and what it has achieved over the years. Some history will be useful as well if we were to track the growth and fortunes of these two divisions (Oilfield Engineering and Engine Systems) more closely. However, instead of regurgitating the whole nine yards of what happened for each division for the last ten years, I will instead keep it simple by just focusing on the major events which have occurred in the past financial year (FY 2011).

Oilfield Engineering

Needless to say, the main thrust of the expansion drive in Oilfield Engineering Division is the expansion into Bahrain for most of FY 2011. The land size there is 40,000 square metres and is three times the size of MTQ’s premises in Singapore (Pandan Loop) and will be on a 50-year lease. From my understanding, Phase I has been fully completed and Phase II should kick off soon, and in total it can house 250 employees, most of whom will be locals. A NextInsight Interview with Mr. Kuah Boon Wee (CEO) gave insights to the new facility, with him saying that the complex has been physically constructed and the equipment commissioned. However, due to the uncertain and volatile political situation in Bahrain (and in light of violent riots and clashes between civilians and Government forces), staffing has been kept to a minimum of 25.

The tense political situation and subsequent unrest had also caused delays in certification for MTQ’s Bahrain machinery and business was affected when oil majors shifted their executives out of the country, thus depriving MTQ of the chance to be placed on vendors’ lists. However, some operations had already commenced and revenue was already being booked in April 2011 (FY 2012).

Engine Systems

In late FY 2010, MTQ had announced the acquisition of the business assets of Premier Fuel Injection Pty Ltd, and this was a strategic thrust for them to expand into Australia’s Northern Territory in which they previously had no presence. That purchase was made with A$500,000 and has helped MTQ Engine Systems division to expand its reach.

In April 2010, MTQES entered into a S&P agreement to sell off its premises at 32 Raynham Street in Salisbury, Australia, for a consideration of A$975,000 less agency fees. This will bring in more cash for the Group in order to further expand this division.

Then in August 2010, MTQES purchased Highway Diesel from Permacliff Pty Ltd and paid an upfront consideration of A$1.5 million. This acquisition will allow MTQES to further expand its range of services and repair capabilities and is viewed as being positive in the medium-term.

So all in all, there was quite a lot of activity in this division as well and MTQ are not resting on their laurels and intend to build this division and strengthen it. Next, I will present some of the numbers which I have compiled and use these to comment on the progress of each division, and also theorize on what we can expect in the coming financial year of FY 2012.

Review of Business Divisions and Comments on Prospects

If we look at the numbers for revenue since FY 2005, you will notice that this has trended up from $56 million in FY 2005 to the current $91.7 million in FY 2011, and this shows MTQ had steady revenue growth for the last 7 years. What is more interesting, however, is the relative contribution of their major business divisions to total revenues. Around FY 2008 to FY 2010, Oilfield Engineering was taking up the bulk of revenues and this peaked in FY 2009 with the division taking up 61.7% of revenues, while Engine Systems took up a much smaller 39%. It seems that with the Bosch partnership and the expansion as outlined above, Engine Systems has now begun to contribute more to revenues. In fact, revenue has surpassed that of Oilfield Engineering by about $6 million and now takes up 54% of total revenues against 50.2% a year ago. I would expect Oilfield Engineering to play catch up in terms of revenue contribution as the Bahrain operations get started, and begin contributing to both top and bottom lines.

In terms of segment net profit, Management’s ongoing focus in streamlining operations in Engine Systems has yielded positive results, with revenues in this division not only showing a steady increase, but also yielding growth in operating profits and net profit margin. Segment net profit for Engine Systems has hit a 7-year high of $2.7 million and segment margin is now 5.4%, up from 3.2% a year ago. It would appear that the synergistic collaboration with Bosch has enabled margins and revenue to grow, while keeping costs low. Mr. Kuah Kok Kim did mention in a previous interview with Next Insight that partnering with Bosch widened their customer base, yet did not drive costs up much because all they needed to do was increase shelf space (minor M&E works) and recruit more staff to cross-sell products. The numbers do look much better at the moment compared to just 2 years ago when it seemed that Engine Systems (selling turbochargers and diesel fuel injection systems) would be a drag to MTQ’s otherwise highly profitable Oilfield Engineering business.

For Oilfield Engineering, there was a slight slowdown in activity but with a strong customer base, the division still managed to grow slightly. In view of the BP Deepwater Horizon rig disaster, more stringent certifications will be needed in future for blowout preventers (“BOP”) in order to make sure they are fully functional and serviced within a reasonable period of time. MTQ has the required certifications and is recognized as one of the few players capable of servicing BOP and other O&G equipment.

Plans and Prospects for Business Divisions

Nothing specific was actually mentioned regarding growing each division. In the FY 2011 press release, the CEO mentioned that high oil prices and strong order flow of sophisticated rigs and other offshore vessels bode well for MTQ, and I take it to imply the Oilfield Engineering division will ride on this wave to grow even further. The commencement of operations for MTQ’s Bahrain Facility and subsequent Phase II of construction will also help to boost revenues, and once the Annual Report is out it will shed more light on MTQ’s borrowing costs, so that I can use that as a comparison against the returns derived from their push into Bahrain.

As for Engine Systems, nothing specific was mentioned either but I would expect MTQ to build on the momentum of recent acquisitions in order to broaden their revenue and customer base. There should be more details in the chairman and CEO’s statement which will be released along with the Annual Report some time in July 2011. Also, there will be a chance for me to attend MTQ’s AGM to ask more questions about the business moving forward.

For Part 3, I will be touching on a key move made by MTQ just a while back – the purchase of 100 million shares in NMS listed on ASX for A$0.05 per share. Since this has taken up nearly $12 million worth of cash, I consider it as a major transaction and worthy of more in-depth analysis and coverage. I will end off Part 3 with a few of my thoughts and closing remarks for MTQ, until it releases its 1H FY 2012 results in late October 2011.

Tuesday, May 17, 2011

MTQ – FY 2011 Financial Results Analysis and Commentary Part 1

MTQ released their FY 2011 financial statements and press release on April 29, 2011. This financial statement release marks a change somewhat for MTQ, as they had finished building their Bahrain facility and have got it up and running for FY 2012. The numbers have also reflected this and at face value, it would seem to have got a lot worse in terms of Balance Sheet and Cash Flow Statement analysis (more on that later). Since January 2009, I had knowledge of MTQ’s intended plans to expand into Bahrain, and they have worked tirelessly for the past 2 years towards that goal. They have gone through a leadership change (Kuah Kok Kim retiring as CEO and making way for his son Kuah Boon Wee) and also turmoil in Bahrain in March 2011 which followed the revolutions in Egypt, Tunisia and Libya. Though there have been some problems getting the facility started, the equipment had already been purchased and staff trained, and it was a matter of time before the Oilfield Engineering Division got a boost from Bahrain operations.

This analysis is more broad-based and will not just focus on the financials (though that will be the main focus for this Part 1), but also touch on other aspects such as business division review (a brief one, without spreadsheets), Neptune Marine Services in which MTQ invested quite a large chunk of money into; and also comment on some other Management changes and qualitative aspects of the Company. I hope these are comprehensive enough for the reader to get a better understanding of where MTQ is headed from here, and what the prospects are like for this progressive Company.

Profit & Loss Statement

Interestingly, revenue grew 11.9% year on year for MTQ, as there was a surge in revenue coming from Engine Systems division due to the recent M&A activities relating to this division. OEM repair and rental also saw Oilfield Engineering’s revenue rise by $2.6 million, thereby contributing a little to the revenue increase. Gross margins dipped only slightly from 41.1% a year ago to 40.9%, but still remained high overall if compared to the last five years where gross margins did not manage to breach the 40% mark. This does continue to demonstrate that MTQ has a competitive edge and can maintain pricing power for the goods and services which it provides.

Net profit dipped to $10.6 million, down 11.7%, but this was in light of a gain on disposal for FY 2010 of $1.9 million and also an adverse movement in fair value of financial instruments. Removing these effects, net profit would have been higher by about 19%. The good news is that operating profit improved 17% for Oilfield Engineering, and 45% for Engine Systems. Engine Systems seems to have gained the much-awaited traction from their collaboration with Bosch, and also as a result of their expansion into Northern Territory and purchase of Highway Diesel back in August 2010.

One notable mention is the 19% increase in expenses even as gross profits only increased by 11.3%. I will attribute this to the increase hiring of staff to man the Bahrain facility, and also increased training costs to ensure these staff are well-equipped with the necessary skills to service the oilfield equipment and blowout preventers which are sent to the workshop.

The very good news is that valuations are far from demanding for MTQ, and I was using the current price of about 84 cents per share which values MTQ at a historical price-earnings ratio of about 7. In recent days the price has fallen to 82 cents which makes valuations even less demanding, yet dividend yield based on FY 2011 is a very healthy 4.8% (4 cents per share, cash or scrip choice is given). Of course, one has to take into account the fact that the Company had taken on significantly more debt (to be elaborated on under Balance Sheet Review) in order to expand and enter the Middle Eastern market, and so perhaps Mr. Market is discounting MTQ’s earning power due to potentially higher finance costs (note that for FY 2011, finance costs only increased marginally from $160K to $258K, though it was a 61% jump). I will mention a little more about prospects and plans for MTQ in Part 2 and delve into each separate division, but note that the Bahrain facility has already been completed and the machinery has been purchased and installed. Operations have already started as at FY 2012 and revenue should start to be recognized in the current financial year.

Balance Sheet Review

In terms of Balance Sheet changes, MTQ had a fair share of them this time round! First of all, PPE went up by nearly 123% ($22.8 million) as a result of the new facility being completed in Bahrain, and all the associated equipment and machinery which was moved into the workshop. Purchase of shares in Neptune Marine Services (“NMS”) listed on ASX also led to an increase in investment securities from $7 million to $17.2 million (up 144%). Reconciliation between cash flow statement and balance sheet is as follows (for those who are interested): $12,917K cash outflow on purchase of NMS shares, net of brokerage minus $2,762K loss on fair value of available for sale investments = $10,155K which is the increase in the investment securities as stated in Balance Sheet.

Trade Receivables dipped 12.6%, which is a positive sign of good cash management as revenue had increased year on year. Current ratio stood at 2.43 for FY 2011 compared to 3.01 for FY 2010, mainly due to the slight drop in prepayments and the increase in short-term loans. However, 2.43 is still a very healthy current ratio; and quick ratio for FY 2011 was 1.76 which also signalled that MTQ could service its current liabilities without problems.

The most significant change in MTQ’s Balance Sheet has to be the level of debt, and the Company took up significant amounts of debt in order to fund its Bahrain expansion and to buy equipment and machinery. Current portion of long-term borrowings increased from $1.7 million to $3.3 million (nearly doubling), while long-term borrowings (>1 year repayment) increased from $1.6 million to $24.1 million. In effect, MTQ’s debt had increased from $3.3 million to $27.3 million; and the Company is now once again in net debt of $3.5 million compared to being in a net cash position of $16.9 million a year ago. Recall that it was the sale of RCR Tomlinson back in FY 2008 which eliminated all the Company’s debt and pushed them into net cash. Now, it seems that the Company is planning to repeat the cycle – invest at very low valuations into an Australian-listed company, and use existing funds + debt to expand its operations to grab a larger slice of the pie and to grow organically as well. More will be mentioned on these plans in Part 3.

It would be interesting to find out the interest rate at which MTQ had borrowed the money at, now that interest rates are hovering near all-time lows. It is known from previous announcements that the loan was disbursed by UOB but the tenure of the loan was not stated. The idea of leverage is to borrow money at low interest rates in order to generate ROE and ROA at much higher rates through business expansion, and MTQ has to ensure that the increase in finance costs does not over-shadow the increase in revenues and associated profits from their business expansion into Bahrain.

ROE was a lower 13.6% compared to 16.3% a year ago, but was still comfortably above 10%.

Cash Flow Statement Analysis

Cash flows were rather “abnormal” for this period (i.e. FY 2011) mainly due to MTQ’s drawdown of loans for their expansion into Bahrain, and also because of their investment in NMS which entailed a large investing cash outflow. Operating cash flows showed a very large inflow of $22.4 million, while capex was very high at $25.8 million, thus resulting in negative free cash flow of $3.4 million. Interestingly, MTQ has only had one year of FCF out of 7 years, but they have managed to not only pay steady dividends over the years, but also increase these dividends. One of the reasons for this could be their strategic investments in shares like RCR Tomlinson and (as yet unproven) NMS. More will be mentioned of NMS in Part 3 of this analysis.

There is nothing much else worthy of mention as readers will know the reasons for the large cash outflow for investing activities and the large cash inflow for financing activities. The key is to review the Cash Flows again for 1H FY 2012 to see if there is any improvement in both revenues and cash flow, in order to pay off the interest expense charged by the bank(s).

For Part 2 of the analysis, I will touch on MTQ’s business divisions and their growth thus far, and also talk a bit about margins and operations. I will also include an interview done by NextInsight with MTQ to glean some insights on the business and to talk about some of the plans and prospects. Part 3 will cover quite a bit about NMS as it is a major investment by MTQ, and close off by talking about Management changes and what we can expect from the Company, as well as my decision on choosing scrip dividend over cash.

Sunday, May 08, 2011

Kingsmen Creatives – FY 2010 AGM Highlights

I attended Kingsmen’s (“KC”) AGM held on April 27, 2011 11:00 a.m. at their premises at Changi. It was my first time going to KC’s HQ and it was going to be a very interesting day indeed, not just for the amount of information gleaned but also in terms of meeting and interacting with Management and shareholders; as well as getting an unexpected tour around the premises. Below is a photo of KC’s fa├žade and also the Humpty Dumpty statue:-

This AGM review will discuss and cover various aspects of the Company, and I have organized my discussions and questions to Andrew Cheng (General Manager of KC) as well as information obtained from Mr. Benedict Soh and Mr. Simon Ong (founders of KC) into pertinent sections for easy reading and reference. I shall try to cover most aspects of the Company which I felt curious about, and also hope to discuss some other issues which are related to the Company’s prospects, financial performance, margins and potential hurdles, obstacles and liabilities moving forward.

1) IMC Division

IMC division suffered a net loss due to the following events: Bankruptcy of an advertising firm which Kingsmen had been working with, thus write off of amount owing to bad debts; purchase of a large panel for display purpose, of which depreciation recognized was sufficient to wipe out profits for the division.

However, IMC division has good potential for growth as many enquiries are flowing in for alternative media and marketing ideas.

2) Staff Retention Policies (for designers)The CEO said that it was important for him to identify top talent and to take measures to retain this talent. He mentioned that one of GE’s ex-CEOs spent nearly 50% of his time just identifying and retaining talent within his Company. Some of the measures undertaken to retain good talent include:-

a) Pegging designer’s commissions and bonuses to metrics and KPI such as net profit and profit margin. This is across the board for designers from the entire Kingsmen group,

b) Organizing an internal Kingsmen Designer’s Competition once a year to pit designers’ skills against one another in order to stimulate creativity and keep the brain juices flowing,

c) Making work environment conducive for brainstorming and creative thinking; to prevent top designers from leaving to set up their own practice.

3) Prospects and Competition in China

Competition is expected to be stiff, as there are many incumbent local players. However, Kingsmen intends to set up office in phases all over China, beginning with Chengdu. They already have an office in Beijing and Shanghai. Theme parks are big business in China with Disneyworld already offering Kingsmen some parcels of work. Benedict Soh is confident of clinching more parcels as thus far they are “very happy” with the quality of work as compared to local contractors.

Andrew Cheng (GM of Kingsmen) mentioned that there was a requirement for Chinese to engage foreigners as part of their regulatory environment, to work on massive projects such as theme parks. So this was advantageous to Kingsmen as they are already established and have a presence in China.

4) Margins

A shareholder mentioned that M&E net margins had decreased from 7-8% back in 2008 to about 6.25% for FY 2009 and FY 2010, in spite of the absence of the mega USS contract for FY 2010. Management acknowledged this and said that there was a learning curve involved when it comes to managing large theme park and scenic projects, and they assured that as they grew more familiar with such projects, the net margins would also rise as they could then bid more aggressively.

5) Theme Park Projects

Bidding for theme park projects in China and other Asian countries should begin as early as in the next few months, and there will be others which are gearing up for construction in 2012 and 2013, for which Kingsmen can only pitch for late-2011. Kingsmen are confident of getting some parcels of work at least as the project is so massive that one player alone cannot handle the scope.

When asked about the competitive environment and how Kingsmen is going to win over the competition by positioning itself as superior, Andrew mentioned that the theme park projects are so huge that other players like Pico FE and Cityneon would also get some parcels. It is just a matter of who gets how much of the contract. All players will work together to ensure the project takes off successfully.

6) Debt-Equity Ratio

Another shareholder talked about gearing and debt-equity ratio, citing the Annual Report which mentioned that gearing was 9+% for FY 2010. His take on it was that analysts had used total liabilities to equity to compute debt-equity ratio and if this was done then Kingsmen had a gearing ratio of almost 1.0. He then asked if a rights issue was on the cards to reduce the “gearing”. Ben Soh’s reply was why raise cash which the company does not need! Another shareholder shot down the proposal and said the formula was wrong to begin with.

7) Fixtures Export Business

Fixtures export business is mainly to European customers and Kingsmen are one of only a few Asian companies who attended a Trade Show in Europe. Customers are making strong enquiries as Kingsmen can deliver the quality they require but with an Asian cost structure, thus pricing is definitely more competitive as compared to European competitors (who do fabrication). Kingsmen fabricates the fixtures at its KL office and ships them over direct. This business used to generate reveunes of just $5 million with a 20+% gross margin, but now has hit $20 million for FY 2010 and is expected to grow even further.

8) Sporting Events

Andrew also mentioned that Kingsmen will consider sporting events, such as the ones Cityneon are handling now. It is basically an extension of what they are already doing in terms of arranging for Formula One seating.

Andrew is also confident that Formula One will be extended for another 3 years, even though it is not announced officially yet. Right now, the last year for F1 will be 2012. If the F1 is extended, Kingsmen will most likely be asked to manage it again.

9) Variation Orders

Variation orders (VO) are expected from USS and also various theme parks, so these are of higher gross margins and will add to the recurrent revenue theme. The good thing about theme parks is the constant need to change their attractions and to refurbish to make it look good and updated, so as to attract hordes of crowds. Kingsmen expects VO to be a common occurrence for theme parks in the region once they have been completed and require constant refurbishment, thus ensuring a constant revenue stream not just for Kingsmen, but all players in the thematic scene.

10) Revenues and Order Book

Revenue projected to be fairly flat this year and can be maintained as there is still ongoing work on Disneyland Hong Kong, Gardens By The Bay and also River Safari. Most of the Orchard Road malls are done with refurbishment, and the Marina Bay Sands Shoppes are also a one-off, but the heartland malls are now gearing up for renovations and will keep Kingsmen busy. Also, Malaysian malls like Mid Valley are due for their 3-year refurbishment and this will also add to the work done by Interiors Division.

Kingsmen will be announcing their 1Q FY 2011 results and order book by the second week of May 2011, and according to Management, it will be higher than the S$80 million announced for their FY 2010 results. As the bidding for theme park projects can only take place later this year and in 2012 and 2013, I would expect revenues to trend up very gradually and steadily over the next 3 to 4 years. Assuming Kingsmen can at least maintain net margins, this would also imply that net profit can also increase steadily, albeit slowly.

11) Other Pertinent Matters

i) The piece of land which Kingsmen is sitting on has a remaining 5-year lease, at a very attractive rate of about $1.05 per square foot. It was sold and leaseback from Mapletree Logistics Trust. Kingsmen are actively looking for a plot of land for an office cum workshop which is twice the size of their current premises.

ii) On whether scenic/thematic will be classified as a separate SBU from M&E, the answer is no. As the revenue contribution from scenic/thematic works increases, it will continue to be accounted for under M&E but internally, it will be treated as a separate business unit with its own team.

iii) Contract staff for theme parks work includes specialized people from USA and other countries. These are hired on a contractual basis and thus costs are higher when tendering for theme park projects. I did enquire on their intention for in-house training to reduce costs, but Andrew was distracted and did not provide a reply.

iv) Arbitration case - This has a potential exposure and liability of several million SGD, as a result of disputes between contractor and Kingsmen on the amount of work done. This is the first time they are encountering such an issue. Disclosure was made but since liability cannot be determined, did not provide as a contingent liability in the books.

v) Regarding the announcement of contract wins, this cannot be done as there are strict confidentiality clauses from their clients prohibiting them from doing so.

So that about wraps up my review and highlights of the AGM. All shareholders were treated to a sumptuous lunch and it was quite a feast! For once I could safely tuck into my food while still engaging Andrew on the salient aspects of the Company, and found the experience to be wonderfully enjoyable. Management was candid, friendly and also prudent, and Benedict Soh’s way of speaking, tone and Management style reminds me very strongly of FF Wong, CEO of Boustead. Both of them spoke on being prudent and conservative, not raising cash they did not need, and the necessity of retaining top talent to grow the Company. The only topic I did not manage to bring up was the issue of succession planning, but I think it is a question which can be reserved for next year’s AGM!

Andrew was then kind enough to take a few of us shareholders on a tour of the Kingsmen building and premises. The showroom on the first floor contains a lot of fabrication work for Interiors, and acts as a test bed for designers to work on and display their finished products. I saw a scale model of the Disney castle used for USS, and there were also counter displays for Chanel and Nespresso (a new client). The tour also took us past the offices and cubicles, and the design was indeed very hip and modern and defined Kingsmen as a design-driven company. I also had the chance to look at the warehouse, where many of the standard equipment and props were stored which were used for Exhibitions and Museums (e.g. bar chairs). Kingsmen also has a fabrication section where wood-working is done, and I witnessed many workers doing sawing, planing and other wood-related activities, and this was for the Interiors business.

Interesting fact – most of the fabrication for USS and mega-projects was done in Kuala Lumpur Malaysia as it was cheaper there, and the items sent directly on site to save on costs. The simple tour also helped me to understand how Kingsmen was structured, and many of the offices on various floors were “bursting at the seams” as Kingsmen was still expanding its teams of designers and therefore required more space, which is why they plan on moving to a building twice the size of their current premises.

Finally, I went back to the top floor again just to sit down, have some food in a relaxed manner, and generally just chill out with some fruit punch. To end this post, here is a picture of Kingsmen’s chill-out corner, and I must say the staff are lucky to have these facilities (including a bar) for them!