February 2011 Portfolio Summary and Review

It has been a very relaxing month for me in terms of blogging as I have eased up on the frequency, and have instead focused more on my personal life and other pursuits. Other than checking on the results of the companies which I own, I also did some reading and simple analyses on other companies which had released their results, in a relaxed and non-hurried pace. After all, if a company is really good, it should remain so even into the future. The problem, of course, is getting Mr. Market to sell it to you cheaply so that you can maintain your margin of safety.

The economic and political news has probably been dealt to death in the newspapers so I will not dwell on it except to mention the headlines – troubles in Libya, Bahrain, Yemen and Middle East in general, an earthquake in New Zealand and COE prices moving north again in Singapore. Inflation hit 5.5% and raised quite a ruckus among economists who (as usual) did not expect it. And who can forget the most “sensational” news of all this month – (Election) Budget 2011 and the confirmation of electoral boundaries, signalling an impending General Election.

Without further ado, below is a snapshot of my portfolio and associated comments for February 2011:-

1) Boustead Holdings Limited – All I can say is, Boustead got hit by pretty bad news this month as the unrest and violence in Libya spiralled out of control and threatened the safety of staff situated there. As a result, on February 21, 2011, Boustead announced the evacuation of staff from Libya and on February 25, 2011, it followed up by announcing that all staff had been safely flown back home with the help of International SOS and embassies. Of course, such a political volatile situation will not bode well for Boustead’s Al Marj Project in Tripoli, even though it was announced on February 1, 2011 that they had reduced their stake in the Joint Venture from 65% to 35% and let their JV partner GCBC take over the completion of the Township to expedite matters. Additional announcements include one on February 1, 2011 where Boustead Projects clinched a Design, Build and Lease Project (its third since start of 2011) to build an integrated aircraft MRO facility for Hawker Pacific Asia Pte Ltd. This will add to Boustead’s recurrent revenue and cash flows as their real-estate solutions division builds up its portfolio. Boustead also released their 3Q 2011 financial statements on February 14, 2011. To summarize, 9M 2011 increased 34% to S$450.5 million, gross profit was up 41% to S$135.3 million and net profit attributable to shareholders was up 84% to S$53.3 million, but this included a one-off gain on disposal of a property. FCF generated was healthy and the business seems to be chugging along fine. On February 18, 2011, Boustead announced that it was purchasing the remaining 8.33% stake in Boustead Projects from Mr. Ngo Wu Ping for a consideration of S$16 million. Interestingly, this values Boustead Projects at about S$192 million. Boustead’s total market value is only about S$470 million (using 93 cents per share), so this implies the other 3 divisions in total are worth just S$278 million. Considering the other three divisions are very well-established with a good clientele base, it seems unlikely that it is just worth S$278 million. So perhaps this is an indication that Boustead may “spin off” some of its divisions in future to realize hidden value.

2) Suntec REIT – There was no news from Suntec REIT for the month of February 2011.

3) MTQ Corporation Limited – There was no news from the Company for this month, except that the unrest in Bahrain might have an impact on MTQ’s investment in Bahrain. Thus far, their IR has assured that they are monitoring the situation and that they plan to be in Bahrain for the long-haul. Still, I am concerned that the protests may escalate and cause major economic and political trouble, which in turn will affect Bahrain’s attractiveness as a commercial hub. I will keep updated with the latest events as time goes by, and hope for the best.

4) GRP Limited – GRP released their 1H FY 2011 results on February 11, 2011. Revenue fell 2.1% while COGS increased 4%, so effectively gross profit fell by 13% to S$4 million. Other operating income also dropped 92% to S$128,000 as there was no more rental income from the property at Bukit Batok due to expiration of lease. As a result, net profit dived 47.3% to S$1.2 million. However, in spite of the weaker results, Management declared the usual 1 cent/share interim dividend, and this has been reflected in my realized gains as the counter has gone ex-dividend.

5) Kingsmen Creatives Holdings Limited – Kingsmen released their FY 2010 results on February 22, 2011. FY 2010 revenue decreased by 2.8% to S$235.2 million but gross profit increased about 10% to S$65.4 million due to better gross margins. Net profit was flat (an increase of just 1.1% to S$15.1 million), but the Company declared a 0.5c special dividend in addition to a 2c final dividend due to their 35th Anniversary. I will be doing a more detailed analysis of Kingsmen’s FY 2010 results and prospects in a future post.

6) SIA Engineering Company Limited – There was no news from the Company for February 2011.

Portfolio Review – February 2011

Realized gains increased to S$55.4K as a result of realized gains from the divestment of Tat Hong, as well as dividend from GRP.

For YTD February 2011, the portfolio has fallen -5.7% (using XIRR and including GRP dividend) against a -5.6% fall in the STI. Cost of investment has decreased to S$185.3K, and unrealized gains stand at +11.8% (portfolio market value of S$207.1K).

March 2011 is expected to be a quiet month as there are no results being released, so it will give me time to do some analyses on my existing companies as well as allow me to analyse the results of companies which I find an interest in deploying my cash into. However, I must stress that there is no immediate urgent rush to deploy the cash unless ALL factors are in my favour and unless I can guarantee a reasonable margin of safety. Patience is the key to long-term sustainable returns and I intend to just let the money sit in the bank account if I cannot allocate it efficiently.

My next portfolio review will be on March 31, 2011 (Thursday).

Divestment of Tat Hong – Analysis and Lessons Learnt

My previous post on Tat Hong’s 1H FY 2011 results ended on a pessimistic note, as I had mentioned that I will be keenly monitoring the Company’s 3Q FY 2011 results to review margins, revenues, utilization rates and overall profitability and cash flow generation. Well, the jury is out – Tat Hong released its 3Q FY 2011 financial statements on February 14, 2011; but it was more of a Valentine’s Day nightmare than a gift, for the numbers were quite horrendous by any standards. This post is not just to highlight the numbers and the deterioration of the business, but also serves as a lesson and wake-up call to yours truly (yes, ME) on which companies I should choose to avoid in future when searching for a value investment. Note that this investment in Tat Hong was made back in September 2008, when my criteria for strong Balance Sheets and Free Cash Flow was not as rigorous as in 2009 and 2010.

Just for the record, the divestment was made on February 15, 2011 at a price of S$0.895 per share, and capital gains to be recognized amount to about S$5.2K. Taking into account the holding period of Tat Hong, including dividends and subsequent purchases during the bear market, my annualized gain is about +17% per annum. Admittedly, this could have been much better if I had recognized and heeded the many red flags and warning signals which popped up all over the place, but I chose to stubbornly ignore them and hang on as I felt the positives and economic recovery would kick in and lift earnings and margins. Anyhow, let me go point by point on Tat Hong to dissect the decision to completely divest myself of this investment.

1) Gross Margins – For 3Q 2011, gross margin deteriorated significantly from 38.0% to 34.4%. While this in itself may have been a temporary “blip”, the commentary is chilling in the sense that it casts a pall over the gross margins by stating that lower margins were obtained in crane division (55.6% versus 63.0%) due to more intense competition in local and Malaysian markets (Page 12), and that distribution also saw lower margins of 18.0% versus 19.7% due to strong competition and weak market conditions. Another worrying point was that Tower Crane division in China also contributed to the weaker gross margins due to higher COGS and keen competition, and gross margins fell significantly from 30.1% to just 21.8%. The common theme among these three pieces of negative news was the word “competition”. Note that in the first place, the crane industry is very fragmented; and that even though Tat Hong is one of the major players, there are still many smaller companies that can buy a few cranes and then lease them out, so this makes it a very price-competitive environment. The fact that Tat Hong is succumbing to keen competition signals that this is a permanent problem which is likely to persist, as competition does not just disappear overnight. It is one of the most difficult problems for a company to tackle, and if they did not have a very strong competitive moat in the first place, the first signs of weakness will show up in the gross margins, as what Tat Hong is demonstrating.

2) Finance Costs – Finance costs have been rising steadily, and for 3Q 2011 it went up 25% to S$4.7 million, against just a 1% increase in gross profit. For 9M 2011, finance costs hit S$14 million, up 26% from a year ago. The increase in debt was ostensibly to fund the acquisition of Tutt Bryant, but with the recent massive Queensland floods, it remains to be seen if this will have an adverse impact on Tutt’s operations. The fact is that finance costs are climbing and with a combination of slower revenue growth and lower gross margins, this signals a big red flag.

3) Expenses – Looking at 9M 2011, it is clear that expenses have risen more than revenues or gross profits. Administrative expenses were up 25%, while other operating expenses rose 23%. Apparently, keeping a tight lid on expenses is an effort for the company, as they are hiring for their new subsidiaries in China and also spending more money on upkeep and rental of their machinery in Australia. This has occurred not just in one quarter but I have observed the trend of higher expenses amid lower or flat revenues and earnings, and as a shareholder one should be rightfully worried. Controlling costs should be of utmost importance, and if companies such as Boustead can reduce costs even while growing revenues, then I would expect it of the other companies within my portfolio as well. Tat Hong has certainly not been able to control its expenses effectively, as can be seen in their bottom line performance.

4) Debt Levels – It was always worrying to me that Tat Hong held such high debt, and Management was constantly talking about net debt to equity ratios instead of concentrating on going net cash. I guess this points to a fundamental flaw in my original logic for purchasing Tat Hong – that it is involved in a high capex industry and therefore needed to rely on a lot of bank loans and financing for daily operations. Financial liabilities (ST) increased from S$91.2 million to S$142.9 million, which is a 56.7% increase; while LT financial liabilities increased significantly from S$153.8 million to S$227.7 million (a 48% increase). Total debt therefore increased from S$245 million to S$370 million, and the cash balance of the Company was just S$73.5 million as at Dec 31, 2010.

5) Persistent absence of Free Cash Flows – One of my major gripes was that Tat Hong’s cash flow statement always shows a persistent lack of free cash flows, as cash from operations is seldom sufficient to cover capital expenditures. The result of this, of course, is that Tat Hong has to rely on other sources of funding such as bank loans (as mentioned in point 4), and the recently issued RCPS to AIF Capital. For 3Q 2011, the situation looked even more dire as there was negative operating cash flows of S$15.2 million, while capex was S$12.4 million under “Investing Activities”. Needless to say, most of the cash came from the raising of bank loans (S$43.8 million) once again.

6) Company Characteristics – Tat Hong is a company which is similar in nature to Ezra and Swiber, in that there has to be constant high capital expenditure for it to function effectively. The buying and selling of cranes ensures that capex has to remain high, and even to replace old, worn-out cranes and equipment for rental would entail high capex as well. Considering the Company has diverse business operations in Australia and Asia, this means that upkeep and maintenance of this equipment necessitates high expenditures, and this is a characteristic of the Company which must be taken into account. Sadly, when I was analyzing the Company, I focused more on its size, scale and market leadership rather than these more important characteristics, and which resulted in this mistake.

The above points were sufficient to justify the decision to divest, and to deploy the monies at a suitable time and when a suitable investment-grade company can be identified. I will strive to actively avoid making the same mistakes, and focus a lot more on debt and free cash flows in future analysis of purchases. In fact, this had started with the purchase of MTQ, and then moved on to GRP, Kingsmen Creatives and lastly SIA Engineering. Thus far, their businesses have been more resilient as compared to Tat Hong, even in the face of an uncertain economic climate.

This divestment and change in my portfolio will be reflected in my month-end portfolio review. With the divestment of Tat Hong, it also means I lose an income stream which amounted to about $500 a year (assuming last year’s dividend history), and at a dividend yield of 2.9% (yes, nothing to shout about). Note that the cash will be kept in a bank account until suitable opportunities can be found to deploy it. There will be no rush to invest in a company until ALL the factors are in my favour, and if I have the requisite margin of safety. Capital preservation remains the cornerstone of my investing philosophy.

January 2011 Portfolio Summary and Review

In case readers have been wondering about the lack of posts for the last 10 days or so, the reasons are purely personal. Upon reflection, I realize my life has been getting busier and more hectic on almost all aspects – tougher work requirements (job), more demanding family commitments (with a 1.5 year-old child) as well as the need to spend more quality time with my loved ones (who, by the way, are not getting any younger). My previous post was on “pace of research”, and it is apt that it comes at a time when I feel I should slow down on active investing and adopt a more passive, but still watchful, role. I guess such a frenetic pace of blogging (one article every 4 to 5 days) cannot be kept up indefinitely, and one does run a little dry of topics and ideas as most have already been mentioned and discussed in the last three years. So to cut a long story short, my frequency of posts will be drastically reduced in light of a more healthy balance of work, time with family and exercise. My portfolio is already generating healthy passive income and though I would, of course, like it to be much more, some things cannot be rushed and it is a good time for me to re-evaluate my priorities in life. The mindless pursuit of money is unhealthy and I need to devote time to being a good son, father and husband too.

And so, I will be cutting down on a lot of content which I feel is quite unnecessary for my month-end portfolio review, and just focus on the companies I own and their businesses.

Below is a snapshot of my portfolio and associated comments for January 2011:-

1) Boustead Holdings Limited – It was a pretty busy and fruitful month for Boustead, as there were three corporate announcements for the month of January 2011. On January 5, 2011, Boustead announced that their energy-related engineering division had been awarded S$16 million in contracts from the oil and gas industries. Then on January 24, 2011, they announced a S$25 million demineralization plant contract secured by both Salcon and Boustead Project, the first time the two companies are working together on the same project. Finally, on January 27, 2011, Boustead Projects was awarded a S$7 million design and build contract for XP Power Manufacturing Facility in Vietnam. From these contracts, it can be seen that the contract size has grown smaller, though the frequency seems to have increased. I shall be anticipating Boustead’s 3Q 2011 results release in mid-February 2011.

2) Suntec REIT – I won’t dwell too much on Suntec REIT as my shareholding is very small as compared to the size of my portfolio. Results were released on January 21, 2011 and a dividend of 0.593 cents/share was declared, and this will be paid out on February 28, 2011. This has been highlighted in my portfolio summary as the XD date has already passed.

3) Tat Hong Holdings Limited – The most major news impacting Tat Hong was the Queensland floods which affected one of Tutt Bryant’s branches. Fortunately, most of the equipment was already shifted to high ground and so damage was minimal. The Company expects some short-term write-offs although they are covered by insurance. Long-term wise, however, the Company did mention that a lot of rebuilding needs to be done in Australia in aftermath of the worst floods in quite a while, and this will bode well for Tat Hong’s business as Tutt Bryant contributes >50% of revenues. I am hoping for a more definite update on the situation when Tat Hong releases its 3Q 2011 results in mid-February 2011.

4) MTQ Corporation Limited – There was no news again from the Company except that the scrip shares have been credited to my CDP account, and will boost the value of my portfolio. Of course, this also means I have odd lots, but since my intention is not to sell the shares but to enjoy the long-term business growth of the company, this does not pose a major problem. If there are more scrip dividends declared in future, I will make use of them as an opportunity to add more shares.

5) GRP Limited – As expected, there was no news from GRP for January 2011. I am expecting 1H FY 2011 results to be released in early February 2011.

6) Kingsmen Creatives Holdings Limited – There was no news of significance for Kingsmen Creatives for January 2011. Full-year results for FY 2010 should be released in late February 2011, and I am expecting a decent final dividend to be declared.

7) SIA Engineering Company Limited – SIAEC released 3Q 2011 results on January 25, 2011. For 3Q 2011, revenue was up 11.6% while net profit was up 7.7%, which was a decent performance considering some of their more recent associated companies and start-ups are still in the gestation phase (and thus will incur start-up losses). For 9M 2011, revenue was up 13.8% while profit was up a more commendable 21.8%. FCF continued to be very strong for 3Q 2011 and the Balance Sheet was also free of debt. In short, I have no complaints.

Portfolio Review – January 2011
Realized gains stayed stagnant at S$49.1K as the Suntec dividend was a little too small to make a meaningful impact on realized gains.

For the month of January 2011, the portfolio has fallen -1.0% against a -0.4% fall in the STI. Cost of investment continues to remain at S$202.4K, and unrealized gains stand at +18.9% (portfolio market value of S$240.7K).

February 2011 is the month to look out for, as four of my companies will be releasing results. They are Boustead, Tat Hong, GRP and Kingsmen Creatives. I expect dividends from GRP and Kingsmen, while the other two companies will provide updates on their businesses and a commentary on business prospects as well.

My next portfolio review will be on February 28, 2011 (Monday).

Pace of Research

As I sit here facing the new year with a mixture of delight and trepidation, I begin to muse over the financial resolutions I had made at the close of the previous year, 2010. One of them was to engage in research and reading in order to unearth more companies to invest in, and I had mentioned that I would devote more time to this pursuit. However, a friend of mine told me the other day about the importance of family time and values; and to be honest, my wife has been complaining incessantly about my time spent at the computer doing research and reading of annual reports. This made me think about what was truly important in my life – making money and financial freedom, or previous time with my loved ones including my daughter. I guess it’s no point being financially free if your family is fragmenting before your very eyes!

Which brings me to the point of this post – that research into potential companies to invest in need not be undertaken in a hasty, rushed manner. My previous detailed research into SIA Engineering company was done in a mere two weeks, and involved a lot of late nights poring over annual reports, compiling numbers and reading and crunching facts and figures. One of the main reasons for the rush job was because I was hasty to deploy some capital, which resulted in some fatigue and perhaps some biasness towards accepting the data and information gathered (commonly known as selective retention in marketing literature). Part of me was also afraid that valuations would continue to climb higher, thereby making a purchase difficult due to the decreased margin of safety. As it was, valuations were already not exactly cheap for SIAEC as it was a blue chip, but further dragging of feet could have resulted in valuations which were even more demanding. Hence, there was a concerted effort undertaken by myself to hurry up on my research to produce a credible report on which I could base my investment decision on.

I now realize that this logic is rather flawed, because if valuations are demanding then the purchase decision should be postponed, and the company can be placed under a “tracking” or “watch” list, to be purchased only when there is a market crash or if valuations become depressed for some reason. The idea of being an investor is being able to wait for the big fat pitch, and then swing when it comes along. To this end, patience should be an enduring virtue possessed by the successful investor; and I realize I may have lacked this when I did my SIAEC research. The pace of research should be slow and relaxed, as one needs time to absorb, digest and analyze disparate pieces of information gathered from various sources, in order to collate them into a coherent investment thesis. The investor’s job is to make sure the business he is researching is understandable and simple enough to digest, and he should ensure he gives himself enough time to read and understand the business model. By giving yourself enough time and space to understand and appreciate the inner workings of the business, as well as possibly arranging for a meeting with the Management and Directors to further delve into the corporate aspects, one can have a more holistic view of whether or not to invest your money in that company for the medium-term.

Now when I think deeper on this issue, I realize that many companies can sit on the backburner for at least a couple of years while one monitors and tracks the business growth of the Company. This is especially so for the newcomers (i.e. IPOs) which may not have much of a track record. The idea of investing is to ensure you are sufficiently comfortable with the track record of a company and the consistency of revenues and earnings in order to be able to place some money on it. With more time on your hands, you can safely assess companies to see if they conform to your investing criteria in terms of growth, ROE and other metrics; and whether Management has delivered on their promises over the years. Therefore, it is absolutely all right to slow down your pace of research and identify good companies, yet not invest in them immediately. Right now, I am in the process of compiling a list of very good companies which have decent prospects, are able to weather a significant downturn, have strong Balance Sheets and good cash flow generation. Obviously, some of these companies will not be trading at attractive valuations as the economic recovery had already taken place, pushing valuations up higher as compared to during the Great Recession. The idea, then, is to build up a decent laundry list of companies with which you will swoop down on and scoop up significant amounts of shares when their share prices are forced down in a market crash or economic downturn. Of course, the usual requirements of controlling your fear and greed are always applicable, as it takes a strong stomach to purchase shares during a market crash. However, it does get easier over time as you adjust yourself to a value mindset and adopt the mentality of a business owner. If one thinks this one, one will be immune to the daily fluctuations caused by Mr. Market and able to act quickly and decisively to purchase shares.

One final point to note is that one should also continue to research and read up on companies already existing in one’s portfolio, as these will also be prime candidates for further investment should their share prices drop like a rock during the next downturn. Since you purchased them in the first place, it is assumed that they had already passed the initial intensive screening and will remain as good investment candidates unless something drastic occurs to upset their status as being worthy investments. It is of paramount importance that one assess the investment worthiness of the companies you already own from an objective perspective (though in essence this is nearly impossible as you are already vested), in order to assure yourself that they remain investment worthy.

Personal Finance Part 21 – Checklist for the Financially Sound

This post started out as sort of a reminder to myself on the attributes a financially sound person (and family) should have, and went on to become a detailed checklist of what I think a married couple and investor should take note of in order to be classified as “financially sound”. Please note, however, that I am not licensed or registered to give financial advice – this is merely a list of what I feel a person should either practise or possess in order to hasten his journey to financial freedom and to avoid being shackled by debt and high expenses. If there are any points which any reader would like to comment on, add on or disagree upon, please feel free to do so (but keep it constructive, please!).

1) Knowing how to budget – I think that first and foremost, it is very important for any individual to understand the basics of budgeting. When you step into the working world, it is basically a balancing act of making sure you have enough cash to last the entire month (assuming you are a salaried employee), and how not to over-spend at any one point within the month so that you have negative cash flows. While this may sound simple, remember that all of us have multiple commitments as we age and therefore the list of expenses grows steadily longer. Not only do we have household expenses, we may also have phone bills, utility bills, conservancy charges and credit card bills; and GIRO deductions on top of those for donations and insurance. Hence, it makes sense to build up a simple budget using pen/paper or an Excel spreadsheet and to key in all future-dated expenses so as to ensure there is enough cash inflow (and at the right timing) to cover all these. I have my own personal spreadsheet which is updated daily to ensure the cash flows smoothly.

2) Understanding the importance of “paying yourself first” – This has probably been discussed to death on many personal finance websites and blogs, but it still bears repeating. One should always allocate a proportion of your salary or allowance to a separate bank account and NOT touch the money within that account. This should be done immediately once you receive your pay check, and before you even entertain thoughts of spending it. The standard is 10% of your take-home pay (after CPF), but my personal goal is about 50% to 55% (currently, I am at about 45%). Having the discipline to do so is not as common as you might think, and I do not have that many friends actually practising this as I may like to believe.

3) Appreciate the value of investing – The best way to grow one’s money is not just through fervent savings (though it will grow, albeit slowly), but to also invest the money to make the money work harder for you. Everyone has heard of the axiom – Do not work hard for your money, make your money work hard for you! This is precisely why I advocate investing as a means to not just supplement your income (through dividends), but to also allow you a chance at long-term wealth accumulation through ownership of excellent businesses. Of course, one has to be properly equipped with the essential background and knowledge on how to invest properly and prudently without taking undue high risks, otherwise instead of growing your money you will very well see it shrink faster than you can say “Hey!”. For those who feel that they are ill-equipped to handle the emotional roller-coaster which the stock markets provide, they can always choose to invest in an index fund (i.e. ETF).

4) Be aware of the importance of insurance and protection – Much as we like to believe that nothing untoward or bad will befall us, the truth is that at any given point in time, we are exposed to danger coming from a variety of sources. Even crossing a busy road using a signalized junction can be hazardous if you happen to encounter a drunk driver. My point being that we never know if disaster will befall us, just like the recent news of once in a century floods occurring in the state of Brisbane, Australia. I would bet my last dollar that those people who were affected and inundated did not have a clue that things would get so bad, and quite a few lost almost all their belongings in the deluge except for some personal items and the clothes on their backs. Therefore, I will always emphasize on the importance of being properly insured, not just on your life but also for stuff like hospitalization, critical illness and total permanent disability. Recently, I added another category to that which is disability income insurance, meaning the policy pays out a sum of money to you for the rest of your life if you cannot work in your chosen profession. All these insurance may be costly, but they provide protection for you in case of any unforeseen circumstance; and most importantly, provide you with peace of mind and a good night’s sleep.

5) Being knowledgeable about different kinds of debt – The world we live in is awash in different kinds of debt, and loans make the world go round. That’s why banks are able to exist – they serve a purpose by providing funding for start-up companies, new ventures and mega-projects which are undertaken by established companies. Hence, it is in our best interests to find out about how loans work, how interest rates work and to use this information to our advantage. Besides the normal secured loans out there, there are also other types of debt such as car loans, mortgage loans, credit card debt and bank overdrafts (i.e. line of credit). These carry different interest rates and have different conditions attached, and the individual will be much wiser if he understood how the system works so that he can exploit it to the fullest (or at the very least, avoid being exploited by the slick and glossy marketing). Too many people end up in debt for the wrong reasons, and it becomes a burden to them as it drains precious cash flows. If one is aware of how to harness leverage wisely, then one can make use of debt to their fullest advantage and become much wealthier in the process.

6) Differentiating between wants and needs – I think I had mentioned this before in one of my posts, so I shall not elaborate. I have included this because of the importance of stressing this once more, as I feel the line is becoming increasingly blurred in our society where materialism and consumerism is so prevalent.

7) Setting financial targets – Last but not least, setting financial targets is important because it helps us to work towards a goal to be attained, and to ensure we stay on track to meet these goals. In order not to waver, these targets should be explicit and deliberately difficult, such that they are achievable but much effort needs to be put in in order to achieve them. An example would be to save $X a year or to reduce your mortgage loan by $Y. If one fails at attaining the target, then one should do a thorough review on what caused the failure, and ensure that the same mistakes are not repeated.

The above are just some of the factors which I believe make one financially sound. There are probably many others which I had left out as these seven were sort of off the cuff thoughts I had which I could immediately pen down and write something about. Readers may wish to use the comments box to articulate some other ideas they may have on this topic, or to opine on what I had written.

Can Value Investing be considered a Gamble?

Interestingly, the above question was posed recently on the Value Buddies forum, and attracted considerable interest and wide-ranging views from a variety of participants. The question above was posed from the standpoint that value investing (or any kind of investing, for that matter) can be considered a gamble as it may take a long time for the market price of a security to rise to its intrinsic value. Thus, there is an element of chance and perhaps even luck and is no different from blackjack or slot machines at the casino.

I found this to be a somewhat interesting topic as the subject matter raised was one which many investors would have asked themselves countless times when their investments are stagnant and not doing well. Value investing, by its very nature, requires an investor to purchase part-ownership of a company and hold its shares for more than a few years, in order for business growth to make the company more valuable. If he chose the right company, there would also be a return on his investment in the form of dividends, which come from the cash flows generated by the Company. But to classify an investment as a gamble is somewhat wrong, as I feel that any event which has a probabilistic outcome amid uncertainty qualifies as a “gamble”. However, it must be stressed that value investors will “gamble” with the factors in their favour, in order to increase the odds of success, and reduce the chances of failure.

The proper definition of a gamble is – “any matter or thing involving risk or hazardous uncertainty” (from dictionary.com). While it is generally acknowledged that investment carries risks and uncertainties, value investing, by its very nature, seeks to adequately address the uncertainties while at the same time, mitigating the risks. Uncertainties can be smoothed out through an understanding of the industry in which a company is operating in, and also by studying its long-term track record using ten-year financial analyses (plot this using MS Excel and you can see the trend of revenues, profits and dividends). Though one can argue that uncertainties in terms of economies and industry cycles can never be completely understood or predicted, one can use history as a somewhat reliable guide and factor in a suitable discount to computed intrinsic value as a margin of safety. In terms of risks, these are mitigated when an investor gains a thorough understanding of the business, including what drives it, its business model, prospects, plans and Management quality. Of course, this entails a lot of reading, research, fact-finding and some even go to the extent of visiting the premises and plants/factories to gain a better appreciation of how the business is run from an operational and tactical standpoint. To further mitigate and control risk, an investor can “go the distance” and use Phil Fisher’s “Scuttlebutt” technique of visiting Management and conducting interviews with them on various aspects of the business. Usually, however, being a minority shareholder means that the Management will not allocate time to entertain you, as they have more pressing matters at hand (like running the business day-to-day!). However, some companies have excellent IR personnel who will respond to queries and provide appropriate updates, news and facts when requested to do so.

So back to the question of whether value investing is considered a gamble. Yes it is if you go by the strict definition given by the dictionary; but then again everything in life can then be termed a gamble, from what you choose to study in University, who you marry, which job you take up and which friends you decide to associate with. After all, all these events involve uncertainty and some of them carry a fair amount of risk as well; but we still have to move on and make decisions which seem best under the circumstances. So my assertion is that we all take daily “gambles”, it’s simply the impact which differs for each of these actions that’s all.

From my limited and short experience (less than 4 years) as a value investor, I did note that valuations will normally revert back to the long-term mean, and that if an investor purchased shares in a company whose valuation is trading at a discount to the mean, and the Company is doing well in terms of business growth and cash flows, then one can reasonably expect a reversion to intrinsic value as time goes by. But after going through one complete bull/bear cycle, I have to categorically state that it is by no means easy to spot whether valuations are “cheap” or “expensive” as these terms can be relative, depending on the state of earnings and economic growth in general. One must learn to be flexible and adaptive in assessing valuations and to keep an open mind.

Ultimately, as investors we have to make an intelligent gamble, with the odds tilting in our favour. That’s basically what investing is about, and when the odds are strongly in our favour, then learn to bet larger amounts. If there are too many uncertainties and risks, then an investor should be prudent and only commit a small amount of capital. In other words, we should do position sizing based on our comfort level with a certain company, and this is something which I believe all investors practise. After all, when it comes to the crunch, I dare say a value investor will still do much better than a gambler at a casino playing cards because in the former case, we are talking about business growth and the management of uncertainty; whereas in the latter case, there is the “house advantage” which is an artificially created additional layer of mathematical uncertainty out to sabotage the gambler!

The Art of Deal Making

With this first post in the New Year, I thought I would touch on a topic which has been revolving in my mind for quite a while, and which has been incubating since Boustead announced their Bio-Treat and Big Box deals. I would readily admit that the main content for this post comes from observations and analytical thoughts stemming from the failed investment in Big Box, as well as the investment decision for Bio-Treat. These two events, coupled with my own personal experiences in negotiating and observing how deals are made, compelled me to write something on this in order to start a fruitful and engaging discussion.

Deal-making is the process by which top management such as CEOs and Managing Directors engage in (sometimes) long, protracted discussions and negotiations with third-parties on potential M&A deals. As readers would already know, some of the really large mega-deals involving mergers (such as the SGX-ASX “merger”) and acquisitions (of which there were a few reverse take-overs announced in 2010) were a result of long and intensive negotiations and a lot of give-and-take on both sides. Though some may wonder if the deals actually did turn out to be earnings and yield accretive to shareholders, one should not question the amount of effort and hard work put in by the Management Team to secure these deals.

Deal-making normally starts with casual introductions through a network of business associates, probably over a meal or drinks. These introductions are made usually with a mutual business associate introducing both parties, whereby he acts as a catalyst to facilitate the initial exchange. Subsequent business discussions will be left to the individuals to arrange and the role of the introducer is simply to introduce and provide a summary of what each party is doing (e.g. engaging in what business, looking for what kinds of opportunities etc.). This emphasizes the importance of having good business networks in order to snare potentially juicy deals, and it also helps if you are someone who is well-liked by the business community and is viewed as a successful and down to earth entrepreneur. Going back to FF Wong’s case, he is indeed someone who is affable and will attract others who may wish to conduct deals with him; which also opens him up to a lot more opportunities as compared to those who have to go out and actively seek partners.

The difficult part of deal-making is then the stage of negotiations, for it often involves a huge amount of paperwork, spreadsheets, forecasts and face-to-face interactions. This is the part where each party summons its troops to prepare detailed analyses on the feasibility of partaking in the deal, and each side will also conduct its respective due diligence. Normally, this will involve aspects such as obtaining the Company’s instant info (from ACRA), checking the shareholders and directors (to determine that it is not a fly-by-night company), procuring financial statements and MD&A (if any) and making notes on the potential deal and the rates of return and payback periods.

Due diligence also has several aspects to it – financial, legal and physical. Using the Boustead/Bio-Treat example, physical due diligence will refer to the actual sighting of the asset(s) in question, to make sure they are in existence. In Boustead’s case it was to send down some staff to China to ensure the water treatment plants as stated are actually there. For REIT acquisitions, this involves actual sighting of the buildings to be acquired to ensure they are physically standing and in good condition. Legal due diligence consists of engaging lawyers to review the agreements and contracts relating to the deal to ensure there are no loopholes and points which can be exploited by the other party; and also to draft suitable correspondences to ensure there is no undue liability for each party. Legal due diligence also involves getting the lawyers to inspect all relevant certificates, licenses, patents and other legal documents to determine their authenticity. If the acquisition is foreign (e.g. for Bio-Treat’s case, it is in China), then Chinese lawyers will probably have to be engaged as they are familiar with Chinese laws and regulations governing asset acquisition, and also the paperwork required to effect the deal. Up to this stage, the costs are also quite significant as it involves flying people to China and engaging lawyers in both countries to deal with all the outstanding issues.

Financial due diligence is probably the most important aspect of the deal, and can actually make or break it. This process can be long and protracted as revisions may need to be made on assumptions, and terms and conditions may also change in light of new news or as a result of negotiations. Generally, the financial aspects which are considered important will include ROE, payback period and IRR (Internal Rate of Return). There will be detailed spreadsheets done to simulate the operational aspects of the acquired company or assets and this will be used as the basis for decision-making. Note that all these may require specialized personnel who are knowledgeable about the industry or assets in order to come up with a realistic projection. Hence, more money needs to be spent to hire such professionals to provide an opinion. At this stage, the Company may have its in-house team to do the projections or it may engage consultants to evaluate the deal. Needless to say, consultants are always more expensive than having an in-house team, though sometimes the results are often rather similar!

In light of the above, it is not difficult to see why companies can spend close to S$1 million just conducting the due diligence itself, as Boustead did mention during one of its audiocasts for a failed acquisition target. The problem is that even after incurring all these costs, the deal may not materialize due to problems discovered. Some companies may not even admit to these and still bash ahead as they felt that they have sunk so much into the due diligence that it does not make sense to abandon the project now. A more realistic and wise move would be to exit while the deal has not been hammered out yet, as Boustead had done, rather than take on a bad deal just because of emotional reasons.

So, as can be observed from the above, deal-making is not an easy process and can consume copious amounts of time, manpower and resources. I blogged about this to allow readers to better appreciate what goes on in the “back office” of such deals, rather than just focusing on the glossy news releases which companies put out on SGXNet. The PR companies and spin doctors will do their job of promoting the deal and making it sound attractive, but as investors, I believe we have to assess such deals with a pinch of salt and an objective mind. There have been cases where the institutional imperative has kicked in and a lousy M&A deal was “packaged” to look attractive. So I guess, ultimately, it boils down to “Caveat Emptor” for investors who decide to purchase shares of a Company which is either undergoing an M&A, or is contemplating a major one.

Interestingly, just as I am writing this, GLP (Global Logistics Properties) just announced the purchase of a 53% stake in China’s Airport City Development Co Ltd, paying S$485 million in a 30% cash, 70% shares ratio.

December 2010 Portfolio Summary and Review

It’s that time of the year again when I do a year-end portfolio overall review, as well as muse over the hits and misses over the past year. At the same time, I will also do a run-down of my financial position, and comment on my personal financial situation. My previous post already talked of my financial resolutions for 2011, so I will not bore readers further by delving into those. What I am simply going to do is to review my portfolio, loans and savings structure and give a very brief and succinct summary. The usual monthly commentary on the economy, property and other financial matters will follow, and I shall end off with my customary review of the companies within my portfolio. I will also make a brief mention of my expectations for my portfolio for 2011 in terms of business growth and dividends.

Review for 2010

The figure above is a new one which I compiled to take stock of the year’s decisions with regards to divestments, and also for dividends received. It offers a glimpse into realized gains and losses for the year as well as dividends received (in total) from each company within my portfolio.

Divestments and Dividends

As can be seen, there were just two divestments made during 2010, that of China Fishery in Jan 2010 and FSL Trust in Aug 2010. The capital gain and loss as indicated is taken as the absolute dollar value, and does not account for dividends received. The divestments yielded total cash amounts of about S$58,000.

For total dividends received, this amounted to about $10,800 from 8 companies, though do note that my current portfolio has just 7 (FSL Trust has since been divested), all of which yield dividends. The average monthly dividend is just $900 currently, and the blended yield based on my current portfolio cost is just 5.3%. Though this is not exactly impressive, I feel it is a decent return on investment considering I chose not to invest in high-yield, but potentially risky investments such as the aforementioned shipping trusts. There are also REITs out there offering high yields of 8-9% but I feel these have their associated risks which may be triggered upon the raising of global interest rates to combat inflation. Hence, the dividends from my current portfolio reflect a conservative approach to beat inflation yet preserve capital in the event of rising interest rates and/or another severe downturn.

Purchases for 2010 and Portfolio Cost

Two purchases were made during 2010 – that of Kingsmen Creatives and SIA Engineering (SIAEC). Capital was deployed in early Jan 2010 after the divestment of China Fishery into Kingsmen Creatives, and further purchases were made in May 2010 after Mr. Market became manic-depressive. A total of about S$67,000 was invested in total for Kingsmen Creatives. In August 2010, after a comprehensive research was performed on SIAEC, purchases were conducted over 3 days to the tune of S$49,000. Therefore, in total, S$116,000 was deployed into two companies during 2010, exactly double of the amount divested (S$58,000). The other S$58,000 came from aggressive savings and reinvested dividends. The net effect of these transactions (i.e. divestments and purchases) increased my portfolio cost from S$135,400 at the start of 2010, to S$202,400 by year-end 2010*.

*Reconciliation = Cost @ Jan 1, 2010 ($135,400) - Cost of Divested Companies (S$49,000) + new purchases for 2010 (S$116,000) = Cost @ Dec 31, 2010 (S$202,400).

Investment Plans for 2011

My plans for 2011 basically consist of researching and reading more books on investing, in order to hone my skills and sharpen my knowledge base. While I will still be conducting research in order to look out for potential gems, do note that my time will also be more limited as my work and my family demand more of my attention. This means that although I will be scouring around, the level of detail of the research may not exceed that of SIAEC, as it is both tedious and time-consuming as a one-man-show researcher of companies. Much as I would like to devote more time to this exercise, I realize that there are constraints to what one person can do. One reason I join Value Buddies forum is also to watch out for good ideas thrown up by forumers, which I can then spend more time to delve into rather than start from scratch from the more than 700+ companies listed on the SGX. However, if there are no companies to purchase, I will simply be content to accumulate cash from savings and dividends and wait until there are suitable opportunities, in order not to compromise on margin of safety.

The analysis of valuations will continue into 2011, as I half suspect valuations may rise further and contribute to stocks being more expensive than they are now. I also gauge the level of sentiment using the STI as a rough barometer, as well as the “activity” on investment forums and blogs. Lately, I had noticed more investment blogs being started by young adults (and even some teenagers) cataloguing their investment decisions. While starting young is applaudable, the sprouting up of more of such blogs also signals that the market is luring in more new players; which may indicate very early signs of frothiness and irrational exuberance. It will be interesting to observe this phenomenon in greater detail come 2011 to see if it is exacerbates.

Portfolio Expectations – Business Growth and Dividends

I am expecting business growth of about 10-15%, which is more or less in line with economic growth and inflation. The companies I own should have sufficient competitive moat to be able to raise prices to compensate for inflation in staff salaries and rentals, and the general recovery in the economy should spur more business for my companies and ensure decent cash flows. Since I am relying on all my companies to generate a decent yield for me, I would also expect that their cash flow will remain healthy; and that I can project a future dividend yield of about 5-6% on my entire portfolio cost.

Country-specific factors may influence the earnings of the companies I own too, as each country has a different operating, economic and political environment. Recently, GMG Global encountered some problems in Ivory Coast which made some of their exporting difficult, and the result was that business was affected to some extent. Although such events are tough to predict, it is safe to say that for companies which operate in countries with tough laws or unstable governments, the risk of something negative occurring is multiplied many folds. Even Boustead was not immune to problems in Libya as they attempted to build the Al Marj township according to their client’s requirements, and I’ve talked about the associated problems quite a few times already.

I was also thinking along the lines of possible scrip dividends being offered by some of the companies within my portfolio. MTQ is a likely candidate and I had already accepted the scrip for the interim dividend of 2 cents/share. I guess this validates an investor’s belief that the company will continue to grow and do well; thus the shares will be worth much more in future.

Property Market

The property market in December 2010 showed some signs of cooling down, with private property prices for mass market condos falling 0.4%, and median COV falling to $20,000. Though some believe that this is just a temporary “blip” before prices start heading north again, there are others who are confident that this is THE turning point and that prices will begin a slow but sustained descent. Whatever the case, I still feel that property prices remain high enough to be a major hindrance for young new couples trying to buy their first home. The Government has been launching more executive condominiums with the same $10,000 ceiling and priced exorbitantly (by my standard), so I feel the problem will not be alleviated any time soon.

Car (COE) Prices

I guess no one in Singapore should feel surprised that COE prices cracked the $76,000 mark for the “Open” category at the second bidding for December 2010. With the impending supply shrinkage according to the LTA’s new formula, there was a mad rush for COEs and this pushed the prices of cars up to ridiculous levels. I personally think the COE situation will probably get more and more out of hand, with prices hitting $100,000 by next year. Singapore will end up becoming a playground for the rich and wealthy with their expensive large cars, while the middle class stands by and watches on enviously as cars are priced out of their reach. It’s a sad but true situation.

Below is a snapshot of my portfolio and associated comments for December 2010:-

1) Boustead Holdings Limited – The biggest news for Boustead in December was the termination of the Heads of Agreement with TT International (“TTI”) for the Big Box Project (Jurong East Entertainment Centre). The details can be found on SGXNet but essentially I was not too surprised at the failure of the deal to launch because of the repeated delays (which implied the parties were having a hard time hammering out the T&C), and also because of some onerous rules. FF Wong has a very conservative and prudent way of assessing potential M&A, and I am comforted by the fact that he will not jump headlong into a deal without doing proper due diligence to mitigate Boustead’s risks. On December 22, 2010, Boustead announced the termination of their proposed investment in Bio-Treats Convertible Notes, and instead said that they would be investing S$4 million to purchase 100 million shares of Bio-Treat at 4 cents/share. I guess this closes the chapter on both Big Box and Bio-Treat, and still leaves most of the cash stash essentially untouched and undeployed. It may mean a higher final dividend come May 2011, or it may also imply that FF Wong is again actively looking out for good M&A opportunities.

2) Suntec REIT – Suntec REIT declared a stub dividend of 1.723 cents/share to be paid on January 5, 2011 as a result of a private placement of 313 million shares at S$1.37 per share to raise funds to purchase a 1/3 interest in MBFC. The acquisition was successfully completed, and it is perceived that office rents will continue to trend up, so dividends for 2012 should be higher (it will fall for 2011 though due to rental reversions which are lower than the rates locked in during 2007-2008).

3) Tat Hong Holdings Limited – There was no news from Tat Hong for December 2010.

4) MTQ Corporation Limited – There was no news from MTQ apart from their scrip dividend scheme, which set the price of each scrip share at 83 cents/share. I have decided to accept 100% scrip as I wish to participate fully in the future growth of the Company, and am confident of its long-term growth prospects in the Middle East (Bahrain) and Australia.

5) GRP Limited – There was no news from GRP for the month of December 2010.

6) Kingsmen Creatives Holdings Limited – There was surprisingly a lot of news for Kingsmen this month. On December 3, 2010, it was reported that Kingsmen was involved in arbitration proceedings with one of their sub-contractors, Hup Lian Engineering, over some work over at Universal Studios Singapore. This is not expected to have a material effect on the Company. Three days later on December 6, Kingsmen acquired 11.7% of Kingsmen North Asia from Tan Ai Lian. On December 28, 2010, Michael Ng Hung Chiao was appointed Managing Director of Kingsmen’s China operations, while at the same time, Edward Ho Juan Hee stepped down from the same position to pursue his own interests. Michael has about 25+ years of experience working for Kingsmen, as he had joined in June 1984. Further to this, on December 29, 2010, the Company announced that there would be Management changes taking effect from January 1, 2011. Simon Ong (one of the founders) will be made CEO and will supervise the day to day operations of Kingsmen and strategic development, while Benedict Soh (the other founder) will focus on strategic roles, business development and to oversee the Group’s overseas offices. Other Management role changes can be found in the announcement on SGXNet. I feel this portends well for Kingsmen as we move into 2011 as they are looking to sharpen their focus and streamline their top management team.

7) SIA Engineering Company Limited – The only news from SIAEC was announced on December 9, 2010, saying that they had signed a S$300 million services agreement with Silkair. This is a 5-year contract and is a renewal, so does not qualify as a “new” contract announcement.

Portfolio Review – December 2010Realized gains stayed stagnant at S$49.1K as no more dividends have been declared by companies within my portfolio.

For the month of December 2010, the portfolio has gained +0.5% against a +1.4% rise in the STI. For FY 2010, the portfolio has gained +24.5% (using Excel’s XIRR formula) against the gain of +10.1% for the STI. Cost of investment continues to remain at S$202.4K, and unrealized gains stand at +20.1% (portfolio market value of S$243.1K).

January 2011 should be an interesting month as the new year promises new opportunities and challenges, and I should expect at least a trickle of corporate news and updates after the holiday season ends. Since February 2011 is the period whereby my companies will report results, I shall expect it to be still a relatively quiet month. Only Suntec REIT will report their results at the end of Jan 2011.

My next portfolio review will be on January 31, 2011 (Monday).

Let me also take the opportunity to wish all readers a very Happy New Year! May 2011 be a great year for all of you, and may you be blessed with good luck, good fortune and good health!