Wednesday, December 27, 2006

Failed Privatization??? Follow the Chairman!!!

Have you ever wondered what's going on in a privatization? For example, who's really doing whom a favor?

Followings are the common reasons you are told:
(i) share price has been in a slump so why don't I help take you out of misery.
(ii) there's hardly any trade so...ditto.
(iii) this one is tricky, well...the prospect of the company isn't that good, otherwise the share price wouldn't have been so bad, so...ditto.
(iv) to simplify corporate structure, which incidentally is often the same reason for spinoff.

Followings are possible reasons you aren't told:
(i) share price is cheap so I'm gonna buy you out and make a killing.
(ii) there's hardly any trade other than me and my friends buying so...ditto.
(ii) finally businesses are turning around after these drought years so...ditto.
(iii) this is definitely not about simplifying, nor corporate structure at all.

Wong's Kong King Int'l (532), under Senta Wong, has been trading PCB manufacturing equipment througout Asia since 1975 (according to the company's press). I know it once was directly involved in manufacturing PCBs as well with plants in Hong Kong and Shenzhen, before selling it to a hedge fund to become a trader again. I guess Wong's probably is a Value Added Supplier which does extensive pre and post sales consulting to its customers, especially those local Chinese ones with abundant land and capital but little knowledge about running a PBC plant. Otherwise I'll have trouble understanding how a trading operation could generate a high operating margin before tax of 9.6% in 2006 interim and 8.6% in 2005 interim.

PCB is a critical component of all electronics, which China is exporting more and more every second as we speak. But PCB manufacturing is as not a lucrative business because everybody's in it and so competition is fierce, save for the high tech ones like High Density PCBs or Flexible PCBs which are designed for use in smaller gadgets or more advanced applications (pardon my lack of technical knowledge here). In this sense Wong's being an upstream supplier serving the industry is shielded from this competition and actully benefit when more players go into PCB manufacturing. This is with the assumption Wong's itself doesn't face a lot of competition at its level. The numbers seem to be supporting this so far.

Wong's also runs a EMS business, a generous term you can use for almost any manufacturing nowadays. I don't quite grasp why the company is still in this crowded and low margin business. Maybe Wong's has too much funds to deploy or maybe somehow this business has the same customer base as its trading division and hence comes the need to serve. I have no idea but am not gonna be worried as long as it's in the black.

The privatization was narrowly turned down by the minority shareholders, of which only 23 of them or 35% in holding participated. Most others didn't even know or care about the voting, which was a big mistake. The Chairman nearly mustered enought votes to get through the motions. The offer price was only HK$1.38, i.e. ~5.3x 2005 p/e and 1.1x p/b at 2006 interim. Bear in mind recurring operating income increased by 86% in 2004, 25% in 2005 and 62% further in 2006 interim! The 2006 recurring p/e is gonna be even lower by next April when the final results are out. Gearing was 45%, acceptable for a trading company.

Wong's at this offer price looks everything like a buy to me, not a sell. So lucky us we can wait another day to sell! If you believe there's profit motive behind every privatization, then I assure you Chairmans do not go through a major corporate exercise to make peanuts profit. In Wong's case, if HK$1.38 was tempting enough for Senta Wong to make his move, it's now even more tempting with share price at only HK$1.12!

p.s. financial performance of a small cap is by definition less predictable and reliable, so one should always diversify and vary his bet accordingly.

DISCLOSURE: I hold 532 at time of writing.

Wednesday, December 20, 2006

Shanghai Home At RMB10,000 per square feet???

Many say Shanghai is gonna catch up with Hong Kong or maybe even to surpass us in 10 years, but no one quite expects the residential price to break RMB10,000 per sq.ft. now.

One company is trying to do just that, Tomson Development (258). Its landmark residential project, Tomson Riviera, situated along the waterfront of the Pudong financial district and in neighbourhood of Citibank Tower and Grant Hyatt Hotel, has an asking price of over RMB10,000 per sq.ft.. Try Tomson Riviera or its Chinese name in Google and you'll get tons of negative news about this development, that it sold only 2 units out of 220 after marketing for over one year, or complaints by local residents over the ever rising property prices and evil land developers.

I had some working knowledge of the company and once met the late David Tong Cun Lin, whom is now succeeded by his widow Ms. Xu and his son Albert. In late 80s, Mr. Tong was involved in a mega fraud trial against the HK government over the purchase of World Trade Center Group shares but was acquitted in the end. I heard thereafter Mr. Tong assumed a low profile and moved its base to Pudong, Shanghai. This was done in early 90s when Pudong was pretty much farm land or worse uninhabited. This long term vision has brought handsome rewards to Tomson for all its developments sold in recent years were acquired at dirt cheap costs.

Despite my knowledge of the company I didn't pay much attention to Tomson until Vincent Lam of Quam Capital mentioned it. I became more curious after finding out all USD50m of convertible bonds Tomson issued to institutional investors in 2004 (due 2009) were converted to shares this year, and that the conversion price of HK$1.85 was not far off from the current market price of around HK$2.

Back to Tomson Riveria. One block (out of four) was put up for sale in the summer in a global tender which ended with no taker. Restrictions on foreign investment in properties were cited as the chief reason. Of course there was no mentioning of the bids being too low and unacceptable to the company.

I have no intimate knowledge of the Shanghai property market but I do believe the asking price is certainly attainable in the years to come, if not now, for Shanghai is becoming the northern financial center of China and possibly an international one too. Moreover, upscale property in prime district of a metropolis is never cheap nor intended for common souls like you and me. It'll just be a matter of time before people are used to this "absurd" prices.

In my last visit to Shanghai in August, I noted that the latest phase of the Shui On development in Xintiandi was asking like RMB4,000-7,000 per sq.ft (this is only from my memory). So I'd expect Tomson will have no problems clearing its stocks at that price level as its development is more upscale and offers larger units with an average size of ~5,300 sq.ft.. The PRC government's austerity measures will only ensure lesser supply of similar offerings in the future.

Take a more conservative figure of RMB5,000 per sq.ft. to compensate for the uncertain timing of sale, Tomson Riviera is worth RMB5.9 billion. Just this piece of asset alone is more than twice the market value of Tomson of HKD2.69billion today! And RMB5,000 per sq.ft. is likely to be the floor rather than the ceiling.

Tomson's other businesses in Pudong include a hotel, a Golf club with some golf properties (the majority of which have been sold), and via its associate company the development of Zhangjiang Hi-Tech Park. Take a quick glance at the balance sheet and you'll be more delighted. Tomson has assets of over 4.5 billion against bank debt of only HK$200m. This has not even reflected the market value of Tomson Riviera as it's recorded at cost. Here we have an essentially debt free company holding what possibly is the landmark luxury residential project in Shanghai, and it's trading at only 2/3 of its NAV! Bears can claim assets other than Tomson Riviera are all inflated rubbish with low earnings, or that Albert without his father's guidance will squander most of the proceeds and destroy his father's lifework. But I'm willing to give him time and Tomson the benefit of doubt now.

So pick your reason, RMB appreciation, uprising Shanghai, luxury residential property market, gross undervaluation. I can't be sure of the timing of the rise but if it does, it won't be ordinary to say the least.

p.s. financial performance of a small cap is by definition less predictable and reliable, so one should always diversify and vary his bet accordingly.

DISCLOSURE: I hold 258 at time of writing.

Monday, December 18, 2006

China COSCO (1919) & OOIL (316)

I started studying the shipping shares around mid this year after concluding whilst industrials had been my favorite, there were just too many odds against them, e.g. higher costs, weak bargaining power with customers, RMB appreciation, over competition, changing government policies, to name a few. I figured the shipping industry is a good proxy for industrials as all goods get on board in the end. Although shippers don’t fare much better in market perception and faced similar issues, they larger size will ensure they sail through the adversaries.

I did not then and won’t now try to analyze the shipping industry in terms of market demand and supply, or to study and predict the freight index; because this to me is no different than guessing the HSI or how your hedge fund will perform in the coming quarter. It’s just too darn imprecise that I shouldn’t bother trying. Having said that, I don’t really need that much precision to like China COSCO and OOIL. First, some positives on the industry over the long run.

Negatives? People are afraid that over-expansion of fleet and slow down of world economy will drive down freight. Interim results confirmed freight and margin deterioration, e.g. CSCL (2866) reported 96% drop in profit. As usual when evaluating negative factors, people turn over bearish and sold down all shipping shares, which now trade at 3-6 times historical P/E. Profits will definitely go down this year but the low share prices should provide enough cushion. And I don't expect the problem of over capacity and USD70+ a barrel oil price to stay on indefinitely. World economy is another matter which should be left alone for the economists to figure.

If you believe in the long term prospect of the industry, next let's look at the major players on market and some operating parameters I got from the latest 2006 interim reports.

(Turnover, Capacity, Shipping volume)
COSCO 16.6b---381k--- 2.4m
CSCL 14b---- 371k--- 1.85m
OOIL 20.3b--- ?**--- 2.65m

* Shipping division only.
** If anyone could find out this out please let me know. Thks.

China COSCO operates two businesses, container shipping and via its 51% subsidiary COSCO Pacific (1199) container leasing and port/terminal operation. The parent company of China COSCO separately operates a dry bulk fleet and I think at some in time it will be injected into COSCO. Perhaps you should also know that the biggest customers of COSCO Pacific are China COSCO and its parent company which together contributed about 1/2 of its turnover.

CSCL is a pure container shipping play and hence a perfect benchmark.

OOIL is a shipper plus a terminal operator in North America and Taiwan, which you should have at least heard about its recent giant disposal. Besides, it holds the Wall Street Plaza in New York and some real estate development projects in Shanghai which will go on sale starting 2008.

If you agree the size of the three shippers is similar with CSCL behind in shipping volume and turnover whereas OOIL seems to be better managed, you’d surprised by difference in their market value.

At close of Dec 15 2006 and in HKD:

Market value 27.4b--- 12.5b--- 30.6b
Terminals 20.2b*--- n/a--- 15.1b**
Properties n/a--- n/a--- 9.5b***

Shipping only 7.2b--- 12.5b--- 6b

* 51% of market value of COSCO Pacific.
** sum of (1) 13.1b increase in market value since July 25 2006 when disposal of North America terminals was first announced. This is comparable to expected disposal gain of 15.4b stated in subsequent circular and is at a ~30% discount to expected sales proceed of 18.8b. I assume this reflects the completion risk; and (2) value of remaining terminal assets at 1.5x book value of ~1.32b, i.e. 1.98b (for reference both China Merchant and COSCO Pacific are trading well over 2x book value).
*** 2x of book value of 4.75b (not unreasonable at all when valuation of many Chinese property companies have gone ballistic, just look at Chinese Overseas & R&F)

So here we have a scenario where similar sized shippers facing similar problems have gotten very different market value, by as much as over 100%. Of course you could argue that companies which are not focused in their principal business deserve a discount. But the discrepancy here is too large to ignore. I'd say the shares of China COSCO and OOIL are clearly undervalued, even within the shipping industry itself. Having said this, CSCL is not a bad bet either if you, like myself, believe in the long term future of the shipping industry. It offers 100% exposure and maximum upside as it doesn't have other businesses to tangle with. China COSCO and OOIL, on the other hand, have lower valuation of fleets, offers more downside protection, but their bundle of other businesses are more fairly priced, e.g. COSCO Pacific is trading at 15x p/e already and OOIL share price has a large cash component now, which will cap future appreciation potential.

DISCLOSURE: I hold both 1919 and 316 at time of writing.

p.s. btw if anyone knows how to do a table properly please tell me. thks.

No B.S., Common Sense Investing!!!

Not to discredit my accounting and finance training, but I don’t believe one needs much of either to succeed in finding good investments! I strongly believe one can do reasonably well with just a calculator, good common sense, and some basic knowledge of stock valuation. I seldom look at the accounting policies section of annual reports and discounted cash flow (“DCF”) analysis to me is purely academic.

There are very few instances (M&A a notable exception) where one needs to study in details how accounting is done for a business, and my experience is those companies which do require such level of analysis are often too difficult to understand and their performance too unpredictable to qualify as good investments anyway.

DCF analysis is good in theory but like centralized planning in communism, it fails miserably in real world. Save for those securities of fixed income nature, it is never possible to have reliable enough information to complete an analysis. And it doesn’t take a lot of assumptions to render such analysis less than useful, e.g. just 5 assumptions which are 90% correct will lead to the result only 60% correct, slightly better than guesswork.

Before the numbers, more time should be spent understanding the business itself. This critical first step is often done with haste or neglected altogether in many analyses I have come across (note 1). One needs to think through why and how a business makes money. This process helps one spot good businesses from ordinary ones, and saves time too because those don’t qualify can be dropped right off without looking at the numbers. Some common trails of good businesses are those which are easy to understand, with stable operating environment, and manned by competent and honest people. Next step is simpler, never overpay and buy as cheaply as you can (note 2).

These are all common sense right? Just like what I wrote in the beginning. It’s of course easier said than done. So I’m not going to go any further because first many excellent books have been written on it already (you’re welcome to look at my favorite book list when it comes out) and second I’m definitely not an expert let alone a good writer. What I’ll do instead is to share with you from time to time my work done on some companies which I find interesting. Your feedback is welcome.

1. Maybe many believe the market is so efficient that they only need to analyze everything marginally, i.e. the price is always right and only new information is relevant and worth spending time on. But these people will likely miss the big jackpot because the market is as often wrong as it is right.
2. Of course you’ll need to know some valuation framework to determine what is ‘cheap’. But without it you’ll still fare much better when you buy the right company at the wrong price than vice versa.


This blog is not meant to provide any form of investment advisory services, for which you should consult your own brokers and advisers.

SIMPLE RULES (to which I will probably add more in time)
1. Any feedback and discussions are definitely welcome. However, this blog is not a Q&A forum and hence please do not ask "what should I do" type of questions which will not be answered.
2. If you have extensive comments to make you can send it to I'll post it upon receipt (I know it's extremely hard to work with the little comment window that has little functionality). Chinese is definitly fine but I can only reply in English for now, until my Chinese typing is up to speed.

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