Food Empire's AGM on 29th April 2008

To date, I had built up a portfolio of 12 companies. With limited leave, I make it a point to attend AGMs if and only if I have questions for the management.

What trigger my queries

donmihaihai left a comment on my blog, highlighting to me the disproportional growth of accounts receivables, as compared to sales. I tried to email Food Empire to enquire about it but to date, I have not receive any reply. Hence, I specifically took leave just to find out more.

Query 1 - Disproportional growth of Account Receivables compared to Revenue

In 2005, trade receivable is 35.436M, against a revenue of 184.0M, or 19.26%.

In 2006, trade receivable is 59.356M, against a revenue of 234.124M, or 25.35%.

In 2007, trade receivable is 80.187M, against a revenue of 276.859M, or 28.96%.

While revenue grew from 184.0M to 276.859M, or 50.46%, trade receivable went up from 35.436M to 80.187M, or 226%.

Is the company selling more on looser credit terms or is it facing more delays in collecting its payment?

The chairman attributed the the spike in trade receivables to a Russian plant they had set up recently, since the latter resulted in a lengthening of credit terms. They also mentioned that the growth in trade receivables would stablise soon. Since there are others waiting to query the management, I decided not to hog on to the Q & A.

However, after trying very hard to digest what I had heard, I still could not figure out how setting up a plant can cause a lengthening of credit terms. We'll see in coming quarters whether the disproportionate growth account receivables would indeed stablise before deciding my next cause of action (more aggressive queries?)

Query 2 - Reasons behind bonus shares

Giving bonus shares, in theory, does not add value to existing shareholders, i.e. the same market worth is merely divided over a larger pools of shares after bonus issue, and everybody gets the same increase, proportionately.

What is then, the rationale of giving bonus shares?

The chairman replied that the rationale behind bonus shares is to introduce more liquidity and make each share cheaper for purchase.

If the newly set up plant can lengthen credit terms is weird, this is even more bizarre. What has the liquidity in company share price got to do with the management? Company performance will ultimately reflect in the share price. If management need to raise equity and hence be concerned with the share price (not liquidity), they can easily buy back their shares, assuming it is undervalued now.

Other interesting queries (rephrased and summarized):


How has the raw material price increased and is the company able to pass on the cost to consumers.

For example, while the price of certain grade of coffee can go up from 3.5 to 5 per kg (43%) and some creamer can go up from 1 to 1.7 per kg (70%), the actual cost of raw materials in each sachet only went up by 10 to 15%. Food Empire would adjust its prices about 3 to 5% during each price review. For example, in Ukraine, it had already did one increase of 5% this year, it will perform another round of review in the 2nd half of the year.

Any update on how newly acquired Naturant Systems Inc would contribute to the bottom line?

Firstly, Food Empire is still trying to consolidate Naturant Systems Inc into its business in terms of both production and distribution network, so as to achieve further streamline in production and cost savings etc.


Secondly, Naturant Systems Inc have already start to contribute profits to Food Empire, about $2m for this year is mentioned, I believe the figure refers to profits.


How much does it cost to produce the Annual Reports?

About 30 to 35K is budgetted for churning out Annual Reports annually.

Other interesting facts about the AGM

I've been to many AGM's of penny stock companies and most only had finger food. This one had finger food before the AGM commenced and complete buffet lunch catering (salads, staple foods, deserts, soup and fruits) after.

Maybe I should start attending AGMs of even larger companies to do some food tasting surveys.


Conclusion

Though I did not find out exactly what I wanted (regarding the accounts receivables), I walked away with more knowledge than before I walked in. At least I knew they are able to pass on the rising cost of production to the consumers. Given what I know from the AGM, the annual reports and announcements made so far, I still have faith in the company and to stay invested.

Multi-Chem, butterfly in a cocoon?

I read with interest the latest company report posted by DMG & Partners Securities.

As with many previous reports on Multi-Chem by other firms, it focused on its PCB Drilling business and choose to ignore (or unaware???) its growing & lucrative IT Security Products distribution business.

Declining Margins

Multi-Chem have 3 business units, PCB Drilling, PCB Chemical distribution and IT Security Products distribution, via subsidiaries under the M.Tech umbrella. Of these, PCB Drilling garner the highest (though declining) profit margin, in the 20+%; PCB Chemical distribution is lost making; and IT Security Products distribution make do with around 8% margin due to limited value it can add.

IT Security products distribution business unit is currently growing as recent expansion effort pays off and regional centres start to contribute to the bottom line. However, by virtue of low profit margin, tremendous increase in revenue in this segment is required in order to match the profit contributed by the PCB drilling segment. Thus it is a normal consequence that as this segment continue its specular growth, profit margin for Multi-Chem, in general will decline.

But the report choose to view it negatively (quoted as follows):

... On the surface. Multi-Chem saw 1Q08 earnings jump 40% from S$1.7m to S$2.4m while revenue increased by 21% from S$28.4m to S$34.3m. While this may seem impressive at first glance, we note that margins have generally fallen across the board as sales growth in the Distribution segment (which commands lower margins) had exceeded that of its Manufacturing segment. ...

Segment Performance

In order to see the big picture, I consolidated the segment performance from 1Q 2006 to 1Q 2008 as shown below (click to enlarge):

The numbers

A few comments on the above table:

1. I compile the above table using quarter (unaudited) results from 1Q 2006 to 1Q 2008.
2. Using segment results found in 2006 & 2007 annual reports, I estimated the operating profit margin for each business unit (see bottom of the table).
3. From the estimated operating profit for each segment, I estimate a total operating profit before interest and tax (EBIT). (The reason I use EBIT is because segmental results given in footnotes of annual reports are normally EBITs. And I'm using it to estimate operating profit margins)
4. Contrast the estimated total with the actual reported operating profits. The discrepancies arises mainly due to assumption of constant operating profit margin and loss making PCB chemical distribution unit.
   

Revenue trend

Picture speaks a thousand words, the following is the chart showing the revenue trend contributed from each segment from 1Q 2006 to 1Q 2008. (click to enlarge):

A few comments on the above chart:

1. Notice that revenue contributed from the IT Security Products Distribution segment already surpass that from PCB Drilling since 4Q 2006.
2. Whereas PCB Drilling segment is highly dependent on the electronics cycle and showing signs of slowing down, IT Security Products Distribution is generally fast growing.
   

Estimated Operating Profit trend

The following is the chart showing the estimated operating profits from each segment and the overall reported operating profit from 1Q 2006 to 1Q 2008. (click to enlarge):

A few comments on the above chart:

1. Notice that the profit contribution from the IT Security Product Distribution segment is rising and I will expect this to catch up with the PCB Distribution segment in the coming few quarters, especially when the PCB drilling business slows down further.
   
2. My estimate of the operating profits deviate quite badly from the actual results. Nonetheless, the overall operating profits amplify the underlying trend in the PCB Drilling.
3. Going forward, as the profits from IT Security Products become more significant, it will tame the wild swings in overall operating profits.
   

Butterfly in a cocoon?

Multi-Chem started out as a PCB Driller. Given the entrenched reputation, it is not surprising many still see it and classify it under "manufacturing - tech". How long it will take shake of this biased image will depend on whether IT security segment can sustain its growth and performance. As far as the latter is concerned, I have reasons to have faith (I work in IT Security Sector):

1. IT Security products sells on fear and awareness.
2. As businesses grow, the need to protect and ensure business continuity grows
3. Malicious attackers (Black hats) and security defenders (White hats) are in constant cat and mouse chase. There are no media reports about defenders thwarting any attack, but new successful virus or worms attacks get reported and free publicity.
   
4. All these merely drive up the demand for IT security products in emerging markets like Southeast Asia, China and India.
5. While Multi-Chem is not the only one operating in the market, it is the only one listed on SGX that I can purchase.
   

In short, it is a butterfly stuck in an ugly cocoon. When the "time" is right, it will most probably be noticed when the butterfly emerges. However one thing I am sure, as the chinese saying goes 人无千日好，花无百日红。(no man is good for a thousand days, no flower blooms for a hundred days) , I will most probably disposed it when its IT Security segment get noticed.

Forex Gains

A few words on Multi-Chem forex position that I failed to notice if I had not read the report by DMG & Partners Securities.

The following chart shows all the receivables, payables and debt in various currencies (taken from FY2006 and FY2007 annual reports):


A few comments on the above table (click to enlarge):

1. Despite its growing IT Security Products distribution segment, it is still a high capital expenditure (capex) company due to its PCB Drilling business.
2. Accounts receivables: Chinese renminbi have been slowly appreciating, and yet there are still many voices calling for chinese renminbi to appreciate even further, hence having it dominating the accounts receivables (52.7%) will result in positive forex gain for Multi-Chem, because they would collect more than what they initially expected.
   
3. Accounts payables: USD accounts for the majority, 36.89%. Due to the current ongoing USD devaluation (no foreseeable respite unless US can get its economy back its on feet again, surely but not so soon), the USD portion will also results in positive forex gain, because they would pay less than what they initially expected.
4. Bank borrowings: The debt incurred is significant. Fortunately, bank borrowings are dominated in USD. Thus the debt (USD portion) is actually "shrinking" because USD devalues faster (>10% p.a) than the interest rate (~6.5%).
5. Due to global economic and political climate (in US and China especially), the forex gains enjoyed by Multi-Chem will be a recurring affair for many quarters to come.
   

Conclusion

Going foward, while small kinks in profits are inevitable, I would think Multi-Chem should enjoy good performance by virtue of its IT Security Products distribution, provided its PCB Drilling business does not burnt more cash in capital expenditure. The former is its sole cash cow now.

While Multi-Chem does not rely on it, the forex gain it enjoy with continued USD devaluation and Chinese Renminbi appreciation will just be an extra shot in the arm for many quarters to come.

First Ship Lease Trust - Some updates

Issue on technical default on one of their debt covenants by PT Berlian Laju Tanker (BLT).

I chanced on Musicwhiz's article about the recent First Ship Lease Trust (FSLT)'s
AGM. According to him, someone queried the management on the technical default on one of their debt covenants by PT Berlian Laju Tanker (BLT). If this issue could affect the least payments by BLT, FSLT's DPU could be jeopardized. Hence, I am not pleased to note that there is not official announcements on this matter.

I decided to do a bit of investigation on my part. First on FSLT, no recent announcement on this issue. Next, I turn my attention to BLT, from their company website, the closest match I could find was a clarification on the notice of of breach for company bonds :

15 April 2008 - CLARIFICATION ON THE NEWS IN THE PUBLIC REGARDING THE LETTER OF
NOTICE FROM IDR BONDS TRUSTEE
The Board of Directors of PT Berlian Laju Tanker Tbk wishes to clarify various news circulating in the public regarding the Company’s breach of the financial ratios following the issuance of the notice of breach for the Company’s IDR Bonds from PT Bank Niaga Tbk (the “Trustee”) dated 17 March 2008

Source:

• BLT's website
• BLT's detailed clarification

To me, my main concern is how FSLT is going to be affected by this. I went on to email them. To my pleasant surprise, they replied my mail. (I tried emailing Food Empire and Multichem before on other issues, no repies)

My question to FSLT (in red) and their replies (in blue) can be summarized as follows:
Given the issue on technical default, how will it affect its lease payments?

To date, BLT have not defaulted any of their lease payments and have been a prompt payer. FSLT have been proactive in risk management, both pre and post acquisition. After acquisition, they will monitor the lessee's financials periodically and get in touch with them if necessary.

Given that BLT contributed 21% in revenue to FSLT, will the recent purchase of crude carriers be able offset the lost in revenue from BLT if the latter default on their payments?

Post acquisition, BLT now account of 17% of FSLT's revenue while newly added Geden contribute 18%.

As far as this issue is concerned, I can say I am pretty pleased with FSLT's reply and their promptness. My mail was sent on Thu, 24 Apr 2008 23:19:11 +0800, their reply was received on Fri, 25 Apr 2008 07:14:21 -0500.

I bought Super Coffeemix on 3rd April 2008

Rationale

I had already compared Super Coffeemix with Food Empire & Tsit Wing in an earlier post. I valued Super Coffeemix to be around 72 cents while it was trading above 90 cents then. That was 26th June 2007. Today, fundamentals had clearly improved for Super Coffeemix, yet the market actually gave a discount even below the outdated 72 cents. This is yet another proof that equity is commonly mispriced by the market, i.e. overpricing in market exuberance and underpricing in pessimism.

Plus - Keeping cost low but is it possible?

On 15th January 2007, Super Coffeemix announced that it had signed a MOU with HLH Group, formerly PDC Corp to grow and supply coffee beans for the former at a discount. The following is quoted directly from the annoucement:

Under the MOU, PDC will cultivate and grow coffee plants on parts of its Indonesian plantations suitable for cultivation and production of coffee beans. Super Coffeemix will purchase all such coffee beans produced by PDC at a discount to the then prevailing international commodities market.

If they are able to keep the cost of raw materials down, they will enjoy a comparative advantage over other coffee companies. However, its still too early to tell whether this venture had succeeded.

Minus - Rather aggressive growth plans

New subsidiaries, Acquisitions and other Investments since 2007

1. March 2007 - JV Co
2. March 2007- Investment in Tianjin Super Lifestyle Food Development Company
3. April 2007 - Super Malikha Pte Ltd (“SMPL”) in PRC
   
4. July 2007 - Acquisition of 6.84% of PSC Corp

Increase in investment

1. March 2007- Increase in investment in JHS Holdings
2. May 2007- Increase in investment in Super Coffeemix Marketing Sdn Bhd
3. July 2007- Increase in investment in Tianjin Super Lifestyle Food Development Company
4. Nov 2007- Increase in investment in Wuxi VV Super Coffee Co. Ltd

Quasi-equity loans

1. August 2007- Quasi-equity loan to Sun Resources
2. November 2007- More quasi-equity loan to Sun Resources
3. March 2008- Quasi-equity loan to JHS Holdings
   

While investments might be good be for the company, the aggressive nature in the way Super Coffeemix pursue them might be a cause of concern. This is because the quality of returns (i.e. return on equity) might be sacrificed just to achieve growth. Another cause of concern is the amount of quasi-equity loans to its subsidiaries. These amounts to more than $ 10M SGD to date collectively.

Conclusion

To date, I had acquired 3 out of 4 companies listed on SGX with business involving coffee and other common daily instant food & beverages. Geographically, my holdings had exposure to Russia, Ukraine, Central Asia, China and Southeast Asia. The company I missed out is Viz Brand. In terms of market, it had duplication with Super Coffeemix and I would think it had a much stronger brand than Viz Brand.