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Thursday, 28 February 2008

Tsit Wing's 4Q results on 27th February 2008 - Something positive finally?

Past, present and future results?

I've gathered and compiled Tsit Wing's past segmental results by regions over the last 5 years and reproduced them below.

Tsit Wing had tried to enter the PRC market and had been making losses over the years. It finally turned around in 2007, in line with my earlier prediction in 2006.

Graphical representation

Simplied assumptions in forecast
  1. Sales in Hong Kong will increase by 5% annually due to the mature market nature
  2. Sales in PRC will increase by 35% annually (on average) due to the competitive but emerging market nature (extrapolating using the last 5 years' trend)
  3. Profit margin will trend towards 7% (arbitrary number, so long as its below 10%)

As can be seen from the chart on gross profits, the blue line clearly shows the turning point in overall gross profit. If Tsit Wing can replicate its logistical competitive advantage in Hong Kong to the major Chinese cities, the potential PRCmarket should allow Tsit Wing to make record profit within the next 5 years.

The falling profit margin, though undesirable, is a nature of diversifying away from a tea, coffee beverage distributor. Its foray into distributing groceries products improve its bottom line, but at the expense of profit margin.

Risk factors
  1. Intense competition in PRC markets
  2. Profit margin squeeze from rising cost of business, especially raw materials and pricing pressure

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Saturday, 23 February 2008

Multi-chem, ready to unlock its potential for shareholders?


I wrote about Multi-chem about 2 years ago, highlighting the 2 main businesses it is involved, PCB drilling and IT security products distribution. More know about Multi-chem as a PCB driller than its IT segment. Hence, in most reports, it is classified as"manufacturing"

PCB drilling is highly lucrative (from the profit margin point of view) but requires high capital expenditure and suffers from the cyclical nature of the electronics business. IT security distribution business is fast gaining ground but due to its low profit margin nature, it requires a huge gain in revenue before it can match the profit of the PCB drilling segment in absolute terms. Given the robost growth and current market demand for IT security products and services, there is no reason why the profit contributed by the IT segment cannot match that from the PCB drilling any time soon. The true potential of Multi-chem, lies not in its PCB drilling business, but in its IT distribution business.

Good business, low market valuation?

Since the market perception of Multi-chem is centered upon its PCB drilling business, it is no wonder
  • still trading slightly below book value
  • had a P/E below 5 and
  • ROE above 20%.
The litmus test for being undervalue is positive. A more in depth valuation give about 52 cents in my first post on it.

Unlocking its potential for shareholders?

In an annual web based Q & A with shareholders, the management mentioned the following in response to a question on the company's roadmap for it PCB and IT segment. The company's reply is quoted below:

The Company will continue to develop both businesses but will look to spin off the IT business as a separate listing in the future to unlock the value of the business.

If the above can be implemented, the potential returns for shareholders already vested in the company should be substantial. Hopefully, my long wait on Multi-chem is worth while after all.

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Sunday, 3 February 2008

Shipping Trust - Comparing First Ship Lease Trust (FSL) and Pacific Shipping Trust (PST)

What is a shipping trust?

Shipping trust a company that make money by acquiring ships and leasing out to shipping operators. They stay in business by leasing ships at a higher rate of return than the interest rate on the debt they incur to purchase the ships. Most of the profit derived are distributed as dividend to the shareholders.

For more information, see the following overview on Shipping Trusts.

How does shipping trust stay in business?

Shipping trust have to make sure the rate of return on lease exceeds the interest rate on the loan incurred. Normally, shipping trust have access to credit facilities that offer competitive interest rates.

How dividend calcuated?

Distribution (DPU) to shareholders are paid out of operating cash flow instead of accounting profits (for typical companies). This means that are arrived at:

DPU = Revenue from lease - All Management, trust fees & other trust expenses + Depreciation.

Depreciation is an accounting item that accounts for the slow depreciation of ships over their useful life. However, this does not impact the cash flow.

Case Study 1 - First Ship Lease (FSL)

2Q 3Q 4Q Projected

Revenue 12.672 12.819 15.224 22.377
Depreciation (9.161) (9.052) (10.360) (15.735)
Mangement Fees (0.507) (0.513) (0.609) (0.895)
Trustee Fees (0.025) (0.024) (0.028) (0.042)
Other trust expenses (0.276) (0.327) (0.443) (0.938)
Finance Income 0.098 0.169 0.182 -
Finance Expense (0.472) (0.928) (2.048) 12.614
NPBT 2.329 2.144 1.918 4.766
Income Tax 0.022 0.030 0.036 0.067
NPAT 2.307 2.114 1.882 1.882

Added non-cash items and other adjustments 9.220 9.036 10.218
Units 500 500 500 500
DPU (USD cents) 2.30 2.23 2.42 3.56

Total Assets 527.236 516.874 629.234 919.234
Total Liabilities 47.049 48.653 169.824 459.824
Equity 480.187 468.221 459.410 459.410

Liabilities to Equity Ratio 0.0980 0.1039 0.3697 1.0009

Implied Interest Rate on Lease (Quarterly), IRL 2.40% 2.48% 2.42% 2.43%
Implied Interest Rate on Debt (Quarterly), IRD 1.00% 1.91% 1.21% 1.37%
Net Interest Spread (IRL - IRD) 1.40% 0.57% 1.21% 1.06%
IRL on Assets less IRD on Debt 12.20 11.89 13.18 16.07

NTA (SGD) 1.35 1.32 1.30 1.30
Change in NTA over previous quarter
-2.49% -1.88%

DPU (SGD cents) 3.25 3.14 3.41 5.02
DPU w.r.t. NTA 2.40% 2.38% 2.63% 3.88%

The above shows the past 3 quarters of FSL. FSL was debt free prior to listing on SGX and started to acquire ships solely from debt. Its policy is to acquire ships until its debt-to-equity ratio is 1.

As of last quarter, 3Q, its debt-to-equity ratio is 0.3697. It recently announced that it had secured another USD 200m credit facilities, bringing total undrawn financial capacity to 290m.

Once fully drawn down, FSL will have about 900m in shipping assets, giving it a projected DPU of about 5 SGD cents per quarter.

Sustainability of Distributions, DPUs
  1. The implied interest rate on lease, IRL (revenue/assets) over the quarters are quite consistent; quite so for the implied interest rate on debt, IRD (finance expense/debt) too.
  2. The difference between lease returns and cost of debt, (IRL x assets - IRD x debt) is comparable with revenue every quarter. Deducting trust fess & other expenses and adding back depreciation, the remainder is the distribution units for shareholders.
Taken together, this means that, so long as lease returns exceed cost of debt by sufficient margin (Net Interest Spread), about 1%, the DPU should be sustainable over several years at least. (Lease terms are normally about 10 years).

Major Risk Factors (to shareholders)
  1. DPU are paid out in USD, whereas the trust units are in SGD. Numerically, there is no doubt the DPU can be sustained and grow as projected, but the actual yield in SGD may decline if USD continue to depreciate in short term.
  2. Shipping vessels are depreciating assets, typically over 30 years. The existing ships will slowly depreciate from the assets in the balance sheet. Note the declining NTA (in red) above.
Case Study 2 - Pacific Shipping Trust, PST

1Q 2Q 3Q 4Q

Revenue 8.514 8.609 8.703 8.703
Depreciation 3.219 3.219 3.219 2.421
Finance Expense 2.263 1.811 4.562 4.183
NPAT 2.700 5.523 0.589 1.649

Total Assets 267.747 266.595 262.224 259.722
Total Liabilities 120.915 116.745 115.357 114.880
Equity 146.832 149.850 146.867 144.842

Liabilities to Equity Ratio 0.823492 0.779079 0.785452 0.79314

Implied Interest Rate on Lease, IRL (Quarterly) 3.18% 3.23% 3.32% 3.35%
Implied Interest Rate on Debt , IRD (Quarterly) 1.87% 1.55% 3.95% 3.64%
Net Interest Spread (IRL - IRD) 1.31% 1.68% -0.64% -0.29%

Units 337 337 337 337
NTA (SGD) 0.614342 0.626969 0.614488 0.606015
Change in NTA over previous quarter
2.06% -1.99% -1.38%

DPU (SGD cents) 1.4664 1.4664 1.5087 1.5228
DPU w.r.t. NTA 2.39% 2.34% 2.46% 2.51%

PST is in a more mature state than FSL. Its debt-to-equity ratio are nearly 0.8, compared to FSL's 0.37. Similarly to FSL, PST's NTA are dropping nearly every quarter, although much slower.

One note of caution, though, its Net Interest Spread, IRL - IRD is negative in 3Q and 4Q. This means there might be a possibility PST is having difficulty getting debt at a cheaper rate than it can get from leasing ships. Not a good sign for distribution sustainability.


Another shipping trust, Rickmers Maritime, does not have sufficient reporting quarters to be compared here. But just by looking at FSL and PST, it shows up the inherent risk in shipping trust's business model:

They make money by leveraging between the returns on ship lease and the cost of borrowing. This is similar to banks giving lower rates on deposits and lending these out on higher interest rate. The margin, though meagre, is normally sufficient to support their profits.

However, for shipping trust, this business model built on leveraging can quickly collapse if the interest rate increase and lease rates fail to keep up. Though they normally go into hedging to minimize the risk, the danger still exists.

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