Cemex Holdings Philippines (CHP) Unravels

Undescripts.com has previously reported that CHP may have overpaid its parent, Cemex Mexico, in the acquisition of the controlling interest in the two cement operating companies it now wholly owns resulting to the booking of a massive goodwill in its balance sheet which at year-end 2016 constitute 55% of CHP’s assets.  The massive goodwill was justified by the existence of an assembled workforce and dealer network in the two cement operating companies. However, scrutiny on CHP’s finances showed that in the face of fierce competition in the cement industry its much touted “workforce” and “dealer network” fails to provides a “moat” for them.  Its “workforce” and “dealer network” did not present cost advantages to the company as other cement companies showed lower costs than them allowing the other cement companies to easily enter the market and capture significant market shares.  We expected then that CHP’s massive “goodwill” will unravel itself.  Please see our previous report.

On February 9, 2017 CHP issued a press release announcing their 2017 full-year results.  CHP reported that revenue declined from 24.3B to 21.8B due to lower cement prices.  Prices of cement were low because of the fierce competition in the industry with the influx of imported cement.  CHP’s “workforce” and “dealer network” did not deter other cement companies and cement importers from entering the market.  This event shatters the justification of the massive “goodwill” booked in its balance sheet.

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The poor results of CHP makes its share price expensive.  CHP, as of end of February 15, 2018, is trading at 4.01.  With the poor results, it is now trading at 29.85 PE ratio as compared to Holcim Philippine’s (HLCM) 17.49.

The price of CHP has gone down 56.88% from a year ago to 4.01 resulting to a price-t- book ratio of 0.7077.  We sensed that the market is now recognizing the impairment of its goodwill,thus, a share price lower than its book value.  With the current price of CHP some institutional investors have gobbled it up.  Institutional investors are reportedly now holding 13.68% of CHP’s total oustanding shares.

Undescripts.com maintains that the price of CHP has still to go down to make it a rational investment. At the current price its PE ratio is unjustifiable, its stock price has to go down further to align its PE ratio to its peers. In the meantime we cannot expect any dividend from CHP as it is presently struggling with its earnings.

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FLI – Get to know Filinvest Land, Inc. and its prospects

Filinvest Land, Inc. (FLI) is one of the leading real estate developers in the Philippines.  It is engaged mainly in residential developments and in investments in rental properties for office and retail  use.

Revenue Stream

As of year-end 2016 FLI derived its revenue as follows:

Real Estate Sales from sales of residential units from its development – 14.3 Billion (80%)

Rents from its investment in office buildings and retail/mall properties – 3.4 Billion (20%).

Residential developments of the company covers the varying income segments of the Filipinos.  FLI’s Futura Homes offers value-for-money communities while its Spatial series offers affordable mid-rise condominium units (condos) for the low-income segment.  The mid-income segment is being catered through the Studio series of condos and the Oasis resort-style enclaves.  Filinvest Premiere offers luxury residences and premium leisure developments suited for the most discriminating tastes of the affluent segment.

Its investments in commercial retail properties is mainly anchored on the Festival Supermall in Filinvest City in Alabang (South Metro Manila) while its investments in office properties include the Northgate Cyberzone a business process outsourcing (BPO) Park also in Filinvest City. Filinvest City is owned and developed by Filinvest Alabang Inc. which is a 20% owned-affiliate of FLI. Rentals from investment properties provide steady recurring revenue and cash flows for FLI.

Growth Strategy

FLI has been acquiring large track of raw land for development into a sprawling mix-use townscape that features work-live-play environment. Master-planned townscapes allow FLI to sell residential units and at the same time invests in the retail and office rental properties. It has been noted that FLI has been increasing its investments in rental properties – retail and office. As of 3Q 2017, its investment properties has grown to 41.3 Billion from 38 Billion as of year-end 2016. Rental revenue as of 3Q 2017 now accounts 30% of the total revenue up 10% from year-end 2016.

Financials

FLI has a strong operating cash flows which as of 3Q 2017 amounts to 5 Billion Pesos. The strong cash flow generation from operations can be attributed to its disciplined costs management of its developments and investments. For the period up to 3Q 2017 it was able to generate a gross profit of 50% of its revenue. It generates a net income before tax 0.32 Pesos for every 1 Peso of revenue.

Although investments in rental properties takes a lot of resources to build, FLI has able to tap the capital/debt markets for funding for those investments. The predictable and recurring revenue and cash flows from the investment properties can very well cover repayment of debts. Residential developments of FLI are self-funding through pre-selling and project financing. The availability of funding avenue strengthens the balance sheet of FLI.

Funding for acquisition and/or development of assets are available to FLI. Assets acquired/or developed provide returns greater than their funding costs, thus, value accretive to stockholders. As of this writing FLI is trading at a dividend yield of 2.40%.

Ownership

FLI is controlled by Filinvest Development Corporation (FDC) which owns 59.4% of its outstanding common stocks. FDC is controlled by the Gotianun family. Aside from real estate development, FDC has investments in banking through East West Banking Corporation, sugar through Pacific Sugar Holdings Corporation, and power generation through FDC Utilities, Inc.

Of the 40.6% owned by the public, around 13% is held by institutional investors the biggest of which is Invesco Asset Management Ltd. holding around 5.05% of the total outstanding shares.

SMC , PF – The winners and losers in the re-creation of the San Miguel Food & Beverage giant

On November 3, 2017, San Miguel Corporation (SMC) disclosed to the public the re-creation of the San Miguel Food & Beverage giant.  (For a copy of the PSE disclosure please click – PSE-SMC-Consolidation of Food and Beverage Business [11.03.17]).

SMC will swap its 7,859,319,270 shares of San Miguel Brewery Inc. (SMB) representing 51.16% of SMB and its 216,972,000 shares of Ginebra San Miguel (GSMI) representing 78.26% of GSMI for an additional 4,242,549,130 shares of San Miguel Pure Foods Company Inc. (PF) with a total value of 336 Billion Pesos based on an expert valuation report of ING Bank N.V.  The transaction will raise SMC’s ownership over PF to 95.87% from 85.37%.

After the share swap PF will rename itself into San Miguel Food & Beverage Inc. after which SMC will sell up to 30% of PF to raise 150 Billion Pesos as reported (Inquirer Business Report 08Nov2017 and BusinessMirror Report 18Jan2018).

Prior to the announcement, PF was trading at a 300 level. After the disclosure, PF went as high as 640 a share and as of 24Jan2018 was trading at a range of 602-612.  We believe it is time to sell and unlock the value.  It is now trading at twice the value of where it was once, so reap the reward.

PF will be the loser in this consolidation game. PF will be buying SMB and GSMI at a hefty price and its balance sheet will be saddled with intangibles/goodwill.  The 336 Billion price of SMB (GSMI valuation is neglible if lumped with SMB) will translate to 37X Price to Earnings (PE) ratio. In 2016 SMB earned 17.7 Billion of which 9 Billion is attributable to SMC’s 51% ownership. 336 Billion divided by  9 Billion results to around 37X.  Please see SMC 2016 IR Briefing.

The hefty price for the assets will erode future earnings of the company in the form of goodwill impairments.  We believed that their will be impairments as cash flows from the units will be roughly the same (beer/beverage is a mature market) but the price paid for such cash flows are higher. Future returns will be lower as the asset-based is overvalued with goodwill. The net assets of the recreated food and beverage giant will be inflated with goodwill as a result of the hefty price it paid to acquire the said assets. The overprice/goodwill could have been deployed to acquire other earnings and cash flows accretive assets so growth might be slower in the future as resources have been tied up in goodwill. This will shrink the value of PF. Don’t wait for it, encash your gains now.

SMC is also setting a new 52-week high when it reached 141 on 23Jan2017 trading.  But its gain is not as remarkable as that of PF.  SMC is only up 39.39% in a one year period while PF is up 142.04% in the same period.  SMC has still more room to grow.  After the execution of the share swap, SMC will sell 30% of PF to comply with the float requirement for a total of 150 Billion Pesos.  The 150 Billion will be new money for SMC that can be used to grow further its earning assets.  SMC will be able to invests more in high profit margin and fast growing industries such as power and infrastructure and this will expand SMC’s earnings.  Currently SMC’s PE ratio is low at 19.84 as compared to Ayala Corp.’s (AC) 23.26, Aboitiz Equity Venture’s (AEV) 20.45 and JG Summit Holding’s (JGS) 62.11. We conclude that SMC at 140 is still a good buy given its new fire power.

EMP – Valuation Growth on Premiumization and Buy-back

On January 19, 2018 EMP closed at 7.97, just -5.12% below its 52-week high of 8.40 set on July 11, 2017.  We believed EMP can still go higher that its 52-week high of 8.40.  Following is a discussion on why we believe EMP can soar beyond its recent high.

The “premiumization” strategy of EMP will bear fruits in this TRAIN regime.  TRAIN imposes a new excise tax of 12 Pesos per liter on drinks using high-fructose corn syrup.  This affected the major beverage companies like Coke and Pepsi.  In reaction, Coke and Pepsi will reformulate their beverages to utilize local sugar.  This, we believe, will increase the demand for local sugar, thus, increasing local sugar prices. To take advantage of this sugar boom, sugar millers will have to make their plant more efficient.  That means they will extract more sugar from the production leaving little molasses for the production of ethanol.  Short supply in ethanol will cause its prices to increase.

While we project that TRAIN law will make ethanol in short supply another law is projected to shore demand for ethanol. The Biofuels Act of 2006 mandates the blending of locally-produced bio-ethanol into fuels.  The demand from fuel companies will further fuel the rise of the prices of ethanol.

How this will result to the positive impact of the “premiummization” of EMP?  EMP domestically is mainly competing on liquor companies utilizing ethanol as raw materials. Those ethanol-based liquors are generally cheaper than EMP’s “premium” products. Those ethanol-based liquor products will have to increase their prices.  The price increases of the ethanol-based products will make the EMP’s “premium” product price competitive.  We see a switch by the consumers to EMP’s “premium” product.

As of year-end of 2016, revenue fell by 6.02% yet revenue increased 10.54%.  This means margin is improving.  In 2018, we see volume growth and revenue growth from the switch. We see no factors that can cause an increase in the costs of EMP so we believe margin will be sustained.  Revenue growth with a sustained high profit margin will result to a much more improve bottomline of EMP.

Another factor that will shore up the valuation of EMP, is its buy-back program.  EMP maybe committed to buy-back up to 480 Million of its shares, but so far as of December 29, 2017 only 45.2 Million shares have been bought-back from the market.  Of the total 5 Billion Pesos appropriated for the buy-back, only 0.32 Billion has been spent purchasing its own shares.  Further exercise by EMP of the buy-back is expected to increase the stock price of EMP.

We believe EMP at below 8.0 is a good buy.

TEL – A Culture of Under-Investment in Telco Capabilities

TEL (PLDT) has for quite sometime has hovered at around 1,450 – 1,500 level. This is despite frequent press releases by the company of good news about it. It is imminent that TEL will still have to go down.

The woes at TEL can be traced back to its culture. When First Pacific took over TEL from Antonio “Tonyboy” Cojuangco, Manuel V. Pangilinan (MVP), the present TEL CEO, was criticising TEL’s previous management group as like the “government.” It was said that the first order of business of the previous management was the capital expenditure/capex rather than advertising and creating a brand. It was like a government because in the government it is usually capital projects that is being sought first by the politicians. There is a culture of entitlements among politicians in government.

MVP then change its culture and increased its advertising budget then relegated the capex to a lesser priority. At that time there was an explosion in the usage of mobile data then limited to SMS and ringtones and mobile calls. It was a bonanza for TEL. MVP then stepped-up the dividend pay-out ratio of TEL. From 2007 t0 2013 pay-out ratio was 100% of “core earnings,” before slowing it down to 90% in 2014.

First Pacific at the time of its TEL take-over was also reeling the effects of the “Asian Currency Crisis.” First Pacific executives in Hong Kong tried to sell its TEL stake to the Gokongwei Group behind the back of MVP. MVP fought back and vowed that TEL will be the saviour of First Pacific.

True to his words, MVP made TEL profitable, thanks to the SMS addicted Filipinos, and repatriated most of the profits of TEL to First Pacific. The cash flows from the dividend pay-out of TEL reinvigorated the then diminished First Pacific. MVP was made the CEO of First Pacific. At that time, it was boasted that marketing savviness was the key to the profitability and that it had killed the “government-like” culture of capital expenditure first in TEL. This will come to haunt back MVP and TEL.

The killing of the “government-like” culture of capital expenditure firsts in TEL led to under-investments in the capabilities of TEL. The under-investments allowed TEL to pay-out most of its earnings to its stockholders, the largest of which is the First Pacific Company. Technological innovations and disruptions fueled the demand for more data capability out of telcos. Because TEL under-invested in its capabilities it was not able to satisfy it customers. No matter how savvy its advertising and branding is, customers can’t just be appeased by TEL’s lack of capability to satisfy customer demands.

At the outset of LTE, TEL failed to immediately expand its capability to LTE. Instead it bought a telco, Digitel, with also less capabilities. It bought Digitel only to pare down the number of towers it owns because many became redundant. The Gokongweis sold out Digitel because it was capital intensive and that it may not have the resources to compete and transition it to a more digital telco.

Because most of the profits TEL had earned during the good years was paid-out as dividend, it has now to dig deep on its resources to fund its transformation. It is now reaching on its MERALCO stake to fund its capex.

Most of TEL’s investments have already been sold out to fund its capex to date. As of end of 3Q 2017, the only significant investments left are MediaQuest PDRs with a carrying value of 13.16 Billion and Rocket Internet with a carrying value of 12.74 Billion. MediaQuest spans newspapers (Business Word, Philippine Star), radio broadcasting, TV Broadcasting (ABC 5), and pay-TV (Cignal). TEL has planned to spend 50 Billion for capex in 2018. TEL may need more than that amount in the future as demand for data has been increasing year to year as people, homes, and enterprises adopts internet of things. TEL may have to sell also MediaQuest and Rocket Internet stakes to fund further its capex in the coming years. This is why we recommend that you sell.

Proceeds from asset divestments may not enough to fund further its capital expenditures to make its capabilities at par with the best in the world (a capability which the government and its customer demands from them). So TEL may have to reduce further its dividend pay-out. Its dividend pay-out stands at 60% from 100% in 2013 and 90% in 2014. As dividend from TEL get smaller, market might react to maintain the dividend yield of TEL which is currently at 6.41%. This means, market will have to price TEL also lower. So if you are holding it now, it it is time to cut your losses and sell.

PHN – A Company with an Identity Crisis

PHN has not found what it is really is. PHN started as Bacnotan Consolidated Industries, Inc. (BCII) with investments in cement, steel, pulp and paper, and financial services and ran by Philippine Investment Management Consultants (PHINMA), Inc. BCII was basically an investment vehicle of PHINMA. BCII was a vehicle of PHINMA to raise funds to be invested in what was then growing industries.

The partnership in PHINMA cratered and changes were made. BCII divested its investments in the industries it nurtured and change its name to PHN. Along the way it lost its identity. PHN seems not to know what it is. Is it an aspiring conglomerate or an investment vehicle?

This identity crisis makes PHN hard for the investors to understand and value. PHN touched a 52-week low of 8.26 and as of December 29, 2017 it closed at 8.40 which is 21.69% down a year ago. We believe PHN is undervalued and we recommend to buy the same.

PHN has potential values. PHINMA should refocus PHN into an investment vehicle. If PHINMA will not refocus PHN as an investment vehicle then it should have no right to collect management fees from PHN. PHN is once a venture fund, it invests in growth industries and once it matures it sells them. Like the cement which it sold to Holcim and banking which it cashed-out during the banking consolidation years of the early 2000s.

We can see PHN investing and scaling two industries the steel & construction technologies and educational services. The two investments are cash flows and earnings positive.

Aside from the two investments PHN has also the following investments: PHINMA Energy Corporation (PHEN, 26.245); PHINMA Property Holdings Corporation (PPHC, 35.42%), Microtel Development Corporation (PHINMA Hospitality, 36.23%), Trans-Asia Petroleum (12.99%), and others. Those investments have as of December 31, 2016 a carrying value of 3.4 Billion.

To focus PHN as a venture fund/investment vehicle and unlock value, it should dispose PPHC, PHINMA Hospitality, and Coral Way Hotel Corporation. With regards to PPHC, real estate development is capital intensive and cash flow negative aside from owning only a minority interest, we could not find a scenario where PHN could make a profit out of it. All other investments where it has minority interests except for PHEN should be disposed of and the proceeds be used to further scale the two investments it already had or find a new investments to grow and scale. We found no reason for PHN deploying capital on those minority investments. What is PHN expecting from those investments, investment cash flows? capital gains?

Right now, PHN’s investments in steel and construction materials and education services are enough unicorns of PHN which could provide tremendous value once unlocked. We exclude PHEN from the divestment because PHN has been realizing the value from the said investment through dividend cash flows and capital appreciation.

PHINMA should remake PHN into a venture fund again, funding and scaling business then unlocking their values through out-right sale or initial public offerings.

We can gamble to recommend it a buy right now and advocate for PHINMA to remake PHN into a venture fund to grow the value of PHN.

ABS – Wait and See

ABS set a new 52-week low as of December 12, 2017 trading session when it reached 34.75. Over this period, the share price is down 21.56%.  Although, the shares is at lowest during the 52-week period, we cannot recommend to buy or sell the same at the moment.  The following is a discussion of why we do not recommend to buy or sell it in the meantime.

 

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We are in the period of technological disruption.  Broadcast is no longer the prime platform for news, information and entertainment as it was in the 1990s.  The internet and mobile has replaced broadcast as the primary go-to place for news, information and entertainment.  In the advent of mobile internet, people now spend more time on their computers and mobile devices than in their television sets.  This technological sea change is most evident in the recent elections in the Philippines and in the US, where information proliferated in the internet more particularly in the social networking sites impacted the elections more than the mainstream broadcast media outlets.

ABS is the local broadcast giant. For the 9-month period of 2017, 52% of the revenue of ABS came from advertising revenue from its broadcast unit.  The said revenue provides virtually all of the net income of ABS of 2.3 Billion.  As what has been said there is a technological sea change in the telecommunications and media industry and this technological disruption gradually erodes the revenue of ABS.  In the 9-month period of 2017 advertising revenue of ABS is down 517 Million or 3% lower year-on-year.

The technological disruption affecting ABS’ business would be a convenient reason to recommend to sell it but we do not.  First, ABS is generating positive operating cash flows and free cash flows.  EBITDA for 2016 was 9.85 Billion and for 9-month period 2017 EBITDA is 7.03 Billion.  Second, ABS is the local leader in content creation and content is still king.  ABS has invested in capabilities to create local content.  It has Star Magic, ABS-CBN University and it has invested in studios and sound stages.  Its capabilities to create world class content is hard to replicate.  Third, it has been doing something to mitigate the effects of disruption.  It has gradually balanced advertisement revenue with consumer sales.   This endeavor of ABS, makes-up our reason to recommend to wait and see before recommending buying or selling it.

ABS is doing something to mitigate the effect of technological disruption.  It ventured into mobile telecommunications with ABSCBNmobile.  So far, this venture has not been profitable.  Another venture is Kidzania, which in the meantime has also not been so profitable.  Its cable, satellite and broadband distribution platform has not provide meaningful contribution to the bottom line.  To us the more promising investments ABS have made is its investments in digital and interactive media more specifically in Iwanttv and TFC.tv.

ABS, no doubt, has great catalog of great contents and has the ability to create best-in-class content.  In the age of broadcast erosion and internet dominance, ABS must find a way to sell its content directly to the consumers as what Netflix is doing. We believe, Iwanttv and TFC.tv are steps in the right direction.  Presently, there contributions to the bottom line is insignificant.  This is so because Iwanttv and TFC.tv are not world-class.  They are mediocre platforms.  The challenge of ABS is to make Iwanttv and TFC.tv world-class.  Those platforms should be like Netflix, Amazon Prime, Fox Plus or NBA Game Time.

ABS has word-class content creation capabilities.  Content capabilities would be not so valuable if it does not have a world-class delivery platform to its consumers where consumers can actually enjoy the content and pay for it.  In the meantime, ABS has a cash pile and positive operating cash flows.  With its cash pile let us wait for few more periods to see whether ABS will be able to build a world-class internet delivery platform direct to consumers as a hedge to the declining broadcast business . Let us wait and see then.

CHP – Bottom Yet to Be Seen

CHP debuted at the PSE through an IPO priced at 10.75. As of this writing, it is trading 4.36 a 59% discount to its IPO price. It even reaches a low of 3.97. We believe that this is not yet the bottom.

CHP has in its balance sheet a goodwill of 27.8 Billion as of December 31, 2016. According to its filing, the goodwill is attributable to the assembled workforce and dealer network. It arose from the acquisition of the majority interest (60%) of what is now the wholly owned subsidiaries of CHP from CHP’s controlling stockholder for a sum of 47.8 Billion.

A closer scrutiny of CHP’s booked goodwill will show that nothing of its assembled workforce and dealer network provides the company a “moat” or a competitive advantage that can justify the goodwill. In fact, in 2016 its assembled workfoce and dealer network consumes 0.32 Peso for every 1 Peso of revenue/sales while competitors EAGLE consumes only 0.1 Peso and HLCM consumes .06 Peso. In that year, CHP was able to generate a Net Income of 0.06 Peso for every 1 Peso of revenue. That is meager compared to 0.31 Peso for EAGLE and 0.17 of HLCM.

In the present era of cheaper imported cement, the goodwill that CHP had acquired or built-up should have made it invincible from the competitive pressures created by the cheaper cement. The goodwill was no “moat”. The imported cement made their market and eats from CHP. It pressured the revenue and ultimately the cash flows and net income of CHP.

Because the goodwill was no “moat” and “shield.” The goodwill constitute 55% of CHP’s assets as of year-end of 2016. As of the year-end 2106, total equity of CHP is 28.6 Billion Pesos. Had the goodwill been written-off at that time, CHP would only have and equity of 824 Million Pesos. That would translate to a 0.16 per share of equity.

Because CHP was paying CEMEX 47.8 Billion Pesos, the IPO proceeds was not enough to fully pay CEMEX. CHP borrowed another 16 Billion Pesos to fully pay CEMEX. This leaves CHP heavily indebted.

The era of cheaper imported cement dwindles CHP’s operating cash flows and net income. After paying the costs of its debt and the massive debt itself what will be left for growth/expansion and for its stockholders?

We believe that CHP has not yet reached bottom. We see it coming down to 0.50. Sell it now and buy it a lot a cheaper later.