Uni-Asia Finance Corp

Introduction

Uni-Asia Finance Corp is a recently-listed finance and investment company with operations in China, Hong Kong and Japan. It was founded by three Japanese bankers experienced in the field of structured finance. The main lines of business of the company are thus all related to structured finance and are as follows:

The structured finance income is derived from transactions that the bankers assist in advisory and origination and is akin to investment banking revenue. The ship investment income is income from the company’s investment in ships. This portion of income, which is a significant portion (56.6% in FY 06) of the company’s income, has very similar economic characteristics to shipping trusts. The distressed assets investment income is somewhat in common with the structured finance investments of the Babcock & Brown structured finance fund. All in all, Uni-Asia operates primarily as an alternative assets investment manager with structured finance investment banking income.

Financial & Profitability Analysis

The table below lists the FY results of Uni-Asia from 2004 thru 2006.

The numbers for Uni-Asia are not too far from a comparable, Westcomb financial. The P/E of the company seems reasonable and P/B is conservative.

At the current moment it is difficult to do a comparative analysis between the latest results of Westcomb and Uni-Asia as the latter has not released HY07 results. So I shall keep an eye on this company and do deeper analysis later in the year when results are released and the post-IPO numbers give a better springboard for analysis.

GMG Global - Update

I previously wrote a post on GMG Global where I cursorily analysed the stock. Here is an update where I crunch the numbers.

The gross margin for HY06 was actually 45.34%, the operating margin was 28.71%, and the net margin was 23.28%.

Basically what is happening with GMG Global is that its cost structure has not changed. So once the weather returns to normal GMG will be able to benefit from the prevailing higher prices of rubber as part of the global commodities boom as driven by China and India. If operating conditions return to normal that means we can expect GMG's ROE to return to somewhere near a respectable 10%.

As we can see the company is relatively conservatively leveraged at Liab/Assets of 20%.The stock price at $0.11 was below NAV and P/E is for HY07 numbers. P/E will come down much more if we take HY06 numbers.

Babcock & Brown Structured Finance Fund

I was prompted to analyse the Babcock & Brown Structured Finance (BBSFF) Fund because of a OCBC brokerage research note I read on KEER's blog. It looked like an interesting proposition so I decided to investigate myself. I must say it has been a very challenging experience to analyse this fund and BBSFF is one of the toughest cookies I have encountered so far in my limited investing experience. So, here goes nothing.

Greater Yield – and Greater Risk

The BBSFF is a very unique investment on the SGX. It is a mutual fund that manages a portfolio of structured finance assets, including operating lease assets, credit derivatives in the form of CDOs/CLOs, and alternative assets such Biofuel-related loans and Music Copyright assets. The diverse portfolio of assets makes the analysis of the BBSFF quite a daunting task, and it is a challenging exercise to attempt.

During IPO, BBSFF was priced to yield a 9% return. This is higher than REITs which tend to yield about 5-7% and is somewhat similar to the yield of the shipping trusts. In order to return a higher yield, BBSF invests in assets that are riskier than prime real estate, the details of which I analyse below.

Diversified portfolio of risky assets

Operating Lease Assets

The current operating lease assets under the fund include aircraft assets and railroad assets (rollingstock). The fund also intends to acquire shipping assets when opportunities present themselves in the future. This class of assets has similar operating characteristics to the shipping trusts. Essentially the fund either owns the aircraft or stakes in entities that own aircraft/rollingstock and the assets are leased to airlines or railway companies.

What is notable about some of the operating lease assets is that these are not the most modern aircraft like the new A380 or the larger Boeing 747, but the aircraft include smaller and older models like the Boeing 757-200 which is actually out of production. The fleet of A320s, B737s, B757s and other aircraft are mainly smaller short to medium range aircraft probably used for intercity domestic flights in the United States.

Loan Portfolio and Securitisation Assets

The Loan Portfolio includes CDOs/CLOs that include packaged European and Australian non-conforming (U.S. equivalent is subprime) mortgages. This is the group of assets that has most recently been the centre of attention due to the recent American sub-prime crisis. Fears that the US subprime contagion would spread to Europe and other countries caused a significant sell-off in BBSF’s shares on the SGX. However, it appears that most of the CDOs and CLOs in which BBSF is invested consist largely of AAA-rated securities, with a small portion classified as A or BBB. A latest report by the company indicates that it has taken no losses in its credit derivative securities.

BBSF's exposures to Ancora securities (which are CDOs secured on Australian real estate) appear to be doing well. The Australian economy is powering ahead, largely unaffected by the American crisis (the Australian Central Bank recently raised rates yet again) and the US credit market correction has had little, or any, impact on Australian mortgages. A similar story is the case for BBSF’s exposures to UK and European CLOs and other securitization assets.

As disclosed by the fund, BBSF has no exposure to the US CDO market and so far has taken no damage to its portfolio because of the recent subprime crisis.

Alternative Assets

Alternative assets include loans made to biofuel production facilities, investments in music copyright assets, and a mezzanine loan made to the Paramount Bay project, which is an upscale residential development in the US. It is difficult to evaluate the risk of default or loss of these alternative assets, and I am not going to attempt to do so. I can only assume that these investments are of reasonable quality based on the judgment of the fund manager, and evaluate the financial returns as reported in the financial statements.

Accounting Quality

The level of disclosure in the prospectus and the financial statements is quite high, as would be expected of an Australia-managed company. However, there are a few things to note in analysing the company's financial statements.

1. There is no separation of assets into current and non-current assets, nor liabilities into current and non-current liabilities.
2. The cash flow statement is reported as a direct cashflow statement rather than an indirect cashflow statement. I attempted an indirect reconciliation between PBT and CFO, but the absence lack of separation between current and non-current assets makes the reconciliation difficult.
3. The financial statements amalgamate the results of the fund in 2006 since inception with 1H07 results, making the numbers slightly bloated for projections.

Financial & Profitability Analysis

As can be seen, there is a large gain due to foreign exchange exposure. This is an unpredictable and non-core operating item and I have made calculations excluding this number in order to make analysis more accurate.

As we can see from the ratios the fund is significantly leveraged with liabilities at 46% of assets. This is close to the fund’s loan covenant maximum of 50%, which means that there is little space for the fund to take on more leverage.

In terms of operating efficiency, it is hard to comment because of the lack of comparables. The fund’s ROE excluding forex gains is much lower than the ROE including the forex gain, similar for ROA.

Evaluation

10% yield at $0.95 stock price looks like a very attractive number, compared to other REITs and business trusts. However, there are several factors which make the attractiveness of BBSFF as an investment less clear.

a. At a P/B of 1.11, the market is saying that there is value in the fund that is not accounted for by its net assets. In other words, of the $0.95 per share, $0.09 comes from intangible value. My question is, where does this intangible value come from? The expertise of the fund manager? The value of the copyright assets? Where? It is not clear to me why this stock should be trading above NAV.

b. It would be much nicer for the investor if there was a clear mandate for its dividend policy. However, the prospectus only has this cryptic message about the dividend policy of BBSFF:

“Our dividend policy is to pay out the majority of the economic income received from our investments, after payment or provision for our operating and financing expenses. … Economic income is determined by our Company on the advice of our Manager. This determination involves an assessment as to whether distributions received on our investments constitute capital or income. In some cases, this determination involves an element of judgment by our Manager. In this regard we rely upon the experience of our Manager and its knowledge of our target asset classes to make the determination at the relevant time.” (Prospectus p57.)

In other words, much is left to the discretion of the manager and the investor can only assume that he will get what is due to him.

c. Many of the assets are difficult to understand. CDOs, CLOs, music copyright assets, mezzanine loans, and biofuels are difficult to analyse for someone who does not have significant experience in the field of structured finance. Much depends on the judgment and expertise of the manager.

With such a great information asymmetry and myriad of complex investment issues at stake, I think it would only be prudent to make an investment in BBSFF with a significant margin of safety. I personally am not prepared to risk my capital, and will only consider BBSFF if and when it trades near or below book value.

Temasek Watch 5th Sep 07

On a mission to dispel myths
Last Updated: 1:35am BST 05/09/2007

Temasek's Simon Israel says the giant Singaporean fund is a patient, not passive investor, reports Katherine Griffiths

Simon Israel, the day-to-day head of the investment giant Temasek, is in London to try to dispel what he believes are myths about the $106bn (£53bn) fund which is 100pc owned by the Singaporean government.

"Misunderstood is probably the wrong word, but we are not understood," says the New Zealander. read more at the Telegraph

Other News

• Singapore Air, Temasek Make $660 Million One-Day Gain
  from Bloomberg
• Singapore's Temasek says Stanchart "a good investment"
  from Reuters

Singapore Airlines announces strategic investment and partnership framework with China Eastern Airlines (e-Travel Blackboard)

Temasek's Next Hedge Fund (Brunei Times)

Property Majors: Capitaland and City Developments

Introduction

Capitaland and City Developments are two of the largest property developers listed on the SGX. Capitaland is a Temasek controlled GLC, while City Developments is controlled by Kwek Leng Beng and family.

Juxtaposing the 1H07 income statements of the two companies will reveal the differences in the sources of income of the two companies. Even though the two groups have a similar top line, Capitaland gets a significant portion of its net profit from “Other operating income”, “Share of Associates” and “Share of Jointly Controlled Entities” (see red arrows). This is due to the fact that apart from its development operations, Capitaland has significant investments in property-related assets. A further inquiry into the balance sheet information will reveal more:

As we can see, associates and joint ventures comprise a much bigger proportion of the non-current assets of Capitaland compared to City Developments. This will be an important distinction to consider when comparing the valuations of the two companies.

In order to contrast the operating profitability and risk ratios of the two companies, some adjustments have to be made. This is because CapitaLand seems to classify as part of “cost of sales” items that City Developments classifies as “other expenses.”

Also, CDL and CapitaLand have different accounting policies with regards to reporting revaluations in investment properties. Capitaland includes “fair value gain of investment properties” in its “other operating income,” however CDL does not take into account revaluation of its investment properties, because it says that “companies can reflect unrealized revaluation surpluses or deficits in the income statement which may significantly inflate or deflate the balance sheet and can cause volatile fluctuations in core earnings depending on market conditions.”(Extracted from Note 8)

I personally prefer this approach to conservative accounting because fair value changes are only real when properties are divested or sold, and it is always easy to get carried away by ‘paper gains’ before the market collapses and the value of the assets plummets back to earth.

In any case, to get around the differences in accounting policy, I have chosen to use “Operating Profit excluding other income,” and this is arrived at by deducting the “other operating income” from the operating profit item. The ratio is much more comparable, and in this case Capitaland appears to be doing slightly better than City Developments.

This appears to be the only comparable ratio between the two companies. The ROE of Capitaland is inflated because of the upward revaluation in properties. The revenue/assets for capitaland is much lower because it has a lot of investment properties which have rentals which are very small compared to assets. In a sense, it is better to think of Capitaland as a property developer + REIT under one house, whereas CDL is closer to a pure developer.

Also, it is very difficult to compare the P/E ratios because CDL has not accounted for asset revaluations; perhaps the only feasible way to compare the two is by looking at the P/B ratio, where CDL pips Capitaland, 2.68 compared to 2.34. But again, this must be tampered by the fact that CDL's book value would be higher if it revalues its properties to market value.

Conclusion

Based on this comparison, it’s hard to say whether either company is fairly valued by the market. Capitaland's practice of amalgamating the fair value revaluations into its operating profit, along with its large amount of investment assets, associates and joint ventures make it difficult to analyse vis-a-vis City Developments. I will get a better idea once I have gone through a few more property developers and REITs and then I’ll come back and see if my understanding is changed.

In the meantime, leave a comment if you have tips on how to interpret the numbers.

Index Funds

[I received a question on investing in index funds from a reader; what follows is my personal opinion on index investing.]

Q: I was interested in stocks before but decided against it coz (Warren) Buffett and Jim Rogers mentioned in their works that index funds is good enough.

What's your opinion on index? and the American guy who popularised it? (i forgot his name). I read that he is quite a trailblazer.

A: In my opinion, for a person who holds a day job and who does not have the time to investigate individual investments in detail, index funds are a good option because they take the need of having to worry about investments off the investor's hands, and typically have much lower management fees than actively managed mutual funds. In addition, most mutual funds underperform the indexes, so if you stick your money in the index fund you are more or less guaranteed to beat the majority of investors who invest in mutual funds (and possibly who try to manage their investments on their own).

However, being an index investor requires patience and discipline because there will be periods where the broader market moves sideways and there will be periods where there is a latest fad e.g. internet/biotech/oil/China etc. where u see certain sectors booming and outperforming the market. These are times when the index investor needs to shut off the noise and just sit on his investment and not be tempted to sell out of his index investment and join the fad. This can be difficult especially when hear of people making money in short periods while your fund is only moving conservatively.

Rest assured, however that the disciplined index investor who has the patience and discipline to stick to his plan will eventually outperform the investor who chases market fads and who follows the herd to whatever is the 'hottest' investment at the period of time.

A good way to manage this tendency to want to be 'in' on what the crowd is doing, or if you are interested in doing some active trading, is to set aside a small portion of money that you can afford to lose. Meanwhile, the money that you need for the long term purposes such as children's education or retirement etc. should be kept safely in your long term index investment and not be touched. This will enable you to indulge in your natural tendency to want to gamble but at the same time protect you. I personally have read about professional fund managers who have their own small 'gambling' fund in order to prevent their gambling tendencies from doing any damage to their main fund.

As for the guy who popularised index investing, I believe it was John Bogle. I have a lot of respect for John Bogle and I believe he is the authority on index investing; he founded the Vanguard Group which manages index funds and other investments.

Liang Huat Aluminium Ltd – Return From the Dead?

[This note was previously published under a different title, it has since been remodified because I was working with the wrong charts.]

Introduction

While perusing the list of top actively traded stocks today, I came across a stock called Liang Huat Aluminium. I printed out Liang Huat’s financial statements and had a look at its stock chart, and I must say Liang Huat is one of the most unusual stocks I have looked at in a while.

The SGX chart of Liang Huat (click for larger image) indicates that the stock was suspended some time back in late 2004, and only recently resumed trading recently. It opened at $0.12 and has since slide down towards about $0.06 per share.

Let us investigate this this stock in more detail.

Capital Deficiency

Liang Huat Aluminium is one of the few companies I have come across that has a “capital deficiency.” In fact, it is the first company I have come across that has such a massive capital deficiency compared to its assets:

What a capital deficiency simply means is that a company has more liabilities than assets. In Liang Huat’s case, it has $139,885 in total liabilities and $5,811 in total assets, for net a capital deficiency of $134,084. This effectively means that shareholders of Liang Huat owe the creditors of Liang Huat $134,084. Given the number of outstanding shares at 1,110,630,000 (this is a lot of shares for such a small company), this translates into a net asset value of -$0.12 per share.

The balance sheet indicates a negative net worth for the company based on book value alone; thus any positive valuation of the company must depend on projections of earnings paying down the liabilities of the company before shareholders get anything.

Earnings Turnaround

(click for full image)

Liang Huat’s income statement provides more optimism than its balance sheet. It has experienced a significant turnaround in its business operations and has turned a 1.22c per share loss into a 1.1c per share profit.

Assuming that Liang Huat maintains its operations turnaround and positive performance, this means that the company will still be paying down liabilities for a few years before the shareholders get anything. Let us be very optimistic and assume that Liang Huat is able to earn 3c per share per year for the next few years. This will allow Liang Huat to pay down its NAV of $-0.12 in about four(4) years.

Insider Sales

What will, perhaps, give us a better picture of what is going on with Liang Huat is the actions of its insiders and substantial shareholders. A visit to the SGX website reveals the following string of announcements related to Liang Huat:

Liang Huat’s insiders apparently have been aggressively paring down their stakes in the company. This appears to be part of a restructuring exercise due to the fact that Liang Huat has a lot of debt.

Return from the Dead?

Liang Huat appears to have been relisted after a long hiatus from the market due to poor operating performance. It is heavily in debt and has recently returned to profitability, ostensibly because of favourable operating conditions in the form of the revival of the construction market in Singapore.

I have very little idea how to value this company, but it would certainly be interesting to try. Would anyone like to have a go?