Wednesday, January 28, 2015

Analysis of Hong Leong Industries Berhad

Please read the disclaimer here: Enjoy the article, bitches!

Hey guys, the “Greedy fucking Dragon” is back and ready to tear shit up! I won’t be surprised if some of you thought that I’ve jumped off a high building or something as everything I’ve touched recently seems to have turned to fucking disasters (at least that’s how most people would see it anyway). But I’m not worried about the investments I made unless there’s a permanent impairment to their businesses. In fact, I had a feeling that the natural resource stocks I invested in would drop some more. But I still took some positions anyway as I didn’t want to miss out in case natural resources suddenly turned around. I’m in no way defeated by these paper losses. In the words of Vic Mackey, “I don’t step aside, I step up.” However, I’m not adding to my natural resource positions right now because I’m looking for a further correction and/or other resource stocks with decent balance sheets and cost structures. Unlike a Coca-Cola, the riskiness of a resource stock can change quickly as the company can take on a lot of debt or burn through a lot of cash to develop its reserves. That’s why I think it’s important to own a few companies instead of just doubling down on a single company in the resource space. The Greedy Dragon portfolio also doesn’t have much cash left (only about 10%-15% of the portfolio is in cash), so I need to bring up the cash balance of the portfolio before making any significant new investments. Now that we’re done catching up, let me get down to business and analyze Hong Leong Industries which I took a small position in earlier today at RM 4.4 a share.        

The company’s activities consist of the manufacturing and sale of ceramic tiles, manufacturing and sale of fibre cement and concrete roofing products, and the assembly and distribution of motorcycles, scooters and related parts. For the quarter ended December 31, 2014, the company achieved annualized returns on equity and assets of 18.03% and 12.77% respectively which is actually quite good. The company has a pretty strong balance sheet with RM 323 million in cash and cash equivalents and only RM 160.59 million in borrowings.

Adjusted net profit note: The return on equity and return on assets figures in this article are arrived at by using an annualized adjusted net profit (which I calculated on my own) as input. I calculated the adjusted net profit by excluding other operating income and income from discontinued operations. I also used the Malaysian Statutory tax rate to calculate the company’s tax expense instead of using the tax expense reported in the quarterly report.

Other than the solid balance sheet and returns on capital, what attracted me to Hong Leong Industries was its low valuation and healthy dividend yield. Based on the company’s common shares outstanding of 308.356 million as at December 31, 2014, and its annualized adjusted net profit attributable to common shareholders of RM 168.92 million (which I calculated by myself), the company would have earnings per share of RM 0.547. Taking today’s closing price of RM 4.4 a share, the stock would have a P/E ratio of 8.04. It’s possible that the results for the quarter ended December 31, 2014 is better than average and annualizing it would therefore result in the P/E ratio I calculated being lower than what it actually is. There’s also a chance that my calculation of adjusted net profit attributable to common shareholders is overly optimistic. But I’m not really worried as I think there’s enough of a margin of error. In 2014, Hong Leong Industries paid out RM 0.27 a share in dividends. At the stock’s closing price of RM 4.4 per share, it would have a dividend yield of 6.13%.

Adjusted net profit attributable to common shares note: I calculated adjusted net profit attributable to common shareholders the same way I calculated adjusted net profit except I deducted 25.6% for profit attributable to non-controlling interests. I arrived at 25.6% by dividing the reported profit attributable to non-controlling interests by the reported profit for the period in the income statement for the quarter ended December 31, 2014.

One risk I see with owning shares in this company is a slowdown in the property market affecting some of the company’s businesses. I have no idea when a slowdown in construction will happen or what its impact would be on the company’s profitability. But unless a drastic crisis occurs, I think the company has the financial strength to survive. Thank you for reading. Take care and stay rational.