Metro Holdings’ Reply to Quarz Capital Management

I was really honored when the guys at NextInsight contacted me a week or so ago, asking if they can republish my post (Metro Holdings – Why I think Management Will Not Accede To Activist Shareholder Quarz Capital Management’s Demands) on their site.

They also asked if they can republish my Dutech post as well, although that’s written quite some time ago:

It is an honor because IMO, NextInsight is kinda like the Channel NewsAsia for the investing community. I visit the site daily for the latest news updates/opinions/reports. Serious stuff for the serious investor., which is another site I visit religiously, is kinda like the Facebook for serious investors. I go there to have a feel of the general sentiment, and there are some contributors there with good views and opinions.

45) metrologo 01062016

Anyway, last week, Metro released a public statement in reply to Quarz Capital’s open letter a few days earlier. (I found that out from NextInsight. See what I mean?)

Basically, it’s an almost point-by-point exact replica of the points that I’ve mentioned in my post. Here, judge it yourself:


Metro Holdings – Why I think Management Will Not Accede To Activist Shareholder Quarz Capital Management’s Demands

The only difference is that I have the luxury of word space to give specific details referencing the data and my past experience and in depth knowledge of the workings of the company.

To quickly summarize the points Metro’s management made:

  1. UK investments need further capital injections that Metro has committed to
  2. Metro’s business model is capital intensive, and previous experience showed how their cash can get depleted very rapidly
  3. Management is continuing to evaluate opportunities, and they are in the “reinvesting phase” currently

These are all points that I’ve mentioned in my earlier post, complete with data to substantiate each point.

I still view the management and the business model of the company favorably, again, I’d repeat as I have several times, my divestment is simply because they’re going to face a rough year or 2, as they are in the midst of reinvesting capital. As an investor, I can relate to that phase, just on a much smaller scale. In the  meantime, I think I can find opportunities to generate a higher ROI.

On top of that, very unfortunately, their new growth area is focused on the UK. And we all know what Brexit did for the pound. That really doesn’t help things.

I concluded my analysis on a company a few weeks ago, and was contemplating allocating capital in the company. But similarly, their operations in the UK made me hold back and monitor further.

Like it or not, if your revenue is in pounds, and you’re reporting in SGD, there’s no denying how much of a dent Brexit has made into your projected earnings.

The chart explains it all:

258) GBP-SGD 16102016.jpg

A year ago, every pound you earn gives you say, maybe SG$2.15. Now it gives you SG$1.69. (-21% decline)

So you’d need to grow revenues 21%, just to stay still. Ouch.

To top it off, the Brexit process hasn’t really started. When it does, there’s no telling how much more volatility it’d bring to the GBP-SGD, and there’s no telling where the exchange rate settles at when everything’s done and dusted in 2+ years time.

Fortunately, my existing holdings do not have much exposure to Brexit. Boustead had some, but FF Wong and team cleverly hedged it just before Brexit. Amazing how they can predict that, or more likely, they couldn’t but thought it wise to convert anyway.

I will be keeping the pound’s issues at the back of my mind when evaluating any companies.

So what’s next for Quarz Capital Management and shareholders who have just jumped on the bandwagon hoping for a 23% dividend?

I have no idea. I don’t feel any particular pride in being right this time. Because I’m not vested, being right, or wrong, doesn’t add one iota to my dollar returns. I much rather prefer to be wrong and have a fantastic ROI, than to be right and not have any returns.

The share price has risen rapidly to above $1 after the letter came out, and has since dropped below $1 after management’s reply.

As I mentioned earlier though, I think investors thinking they can piggyback on a large fund pushing management, are playing a dangerous game. At least in the short term.

Logically, because they’re behind the information curve. These investors would’ve entered after the short term rapid rally, and they’d be exiting after the big boys have exited. Quarz Capital could’ve already made use of the rally to exit and nobody would know.

They own 2% of Metro Holdings, not enough to be a substantial shareholder and hence, do not need to report if they divest.

This episode also reinforces my belief regarding deep value investing: Being focused on a few companies, putting substantial eggs into a few baskets, but having in depth knowledge that goes beyond just figures on a financial statement.

Quality over quantity. That’s essentially what deep value investing is about. Not too many baskets, but watch the baskets like a hawk.

Let me share 1 more of my personal experience regarding Metro Holdings, and what information I’ve gleaned from attending AGMs.

In one of the AGMs, as usual, after the AGM, the crowd was rushing to the buffet. I, along with some other shareholders, stayed back and we were talking to Winston Choo (ex-Chief Defence Force & Metro Holdings’ Chairman).

Winston Choo, and the other guys on the management team, are the ones interacting with shareholders. Again, Jopie Ong, well, I’ve actually never ever heard him speak a single word before. Not once. Not even DURING the AGM.

Anyway, Winston Choo was replying to a question by another shareholder (while the rest are all rushing for the buffet!!!). The question was why Metro had not looked at property investments in Myanmar.

To put some context, at that time, Myanmar was in the news every day. The junta was making peace with the opposition, and the country was opening up to foreign investments.

Winston Choo’s reply was basically that they do look at everything, but Myanmar would probably require a prolonged investment cycle. (He also mentioned, somewhat casually, that come on, he knows the junta guys personally, so for sure, Metro would consider investments in Myanmar.)

And Metro’s management does consider the duration it takes to achieve the required ROI, and whether shareholders are patient enough to accept the investment.

What does this reply tell you about future investments? You can form your own conclusions.

Personally, it tells me A LOT of information when I subsequently evaluated Metro’s property investments AND divestments.

I’ve hinted at this in an earlier post. (keyword: Mispricings) This is what I wrote:

Metro Holdings is not a pure property developer, and certainly no retailer. They are truely, in my view……  capital allocators, aka investors.

This is a unique opinion, but one that I have formed after analyzing and studying their activities for several years. They behave like a hedge fund, without the fees. Their modulus operandi involves allocating capital to take advantage of mispricings. Property just happens to be their circle of competence. Retail just happens to be their legacy.”

Mr Winston Choo’s reply is something that one cannot get by peering over all the financial statements and the ARs. Yet, it tells me a lot.

The last 2 weeks of October will likely be a “lull” period for me, as I seek to refresh my thoughts about my existing holdings. I’m probably going to use the time to research on a new company.

Early to mid Nov is when the next earnings report is out, and there’d be a flurry of activity then. For most of the companies I have, I think I have a fair idea of how the results would approximately look like. For some, it’s anyone’s guess. I hope they don’t let me down.

As always, happy hunting.

Geo Energy Resources Addendum – Valuation & Earnings Projections

229) Geo Energy Resources.png

My investing thesis didn’t explain my valuation methodology and any “target price”. This is deliberate as…… well I am lazy to type out all these figures. It’s easy to do it on a piece of paper but hard to explain in writing unless I draw up tables, and well, that’s such a chore.

But since a sharp eyed reader (NeVeRAgAin) brought this up in the comments section, I feel compelled to explain my thoughts.

Firstly, the only thing of significance with regard to the balance sheet, is the amount of debt and the cost of the debt. I have mentioned earlier that I don’t understand why NRA Capital attached a 2.2x P/B value to it.

The balance sheet is significant only for the debt it carries, in this instance. I’ve already explained in Part I, how the cashflow derived should cover it’s debt for 2017. So Geo Energy shouldn’t have issues operating through 2017.

How about the valuation? Let’s look at some earnings data:

In 1Q2016, Geo Energy delivered 484,836 tonnes of coal, with a gross profit (GP) of $247,659 (I know it says a loss in Q1 financials, but this is restated in Q2 financials and I thought the latest one would be more accurate)

In 2Q2016, Geo Energy delivered 849,844 tonnes of coal, with a gross profit (GP) of $1,235,767.

This means that the GP works out to be $0.51/tonne in Q1 and $1.45/tonne in Q2.

Q1 average selling price was about $26.66, in Q2, it was $27.96

This means that when the selling price increased by $1.30/tonne, the GP increased by $0.94/tonne.

Bear in mind that we’re talking about GP here, so we are not even considering the volatility and effects of operational costs yet.

Well, Aug 2016 selling price was $30.71, Sept 2016 it’s $36.27. Let’s very conservatively assume the ave selling price for 2H works out to be $31.86. This is very conservative with a large MOS as the price to date, is still rising. For it to be an average of $31.86, coal prices must really tank far BELOW $31.86 for Nov and Dec to average out to $31.86.

If we extrapolate these figures, we get a GP of $4.27/tonne, based on $31.86.

253) Geo Energy valuation methodology.png

If the minimum of 4mil tonnes is taken up, we get a GP of $17.08mil for 2H.

That gives us a full year GP of ($17.08mil + $1.48mil) = $18.56mil

Let’s look at each item in the income statement:

Other Income:

254) Geo Energy Other Income.jpg

Based on 1H2016, other income is already $6.35mil. This includes the $3.7mil gain from disposal of All Win. Using the 2015 figures, I assume the other income item as $7.2mil.

General and administrative expenses:

Management has guided that this will be lower. They have reduced it from $8.4mil in 2014 to $6.9mil in 2015.

Let’s assume the expenses remain constant at around $7mil.

Other Expenses:

255) Geo Energy other expenses.jpg

Other expenses were exceptionally high in 2015 mainly due to doubtful debt and impairment losses.

It’s hard to predict accurately, but I’ve taken a figure of $4mil for 2016. I think this is very conservative as there is unlikely to be significant doubtful debts in 2016.

As of 1H2016, other expenses is only $0.3mil.

Finance costs:

This is not too difficult to estimate. I’m estimating it at $7.2mil for the FY. This comprises mostly of the MTNs debt.

Alright, so taking all those figures, we get a PBT of $7.56mil.

Extrapolating the tax payable from 1H2016 into the Full Year, I derive a EPS of US 0.56 cents. (I included the 117mil shares to be issued for payment for TBR)

Coincidentally, my derived EPS is actually quite close to NRA capital’s forecasted figures, although I am pretty sure they derived it differently. (They didn’t break it down and explain how they came to this forecast)

256) NRA capital geo energy EPS forecast.jpg

If we use a share price of $0.188, the PER would then be 24.5

Now, you must be thinking that PER 24.5 is not exactly cheap, where’s the MOS? Where’s the room for further gains?

But let’s bear in mind that Geo Energy’s turnaround only really begins in the 2H2016.

Using the template above, simply work out the figures again to predict 2017 figures.

Assume an average selling price of $37, and tonnage of 6mil if you want to be conservative like me. If you trust management, their guidance is for 10mil tonnes.

I won’t do the math here cos it’ll be incredibly boring for disinterested readers, but it’s clear to see that if you do the math, suddenly it seems a lot more attractive.

I’d also prefer not to reveal my own personal intrinsic prices and target prices, but it’s safe to say that unless something dramatic happens, based on my current knowledge of the company, I think the share price should be significantly above $0.2 before I consider an exit.

Finally, just to add that IMO, although fundamental analysis is important all the time, in this one instance, the numerous myriad number of potential catalysts is probably just as significant. In fact, I think in the short to mid term, it’ll be one of these catalysts that support the share price.

For eg. if the company announces an offtake agreement for TBR as well, at terms similar to the earlier offtake agreement, the share price will react strongly as the earnings predictability is suddenly much clearer.

For those who find all this very confusing, to put it very simply:

Every US$1 per tonne increase in selling price for Geo’s coal will translate into an increase of US$6 million in Geo’s net profit a year (assuming it produces 6 million tonnes of coal a year). 

I read that statement in a report somewhere. This is a lazy man’s way of tracking Geo’s fortunes. (I don’t recommend it, just saying)