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ValueGrowth investing strategy of Glen Arnold: A case study on Pintaras jaya kcchongnz

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Publish date: Tue, 04 Mar 2014, 08:27 PM
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ValueGrowth investing strategy of Glen Arnold: A case study on Pintaras jaya

Professor Glen Arnold in his book “Value Growth Investing” explains that if you invest in a stock, you are investing in part of the business of the company. He describes the key elements required when investing in a business as below:

  1. A business you understand
  2. A strong and durable economic franchise
  3. Operated by honest and competent people
  4. Know what the intrinsic value of the business.
  5. Available at a very attractive price, or a high margin of safety.
  6. Financial strength

The following elaborates these key elements when investing on Pintaras Jaya as a case study.

  1. Understand the business

All high rise buildings and most infrastructure works such as roads, bridges, offshore structures, power plants etc requires deep and heavy foundations for their structures. Foundations are the first to be constructed before the superstructures. The deep foundation works are complex due to the different soil and rock types deep underground and require specialized knowledge and equipment in geotechnical engineering. Foundation contractors having the niche in the industry will strive and prosper but those without the necessary skills and financial strength can easily turn into oblivion in this dog-eat-dog world of construction.

With the continuation of the LRT extension and MRT projects, the construction industry remains robust with abundance of construction works for some time to come. These projects also provide catalysts for many more property developments centred around these areas with many new property development launches. Furthermore, many mega construction and infrastructure projects, all part of the Government Economic Transformation Programme have been proposed and are likely to continue.

  1. A strong and durable economic franchise

 Pintaras is the only public listed company purely specializing in deep foundation and basement construction in Malaysia. It is able to provide economic design and construct heavy foundation and retaining structure works within the short time frame required for the major players in the property sector. Pintaras has extensive specialized plant and equipment to carry out the project in house with concerted personal involvement of the skilful management team. With its good and personal connection with the developers and the Engineering professional bodies, the management is able to cherry pick good and profitable projects with high margins coupled with fewer risks.  As the foundation is the first to be constructed before the superstructure, the contractors involved generally lower risk of non-payment by the developer. Please refer to details in the link below:

http://klse.i3investor.com/blogs/kcchongnz/46430.jsp

The strong and durable economic moat of Pintaras is evidenced from the high margins and returns of invested capitals of above 30%, and the high quality of its earnings as shown by its abundant cash flows. Besides it has high growth too with CAGR in revenue and earnings of 9% and 25% respectively for the last 6 years. This you can hardly find in any other construction company in Malaysia.  Please refer to the link below for further details.

http://klse.i3investor.com/blogs/kcchongnz/46408.jsp

 

  1. Operated by honest and competent people

Dr Chiu Hong Keong, a doctorate in geotechnical engineering and the chairman cum managing director provides the active leadership for the company. The board of directors is made up of another executive director, Mr Khoo Keow Pin,  who is the founding member of Pintaras and is also highly qualified civil engineer specialized in geotechnical engineering and has extensive working experience in the consulting and construction environments. The other two executive directors are Dr Chiu’s wife and his son. There are three independent directors who are not related to the executive directors.

Total executive compensation in 2013 made up of only RM2.33 m, or just 1.3% of revenue in the year. There are no apparent unfair related party transactions too.

The management is also appears to be willing to share the fruits of the success with the outside shareholders. This is evidenced from the dividend payment which increases from 12 sen 5 years ago to more than double to 25 sen per share for the last financial year. A one-for-one bonus was also carried out end of year 2012.

Please also refer to the following link for the quantitative analysis of the management:

http://klse.i3investor.com/blogs/kcchongnz/46752.jsp

 

  1. Know what the intrinsic value of the business.

We have so far carried out two discount cash flow analyses to estimate the intrinsic value of Pintaras, one with a conservative super-normal growth rate of 5% for the first 10 years and 3% subsequently, the other at 5% super-normal growth for 5 years and stock sold at a price-to-FCF of 12 times after 5 years of holding period. For both the analyses, the intrinsic value of Pintaras is found to worth about RM4.75 a share. Please refer to the following link for the analysis:

 http://klse.i3investor.com/blogs/kcchongnz/46864.jsp

 

  1. Available at a very attractive price, or a high margin of safety.

Once we have an estimate of its intrinsic value, we can compare with the price offered in the market. At a price of RM2.91 at the close on 5th March 2014, the margin of safety, or discount to intrinsic value, is wide at 38%. This high margin of safety provide a safeguard against any error in our data and assumptions used in the analysis.

The wider the margin of safety, the lower the risk in investing in the stock, and the higher the potential return. Heads I win, tails i don't lose much.

We have also carried out two other valuations using comparative (with other construction companies) and absolute private market valuations methods as shown in the links below:

http://klse.i3investor.com/blogs/kcchongnz/46573.jsp

http://klse.i3investor.com/blogs/kcchongnz/46422.jsp

Both valuation methods show Pintaras at RM2.91 is trading at cheap or reasonable price.

 

  1. Financial strength

It is common and in fact desirable to use debts to do business as debt is cheap. However the debts should not be too large in relation to its equity so that in time of financial crisis, the company will not subject to too much financial distress leading to bankruptcy. It must also ensure that its earnings or  cash flows from the operations is adequate to cover interest payment.

As Pintaras has plenty of cash and with no debt at all, this is not an issue. Some people may say that a company having too much cash, in Pintaras case of about RM1.00 per share is not good; no good investing opportunity etc. but tell me if you are a shareholder of Pintaras, would you prefer it has this cash or not, everything else remains the same?

 

In essence, one should know the business of a company well enough before investing in its stock. He must have a feel of its value, irrespective if it is a high growth or low growth company (as growth is incorporated in the intrinsic value estimation), and only invest if there is a good margin of safety.

PTARAS (9598)
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Discussions
2 people like this. Showing 23 of 23 comments

Leong Nguk Foong

Thanks for the info. Totally agreed with your view.

2014-03-04 22:19

kcchongnz

Posted by stockoperator > Mar 4, 2014 11:18 PM | Report Abuse

Well back to Pintaras/construction sector, the income is not recurring.Can the company grow in size in times to come? Business Yes. But can company grow in size? The only way company value will grow is the company becoming bigger and bigger and becoming more valuable.


Pintaras made 35 sen per share for the trailing twelve months, or an earnings yield of 12%. Its operation provided 24 sen per share in free cash flow last year. It distributed 15 sen per share (DY=5%) last year. Pintaras has been paying increasing dividends every year. With its huge amount of cash of RM1.00 per share, there is high likelihood that Pintaras will continue to pay higher dividend for the next few years.

So do I need Pintaras to grow its revenue and profit before I invest in it at the present price? I don't think so.

Not withstanding that, Pintaras is also likely to grow its revenue and net profit for the coming years with the buoyant construction industries. The growth will be a bonus. Best of all, we don't need to pay extra for this expected growth for a satisfactory return.

Hence for me the best thing in investing in a stock is its cheapness now but good, rather than its future outlook (growth expectation), which is unknowable and unpredictable.

2014-03-05 10:29

kcchongnz

Posted by stockoperator > Mar 5, 2014 09:16 AM | Report Abuse

In that sense I would say I like your MFCB much more Only that I am pondering whether it is a low margin Business.

Is a business with operating and net profit margin of 22% and 17% respectively a low margin business? Please read again my post on MFCB below:

http://klse.i3investor.com/blogs/kcchongnz/47535.jsp

The more important metric you should care about is the return of equity. That is how much a business earned with the equity outlay. Even if a business is of low margin, ROE can be high too if it has high asset turnover, and/or high leverage. Harrison and DKSH has low margins in their business, but their ROEs are high and much more than the costs of capitals.

2014-03-05 11:17

stockoperator

As you said earning yield 12% DY 5% retained earning/shareholder funds 7% good company/growth in near future/long term depends how business evolve, not bad not excellence either ya.

2014-03-05 11:31

stockoperator

If we can ascertain with confidence and high percentage of accuracy of discounted future cash flow of certain durable business for the next 20-30 years we will know with more confidence then it is top priced or lower priced compared with other alternative investment/savings.

2014-03-05 11:52

kcchongnz

Posted by stockoperator > Mar 5, 2014 11:31 AM | Report Abuse

As you said earning yield 12% DY 5% retained earning/shareholder funds 7% good company/growth in near future/long term depends how business evolve, not bad not excellence either ya.

You are right. Earnings yield (E/P) of 12% and a DY of 5% is nothing to shout about. But you have not considered the excess cash holding of RM1 per share which could be distributed all to shareholders without affecting the business, or invest in some other profitable ventures to earn more income for shareholders.

The business can theoretically borrow 160m and distribute another RM1 per share to shareholders to have a optimum capital structure of 64%:36% equity:debt, and still does not affect its earnings yield much.

That is the power of the cash it has.

2014-03-05 12:00

kcchongnz

Posted by stockoperator > Mar 5, 2014 11:52 AM | Report Abuse

If we can ascertain with confidence and high percentage of accuracy of discounted future cash flow of certain durable business for the next 20-30 years we will know with more confidence then it is top priced or lower priced compared with other alternative investment/savings.

Who can "ascertain with confidence and high percentage of accuracy of discounted future cash flow of certain durable business for the next 20-30 years"? Definitely not me. And I don't think anybody can, not even for the next 5 years.

That is why it pays to be conservative. For example Pintaras net profit has been growing at a CAGR of 25% for the last 6 years, I only assume it grows at 5% for the next 10 years, and 3% thereafter. Even that it is just an assumption. It can grow higher or lower, but the important thing is must try to be conservative.

2014-03-05 12:10

stockoperator

This investment game is best played out like this=Minority/A few have high confidence and majority have low confidence. Since majority have low confidence so the price would be stagnant for years while minority keeps accumulation. At the meantime company is growing from strength to strength until One day there is re-rating.

2014-03-05 12:10

stockoperator

Fair enough that is your systemic approach. you keep on Buying undervalued stocks and sell it when it reached your intrinsic value and repeat that over. Fair enough. One question, how do you know when you are wrong? When the figure turns bad? Any exit strategy?

2014-03-05 12:53

stockoperator

You said it well when you advocate 1)High DY/Net cash/FCF over Revenue as I believe Business is War time and Cash is War Chest for defense and attack. 2)Conservative Growth projection and Growth is a Bonus. Especially when you keep faith on Fima/Kfima business and remains unfazed while its cyclical plantation profit is on decline for past 2 years as you believe in its Business. 3) High return over Asset/Capital employed to prove that this is a high margin business.

So when time is bad figure is bad and business perspective is bad and market down 20% You have to exit the market right?

2014-03-05 14:23

stockoperator

You start to have doubts over your company selection right? Or your answer is certain business Yes. Certain business No. Why our answer to certain business is No and in fact we are glad that price falls 20%. Our trust is like a religion pilgrimage.

2014-03-05 14:37

stockoperator

With the trust in the Business Perspective itself dont you think you can Buy when price is reasonable, even when it is top priced? Or lower priced when market is bad. Even depressedly priced when company is in crisis/trouble.

2014-03-05 14:48

stockoperator

Choose the company with your answer NO=I wont sell this one even when the figures are bad. this is our investment baptism. And keep doing what you are good at.

2014-03-05 15:00

chunghiung

Where can buy the book of ValueGrowth investing strategy of Glen Arnold in Malaysia?

2014-03-05 22:59

GenghisHoe

chunghiung I did find it through Popular, MPH, Borders but they didn't sell. Perhaps can grab one through Kinokuniya.

Or Mr.kcchongnz have a soft copy of ebook? ^^

2014-03-26 07:43

OptimusX8

All u need is only 1 book, reminiscences of a stock operator. Throw the rest into garbage bin.

2014-03-26 07:45

GenghisHoe

Hey dude, knowledge is unlimited why do you wanna try to limit yourself? Nice to meet you.

2014-03-26 08:48

kcchongnz

Professor Glen Arnold in his book “Value Growth Investing” explains that if you invest in a stock, you are investing in part of the business of the company. He describes the key elements required when investing in a business as below:

1) A business you understand
2) A strong and durable economic franchise
3) Operated by honest and competent people
4) Know what the intrinsic value of the business.
5) Available at a very attractive price, or a high margin of safety.
6) Financial strength

Notice that none of the above emphasize on growth. Any growth is incorporated in the estimation of the intrinsic value of a company. Yes you must buy at a significant margin of safety to its intrinsic value which is the most important.

this is what Glen Arnold summarizes in his book about his ValueGrowth Strategy:

ValueGrowth Investing strategy
• An investor selecting a share for qualities of value should, as part of the assessment, analyze its growth potential.
• An investor judging a so-called growth approach will not pay any price, and so will look to purchase at a low price relative to its future prospects.
• The investment shown by the discounted-flows-of-cash calculation to be the cheapest is the one that the investors should purchase-irrespective of whether the business grows or doesn’t, displays volatility or smoothness in its earnings, or carries a high price of low in relation to its current earnings and book value.

2014-03-29 18:20

Horsefield

I was told that the book is out of print (stop publishing) by Kinokuniya SG. I guess Amazon is the only option.

2014-03-30 13:23

stockoperator

Investor should try to understand item 1 and 2 and 3 better with deep business sense and common sense. Item 4 and 5 and 6 is quite time testing and might change quarter to quarter and year to year sometimes because of market conditions. Item 1 and 2 and 3 will not change for long period of time as good management is in place and economy moats is there. My emphasize is always on 123 then 456 Not the other way around. TOO many people is doing 456 Only. Why? Speculation? Too hard to resist 456? Too difficult to understand 123? After 123 and then 456 there is only Not the company that we want? Foe me, if I cant understand 123 of a company, there is No need to go thru 456. Does not matter if profit soars, deeply undervalued, cash rich, high margin and so on as i cant understand 123.

2014-03-31 10:39

stockoperator

Growth is Not a concern to me either. Cash is a concern. Why should we concern about growth as long as company has cash right? Here we should focus on good quality long term growth strategy without debt financing.

2014-03-31 10:47

stockoperator

Ya 123 is too argumentative and boring and 456 is hard facts and figures and eye glaring. So we just to do 456, how can 123 be wrong if 456 is fantastic, right? Make money first and study later right?

2014-03-31 11:03

kcchongnz

Posted by stockoperator > Mar 31, 2014 10:47 AM | Report Abuse

Growth is Not a concern to me either. Cash is a concern. Why should we concern about growth as long as company has cash right? Here we should focus on good quality long term growth strategy without debt financing.

I like growth. A stock with higher growth is indisputably a better investment than another stock with low growth, provided everything else the same, especially the price to pay.

The problem with growth is it is a future expectation, a projection. How accurate is the growth projection? How is the growth expectation translated to the bottom line? And most of all, what is the price of this growth? Has the growth expectation been incorporated years ahead already with its present price? etc etc etc.

I seriously believe one should think about and fathom out those questions above, not just buy growth stock, at whatever growth projection, whether it is realistic or not? And at whatever price.

2014-03-31 12:25

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