kcchongnz blog
A serious problem with the steel related industries in Bursa
The steel related industries in Bursa
There have been numerous and persistent promotions of steel related stocks in this i3investor public forums. The theme is steel related companies are trading at ridiculous low valuation. Most of them trade at low valuation. Some of them with PE ratio of less than 2!
Are there big fat frogs jumping around Bursa?
The manufacturing and distributions of steel products in Malaysian can be classified into 2 product groups:
- Flat products such as hot-rolled coils, cold-rolled coils, pipes, tubes, and coated coils. These products are used as intermediate raw materials for downstream applications.
- Long products such as billets, steel bars, wire products, angles, and sections. These are used in the construction and civil engineering industry.
With the pickup of commodity prices in 2021, the iron and steel industry had a bumper harvest year too. Steel Rebar price hit a high close to CNY6,000 per ton in October 2021. As a result, steel related companies made huge profits for the year.
Investors expected this augured well for the iron and steel companies. If one reads public forums such as the i3investor, you will find plenty of promotions on the steel related companies, touting the cheapness of steel stocks selling at low single-digit price-to-earnings ratio.
But why are those companies selling so cheap?
Firstly, steel is a commodity with cyclical prices. There is a close correlation between the performance of the sector and the commodity prices. The earnings reported in the most recent year are a function of where they are in the cycle. Investors must look at the earnings over a cycle to determine if the price is low, and not based on the upcycle when earnings are at their peaks. That is misleading.
Next, we must closely examine what the earnings, the “E” in the price-to-earnings ratio, is made up of. It is something of real cash which the company can use to pay dividends, reduce bank borrowings, to invest in other profitable ventures? Or is it just an accounting number, something like gain in the inventories of steel due to the sharp rise of steel price, but cannot be converted to cash?
Yes, we should focus on free cash flows. Is there really cash that the company earns through the conversion of accounting earnings to cash, like the company sells a lot of steel products and customers eventually pay all in cash?
Most steel companies had big jump in profits for year 2021, and most paid very good dividends, with some stocks having dividend yield of high single-digit, or even in double digit percentage. Did the company pay the dividends with any cash received from the core operations? Otherwise, a company, even though making good accounting profit, has to find cash somewhere to pay those dividends.
Let us examine further. Let’s start with AYS, the most touted steel stock in the public forum such as the i3investor forum.
AYS Ventures Berhad
More interestingly, with earnings per share of 26 sen and book value per share of 94 sen for year ending 31 March 2022, it is trading at a ridiculous low price of less than 2 times earnings, and about half its book value. Any value investor, or even speculators would be attracted to the stock. But why hasn’t the share price gone up to match its “value”?
Table 2 below shows some information on the financial statements of AYS.
| Table 2: AYS | Sen | pay-out | |||||
| Year | 2022 | 2021 | 2020 | 2019 | 2018 | Total | ratio |
| EPS, sen | 26.0 | 5.0 | -3.0 | 4.0 | 6.0 | 38.0 | 21% |
| FCFPS, sen | -40.0 | 12.0 | -2.0 | -26.0 | -19.0 | -75.0 | -11% |
| DPS, sen | 4.0 | 0.0 | 0.0 | 1.0 | 3.0 | 8.0 | |
| Net debt/share, sen | 98.3 | 66.0 | 80.1 | 70.4 | 45.5 | ||
| Net debt, m | 411.2 | 276.0 | 335.0 | 294.4 | 190.4 | ||
| CFFO, m | -112.2 | 45.9 | -7.7 | -96.8 | -47.5 | -218.2 | |
| Capex, m | -45.1 | -0.6 | -0.6 | -2.4 | -19.5 | -68.2 | |
| FCF, m | -157.3 | 45.3 | -8.3 | -99.2 | -66.9 | -286.4 | |
| Inventories, m | 534.8 | 278.1 | 336.3 | 328.8 | 217.7 |
The outcome of the above is there was a net outflow of RM157.3 million in cash for 2022. Although AYS earned 26 sen per share for 2022, it had to cough out 40 sen per share in cash to keep the business running. So, how could the company manage to pay out 4 sen per share in dividend. From additional borrowings, obviously.
As a result, the net debt of AYS increased by 49% from RM276 million to RM411 million in the year. Its total borrowings had exceeded its total equity now.
The combination of persistent negative free cash flows every year, and an unhealthy balance sheet make AYS a risky investment, and hence its extreme and persistent low valuation.
Let’s look at another steel related company which also has been touted heavily in public forum, Leon Fuat Berhad.
Leon Fuat Berhad
LeonFB also distributed a total 4 sen in dividends for financial year ending 31 December 2021. At a price of 57 sen on 30 June 2022, the dividend yield is also very high at 7.0% with a pay-out ratio of just less than 10%. With earnings per share of 41 sen, at a share price of 57 sen, it is also trading at a ridiculous low price of 1.4 times earnings. Why?
| Table 3: LeonFB | Sen | |||||
| Year | 2021 | 2020 | 2019 | 2018 | 2017 | Total |
| EPS, sen | 41.0 | 9.0 | 2.0 | 8.0 | 26.0 | 86.0 |
| FCFPS, sen | -47.0 | 0.0 | -2.0 | -2.0 | -7.0 | -58.0 |
| DPS, sen | 4.0 | 0.0 | 0.0 | 2.0 | 2.0 | 8.0 |
| Net debt/share, sen | 115.2 | 72.7 | 72.4 | 66.5 | 55.7 | |
| Net debt, m | 393.0 | 248.0 | 247.0 | 226.6 | 190.1 | |
| CFFO, m | -89.2 | 15.3 | 15.9 | 17.5 | -47.5 | -88.0 |
| Capex, m | -65.9 | -13.8 | -8.6 | -22.7 | -22.1 | -133.1 |
| FCF, m | -155.1 | 1.5 | 7.3 | -5.2 | -69.5 | -221.0 |
| Inventories, m | 419.3 | 250.4 | 261.5 | 247.2 | 243.8 |
In 2021, LeonFB had net income of RM136 million. There was an increase of RM169 million in inventories. There was also an exceptional capital expenses for the year of RM66 million.
Hence, there was a net outflow of RM155.1 million in cash for 2021. Although LeonFB earned 41 sen per share for 2021, it had to cough out 47 sen per share in cash to keep the business running. Like AYS, LeonFB paid out 4 sen per share, or RM13.64 million in dividend, all from additional borrowings.
As a result, the net debt of LeonFB increased by 58% from RM248 million to RM393 million.
Over the last 5 years, even though LeonFB made a total of RM293 million in accounting earnings, there was a total net outflow of cash of RM221 million. The earnings and free cash flows of LeonFB also diverge in completely opposite direction.
Other steel related companies
The situation is similar for most other steel related companies, Ann Joo, CSC Steel, Hiaptek, Prestar, Tashin, Melawar. With the huge increase in earnings in the last twelve months, it exaggerated the revenue and earnings growth of all the companies. With the spike in earnings, they paid very high dividends too, resulting in high dividend yields, some DYs were even in double digits.
However, all the above companies had negative FCF for the last twelve months due to spike in inventories and capital expenses, and the high dividends were paid out from increased borrowings or new share issues, none form cash flows from operations. There was no exception.
Cumulatively over the last 5 years, all the companies above had net outflows of cash, except for Ann Joo and CSC Steel. But none had enough FCF to pay the dividends distributed.
As a result of negative FCF and high dividend payment, the net borrowings of almost all steel related companies increased steadily over the years. The only steel company originally in the list of dividend stocks which has a net cash position is CSC Steel.
All steel related companies are trading at single-digit PE ratio, some even at less than 2 such as AYS, Leon Fuat, Hiaptek, and Prestar.
Are these steel stocks undervalued?
I don’t think so. They are cheap for good reasons. The main reason is the lack of free cash flows, the lifeblood of a business. With persistent negative free cash flows, companies will not be able to do well, some may even go bankrupt, and you lose everything.
So, be very careful about the persistent touting of stocks in public forums. Learn about the fundamentals of investing. Be good at it. Then you can do your own homework and able to separate the wheat from the chaff. There is no short cut to become rich in the stock market.
If you are keen to learn about the fundamentals of investing to build long-term wealth in the stock market, you may contact me through the following email,
ckcbookorder@gmail.com
KCChong
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Discussions
4 people like this. Showing 34 of 34 comments
Thanks for the posting ..........
seemed that their capex in 2021 /22 were very high ... they think years coming would be good for their product?
2022-07-23 07:57
Thank you for your writeup. I too lost on the steel counters, buying into the hype of low PE.
2022-07-23 08:44
Learn how to catch cyclical stocks such as steels, oil n gas, plantation etc
Timing is everything.
Buy at low n buy more when prices started to climb n sell phase by phase along the uptrend.
Of course talk cock (buy low sell high or sell high buy low) is easy. In real life it's not as simple as that.
But one golden rule when u see lots of sifus or seafood started to give sky high TPs with essays long calculations then it's time to......
2022-07-23 11:32
After Glove Saga it seems to me the goreng cycle (plantation n refineries) becomes shorter n faster.
2022-07-23 11:35
WE R IN AN ENDLESS FIN EXAM
Players capable of spotting the topic or theme.play will be the national top scorers.
There r 2 to 4 cycles p.a. of BIG money on KLSE.
In this 1st half of 2022, there were 3.
all of them, ev.metal, palm oil n oil refinery themes were GG bcos:
their weekly prices, C ;
C < ema18 = purebear
C < ema42 = big purebear = could take long long time to be played by Mr Mkt again.
at best could REBOUND.
PLAY WHAT MR MKT WANTS TO PLAY UP
Nobody knows what Mr Mkt wants to play yet in the 2nd half of 2022.
Am just too early to guess GLOVE as TG is showing high daily vol consistently.
it could not be TECH or what not!
When Mr Mkt shows the THEME, it will be outstanding n majestic,,, always,,
we will follow u, Mr Mkt,,
NB:
Each theme.play enter at right.timing has potential profit of 40 to 80%. tis the way to CAGR.
nobody losses by taking a profit, advised by sir templeton.
2022-07-23 11:46
WHO DO U FOLLOW IN STOCKS?
wallstreet pro said;
there is only 1 warren B + Charlie M in the entire world
BUT
there r many g Soros.
It just prompt us that
g Soros has the invincible model:
G SOROS - "Economic history is a never-ending series of
episodes based on falsehood and lies, not truths.
It represents the path to big money.
The object is to recognize the TREND whose premise is false,
ride that trend, and step OFF before it is discredited"
G Soros is an uptrend purebull follower n is advising us to focus on the big money.
Jim Rogers - "Figure out the money and you’ll figure out what’s going on."
Jim Rogers is asking us where is the big money in charts n to find them ourselves.
2022-07-23 11:57
Steel hard to say! Cannot just lump sum together! Vietnam and Indonesia are booming! So those steel providers for this markets are thriving! those mainly focus on China will die!
2022-07-23 12:12
A very good write up and very easy to understand the effects of unsold stocks valuation. I hope the next write up will be on palm oil and crude oil refinery stocks.
A recent report on palm oil storage fully filled up all available storage in our neighboring country could be a big concern for future palm oil prices.
It is the same for crude oil refineries, the refineries with bigger storage capacity will have bigger profit margin when crude oil price increases. It is vice versa if the prices drop. It will not be accurate for crack spread calculation if based on another neighboring country due to its massive storage capacity.
Happy Trading and TradeAtYourOwnRisk
2022-07-23 13:32
qqq3333
to cut a long story short, steel is not a popular theme at the moment, every thing else is just rationalisation and justifications because investors didn't make money. .........losing money on low PE? that is what kcchong the value investor is a specialist.
Losing money in low PE? Which stock?
Jaks at RM1.50?
Sendai at RM1.40?
I have written numerous article about your dynamite investing, margin financing on those two stocks. Anybody can google them in i3investor.
Or was it London Biscuits at RM2+? KNM at RM1+? Alcom at RM1.20+?, AYS at 90 sen+? Or Subur tiasa at RM2.50?
Or was it your English is so bloody poor that when I say North and you go the opposite direction to South?
2022-07-23 21:44
Posted by BLee > 18 hours ago | Report Abuse
A very good write up and very easy to understand the effects of unsold stocks valuation. I hope the next write up will be on palm oil and crude oil refinery stocks.
A recent report on palm oil storage fully filled up all available storage in our neighboring country could be a big concern for future palm oil prices.
It is the same for crude oil refineries, the refineries with bigger storage capacity will have bigger profit margin when crude oil price increases. It is vice versa if the prices drop. It will not be accurate for crack spread calculation if based on another neighboring country due to its massive storage capacity.
Happy Trading and TradeAtYourOwnRisk
Palm oil is different from the steel. You can't simply open up new land and plant palm oil like open up new factories to produce steel. You can't plant palm oil in China. The industry is cyclic though.
If you look at the financials of palm oil company, ignoring company like TDM and Subur Tiasa, most of them have positive cash flows from operations much higher than their net income every year. They have free cash flows 70% of the time in all those years. Most steel company overall can't even have positive cash flows from operation most of the years, not to mention about free cash flows.
2022-07-24 09:37
CharlesT
Learn how to catch cyclical stocks such as steels, oil n gas, plantation etc
Timing is everything.
Buy at low n buy more when prices started to climb n sell phase by phase along the uptrend.
Of course talk cock (buy low sell high or sell high buy low) is easy. In real life it's not as simple as that.
But one golden rule when u see lots of sifus or seafood started to give sky high TPs with essays long calculations then it's time to......
Wonderful comment, especially the last two sentences. Thank you.
2022-07-24 10:40
@kcchongnz: Palm oil is different from the steel. You can't simply open up new land and plant palm oil like open up new factories…
BLee: Hi Uncle @kcchongnz, agreed Palm oil is different from steel as we cannot compare apples with oranges. We are on the topic of "Storage Capital Gain and Losses"; Steel does not have expiry date but Palm oil does. Certain Steels have their own strength and usage, but Palm oil is just an alternative to some others edible oil. Cost plays a very important part in marketing of Palm oil, once the cost is no more affordable, alternatives will be found.
I now prefer Butter over Palm oil based products for my bread spread…
This is just a topic for discussion, no malice intended. Thank you for a very interesting article.
2022-07-24 11:48
Steel counters own considerable assets that they can monetise without actually losing any revenue by disposing them to raise much needed cash to pare down their large borrowings (which has gotten more expensive and likely even more by year’s end due to rising interest rates) but they steadfastly refused, or declined to use a more diplomatic word, after I approached a number of the companies for such a fund raising exercised based on my proposals. I wish them well. I own free shares in one of the companies mentioned by the article author
2022-07-24 16:50
Steel counters own considerable assets that they can monetise without actually losing any revenue by disposing them to raise much needed cash to pare down their large borrowings???
Please elaborate!
2022-07-24 20:01
Sslee, please check steel counters (and even metal counters, including aluminium) and majority constituents of their non-current assets (which plays a HUGE role in their balance sheet especially regarding their leverage). Read their annual reports (usually either right before or right after major shareholders page)
2022-07-24 20:30
Negative cashflow usually not so good mah!
Bcos less cash and more borrowing mah!
2022-07-25 14:48
kcchongnz vs qqq. Close both eyes also support kcchongnz. Proven time after time.
2022-07-25 15:00
What happen to Since Die? Anybody need to dig back those comments ever since already die?
2022-07-25 15:11
Stock: [HENGYUAN]: HENGYUAN REFINING CO BHD
Jul 15, 2022 12:37 PM | Report Abuse
Look at Jaks. Look at Sendai. And look at Hiap Teik.
All these stocks were heavily promoted at the time sifu gave all the 'facts' and 'figures'. Are those so-called 'facts' and 'figures' still good? All those 'facts' and 'figures' had changed because those companies fundamentals all changed?
Can someone please explain?
Now again look at HYR. Had the fundamental of this company changed since it was first heavily promoted in 2018, then in the year of 2022? Can you tell the difference when its was promoted during that period? Was there any cut loss mechanism in play?
2022-07-25 15:35
Do you need my help to get back your 100k capital? Ask and you will be taught!
2022-07-25 15:54
The various steel counters gotta seriously think about monetising their fixed assets and turn them into current assets. The “problem” is that their steel biz is only half of their bosses’ thinking… the other significant half are their fixed assets. If their steel biz, and the entire steel industry, collapsed… they still have their fixed assets as insurance. The issue of shareholders concern will be dealt with when such a dire situation arrives
I still have hope for the steel industry in Bolehland. But it’s just a bad time now and has been for quite a few months with major infra projects being the way they have transpired….
2022-07-25 17:09
Posted by qqq3333 > 3 hours ago | Report Abuse
negative cash flow/ positive cash flow...............neither good or bad. U have to know the company well and spoken to the directors to have the full picture. Just like increases in debtors/ stocks is not good or bad, ..... the devil is in the details , it always Depends ............................... of course, in bear markets , people want to avoid risks , that is normal.........in bull markets, people seeks risks........... that is also normal.
A few years ago with your dynamite investing and sex factor, you disputed with me the poor cash flows of Sendai. You wrote articles touting that stock and I said the cash flows were precarious. That time the share price was RM1 +.
So you must have attended the talk by the super investor, and listened to the boss of Sendai that everything okay and no problem. Do you still hold Sendai shares?
2022-07-25 18:03
Posted by anthonytkh > 1 day ago | Report Abuse
Steel counters own considerable assets that they can monetise without actually losing any revenue by disposing them to raise much needed cash to pare down their large borrowings (which has gotten more expensive and likely even more by year’s end due to rising interest rates) but they steadfastly refused, or declined to use a more diplomatic word, after I approached a number of the companies for such a fund raising exercised based on my proposals. I wish them well. I own free shares in one of the companies mentioned by the article author
Thanks for your excellent comment. You know the industry well, better than me. I presume the fixed asset you mentioned is the property, and not plant and equipment which won't fetch much money on sales.
Take Leon Futt as an example. its business has been sucking cash. Last 5 years, there was a total outflow of RM286m. How much the company has in land and property to sell without hurting its core business, and than do what later?
Besides, many steel companies also got large amount of total debts of about RM400m.
2022-07-25 23:42
I had actually been invited by one of the steel companies to meet their team after I approached them quite a while ago
When I mentioned sell their assets, I didn’t mean selling them outright. They need their assets for their core biz. I’m talking about sale-and-leaseback
Yes, the company would have to pay rent. But they would make a profit from selling the asset due to capital appreciation. And investors that buy the asset are not like banks. You take a loan from the bank to buy the asset and the bank don’t care about the asset. Investors care about the asset
2022-07-26 07:22
The problem of the majority of steel companies are they speculate in their steel inventories loh!
Meaning that they invest more than necessary on their steel inventories loh!
Only 2 companies do not, do that namely choobee & csc.....these 2 are cash rich mah!
So their earnings are of better quality loh!
Posted by kcchongnz > 2 weeks ago | Report Abuse
Posted by anthonytkh > 1 day ago | Report Abuse
Steel counters own considerable assets that they can monetise without actually losing any revenue by disposing them to raise much needed cash to pare down their large borrowings (which has gotten more expensive and likely even more by year’s end due to rising interest rates) but they steadfastly refused, or declined to use a more diplomatic word, after I approached a number of the companies for such a fund raising exercised based on my proposals. I wish them well. I own free shares in one of the companies mentioned by the article author
Thanks for your excellent comment. You know the industry well, better than me. I presume the fixed asset you mentioned is the property, and not plant and equipment which won't fetch much money on sales.
Take Leon Futt as an example. its business has been sucking cash. Last 5 years, there was a total outflow of RM286m. How much the company has in land and property to sell without hurting its core business, and than do what later?
Besides, many steel companies also got large amount of total debts of about RM400m.
2022-08-09 16:13
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Price of iron and steel has dropped significantly and will continue to drop as demand in China is slow at the moment. Some companies have high inventories due to forward buying when the price were rising (purchases were made around March-April) in anticipation of higher price of steel in months to come - this never materialize of course. Some are currently off loading it at a loss. It also impacted some building material companies. We will see the impact in next quarter reporting.
2022-07-22 22:00