We take a moment today to pay a tribute to long time value investor and centenarian, Irving Kahn. He was one of the original Benjamin Graham group of disciples along with other famed investors like Warren Buffett, Walter Schloss and Bill Ruane.

Irving Kahn was 109 years of age at the time of his passing. He was seen as an embodiment of hard work and commitment to value investing (see video below). We think that investors like him should be an inspiration to all value investors and investors in general across the world. RIP.

The intriguing but short shareholders' tussle over CH Offshore Ltd ("CHO") has put the spotlight squarely on Chuan Hup, an undervalued gem long known to value investors but yet attracts little to no analyst coverage. Following its decision to dispose of its entire 24.67% stake in CHO, Chuan Hup stands to reap a windfall of $95.7 million. Its share price has since reacted by adding 11% to close at $0.305 per share on 13 February 2015. With an extremely robust cash-rich balance sheet, key investment holdings in strong cashflow generating entities, prospects of a good dividend payout, we rate Chuan Hup as a good long term buy for investors with a possible short term price catalyst.

Background

Brief takeover tussle

On 9 February 2015, Falcon Energy Group Ltd ("FEG") announced that it will increase its offer for CH Offshore shares to $0.55 per share from $0.495 previously. On the same day, Chuan Hup announced its intention to accept the revised offer after initially rejecting the original and snapping up 0.91% worth of shares in the open market in an apparent attempt to put pressure on FEG. This is close to the 1% it can acquire in any 6 month-period before triggering its own takeover as Chuan Hup and Peh Kwee Chim, its controlling shareholder own more than 30.6% of CHO's total shares (although it was disclosed in the CHO offeree circular dated 8 January 2015 that including associates, this figure is around 35.1%) prior to the FEG offer.

This effectively ended a shareholders' deadlock that has been in existence ever since FEG acquired its original 29.1% stake in April 2010 from Bursa-listed Scomi Marine Berhad (n.k.a. Scomi Energy Services Berhad), who in turn had acquired the same stake from Chuan Hup back in 2005.

Potential Win-Win-Win

FEG finally managed to wrest control of CHO at a reasonable price after initially spending $143.5 million in 2010 to acquire its 29.1% stake at a much higher price of $0.70 per CHO share. The revised offer of $0.55 is at a slight discount to the estimated revalued NTA per share of $0.57 per CHO share (source: CHO offeree circular) as at 30 September 2014. CHO also has an ungeared balance sheet with net cash per share of around $0.13 per share potentially giving FEG flexibility to recapitalise the company and reduce its own upfront cost of funding the acquisition. We expect synergies to be derived from combining FEG's fleet of mainly accommodation barges and rigs with CHO's complementary fleet of AHTS vessels going forward. 

Shareholders of CHO get to exit their investments at a price that has not been reached for more than 4 years even as the share prices of almost all other oil and gas counters have plummeted. (see CHO historical price chart below) Even shareholders who chose not to accept the offer and remain as CHO shareholders can potentially benefit from the operational synergies as described above.

Figure 1: CHO last traded at $0.55 in 2010

Finally, Chuan Hup gets to cash in on its CHO stake for a tidy sum of $95.7 million and turn its focus on other investments amidst a weak current operating environment for CHO's oil and gas services business. Shareholders of Chuan Hup could even be in line for a special bonanza if the board of directors decides to emulate its feat of distributing a bumper 44 cts per share special dividend in FY2006 representing almost 100% of its $485.6 million cash proceeds from the disposal of its marine logistics business along with 49.1% stake in PT Rig Tenders Indonesia and the 29.1% stake of CHO shares to Scomi Marine. For comparison purposes, the $95.7 million proceeds should translate to about 10.2 cts per share if distributed fully. 

Chuan Hup and its treasure trove

Since its establishment in 1970 as a tug and service provider for PSA Corporation in Singapore, Chuan Hup has quietly grown under the guidance of co-founder Peh Kwee Chim into a diversified group with core interests in oil and gas services, property development and electronics manufacturing services. Post CHO disposal, the company is likely to focus its attention on the latter two while seeking out new investments.

PCI Ltd

Chuan Hup's electronics manufacturing business is carried out under SGX Mainboard-listed PCI Ltd (www.pciltd.com), which it successfully made its subsidiary (76.7% owned) following a mandatory conditional offer in May 2011. Despite operating in a tough and competitive industry, PCI has delivered at least 10 consecutive years of profits and has an enviable and uninterrupted track record of paying consistent dividends of at least 3 cts per share for most years in the same period with a total of 10 cts paid for the financial year ending 30 June 2014. 

Figure 3: PCI has maintained positive operating cashflows and high levels of cash for at least the last 7 financial years (Source: company)

PCI also has a very strong balance sheet with no borrowings and cash holdings of $52.9 million (US$39.1 million) as at 31 December 2014 after adjusting for considerations to be received and paid pursuant to its proposed disposal of the Jalan Ahmad Ibrahim property (announced 13 Feb 15) and acquisition of the Pioneer Road North property (2 Jan 15). This forms approximately 62% of its market capitalisation of $85.6 million based on the closing price of $0.43 per share, giving it an enterprise value of just $32.7 million and a very undemanding FY2014 EV/Ebitda of just 3.1 times.  At $0.43 per share, Chuan Hup's stake is worth $65.7 million.

Finbar Group Ltd

Chuan Hup’s other major investment in a listed company is in Perth-based Australian property developer and ASX-listed Finbar Group Limited (www.finbar.com.au), in which it holds a long term strategic stake of 17.5%. It should be noted that even though the stake is less than 20% and Chuan Hup could not equity account for Finbar's share of profits, it is actually the largest single shareholder in the property company.  

Finbar is a leading property developer in Western Australia, particularly Perth, and has a long established track record of 2 decades, having completed 58 projects worth A$2.8 billion.  It also has an impressive streak of having generated 8 consecutive years of net profit growth with an even longer run of increased dividend payments since FY2003. 

Figure 4: Finbar has an impressive track record of generating profits and increased dividends.

Despite being a property developer and consistently paying dividends, the company has also managed to keep its net gearing to a low level of just 7.3% as at 30 June 2014. As at the closing price of A$1.345 per share, Finbar has an attractive dividend yield of 7.4%.  Chuan Hup's stake is worth $56.3 million (A$53.6 million)

Property development in Australia

Chuan Hup currently has 2 property joint ventures with Finbar ("Australian JVs"):

• Symphony City, a 3-phase residential development to be built on the former Australian Broadcasting Corporation site located at 187 Adelaide Terrace, East Perth, Western Australia. The site was acquired by Chuan Hup in 2008 for A$37.6 million. Of the 3 phases (Adagio, Toccata, Concerto), Adagio has been fully sold, completed and earnings mostly recognised in FY2013. Earnings from Toccata (to be completed in FY2015) and Concerto (FY2017) will be recognised in the subsequent years.
• Unison, a residential development to be built on a plot of freehold land in Maylands Perth acquired by Chuan Hup in 2013 for A$16.7 million. The land acquisition was funded by sales proceeds from Adagio. The development consists of 347 residential apartments and 4 commercial lots to be launched over 2 phases, Unison on Tenth and Unison on Kennedy, to be completed in FY2016 and FY2017 respectively.

Under both JV agreements, Chuan Hup contributed the land and Finbar contributed the working capital necessary for the development. There should thus be no further foreseeable capital requirements for Chuan Hup going forward for these JVs. Profits from both developments will only be recognised upon physical completion and settlement of sold apartments.

Based on information from Finbar's website to date, Toccata has sold 68% of its units while Concerto's sales is at 46% (104 of 226 units) since marketing commenced in March and August 2014 respectively. Unison on Tenth has sold 32% of its units (54 of 167) since marketing commenced in early FY2015. 

With a book value carried at cost of just US$33.5 million ($45.4 million) for both Symphony City and Unison, Finbar’s impressive track record, we expect positive contributions from these two projects over the next 3 years despite the current challenging conditions in the Western Australia real estate market. For illustration, Chuan Hup registered a profit before tax of US$19.4 million over FY2013 and FY2014 for its property development segment primarily due to completion of Adagio.

Figure 5: Toccata, Concerto, Unison on Tenth. Sales figures as at September 2014 based on Finbar’s annual report although Finbar's website lists more updated figures. Source: Finbar

Other significant assets:

• A 32.5% stake in Security Land Corporation (SLC), a property developer in Philippines. SLC is majority controlled by Security Bank Corporation of Philippines, a US$ 2.1 billion company listed on the Philippines Stock Exchange, and has a joint venture agreement with Robinsons Land Corporation to construct a high-end condominium within the Makati financial district in Manila. Tower 1 and Tower 2 of the project, named Signa Designer Residences, were 84% and 44% sold respectively as at September 2014. SLC also owns an adjacent office block through which it derives regular rental income.
• Office units in GB building in Shenton Way, Singapore, acquired in November 2014 for $31.7 million as long term investments.

Valuation

Using sum-of the parts (SOTP) method, we derive at a conservative value for Chuan Hup of $0.432 per share. Our valuation pegs PCI and Finbar to their respective market valuations and the remaining assets conservatively at book value, which in the case of the Australian JVs is at cost. The valuation is supported by approximately $0.226 net cash per share, taking into account Chuan Hup's share of the PCI's cash hoard. This is, in our view, reasonable as Chuan Hup effectively controls the use of cash at PCI.

Figure 6: SOTP computation

Recommendation

We believe there is deep value embedded in Chuan Hup which should appeal to long term value investors. In addition, Chuan Hup's shareholders could also benefit in the short term should sales proceeds from the disposal of CHO shares be paid out as special dividends in a repeat of the disposal to Scomi Marine in 2005. The shares are currently trading at a 29.4% discount to its intrinsic conservative SOTP value of $0.432 per share with good downside protection provided by its adjusted net cash per share of $0.226 as well as a decent dividend yield of 3.3%. We are buyers at this price. 

Key Risks

The strengthening US dollar against both the Australian and Singapore dollar has resulted in Chuan Hup being hit by significant foreign currency related losses in recent quarters. We think that this could be a key concern going forward. The weakening Western Australian real estate market could also pose challenges to both its Australian JVs, although this is mitigated by the Australian JVs being carried on its books at cost.  

(All preceding amounts in SGD unless stated, USD:SGD X-rate of 1.3550 and AUD:SGD X-rate of 1.0520 assumed)

Events since our first report (link)

Trading in Memstar Technology Ltd was temporarily halted from 2 to 5 February 2015 in what must have been a nerve-wracking few days for its shareholders. 

Recall that in our previous report, we had highlighted risks relating to completion of the RTO, which is subject to a host of conditions. Two of the key conditions were supposed to have been met by 31 January 2015:  

1. the Target successfully completing Tranche 2 Fundraising of US$15 million; and  
2. the Target entering into an off-Take agreement with Petro China and/or CNPC for the purchase of the Target’s coal bed methane. 

The company subsequently announced on 5 February 2015 that it had entered into a supplemental agreement to extend the deadline for fulfilling the 2 conditions above to 28 February 2015. The shares have been trading within a range of $0.018-0.020 since our first report and last closed at $0.019 on 9 February 2015. See below:

Our Views

The extension of deadline highlights the non-completion risks shareholders face even as the clock is ticking on Memstar's own 11 April 2015 deadline to fulfill SGX continuing listing requirements. While SGX could possibly grant an extension for the RTO to complete, we reiterate that should it be aborted, the prospects of shareholders being able to extract any meaningful value out of their shares would be quite dim.  Even if the RTO is successfully completed, the implied market valuation of Longmen (representing the combined group) post completion at US$526 million looks rich compared to its much bigger competitor, Green Dragon. 

Updated comparison table:

Recommendations

At $0.019, the share price seems to have fully priced in certainty of deal completion. We still do not think this is justified given the multiple risks factors that might affect completion. Downside risks far outweigh any upside potential, if any at all. Investors should steer clear at this price.