It has been a little more than a year since we set up stockresearchasia.com in early 2015 to provide Asia based investors with proprietary stock research. While we did not envision it at the beginning, 2015 has turned out on hindsight to be a tricky year for investors to navigate in Asian equity markets. And 2016, for now at least, has proven to be far worse. Many Asian markets have plunged in tandem with the global markets to levels last seen in 2012 or earlier, led by China and exacerbated by an oil price collapse. It is hard to predict when the malaise would end except it inevitably will. As Herb Stein famously remarked and we agree, “If something cannot go on forever, it will stop.” In the meantime, we should see the market throw up good buying opportunities, ones that we hopefully can continue to exploit to our advantage.

It is against this backdrop that we are proud to say that our calls in the last year or so have mostly been spot on.  To recap, we have made outright recommendations on six stocks, five listed on SGX (Memstar, Chuan Hup, PCRD, MILF, IPC) and one on Bursa (Abric). We have also, when deemed fit, made a few situational analyses (Falcon Energy, Kejuruteraan Samudra Timur, Tiger Airways), giving investors some insights into ongoing corporate actions or potential strategic options from a corporate finance perspective.

Performance of our picks

Overall, our recommendations have outperformed the benchmark indices on an absolute basis by an average of 23% as at 31 December 2015. The outperformance would have been more pronounced if annualised but we see the computation of such data misleading and academic in nature at best. The 5 buy recommendations generated an average total return (including dividends) of 13.9%. This includes the short term arbitrage of MIIF where profits were locked in after just 2 weeks. Excluding MIIF, the buy recommendations generated average returns of 16.5%. Memstar, our lone sell recommendation, was down 55.0% as at end 2015 before getting suspended for being unable to complete its reverse takeover of Longmen Group, the transaction risk of which we have flagged out multiple times over the course of the year. 

A summary of our performance is presented below accompanied by key updates on selected companies that we have covered:

Figure 1. Our recommendations have outperformed benchmark indices by a significant margin

Abric Berhad- cash realised from impending delisting

Following a year during which Abric has failed to find a suitable acquisition opportunity for it to extend its Bursa listing, the company has announced on 18 January 2016 that it will be going ahead with a delisting exercise. In conjunction with the delisting exercise, the company has announced a cash distribution of RM0.43 per share (vs last traded price of RM 0.48), which we estimate is roughly equal to its cash holdings less all liabilities as at September 2015 on a fully diluted basis. This does not include the approximately RM0.07 cash it was due to receive 12 months after the completion of disposal in December 2014 (i.e. December 2015).

As Abric has already announced its decision to dispose of its remaining assets and voluntarily wind-up, shareholders are expected to be entitled to a further cash distribution post delisting. We think that shareholders should also be able to realise an eventual amount close to the Company’s NAV of RM0.64 per share. With a finely balanced shareholding structure (controlling Ong family owns 35%, super minority Pui Cheng Wui 23% and others 42%, fully diluted assuming full conversion of warrants), minority shareholders can also take heart that their interests should be fairly taken care of post delisting. 

Memstar Technology- RTO woes not over

Memstar’s troubles in trying to complete the acquisition of Longmen Group continues unabated. In our previous report, we questioned Memstar’s over optimistic valuation of the target, then valued at US$420 million. Following the umpteenth supplemental agreement, the acquisition price has been revised downwards first to US$323 million in July, then to US$200 million in December, translating into an eye-popping 52.4% in reduction in value in less than a year! This is accompanied by a loosening in the conditions precedent of the acquisition particularly those pertaining to the Target group’s fund raising obligations. However, given the difficult current market conditions, we are still not optimistic that the conditions can be met even with the significantly lowered bar. And to add to shareholders’ woes, Memstar has suspended trading of its shares yet again on 6 January 2016. 

The only silver lining in all these is in SGX’s decision to grant the Memstar additional time (until end May 2016) to complete the acquisition. We can only hope that Memstar shareholders have taken heed of our multiple warnings and disposed of their holdings in time.

Chuan Hup Holdings- hit mainly by FX losses

When we first recommended Chuan Hup, it was on the back of its extremely robust balance sheet, under-appreciated assets and the possibility of a bumper dividend arising from its disposal of CHO shares to Falcon Energy. While Chuan Hup’s financial strength and asset backing have remained largely unchanged, we were disappointed in the board’s decision not to reward its shareholders with a bigger payout. It did announce and pay a total dividend of 3 cts though for its financial year ending 30 June 2015, representing a yield of almost 10% of the prevailing price when our report was first posted.

Results wise, Chuan Hup continues to be hit by the effects of a strengthening US dollar against both SGD and AUD even if its units’ underlying businesses have not deteriorated as much. PCI, its SGX listed electronics manufacturing arm, for example, recorded a 62% plunge in its latest 1Q16 profit after tax from US$1.6 million to US$0.6 million, largely due to a US$1.5 million foreign exchange loss (vs +US$0.1mil the year before). Strip that out and adjusting for mark-to-market profits/losses and the core profit would have remained almost the same as the 1Q15’s. Similarly, a US$6.1 million hit from foreign exchange losses was the main culprit for Chuan Hup reporting a loss of US$3.9 million for 1Q16 vs a profit of US$3.0 million in 1Q15.

For its joint venture property development projects in Australia, the results have been mixed. Toccata, which has been completed is almost fully sold. We estimate that only 10-15% of the sales have yet to be recognised. Meanwhile, Concerto, the largest of the 3 projects by development value, has sold an additional 50 units over the past 11 months to achieve 68% in total sales. With completion due only in 2017, we believe there is still enough time for the JV to ramp up sales to 80-85% or more, similar to what Toccata achieved at its completion. Sales in Unison on Tenth, however, has made little progress in the last few months in particular and 48% of its units remain unsold despite the fast approaching completion deadline. That said, as we have stressed in our previous report, we do not expect any negative cashflow impact from these projects as Chuan Hup’s main obligations in these is in injecting the land while Finbar contributed the working capital. 

Figure 2. Sales performance of Chuan Hup’s JV development projects have been mixed

As at the latest balance sheet date of 30 September 2015, we estimate that Chuan Hup still holds, after accounting for dividends paid after, adjusted net cash and short term securities worth S$0.194 per share or almost 73% of its last traded price of S$0.265, which should provide a strong buffer against the current market volatilities. 

Pacific Century Regional Development- delisting imminent if share buybacks continue

Since our report highlighting PCRD’s aggressive share buybacks and suggesting that this may be a prelude to majority shareholder Richard Li potentially privatising the company, PCRD has not shown any intent to restrain its share buyback activities. In the past 9 months, the company has acquired a further 89.1 million shares, shrinking the public float to a precariously low 10.2%. We estimate that the company can only acquire and cancel a further 5.1 million shares before its trading has to be halted pending a delisting decision to be made.

Figure 3. Aggressive share buyback from PCRD has shrunk public float precariously close to 10% threshold

To recap a point made in our update report on 5 May 2015:

“Under the current regulatory regime, there are a few ways that PCRD's privatisation could take place: through a general offer, a scheme of arrangement, a voluntary delisting or a forced delisting by SGX due to low free float (<10%) coupled with an exit offer. Based on current circumstances, we see the last two as the most likely options. Both would require a reasonable exit offer to be tabled and the appointment of an independent financial adviser ("IFA") to opine on the fairness of the offer as stipulated in the SGX listing rules. We note that IFAs tend to benchmark fair value of a company's shares to the market prices of its underlying assets where such values are available as in the case of PCRD. As such, we do not expect any exit offer, if it materialises, to deviate greatly from the fair value computed using this methodology in order to obtain a positive recommendation from the IFA.”

Figure 4. PCRD’s key underlying assets, HKT and PCCW, are up 6.9% and 3.5% respectively in the last 3 months and has held up well vs HSI, which declined 17% over the same period.

As at 22 January 2016, PCRD’s stakes in PCCW and HKT, both of which shares have held up well despite the recent market turmoil, is worth a total of S$0.61 per share. While it remains to be seen if the “reasonable” offer by Richard Li comes close to matching the market value of PCRD’s underlying assets in the event the mandatory delisting and exit offer is triggered, we believe that that any IFA appointed will use this as a benchmark to base its recommendation on. Richard Li would thus find it hard to justify offering an amount that is significantly less. With the shares trading at $0.37 as at 22 January 2016, we believe PCRD still has significant upside. 

Closing note

While our first year scorecard has certainly been encouraging, our focus is solely on longer term returns. In that regard, we do not expect our picks to be able to outperform the markets by such wide margins year in year out. However, we are confident that with a relentless focus on value and our core competencies, we would be able to generate a positive return on our picks relative to the market over the long run. 

In our last report on MIIF (link) 3 weeks ago, we highlighted a mispricing in MIIF's shares and a potential arbitrage opportunity arising from the company's intention to redeem its remaining outstanding shares at 8.25 S cts per share following the close of its disposal of South China Highway Development (H.K.) Ltd.

As anticipated, on 14 September 2015, the company announced that the Proposed Divestment had achieved a financial close. Trading in its shares will be suspended from 18 September 2015, and the share redemption will be effected on 21 October 2015.

We further note that MIIF traded between 7.8 and 8.0 S cts from 24 August to 14 September 15. Investors who had acquired the shares during this period would have effectively locked in unlevered gains of between 3.1% and 5.8% for what would be a maximum holding period of 2 months while taking what we deem as very low risk. 

Investors can refer to the company announcement for more details and key dates. 

Amidst the current carnage in the equity markets, interesting opportunities in the space of arbitrage and special situations are beginning to emerge owing to the widespread and indiscriminate selling. MIIF is one such opportunity that has caught our eye.

MIIF, an entity listed on the mainboard of SGX but structured as a closed ended fund, had announced on 15 May 2015 the sale of its sole remaining asset, an 81% effective interest in Hua Nan Expressway Phases 1 and 2 (HNE) to Topwise Consultants Limited, an existing minority shareholder in HNE, for a total cash consideration of S$110 million (the “Proposed Divestment”). Post completion, MIIF intends to distribute the net proceeds and any excess cash it holds by way of a share redemption, following which it will be delisted from SGX.

The share redemption is expected to take place by 30 October 2015 provided that the Proposed Divestment is completed by its long-stop date of 15 September 2015 and investors will be returned around 8.25 S cts per share based on MIIF estimates which we deemed to be reasonable. This gives investors a potentially low risk return on investment (ROI) of 3.1% over what is likely to be a maximum two-month holding period or an equivalent return of close to 20% annualized.

Brief Background

In December 2012, MIIF made the decision to initiate the disposal of all its then existing assets following a strategic review. In subsequent years since, MIIF successfully completed the divestments of Taiwan Broadband Communications, Changshu Xinghua Port and Miaoli Wind and returned 54 S cts per share to its shareholders. HNE is currently the sole investment held on its books.

MIIF’s interest in HNE is held through its 90% owned subsidiary, South China Highway Development (HK) Ltd (“SCHK”), which in turn holds a 90% interest in HNE. This gives MIIF an effective interest of 81% in HNE. Topwise Consultants Limited (“Topwise”), the proposed buyer owns the remaining 10% of SCHK. The proposed transaction involves the sale of MIIF’s 90% share of SCHK to Topwise for a total consideration of S$110 million. Little is known and has been announced of the buyer except that in 2007, Topwise, together with Precise Management Ltd, sold the same equity stake to MIIF for $295.7 million[1].

Figure 1: HNE's existing ownership structure

HNE is a dual-carriage urban toll road in the city of Guangzhou, China and acts the city’s main artery for north-south traffic. The interest in HNE comes with the exclusive rights to operate and collect tolls up to 2026. In the last two full financial years, namely FY2014 and FY2013, HNE contributed S$12.3 million and S$12.1 million in dividends respectively.

Figure 2: Hua Nan Expressway, Guangzhou. (Source: MIIF)

Investment case

3.1% returns over a two-month period sufficiently attractive under current market conditions

We believe that MIIF would make for a sensible arbitrage opportunity returning around 3.1% based on the last traded price per share of S$0.08 over an estimated period of 2 months or about 20% annualised. While a 3.1% return may not be much to shout about under normal circumstances, we think that this would be a sufficiently attractive opportunity for investors seeking short term stable returns with excellent downside protection especially given the current turmoil in the stock markets.

Low execution risks and high probability of deal completion

While the completion of the Proposed Divestment was originally envisaged to be on 5 August 2015 and has since been delayed, we still believe that there is a high likelihood that the transaction would be completed in due course and before the long stop date of 15 September 2015:
                

1. The key condition precedent for the transaction is the approval of MIIF shareholders, which has already been obtained on 27 July 2015. 
2. As a long time existing shareholder of HNE, Topwise does not require any due diligence and accordingly, the Proposed Divestment will not be subject to conditions typically expected from other third party purchasers and includes only limited representations and warranties.
3. As one of the two previous owners of the HNE stake, we expect that there will be little or no regulatory risks regarding the transfer of the ownership to Topwise as is sometimes the case for Chinese acquisitions.
4. While little is known or has been announced of Topwise and their financial standing, we believe that financing is unlikely to be an issue given that Topwise, together with Precise Management, had received a much higher consideration of S$295.7 million when they sold the stake to MIIF in 2007. In addition, Topwise has remained as a minority partner in HNE since the original sale and MIIF is likely to have done its part in ensuring that Topwise has the necessary financing lined up before entering into the sale and purchase agreement. 
   

MIIF's manager has 17.4 million reasons to see through transaction

MIIF’s manager, Macquarie Infrastructure Management (Asia) Pty Limited (MIMAL) stands to enjoy a big windfall of S$17.4 million upon successful completion of the transaction as the total cumulative proceeds from all its divestments including HNE will exceed the minimum S$694.9 million threshold thereby triggering the success fee. This gives MIMAL extra motivation to see through the transaction.

Excellent downside protection even if deal falls through

In the unlikely event that the Proposed Divestment falls through at this late stage, MIIF would still be able to continue benefiting from the stable cashflows HNE generates going forward. For FY2014 and FY2013, HNE contributed  S$12.3 million and S$12.1 million respectively in dividends to MIIF.  This helped MIIF maintain a dividend payout of 0.9 S cts for FY2014. We believe that MIIF should be able to pay out a similar amount going forward even if they were forced to retain the HNE stake. This is supported by KPMG's view as the Independent Financial Adviser to the MIIF for the Proposed Divestment that "based on an 85.0% dividend payout ratio of MIIF’s estimated dividends on an undiscounted basis, it would take approximately seven to eight years for Shareholders to realise the estimated net proceeds of 8.25 S cts per share."

Our Recommendations

We believe that MIIF shows all the characteristics of a good short term arbitrage opportunity: high probability of deal completion, decent returns over a two month holding period with potential to be magnified with leverage, and excellent downside protection even if the deal fails at this late stage.  For investors seeking a respite from the current carnage in the equity markets, we would recommend this as a viable investment opportunity and are buyers at at S$0.08 and below.

Risks

A prolonged closing of the Proposed Divestment could negatively affect the risk-return dynamics although at the moment we would assign a low probability to this happening given the background of the buyer.

(All preceding amounts in SGD unless stated)

[1] Actual amount paid. The original consideration of S$329.5 million included a contingent payment S$33.8 million which was never paid as conditions for payment were not met.