Update on strange gem: ABK

by November 21, 2008
Referring to article "Pick up this strange Gem" written as of Nov 10th 2008.
Under sub-title "+++Other positive points to take note of++++" i quoted that one of the possible ways that ABK might recover is to tear up contracts on risky residential mortgages, this will in turn induced a strong recovery.

As of Thursday November 20, 2:51 pm ET , published article at

Ambac shares rise 80 percent after liabilities canceled
Despite Dow drastic drop of 445points.
http://biz.yahoo.com/rb/081120/business_us_ambac_shares.html?.v=1
NEW YORK (Reuters) - Shares of Ambac Financial Group (NYSE:ABK - News) rose more than 80 percent on Thursday, after it reached an agreement to cancel contracts covering structured debt valued at $3.5 billion, allowing it to reduce loss reserves. Ambac Assurance Corp, Ambac's main unit, paid $1 billion to get out of four contracts it had written to guarantee collateralized debt obligations, reducing the bond insurer's liabilities. It said the terminations would allow it to reduce reserves set aside for market losses on these guarantees.
Ambac shares rose 86 percent to $1.42 on the New York Stock Exchange, after closing at 76 cents a day earlier.
Ambac's stock has lost nearly all its value over the last year, falling from $24.74 last November.
Bond insurers, which guarantee payments on debt in the event of default, have been hit hard by the credit crunch and have lost their "triple-A" credit ratings after posting billions of dollars of losses from exposure to mortgages and complex debt instruments, hampering their businesses.
Both Ambac, and its larger rival MBIA Inc (NYSE:MBI - News), have seen little new business since it lost its top ratings.
Research firm Friedman, Billings, Ramsey on Thursday said Ambac's contract cancellations were "positive," but did not "answer ongoing business model concerns."
Bond insurers have been seeking federal support under the government's $700 billion financial rescue plan.
Friedman, Billins said short of government assistance, Ambac would have a "difficult road ahead."
(Reporting by Lilla Zuill)

Highlighted in turquoise indicates positive developments
Highlighted in red indicates negative developments
Because, one of my strategies is to wait until ABK prices drop to a range of $1.10 to $1.30, the share price has drop even lower then that at 76cents just yesterday and rose to $1.25 today, this fact alone should have induce anyone who followed this strategy to enter at a price below $1.10 ,giving to holder of this stock approximately 40-50% returns in just two days.
Again i have to emphasis that this strategy is not "value investing" but "Value Speculating" , and yes this term exist under Gramham's Intelligent Investor book. Because of upside odds are very low at $1.10 as deemed by my research, the upsides of any good news will catapult the stock and the chance of that happening is higher as compared to the downside risks.

Now ABK trades at $1.25 per share even though Dow has dropped 445 points, any recovery or bargain hunting to take place of two days of heavy selling is very possible and ABK stock could raise to a further $1.40-$1.60 region.

Did i apply my own strategy? Unfortunately i didn't, as i'm was stuck in camp yesterday doing guard duty..BASKET!
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Diamond Dust

by November 20, 2008

The diamond dust story.
There was a story that happened back in the late 1990 s, depicts of a young man who got hired as a maintaince worker (cleaner in short) in a diamond refine factory in Japan. His daily job scoop was to make sure, the factory was clean and free of dust before and after the factory closes.
Diamond refinery operations back in those days were still somewhat medieval, there were no machines, no proper cutting tools, everything from the unloading of raw diamond rocks to the crafting of diamonds where done by hand.
Because the factory was huge, everyday the young man would sweep for hours upon hours and carry tons of plastic black bags, filled with dirt and dust to throw into the nearby dumping container. But there was one evening he noticed that one of the bags he was about to throw into the container, had a small cut underneath and shinning dust was flowing out, in small gentle amounts on the ground.
Sensing an opportunity, the young man took one of the bag of dirt, home and started sifting through the dirt , painstakingly separating dirt from diamond dust. Eventually after 68 days of doing so, he managed to come out with a bag of diamond dust, that was eventually sold to a underground dealer. This resulted in a huge inflow of cash for him that was enough to get him through his university education.

Came across a bag of diamond dust.
It was a Wednesday evening; the sky was heavily burdened by dark clouds, threatening to rain at any moment. I just came back from camp and was in dire need to do something fun on my lap top. As I was about to scroll my mouse towards the Warcraft Icon, my friend on msn nudged me. He asked me whether this company trading on SGX, whether is it a good buy? He quickly linked me to the website, which was http://www.sunshine-holdings.com/investor.html. I was initially surprise to hear him say he wanted to invest, because, just like many of my friends, they have no interest what so ever in investing, some even go as far as saying stocks are from the devil. Regardless, I took a quick look at the website and was pleasantly surprised that this company “Sunshine Holdings” was trading at a disgusting low of 3 cents (18th Nov 2008).

My mind quickly project these words in my mental frame, “Penny stocks-High risk....good buy?-Maybe-maybe not.....go study it-find what’s left over” . So I took the liberty of researching quickly through their company’s website to see first if I understand what they are doing , their business model and most importantly what’s left over in the company. What invoked my interest further is that the company has assets amounting to 2,188,968,000 RMB and Liabilities at 1,135,704,000RMB as of September 2008 in their annual report.

Simple Theory of NAV

So common sense depicts, in order to find what’s left over in the company one has to take total assets (what the company owns) subtract liabilities (what the company owes) and then you get the NAV as known as Net asset value. The NAV for sunshine which I calculated was $SG0.24, the company share price is trading at 3cents, so in theory , if I was as rich as Paris Hilton who can spend $26 million on shoes/clothes/bags , I would have used the money to buy up the entire share holdings at $0.03, delist the company, pay off their debts by selling away all their assets , the left over, which in theory is 0.24-0.03 = 0.21 multiply by the total no. of shares which is around 890 million, I would have pocketed $186million Sing dollars in cold hard cash. Sounds good? Of course, who doesn’t want to earn $186million just by doing simple primary school maths and applying simple financial theory? But like all things in this world (especially in Singapore), nothing is that simple and straight forward.

Questioning NAV
If one wants to profit from the above theory, one has to research even further and ask vital questions and make assumptions like
1) How can a company’s share price be trading at such a huge discount to their NAV? Is the stock market that stupid?
2) Does the company’s Net Asset value really worth $0.24?
3) Because majority of the stocks are held by their own people and private entities (CEOs,CFOs, Banks, Mutual Funds etc ), by buying all the shares traded on the market, would not mean you have the power to command the company to delist.
4) And if you cannot delist the company, means you also cannot sell away all the assets or pay of the liabilities and get the leftover amount.
Because of this lack of power, due to the inability to buy up all the shares and force a delist notion now, give raise to risks like what will happen in the future? If the management decides to use their cash holdings (one of the most important assets) and invest in stupid things/ machines/ventures that doesn’t bring much profit or even worse, negative returns to the company?

What if they borrow even more loans from the bank, enter new businesses that, if turn out to be disastrous, will definitely eat into the NAV of the company. Remember because loans have interest attached to them, any management decision regarding the company’s new ventures/acquiring new assets/expanding have to have at least a return that can cover the established loan cost or the raise of equity or both. This then is known as COC (Cost of capital) which I will not go further explaining.


Rolf Banz's view
What is important now is, can a normal retail investor buying into these super cheap stocks like Sunshine Holdings , hold it for long term able to profit once or should the market realise their real NAV and price it as such?
Rolf Bnaz 's research shows that in the in 1981, he formally introduced the concept of a small-cap risk premium into the academic literature. For the 43 years through 1974, the small cap performance left large cap stocks in the dust his studies found. Because Small cap stocks are mainly compromise stocks that are trading below their NAV.

Why is this so?

While the markets are pretty efficient in certain areas, such as large-cap stocks, they are far from perfectly efficient, he believe, in the micro cap space. While this may not provide much opportunity for institutional money, it may be beneficial for individual investors.if the assets have value, and the company is not insolvent--two big ifs in net/net land--the stock may be dirt cheap, says Rolf Banz.

A better and safer way of measuring NAV
* A market cap that's below net current asset value, defined as: current assets less current liabilities, and then subtracting all the other long-term liabilities, including preferred stock and minority interest where applicable.others will recover. In that case, either business conditions improve, the company's acquired, or the market wakes up to the overlooked value in the firm. What’s difficult to do in some cases, however, is tell the difference between who will survive, and who won’t.

According to Ms Tey H.ling CFA, BBA , NUS graduate.

Of course, if the company has no intention to return the cash to shareholders and its operations are bleeding cash, then the share price may well have reason to be trading below the cash net of liabilities per share, (this is the real danger i emphasised earlier).

Auric's cash net of its total liabilities worked out to 99.7 cents a share. Its share price at the time was 90 cents. General Magnetics' net cash per share was 13 cents versus its share price of 14 cents. And k1 Ventures' net cash was 18.4 cents per share, compared with a share price of 20.5 cents.

United Food. Take into consideration other assets like inventory, accounts receivable, properties and land use rights, and the net asset value per share for the stock came to 40.7 cents. But have poor management strategy.

considered whether the company is currently generating positive cash flow, and whether the management is positive about the immediate future. Presumably, if both are positive, and yet the stock is trading at a deep discount, then perhaps the stock deserves a closer look.

The other two stocks which are trading at a discount, and yet have a positive operating cash flow as well as a positive management outlook, are Plastoform and China Powerplus

Now as of Nov 19 2008
K1: 14 cents
General Magnetics: 8cents
Auric: 55 cents
United Food:5cents
Plastoform:3cents
China Powerplus:5 cents
China Flexi Pack:17 cents

So to summarise when buying companies trading below their NAV

-Adjust your NAV caculation, take note of asset accounts like receivables, inventories,deferred taxes and especially Intangibles. Ask yourself, if you were to liquidate the company, how much does these assets worth now? Usually for me i discount 10% for receivables/inventories to factor in bad debts and inventory decay , 50% for tax deferred and 100% for intangibles to be extra conservative.

-Even better still, use Net current asset value calculation as stated above, if the share price trades , even below that figure, it supposed to be very safe liao.

-Preferably look for cash rich companies

-Companies with good management and business model, this can be since through their historical good ROE figures, the increasing sales and Net profit after tax. This rule is applied to all value investing practices though.

-Look at past NAV per share value, a good bargain is one with a stable increase in NAV through out the years of listing in the market.

-Consider also past and present positive operational cash flow.

- Because NAV figures keep changing , from one quarter to the next, it's best to take note of what the companies that you bought are spending on, whether is it in line with their company's main business, what reasons for spending soo much etc.
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Pick up this strange gem?

by November 10, 2008
Lets say, on your grand wedding day, just two hours before the ceremony starts. Speaking from the groom's perspective, you were excited and can;t wait for the wedding to start. You imagine how both you and your "wife to be" would feel, while walking down that beautiful Alley with all your relatives, friends, family's' eyes all giving their full undivided attention to both of you. You anticipate your wife eyes to be surrounded with tears of joy when you slit that diamond ring on her hand. Before your imagination goes even further, you were suddenly interrupted by your ring bearer, he however bears bad news, that the diamond on the ring had mysteriously gone missing !! It could most likely be an insider theft says your ring bearer. The funny notion was, the theft, at least had the courtesy to leave the ring behind, taking only the diamond with him/her.

Now, its another 1.5 hour before your wedding begins. Both of you were in disarray, however something needs to be done quickly and decisively. You rushed down to a diamond ring shop just 5 miles from the church hoping to get a proper ring at least. But in disbelieve the diamond shop had closed.

You can't believe your crazy bad luck. As you knee down in despair , praying to God for a miracle , you spot a small tiny diamond that lies out the diamond shop on the ground You picked it up and examined it. You ponder hard, as to whether this tiny diamond was actually real or it actually came from a small stupid girl's barbie doll necklace. Remember, time was running out, you have less then one hour before the wedding starts, you caution yourself that your "wife to be" is a professional gem analyst and that any fake gem or diamond would be immediately caught by her trained eyes, this would then really upset her and that's what you do not want. You also do not want to be late for the wedding, because its generally not nice to leave your wife standing there alone in front of the congregation waiting for you. So the question is, you will pick up this small diamond and fixed it onto that ring or choose go down another 10 miles to buy a proper diamond ring and risk being late?



This story somewhat depicts my dilemma as to whether i should or shouldn't buy this stock trading on the US stock market. Just like the groom, im afraid that i might pick up a fake gem and upset my wife which is my portfolio. And if i don't pick up this gem (stock), im might miss out or be late for a huge rally that may come.

This strange gem called ABK (Ambac Financial Gorp)
Their primary business is to provide financial guarantees and financial services to clients in both the public and private sectors around the world.
As such, Bond insurers like them have lost billions of dollars by moving beyond their traditional business of backing muni bonds and insuring risky sub prime debt. The losses could result in the insurers losing their coveted triple A debt rating, which is crucial for their business and of course that has come to pass. Recently they have received a Baa1 rating from Moody's Investors Service, Inc. with a developing outlook and a AA rating from Standard & Poor's Ratings Services with a negative outlook.



----The problems---------
1)Rating Risks

Since June, when Ambac was stripped of its "AAA" ratings,the insurer's ability to write new business has come to a virtual standstill. Continuing deterioration in housing and the economy, meanwhile, makes it more likely the company will face more claims on mortgage debt it has insured.

2)Broken Business Model/Negative NAV value

The company's business model is essentially broken, it's not going to be able to underwrite any significant volume of new business at any point in the foreseeable future, which probably suggests runoff as being at least the near-term and intermediate status quo for them," said David Havens, desk analyst at UBS in Stamford, Connecticut. Under Ambac's balance sheet, the company when to factor in Deferred tax benefit of $2.8billion, in which in order for this asset to be realised, it has to have an earnings that justify such a benefit. As such, with losses in its income statement, JP Morgan have to assume that this so called tax benefit has to be written down by 50% in doing so resulting in a negative net asset value of $3.24
To summarise Ø Ambac is a company with a broken business model saddled with substantial liabilities and negative tangible equity


3)Effects of the downgrade (http://www.istockanalyst.com/)
The downgrade likely means Ambac will not underwrite any more business, said John Flahive, director of fixed income for BNY. Market prices of existing bonds insured by Ambac and MBIA Inc. were trading lower before the downgrade, and Flahive suggested any further downgrade could accelerate the decline.
Prior to Ambac's downgrade, T.J. Marta, a fixed-income analyst at RBC Capital Markets, said a downgrade of the company would lead to downgrades of all the municipal bonds it insured. Subsequently, it will become more difficult for cities, counties and other local entities to issue debt for building projects
The more profound fissure opening is the potential for the loss of the triple-A guarantee rating for market leaders MBIA and Ambac, which would virtually put them out of business. Their business model depends on their ability to put the imprimatur of a triple-A rating, effectively performing the modern-day alchemy of turning leaden credits into gold.


4)Not too big to fall.


Ambac sold insurance worth about $60 billion of corporate,sovereign, asset-backed and other debt, mainly using credit default swaps. As concerns about the company's health increase, investors and banks that bought protection from Ambac may unwind their deals to offset the risk of Ambac's failure. With no news on any bailout or any government intervention, this insurance company is deemed not "too big" to fall. Suffice to say with many on going problems in the US financial world, companies like AIG/Fannie/Freddie all wanting a piece of the $700billion bailout, and with regards to the fall in Lehman brothers, this company is more or less on its own.

5) Long term negative effects

One rating agency published that “…the bulk of ultimate losses will be recognized over a longer period of time, as evidenced by cumulative loss levels which are currently averaging 1.5% to 4.2% across the vintages reviewed.” They further confirmed that, “Current losses are still low because loans remain relatively unseasoned in more recent vintages and partly because modifications may also be slowing down loss recognition. In other words, if one were to invest his or her money in this stock, one has to hold for a very long LONG time.


With a mountain of problems facing the company, there is always that small ray of hope that the company might overcome their problems and likewise become a gem for me to hold.

Therefore, Four glaring factors that invoke me to take note. They are

++Eye of Buffet++

1) Warren Buffet set his eyes on the company, he wanted to offered a second level of insurance on their municipal bonds of up to $800billion early as Feb 13, 2008 for three insurance company including Ambac. So the question here is, why would Buffet want to establish such a move? Did he see value in these companies such as Ambac? Or did he just want the high premiums by backing muncipal bonds because he is confident that the company will be able to pay the premium first regardless of what happens to their other assets and subsequently to their ratings?

++Reversal of Upgrade++

2)The fact that Moody downgraded the company to baa1 junk status, without doing an analysis of their portfolio goes to show that there is a possibility that Moody might just regrade Ambac again in the future.Ratings reversal upside potential, if Ambac were to achieve a AAA IFS rating from both Moody’s and S&P at some point going forward, I believe the stock may be able to outperform analyst's estimates.

++Doing all they can++
3)Yes they are! What do you do if your company is saddled with a huge amount of toxin assets, but have a good business model that has tested the passage of time for about 80 over years?
You first have to settle to concern of solvency. Because your assets are negative after factoring out those toxin sub-prime related instruments. Your liabilities do not decrease, so that gives raise to this liquidity gap. Which in turn downgrades your rating as a insurance company. Therefore, i listed down what they are doing or have been doing so far for the company.

  • Ambac has received approval from the Wisconsin Office of the Commissioner of Insurance (OCI) to utilize the resources of AAC to resolve this liquidity gap. They will continue to work collaboratively with the OCI as we seek to reduce balance sheet risk in an orderly fashion. Wisconsin Insurance Commissioner,is Ambac's main bond insurance subsidiary to make up this shortfall.

  • Ambac continues to pursue a number of loss remediation strategies in its direct RMBS portfolio. Those strategies allowed Ambac to reduce its expected ultimate loss by approximately $260 million in the second quarter of 2008, and they are working diligently to expand on those efforts

  • In addition, they are in active discussions with CDO of ABS counter parties. The successful resolution of these discussions would result in decreased uncertainty related to these exposures and likely would result in an improvement in their capital position. Collateralized debt obligations (CDOs) are an unregulated type of asset-backed security and structured credit product.

  • Aggressively managing their mortgage-related exposures and have made demonstrable progress in reducing the risk in their insured portfolio. Ambac’s financial strength will continue to improve as we de-lever and commute and re mediate their exposure.

4)I already missed out once! ABK traded at $1.30 as at 1st July 2008. I hesitated to buy , with obvious reasons. Then lo and behold, the stock traded at $8.06 in Sept and as of now at Nov 11 2008 it has fallen back to $1.46+ per share. Time to buy? Maybe ..maybe not. Because of the fact that ABK can raise to $8.06 , already breaks my heart and cause me to feel great regret for not buying. I don't want this to happen again.

+++Other positive points to take note of++++

One potentially bright point for Ambac's liquidity would be
if it makes agreements with counter parties to tear up contracts
on risky residential mortgages. Ambac said in a response to Moody's downgrade on Wednesday
that the rating agency failed to account for the early termination of some of its contract exposures, and for federal efforts to improve the liquidity of financial institutions. "Something that could change the game and prevent them from becoming even more unhealthy, would be to commute a substantial number of the chunky ABS CDO exposures and risks they have,"
said UBS' Havens. "That could very substantially improve their prospects." http://www.reuters.com/article/marketsNews/idINN0757391420081107?rpc=44


Strategies

  • Strategy 1: ABK trades at $1.48 per share at Nov 12th 2008. One has to wonder why hasn't the share price goes go all the way to zero? Just like in the case of Indy Mac. Could there be a slight possibility that they might surivive this crisis? Who knows? I believe the price at $1.48 per share has factored in lot of these negative news, like poor prospects,more losses, negative NAV, insolvency. To play safe i would like to go in at a price of $1.30-$1.10, would cut loss at $0.80. Take profit at $3.40

  • Strategy 2: Since ABK's rating have already been dropped to bbba1, i could wait on the sidelines and see whether the company is able to survive the effects of such a downgrade. Because my main concern is solvency, are they able to survive and not go bankrupt on me.

  • Strategy 3: Study the technical analysis throughly , enter when MA 10 and MA 40 cuts, stocastics indicates an upside cross over and RSI states upside potential. Or just wait for another huge bear market and then scoop up the shares from there.

  • Strategy 4: Wait for any government intervention to be factored in. Beacuse, like i said, the thing that bothers me the most is the company's solvency. If there is, government intervention in the future, i would be satisfied paying a price of $1-$2 per share, no more then that of course.

I know, im not following any of Buffet's value principals and the chances of me picking up a fake gem is quite high. Im i speculating ? Probably..but i already estimated the probability of the upside and the downside. And its looking good at $1.46 per share.





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Market Gem : China Milk

by November 04, 2008
Core Business
Supposily to be the largest company specializing in the production of pedigree bull semen, pedigree dairy cow embryos and raw milk in the growing dairy industry of China. Four areas of growth
1) Produces bull semen for sale to other farmers and insitutions
2) Using cow waste to make fertilizers and sell it
3) Soon to produce their own dairy products
4) Sale of raw milk

Risk:
Their cattles are reared in farms located in Daqing in Heilongjiang Province in the PRC.
Natural calamities such as drought, snowstorm, flood or other natural disasters would have a significant adverse effect on their operations and business if there is significant loss of their livestock or damage to their facilities that would disrupt their production processes.
Their business is highly dependent on the health and physical condition of their herd. Sickness or disease infection may lower the weight, milk yield and reproduction capability of our cows as well as the quality and quantity of the semen produced by our sires. They indicated that they have in place stringent health management
and hygiene control measures, which encompass the critical processes of processing and collection of
bull semen and embryos, milking of dairy cows, the sanitisation of cattle sheds and farms, as well as the
monitoring of the health condition of their herd and staff.
In addition, any unfortunate events that have negative impact on the dairly industry in China such as the recent Milk scandal, affects demand.


Is the company focused?
Focuses on breeding cows, selling the raw milk , creating more quality cows using semen, selling fertilizers also.
Profit comes mostly from semen.



China’s Demand for milk:
"So great is the demand for milk and milk products that China’s dairy industry has been experiencing a shortage situation of raw milk, primarily due to the inability of the local dairy industries to meet demand. In China, the average annual milk consumption per capita rose from 2.5 kg in 1984 to 14.3 kg in 2003" This pharse was stated in their annual report. However as we all know, the recent scandal has cause abit of a hicup in the Dariy industry of China. The important questiona to ponder is, will the Dairy Industry in China ever recover? How long will the downtrend in this industry last?
http://chinamilk.listedcompany.com/newsroom/20080926_193047_G86_B2C597F8D5621CE4482574D0003EAFAD.1.pdf

Future Growth Drivers
The company is improving their herd size to drive higher milk yield
• Continue to enhance internal breeding programme
• To import another 3,000 Australian Holsteins around June 2008
• Explore acquisition opportunities; targets identified
• In negotiation with a government-owned bull semen producer in Heilongjiang Province for a possible acquisition
Increase production ofquality bull semen and cow embryos
• Focus on growing/importing quality Holsteins and bull sires so as to raise production of bull semen and cow embryos, which Generally command higher margins
• Commercialize gender-controlled bull semen and cow
Embryos Move downstream to process Raw milk
• To commence milk processing for an existing major customer as soon as possible
There is a rapidly growing penchant for international food and beverage concepts which use a lot of milk and milk products. The PRC government has also been promoting the need for nutrition as evidenced by the government’s nation-wide School Milk Programmed.


Economics of scale:
Possibly the biggest company that has dairy farms in China.
Possible Competitor is Fonterra
With 9 farms in the cities of Daqing and Harbin, we own an impressive herd of 15,0412 pedigree bull sires,
Our Group owns a total of 100,000 square meters of cow-sheds, 125 million square meters of grassland and 1.83 million square meters of farm land

Market Leadership:
More than 700 model dairy farms have been established around Beijing and Tianjin, with 280,000 cows, according to the Chinese government. Plans are in the works for hundreds of other similar farms, and there are plans to speed up the use of selected dairy genetics

Focus a lot on research:
At China Milk, they placed a strong emphasis on research and development.

(From their annual report)
We collaborate with 12 external researchers and technicians from reputable research institutes such as the HLJ August First Reclamation University in the PRC, working on various initiatives to improve our efficiency, productivity and product quality.

These initiatives include the increasing of milk production in our cows; raising protein levels and fat content of our raw milk; increasing the success rate of embryo transplants; as well as enhancing the quality of embryos and Total Mixed Ration of cattle feeds.

Our collaboration with external researchers has also allowed us to process liquid manure from cattle, for the production of organic fertilizers that are biodegradable and environmentally friendly. These composite fertilizers are used in our farms, as well as sold to other customers throughout the PRC since February 2002.

Comment: Their economic moat seems to be fairly strong, though one must give this company more time to build up it's economic moat in the coming future. Suffice to say there are no competitors so far that can match up to the size and scale of China Milk.


Management holding their own shares?
The information can be found in our Annual Reports. And announcement through SGXnet will have to be made when management and directors are buying/selling shares.
At the moment, none of the management and the directors have been buying/selling shares since IPO.
Should you have any further queries, please feel free to contact me.

Regards
Martin Choi

Chief Financial Officer

Conservative debt
Long term liability: 1,074,869,000
Net Profit for the year 2008: 480,600,000
Comment:
Management is able to pay off total liabilities within 3 years if they are able to continue to yield NPAT figure in 2008. Suffice to say their reserves of 1.4billon RMB is also able to use if NPAT can’t cover.

ROE
Now looking at their ROE figures, im kind of impressed with the results. The first two columes are empty beacuse, im generally lazy to caculate ahah. But with ROE exploding to figures like 26%, i don't think there should be anything to worry about with regards to management's ablility to use cash to their best potentials.

Quality Net Profit after Tax
Check their depreciation, is it acceptable?
Looks acceptable
The Group’s depreciates property, plant and equipment on a straight-line method over the estimated useful lives,
starting from the date on which the assets are placed into productive use. The estimated useful lives reflect the
directors’ estimate of the periods that the Group intends to derive future economic benefits from the use of the
Group’s property, plant and equipment. The carrying amount of property, plant and equipment is disclosed in
note 12.

R&D as an expense or an asset?
Nil
Any one-off Charge or profit?
Yes, financial derivatives an increase of 877% from 2007. Take note, that once this is discounted, its Net profit growth is only a mere 8% and not 23%.
Still its intrinsic holds at least $1.00+
In addition , their net profit increase from 2007 to 2008 is calculated as $9million SG dollars or 42 million RMB, this doesn’t include the increase in financial cost of which I have no idea how it is link to the increase in the account change in fair value of F.I


Scanning of RED flags in the company
Is there a growing gap between cash flow from operation activities and earnings (cash flow has to be higher then net earnings for refinancing purposes )
2008 / 2007 and 2006 (All in terms of '000)
Cash flow: 402,903 / 381,350 and 289,850
Net income: 480,607/ 378,500 and 272,600
Not a problem here.

Net Earnings is growing faster then sales
Not a problem here
Disproportionate increase in account receivable vs Sales increase
Not a problem here

Unusual increase in inventories vs. sales increase
Sales: 2,217,316 and 1,800,000
Inventories: 149,944 and 134,377
Not a problem here

Any large write offs?
Nope

Quality of the earnings
-Did they include profits from the past periods? (No)
-Under provide for future expenses with current sales, bad debts?(No)
-Increase in reliance of earnings sources apart from main business? (No)
-Cutting pay in workers, employees, R&D etc? (No)

Capital Expenditure
The gorup have been spending alot on Capital Expenditure, this is vital for the company to no.1 establish their economic moat no.2 to get ahead of competiton no.3 to build up brand name and improve on their margins/net profit/revenue etc.
Common sense depicts that , the nature of their business does not require much capital to replace machines , factores or euiptment just like manufacting companies. Therefore , this is not a capital expenditure intensive company.

Final Comments
Beacuse finnancial ratio keep changing in accordance to share price, i decide not to post any ratio from now onwards. But buying China Milk from 0.80cents per share and below should be have a decent margin of safety with high potential to the up side.

Using Adam's koo EPS growth model
Intrinsic is $1.11 based on estimated no growth scenario and 0.13 dividends
At least $1.00 per share based on 0.10 with 5% growth.
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Market Gem: SINOTECH FIBRE

by November 01, 2008
Core Business:
Based in Longkou City in Shandong Province, Sino Tech-fiber produces polyurethane (PU) and microfiber synthetic leather, these products are then sold to manufacturers and trading companies that produce fashion apparel, sports apparel and equipment, luggage and travel accessories, as well as upholstery furnishings for furniture. Take not that Sino Tech-fiber is the producer and supplier of these raw materials and not a manufacturer of the end products.
Sino Tech---Processed materials ---Manufacturing companies---Finished products---China’s consumers

Profit breakdown and sales location:
Microfiber Synthetic Leather: 40% of sales
PU Synthetic Leather: 60% of sales
92% of sales come from China
6% of sales come from India
2% from other countries

Risks involving the company:
Competitors, higher taxation, slow down in China consumers’ demand, frauds, failure of the PMP project and natural disasters like the recent earthquake that cause factories to shut down.

Comments: Ever since listed, their sales have been steadily increasing, almost 300million RMB every year. Net profit likewise also increases in tandem with sales. Operational cash flow remains healthy with the rate of receivables growth kept at minimal.

Comments: Due to the fact, the company has to plan for its future and sustain their competitiveness in the industry; A lower free cash flow (FCF) is seen. This was deal to more research and development cost. Recently in 2008, they spend a total of $600million RMB for the establishment of the new PMP production lines and expansion of current capacity. Profit margin remains very high and maintains at 36.8%-35% region.

Competitive advantage:
Their industry outlook:
Strengthen by environment and animal rights and Quality of life in China, Chinese consumers demand more of such high quality products. Under their annual report in 2007 they state that
“Coupled with rising affluence and increasing customer sophistication, more Chinese consumers are demanding higher quality synthetic leather products thus resulting in China importing more high quality synthetic leather products. This augers well for the PRC synthetic leather industry, which will undoubtedly, continue to develop and ride on the latest technologies to produce newer and higher quality synthetic leather products to match the increasing demand.”
Still unconvinced, I went to research more on the demand for synthetic fibre and found evidence as stated below.http://news.tootoo.com/Textile/Fiber_Yarn/20080928/160597.html
http://www.pcifibres.com/ (Look under synthetic fibre index)
http://www.atimes.com/atimes/China_Business/HE23Cb03.html

Unique Advantage:
Sino Tech-fiber is one of the designated uniform material production companies for the Naval Armament Research Institute the State Administration of Taxation and the State Administration for Industry and Commerce, The People’s Liberation Army (“PLA”), Chinese People’s Armed Police Force, the Ministry of Public Security and other uniformed groups, along with the Government’s Tax and Judiciary departments accounted for 14.4% of total revenue in FY2007.

Market Leadership:
First and only company that deals with PATTERN MOULDING PAPER, in addition to that probably one of the few companies that supply leather to the Chinese army. The People's liberation army is one of the world's largest military forces, with approximately 7,000,000 members
-With a wide customer base of over 120 customers
With that said , the company is not the largest producer of Synthetic Fibre in China. This fact does not deter me from investing, because the company’s stock is not considered a blue chip but that of a high growth stock. So I think its best to give this young company a chance to prove itself in the coming future in terms of climbing up the market leadership ladder.

Future Growth Drivers:
Development of new products:
Sino Techfibre Limited has crossed a significant milestone as it rolls out its Pattern Molding Paper (“PMP”) capabilities – it is the first and only Chinese company to have this unique capability. The Group’s initial PMP production capacity of 40 million meters will be doubled in FY2009 when our third and fourth lines are installed.

In line with our Group’s continual efforts to develop new cutting edge products, Sino Techfibre recently installed new machines to produce TPU – an ultra-thin film (ranging from 0.015mm to 0.03mm in thickness) which enhances the waterproofing and wind proofing properties of garments such as raincoats, winter wear, sports shoes, gloves, medical equipment and packaging materials.

Other potential:
The Group has benefited from the launch of PLA’s new uniforms on 1 August 2007 and will continue to enjoy orders for these new uniform materials as they are phased in, progressively for the next few years. In addition, the other uniformed groups such as Ministry of Public Security are due for a uniform change later this year (2008).

The company has recently appointed a local PMP distributor with extensive experience in Japan, Italy and UK-made products.

Analyst Coverage from CIMB written by Kenneth Ng CFA
kenneth.ng@cimb.com (His report on future growth)

PMP sales showed up, the next six-to-nine months will give clear signals whether
this is indeed the holy grail. Sino Techfibre had a nascent 1% of group revenue and
profit derived from its new Pattern Moulding Paper (PMP) product in 2Q. The new star
product recorded ASPs of Rmb17.2/m and gross margins of 42.2%, slightly below the
guidance of Rmb20/m and >50% gross margins. 2Q contributions are trial runs and it is
still early days yet for the product. We expect PMP to contribute about 10% of FY08
profits and 30% of FY09 profits. Management updated that its glossy–blend of PMP had
gotten good response from the market and it is 1) expanding its product range and 2)
doubling its PMP production capacity to 80k meters by FY09. In our opinion, the next
six to nine months will give clear signals on whether this new product would indeed be
the holy grail for Sino Techfibre. This remains the key driver for the stock.

Looking ahead, company intends to produce non-woven cloth as well. The other
noteworthy point is that Sino Techfibre intends to start another new product, non-woven
cloth. The company intends to take delivery of non-woven cloth machines in 4Q08 and
produce their own non-woven cloth in 2009. The non-woven fabric which it intends to
produce will be used for high-end PU leather. Currently, the company imports this raw
material from Korea. The expansion into non-woven cloth can help prop up margins of
their PU leather product as well as to aid collaboration with the PLA to jointly develop
products. This expansion adds to a list of new products it has planned for FY09-10.

Management matters:

Looking for more buying from management?
Lam Tin Tsoh and Li Wenheng are buying more at 0.71

Is the salary of the management, acceptable? Too high? As compare to the Net profit. (As a general measure it cannot be more then 10% of Net profit)
Net profit after tax =$S94 million

Director’s fees converted to $SG 888.2k

Thus 888,200/94,000,000*100%=0.18%

Are they giving employees too much stock options?
Nope

Is the firm counting expanding, applying more of RnD during tough times?
Yes

Debt analysis:
Conservative Debt:
Sinotech is able to pay off their long term debts within 2years, only provided they are able to maintain their current net profit of RMB 470,600,000

Short term debt analysis:
Problems: Clarification Announcement Relating To the Article "Who’s Cash Flow Pipeline Is Choked?" In The Straits Times on 14 October 2008

(What the company says)
Based on the latest financial results for the six months ended 30 June 2008 (“1H2008”), the Company maintained a financially sound position with a low gearing of 1.4%. Going forward, the Company do not foresee any liquidity problems arising from paying off the short-term obligations from current assets excluding inventories, given a healthy quick ratio of 3.49.

The net decrease in cash and cash equivalents amounting to RMB353.5 million in 1Q2008 is mainly due to amount of RMB430.9 million of cash paid to purchase property, plant and equipment. This capital expenditure was mainly supported by the Company’s internal funds.

As mentioned in the press release dated 14 August 2008, the Company has budgeted approximately RMB600 million for its expansion in order to stay on the forefront of the product curve by investing resources in higher technology production capabilities to improve gross margins and introduce new and higher value products. Such investments are made with the view to secure the Group’s competitiveness in the near future, instead of short-term growth. The Board envisages that this capital expenditure is sufficient to secure the Company’s growth for the next few years, and that there will not be any major capital expenditure in the foreseeable future. The management’s approach is to be prudent in the Group’s financial management.

(What I think)
Update* 2008, company undertook major capital expenditure of 600M Rmb, in doing raising current liabilities to 226million and lowering cash on hand 171million from 440million. Total Liabilities stands at 249.7million, prepayments and receivable need to come in to settle these liabilities, however there is a risk of not receiving these assets in time and possible reduction to bad debts, in light of these, I still deem Sino tech acceptable as higher net profit is to be expected in the long run, and I believe they are able to get back all their receivables and be able to repay their current liabilities on time. Lastly, I would expect the company to maintain an average among capital expenditure spent in the coming years.


ROE data:
2006' ROE:27%

2007'ROE 28%

Comments: Love their high ROE figures.
Any ROE above 15% is exceptional.

EPS growth Model:
Results from EPS growth model: Worth at least $0.80 per share if company is able to maintain an EPS of 0.10 per year for the next ten years.
Take note, that I change the Net profit to Sing Dollars in order to be accurate in my EPS figures.

Other Important Ratios:
At the current price of $0.14 as of 29Oct 2008

PBV per share: 0.41 times
(Remember, anything below 1 time PV is considered cheap)
Historical PE: 8-9 times
PE: 1.38 times

NAV per share: $0.35 based on annual report 2007
Nav per share is set to increase , as more euiqment is bought and more Net profit is expected to be yield by the company.
Last words:
Having read through many analyst reports and research information, I find Sino Tech Fibre at a price of 0.14 is ridiculously low. This young company’s share price has indeed been unjustifiably beaten to such a level; it’s as if some one took a Sledge hammer and wack a young innocent child on the head even thought the child did nothing wrong. I say this because; the market faults the company for spending too much on expanding and securing its competitive future in the fibre industry in China even though most of the funding comes from the company itself and the market also disregard its shares simply because it’s an S-share.
With that said, there is indeed fundamental value in this young company, which is definitely not worth 0.14 per share, given its ability to amass a total of $400million RMB within a few years, has good exposure to the Chinese government market, strong margins and good cash flows.
Having vested interest in it, I shall say no more.
However Sino Tech’s new venture into PMP and cotton industry has to works out, having spent soo much capital expenditure on it. Should everything turn out fine, even without the cotton venture in place, the intrinsic value will be much MUCH more higher then $0.80. Suffice to say this is a gem given its price at $0.14; I suggest buying it before it becomes expensive again!
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