Scientex: Email Exchange with IR (01/15)

After the group released its first quarter report for FY2015, I dropped an email to their IR for some enquiries. They replied back and seem like the strengthening of USD may do more harms than good to the group. However, the increase in production capacity, decline in raw material price and higher margin should help to can the loss in foreign exchange

Below are the details of the email. 

1) Operating profit margin from manufacturing segment dropped from 6.12% in Q1FY14 to 4.59% in Q1FY15. What is the reason behind for this drop in operating profit margin and is it temporary?

A: 1Q15 operating margin drop was mainly due to product mix in the manufacturing segment, where we adopted a market penetration strategy to gain market share in the consumer packaging sector in South East Asia. In the broader sense, we foresee this to be a temporary phenomenon. On the whole, we see continued strong demand in the region.

2) The group made a provision for unrealised foreign exchange loss of approximately RM5.0 mil in Q1FY15. Which currency is that and why the management concluded that the group will experience a potential loss? What are the precaution steps to be taken to prevent such circumstance from happen again?

A: Most of our loans are in USD which works as a natural hedge for our export sales in USD. For the moment there will be no change to this policy.

3) With the recent drops in crude oil price which directly reduce the chemical material cost, to what extend the group is benefit from this? Does the group foresee requests from customers to reduce the selling price due to the drops in material costs?

A: For consumer packaging, we typically deal with manufacturers who sell to end-consumers, and contracts are negotiable annually. Therefore Scientex will benefit from improved margins in this segment. As for selling price reductions, there is more value-added components involved (e.g. printing, slitting, bagging) which enhances our overall margin.

For industrial packaging, the price adjustments are done monthly, and there are fewer value-added functions compared to consumer; so the margin increase isn’t as substantial.

4) Is the group's management on inventory FIFO type? Any time lag between commodity price and the group's material cost?

A: Typically FIFO, and the time lag is minimal.

5) Regarding the weakening of RM against USD recently, I checked back the foreign currency sensitivity analysis in AR2014, page 117. The statement is as below,

" (iii) The Group’s sales less cost of sales and other items of expenses denominated in USD during the financial year ended 31 July 2014, offset against the Group’s exposure in USD in the statement of financial position at the end of the reporting period for a 3% change in foreign currency rates. A positive number below indicates a profit where the Ringgit Malaysia strengthens 3% against the USD. For a 3% weakening of the Ringgit Malaysia against USD, there would be a comparable impact on profit or loss, the balances below would be negative."

For a 3% weakening of Ringgit Malaysia against USD, there will be impact on loss of RM2.59 mils on the group's net profit after taking consideration of all the group's sales, cost of sales, other expenses and borrowings that all denominated in USD currency.

Is my interpretation correct? Understand it's just an estimation.

A:  Yes.

Let's say RM will weaken around 10% against USD in FY2015, the estimated loss is around RM8mils on the group's net profit based on the foreign currency sensitivity analysis in AR2014. 

It's roughly around 5.4% loss ( RM8/RM148) on the group's net profit in FY2014. 

Is it acceptable for you? 

Update: Scientex, net profit up & up & up

Scientex Berhad just released its latest quarter report yesterday evening in this quiet month of company report announcing. Details of the revenue and net profit improvement can be seen from the table below as well as in the quarter report.

In short, Scientex recorded the best quarter in terms of revenue and net profit. Everything looks just so fine for the group after the acquisition and operation consolidation. But I expected more from it in the future given the better economic of scale and larger customer bases for its manufacturing arm. Time will tells the effects as I would like to see a better profit margin as a result of that after all the new machines start commencing.  As usual, no dividend was declared for the first half of the year. Half year EPS is 28.61 cents, probably can make at least 60 cents EPS for financial year 2014. PE is around 10 but it still highly depends on its 2 core segments.

In fact when breaking down into individual segments, although the net profit from the manufacturing arm was better compared to the same quarter preceding year, but it was considered the lowest if compared with recent four quarters. No explanation in the quarter report but based on the low operating margin recorded, either is due to the sale of low margin products or the operation costs had gone up.  Hopefully is due to the former, if the effect of tariff hike which started at Jan affected the margin so much, then it’s really a problem as this quarter covered up until Jan with one month effect only. So, the overall net profit still highly depends on its property division who contributed around 66% of the group’s operating profit this quarter.  Affordable housing developer probably able to sustain under the environment of cooling measures.

In terms of cash flow, the operating cash flow was temporarily weaken by the increase in receivables. Additional special dividends declared last year also ate a bit of its net cash. But there should be not much problem for the group as the group’s cash generate ability is quite strong for the past few years. In terms of balance sheet, the group borrowings increased to RM369 mils, which is equivalent to 0.43 net gearing ratio. It’s still below 0.5 net gearing ratio benchmark set by the management, but I think the group probably will slow down the acquisition or capex a while and consolidate its manufacturing business before going into expansion again.

The final additional operation line for its stretch film division was commissioned by the end of 2013. This line comes with the latest nano technology capable of producing 22 layers of film and makes Scientex the first producer to produce multiple layered film using nano tech in Asia. 

Else way, the new blown extrusion lines are all on schedule to be installed by mid 2014 according to the quarter report. This will help to increase the capacity by 50% to 5100MT. According to the management statement earlier, the production capacity for its extrusion lines always full house ~~ So, I think this will help to improve the overall manufacturing performance as the consumer packaging market always been doing well even during the weak economic period.

So, I think the performance for the second half of the group remains bright as I think the property division will be doing pretty well too but limited upside for the price. Dividend wise, the group normally declared 30% of the net profit as dividend and I do not think there will be another special dividend. Thus, expected at least 18 cents dividends will be declared at second half. I will consider to buy when there is a price correction. (p/s: I sold it off few weeks ago … which I quite regret about it :(. A lesson learnt)

Scientex Berhad (SCIENTX) 森德综合 Q1FY14 Result Update

Scientex Berhad just released its latest Q1 report for calendar year 2014 this afternoon after the AGM. 

Year on year, revenue and net profit improved due to the contribution from the GW Plastic and increase sales of its stretch film. The group able to record EPS of 13.27 cents. Gross profit margin and net profit margin showed a downward trend after the the GW Plastic acquisition as its net profit margin is around 5%.  

However by compare quarter to quarter, there was a marginal drop in revenue and net profit due to lower contribution from the property segment. 

From the report, it mentioned upon the completion of the 3 cast stretch film lines, the group will continue to focus to achieve better operational efficiency. Hopefully they will able to increase the manufacturing operation profit margin to above 7.0. In addition, the installation of the blown film files are target to be operational by mid 2014. Thus, the result of these new machines will only be reflected by Q4FY14 and so on. 

Biggest setback for me for this latest quarter is the property segment which recorded a weak profit margin. The report did not provide any explanation for this, perhaps some mix houses and condo or industrial that yield lower margin. The report did point out due to recent Budget announcement on imposition of real property gains tax, increase in levy to foreign purchasers and implementing of goods and services tax, all these cooling measures might slightly affect and dampen sentiments in the overall property sector. Must take attention on this as the property segment is the bigger profit contributor to Scientex group compared to manufacturing segment.

In terms of balance sheet and cash flow, operation cash flow dropped a lot for this quarter compared with preceding year due to increase in inventories and payable. Net gearing ratio increased to 0.38 from 0.29 due to lower cash in hands. Management did point out before their comfortable region is below 0.5. Thus, it's not in alarming zone yet. 

Assume the average EPS 13.5 cents excluded any growth, total EPS for FY14 will be 54 cents. PE will be around 10.4 based on today price of RM5.61. I will continue to hold until next quarter report release barring any unforeseen circumstances. 

Oh ya, the CEO did mentioned yet again to double the market capital in 5 years time. Remember he mentioned in year 2011 to reach RM1b revenue and RM1m net profit by year 2013 and they really did it in last calendar year. Hopefully they can make it this time too, double in 5 years time will need a CAGR of around 14.4% :)

Enquiry to Scientex Berhad (SCIENTX) 森德综合 on tariff hike

Our beloved Ah Jib Gor announced that electricity tariff will be up by average 15% in Peninsular Malaysia starting from Jan next year. 15% increase is no joke. I also wish that my salary will increase by 15% next year but I don't think it will happen :(

For households, I do think it will affect quite a lot. For a normal monthly usage of around RM200++, they need to fork out probably RM40 more every months. When the GST implementation comes on April 2015, probably will be RM50++ extra compared to now. Both tariff hike and GST charges will not affect those usage below 300kwh.

For manufacturing, the tariff hike will increase the operating cost as well, which in turn reduce the gross margin and net profit. I dropped an email to Scientex Berhad's investor relation to ask about the effect of the tariff hike one week ago and she replied me one day after. 

She mentioned that the electricity cost represents approximately 4% of the packaging operating cost and there will be some impact of the profit margin for the packaging section. 

So just make a rough estimation. 
Let's say the operating cost is RM100 and the electricity cost which is 4% of the operation cost will be RM4. 
A 15% increase on tariff will cause the electricity cost increases to RM4.6 while other costs remained. 
Thus, total operation cost will increase to RM100.6
So, (100.6-100)/100 = 0.6%
Thus, there will be a rough 0.6% increase in operation cost as a result of 15% tariff hike assumed the electricity usage remained same.

0.6% is small but not negligible since the gross profit margin of Scientex's packaging segment is only in the region of 6.2% based on 2013 annual report. The effect of tariff hike will probably reflected in Scientex FY2014Q3 and so on. Let's see what happen next. 

Scientex & Prestariang CEOs' 的宏志 !!

Last week, coincidently there were two separate interviews with Prestariang Berhad's CEO, Mr Abu Hasan Ismail and Scientex Berhad's CEO, Mr. Lim Peng Jin which caught my attention. Both aim to double their respective companies' market capital in few years time!!

Based on the interview and news, Mr Abu Hasan Ismail aims to reach market capital of RM1billion in 3 years time. Prestariang current market capital is around RM545m. That's  double of what it's now to reach RM1b status. By using simple Rule 72, the group need to achieve annual growth of around 24% for 3 consecutive years in order to reach this figure. The group's growth strategy lays on its newly oil & gas segment which currently as he mentioned only contributed around 4% to the group's revenue. The group is looking to secure more contracts in this field. Apart from that, he also aims to recognise revenue streams from talent management and UniMY segments. 600 students are what they need to break-even for its UniMy business at this stage. So, 3 segments, 3 growth engines to double its market capital in 3 years time. Go for it ~

Another interview is from Scientex Berhad's managing director, Mr. Lim Peng Jin. Scientex berhad is far older company than Prestariang berhad. In fact, the group celebrates its 45 years old anniversary this year by distributed special dividend too. He aims to double the group's market capital in 5 years time. (p/s: Scientex's size is double of Prestariang currently, growth may not be so extensive as the latter.) Scientex's growth of course lays on its 2 core businesses, manufacturing and property segment. Under industrial packaging, its stretch film production is the world third largest in terms of production capacity. For its consumer packaging, the group is undergoing extension expansion via acquisition and capital expenditures to increase the output. For its property division, the remaining RM5.2b GDV can last for 10 years with 60% of it targets at affordable homes while the remaining at high end housing segment. Everything put into the plan, Scientex growth is more focus on organic growth rather than diversify into new segment. 

So, both CEOs have their minds set for growth. Sometimes, it's really hard to evaluate the management team of one company on paper. On paper, we may only evaluate them through share buy back, decision they made in big occasions, their salaries and their statements in annual reports. But as a shareholder, of course you want to invest in companies where the management team able to produce fantastic result and bring a decent returns to the shareholders years after years. 

In Scientex & Prestariang, I'm happily invest my money on them and have a good sleep every nights knowing they will work hard to produce good result years after years for the company. Of course as a shareholder, you need to evaluate the company performance every quarters to check whether the progress in on par on what you expected. Take a bold decision to sell it if the performance against what you expected. Never fall in love on them :)

Scientex Berhad 森德综合 latest acquisition of Seacera Polyfilms

At first glance of the announcement, I have no idea who and what Seacera is doing. But I always think it's good when you acquire somebody rather than being acquired by somebody, right? Haha 

Okay, back to the acquisition. Scientex Berhad announced at thurs that the group is going to acquire the entire equity interest in Seacera Polyfilms and the total purchase consideration amount is RM40.0m. A quick check on the latest annual report of Seacera group found that Seacera group has 3 business segments which is tiles, plastic packaging and property division. 

Seacera Polymer manufactures highly technological products known as BOPP films used for item requires great barrier from water and oxygen which highly used in F&B industry. Based on the annual report of Seacera of year 2012, the chairman stated that the production lines were fully utilised and also implement some cost reduction programme which resulted in lower operation cost compared to previous year. In addition, the chairman also stated that the group was installing additional manufacturing line and the progress is still on-going. Scientex probably will keep the expansion going after the acquisition. 

Seacera group's business segments result (Annual report 2012)

Seacera Polymer packaging recorded a net profit of RM2.8m in year 2012 with a net profit margin of 6.2 which similar to Scientex plastic manufacturing segment. Based on the acquisition price of RM40.0m, it implies a PE of around 14.3. The PE Scientex offered is similar to the offer of GW Plastic acquisition earlier. But Seacera Polymer is way far smaller compared to GW Plastic. So I think the offer price is little bit high, probably Scientex want to make it fast without giving second thought by the Seacera's shareholders :).

Scientex plastic manufacturing segment recorded a operation profit of RM56.9m in year FY2013. So the profit contribution from Seacera Polymer to Scientex in future is quite small consider Scientex overall net profit is RM112m in FY2013, perhaps around 2-3%. Unless Scientex give it a go to further expand its manufacturing line to increase the production output in future. 

Based on the announcement, the proposed acquisition is by internally generated fund. Even with borrowings, it will increase Scientex net gearing ratio from 0.28 to 0.35. 

As at 31/7/2013 balance sheet, 

RM152m (cash) - RM335m ( borrowings ) - RM40m (addition borrowings for Seacera acquisitions) = -RM223. 

So, net gearing is RM223m/628.6m = 0.35.

The net gearing consider okay as the management indicate the comfortable level is between 0.25-0.5x. 

Furthermore, with a net operating cashflow of RM209m recorded at the end of FY2013, Scientex will have no problem to settle the net borrowings of RM223 with probably 1 year plus. 

Coupled with this acquisition with the RM50m capex spent on new 5 renowned blown film lines in GW Plastic which announced earlier, Scientex should able to record better profit in FY2014 along with the usual good contribution from the property segment which focus on building affordable houses in Iskandar region. 

Scientex contributed around 25% of my portfolio and I see no reason to sell it by now. Let my portfolio grows along with Scientex expansion plan. 

~ Enquiry on Scientex Berhad (SCIENTX) 森德综合 ~

As part of my earlier analysis on Scientex Berhad, I dropped an email to their investor relation team regarding the high borrowings they takes to acquire GW Plastics Holding at the beginning of year 2013. Below is my email and her reply. 


Dear Ms Jesselyn Chang, 

It's noted that Scientex Berhad had successfully acquired GW Plastics Holding at the beginning of this year through internal fundings and borrowings. This will definite boast the revenue of Scientex Berhad. 

At the mean time based on the lateast quarter report, Scientex Group's borrowings had jump to RM322millions at which RM126millions is short term loan  as a result of the acquisition. This had translated into gearing ratio of 0.50. Apart from that, Scientex Groups has only RM50m cash in hands. This will cause some a poor liquidity. 

As a minor shareholder of Scientex Berhad, I'm writing this email to enquire about what is the step and method Scientex group going to do to pare down the borrowings. Will the borrowings affected the 30% dividend policy? Will Scientex group perform right issue to pare down the borrowings in future?

Appreaciate your responses. Thanks. 

Regards, 

xxx

Dear XXX,

As you know, the gearing ratio of Scientex Group after the acquisition of GW Plastic is at 0.5 which is still at a healthy level. If you refer to our last annual report, the group generated approximately RM130m of net operating cash flow from the business. Without further investment, the group will have the capability to repay all the borrowings within 2 years.  

The minimum 30% dividend policy has been announced earlier and the company will adhere to the policy. 

Hope the above explanation is clear.

Regards,

Jesselyn

~ Scientex Berhad 森德综合 (SCIENTX) AnAlysis ~

Scientex's core businesses are manufacturing and property development.

 Its manufacturing division comprises of two business units namely packaging and polymer. Scientex is one of the world’s largest producers of stretch film, with an annual production capacity in excess of 10 billion metres. The group has currently 9 production lines for its stretch film product and has started works on adding 2 new lines which commence operation in 2013.  At the beginning of this year, Scientex group had acquired GW Plastics Holding Berhad which made Scientex one step close to become world's top producers of industrial plastic packaging player. 

Its property development division is made up of its flagship development in Pasir Gudang and Kulai in Johor which strategically located at the prime land within the Iskandar Malaysia growth corridor in Johor. Apart from that, its Skudai projects, through its strategic location in the Nusajaya vicinity and close proximity to the Second Link has attracted Singaporeans to invest there too. Elsewhere, Scientex group has another property development in Ayer Keroh, Melacca. Scientex group has both affordable housing segment as well as high end development to suit different type of income groups.

Let's see how the group performed for the past 5 years based on the annual report 2012 ..  

Except at year 2009, the group had performed remarkably well and rebounded from the economic slow down. Revenue, operating profit and net profit improved every years from year 2010 onwards. Profit margin in the region of 9% for the past few years. 

Shareholders' equity had improved years by years while its ROE was in the region of 15 for the past 5 years except at year 2009 due to lower earnings at that respective year. The group had kept a low borrowings throughout the years. Net gearing ratio is low, but this excluded the recent acquisition of GW Plastics Holdings via internal fund and borrowings that took place recently at Jan 2013. 

The trend is same for EPS with its revenue and net profit. EPS grew throughout the years except at year 2009 as well as its dividend per share. Scientex Berhad's par value is RM0.50. Thus, the 28% dividend per share in year 2012 is translated into RM0.14 dividend per share which in turn translated into 3.7% dividend yield based on today price of Rm3.77. 

Scientex Berhad just announced its Q2FY13 quarter report last week. 

For 1HFY13, revenue grew 19.7% compared to the first half of last year while its net profit grew 21.6% as the same period of time. The increase in revenue was due to the improved performance from its two core businesses. In addition, the recent acquisition of GW Plastics in Jan 2013 had contributed one-month revenue to Scientex Berhad. EPS improved to 23.48sens from 18.98sen last year. 

Foresee second half will see even better result due to the contribution from its latest acquisition. GW Plastic Holdings's revenue and net profit in year 2012 was RM370millions and RM25m respectively. If all the revenues are contributed to Scientex Berhad, the group's revenue can reach above RM1 billion. RM25m net profit of GW Plastics is translated into additional around 11.7sens EPS for Scientex Berhad. Thus, Scientex berhad's EPS for year 2013 should able to reach above 50sens barring any unforeseen circumstances. Dividend per share may be around 15sens based on EPS of 50sens and 30% dividend policy for year 2013. 

Photo above retrieved from the group's latest quarter report which shows the segments' revenue of its 2 core businesses. It's noted that the manufacturing segment contributed around 70% of the group's revenue but only contributed to a mere 33% of its operating profit. The margin of its manufacturing segment is around 6% which is on par with GW Plastic, Luxchem and Texchem. The margin is little bit tight in the chemical packaging industry. Fortunately, the group's property segment help to generate a good operating profit with a margin of 30%. Overall, operating margin is around 12% excluded tax. 

In terms of balance sheet, reserves are almost 4 times the share capital. However, the fact that Scientex Berhad acquired GW Plastic Holdings through internal funds and borrowings at Jan caused Scientex group took up a large amount of borrowings for this acquisition. The Group's borrowings is RM322 millions at which RM126millions is short term borrowings. This caused the gearing ratio increased to 0.5 from 0.04 before. The group's cash is only RM50 millions. Current ratio dropped to 1.17 from 1.39 due to the increased short term loan. 

Now left the question on how the management team going to repay the borrowings especially the RM126 short term loans to keep the gearing ratio at a comfortable level. Perhaps a right issue combined with bonus issue and warrant may be the fastest way to repay the borrowings. Or only repay slowly throughout the followings years given the Group's reserves is still strong. 

I sent an email to Scientex Berhad to enquire about this today and hope they will reply me before I make my decision to invest in Scientex Berhad as Warren Buffet once said that it's not comfortable to invest in a company that takes up a large amount of loans as the liquidity may cause an issue during economic downturn.