argutori

I don’t want to appear like as an evangelical sell-side preacher but I’m not going to spend my time looking at companies if they don’t appear to have merit in the first place. This will result in a majority of my posts representing a positive view. Nevertheless, I’ll still post information on the research I do which results in me not pursuing an idea further.

Fair Value – S$1.10, currently trading at S$0.18

Thesis

Consciencefood Holdings  (CSF) was able to obtain >50% ROE prior to the IPO. I believe the business will be able to get back to similar ROE levels either through acquisitions or returning capital through dividends.

The ROE for CSF has is significantly better than peers in the food manufacturing industry. The fact that there hasn’t been a lot of corporate activity since the IPO suggests that management isn’t likely to make any rash decisions.

Introduction

Headquartered in Indonesia, CSF manufactures instant noodles. The main factory in Medan has 6 lines, capable of manufacturing over 1bn packs of noodles every year.  CSF is focused on the Indonesian market but also exports to Malaysia, Papua New Guinea, South Africa, Hong Kong, Palestinian territories, Madagascar and Singapore.

Issues

The biggest issue with this company is whether the financial statements re an accurate reflection of the business. Are the margins real? Is the cash flow real? Is the cash real?

CSF currently has $23.4m of cash in the bank vs the $56.4m market cap.  The Board has been slow to initiate a dividend and doesn’t have any formal dividend policy in place at present.

For the IPO US$15.3m was earmarked for expansion and marketing activities. While the 2011 Annual Report suggested all of the cash had been used appropriately, the cash balance was $23.4m at the end of the year, significantly higher than the US$4.5m that CSF had prior to the IPO. It appears that a majority of the expansion activity was completed through the use of internally generated cash flows. This means the cash that was raised through the IPO process is still sitting on the B/S.

EY have audited the 2007 through 2011 financial statements and there haven’t been any changes of auditors or qualified opinions on the state of the company’s accounts.  Giving some comfort that there isn’t anything too dodgy going on behind the scenes.

Margin Analysis

CSF attracts higher net margins than it’s peers. When compared against a broad range of food manufacturers CSF is able to garner the highest net margin as a result of lower leverage (D/E = .43% vs the average of comps of 101.07%).

Valuation vs comps

CSF is trading at a significant discount to peers (n.b. the P/E hasn’t been adjusted for excess cash – currently US$23.4m), which could be attributed to the lack of size and thus liquidity. Economies of scale aren’t a problem for CSF as it’s able to generate superior margins as demonstrated above. If CSF is able to scale up and increase market share it could potentially trade at above the average at levels similar to other high margin producers (see Want Want).

Failing a rerating, this is still a company that is returning a 24% earnings yield, which is hard to beat in the global zero interest rate environment. Other than increasing research coverage and small incremental acquisitions it’s difficult to see any concrete catalysts in the near future for CSF.

A quick back of the envelope comparison with the elephant of the industry (INDF) shows that if valued on noodle pack production capacity CSF would be worth closer to S$1.50. This isn’t a fair comparison because INDF has a diversified range of businesses with noodles making up only making up a proportion of the total operations. Allowing a 30% discount for the diversification benefits from holding INDF vs CSF would still get an a valuation of at least S$1.00 and this doesn’t include the recent capacity increase from the Jakarta factory which began operations in April this year.

Based on the current market multiples and the quick back of the envelope calculation I believe CSF is worth at least S$1.00.

Market analysis

At present the market is dominated by the larger instant noodle makers PT Indofood Sukses Makmur, a subsidy of the Saim Group; and PT Wings Food, maker of Indomie and Mie Sedap brands. The larger companies hold 89% of the market share whereas ConscienceFood only has a 4% share at present.

Key Shareholders

There are two significant shareholders of note. Firstly, the CEO, Djoesianto Law holds 56% of the shares. Secondly, Hunter Hall theAustralian institution holds just under 7% of the outstanding shares.

As at writing I don’t have a position in CSF but am intending to initiate one within 30 days. If you’re considering investing, please do your own due diligence.