Saturday, April 16, 2011

What Do You Look For In A Research Report? Part II

Price targets. Again for most market punters, price target is everything. Absolutely.

Eat porridge or eat rice also depends on how juicy the price target is.

All we can hear is '... but XYZ (brokerage house) said price target was 5.00 leh... so buy, buy, buyyyyyyy!' ( or is it bye, bye, bye? :P )

An infamous old story retold. It was 11 March 2004. The stock last traded 4.16. The stock had already gone up a lot. Seriously a lot. ( Exactly a year ago, before the stock was trading at 4.16, it was trading less than 90 sen! )

That was a massive movement, yes?

And the stock? Seriously? Its fundamental was shocking. :P

March 2003: Quarterly rpt on consolidated results for the financial period ended 31/12/2002. It reported yearly loss of 6.6 million. The previous year it lost 7.4 million.

But yet... somehow.. miraculously... its shares were in demand. Yes, somehow, someone in Aug 2003, had the hindsight to buy a 10% stake in this loss making company.

Private Placement of 4,725,000 new ordinary shares of RM1.00 each ("Private Placement")

And somehow... in yet another miracle of miracle... the stock soared and soared... it flew up, up and away to the orbit. By 11 March 2004, it hit 4.16.

Now that 10% private placement investors must be much better than Warren Buffett! Bought 10% in Aug 2003 at 1.00. Comes March 2004, the shares were worth 4.16.

No need to even talk about the stocks fundamentals. Who needs fundamentals? Who cares if the company is losing money? Who really cares?

Do you care? Why you want to make so much noise? You no make money in it? Don't be a sore loser! Stop your moaning!

Even Bursa smacked the stock with the UMA or UNUSUAL MARKET ACTION .

And so there we were.

On 11 March 2004, the stock closed the previous trading day at 4.16 and in came OSK with an truly amazing, out of the world BUY recommendation on the stock, giving the stock a target price of 5.00!

Yo dudes! Yo dudettes!

This is the stock yo! It's worth 5 bucks a pop! And it's only trading at 4.16.

You want or not?

I was amazed. Seriously, that so-called analyst must be extremely skillful. No joke. It's not easy at all. The stock had ZERO earnings. Losing money. And the stock had almost gained 5 folds since a year ago. Yet, this analyst could come up with a BUY recommendation with a 20% call!

Now that's skills!

Eat your heart out Goldie!

Here's a screen shot.

As can be seen, at 4.16, the stock had a market cap of around 226.3 million!

This was the stock's most recent quarterly earnings before March 2004. (LOL! Now that's 10 years ago, babe! :P)

Quarterly rpt on consolidated results for the financial period ended 31/12/2003

Look at the revenue? 34 million only. Yeah revenue only. And yet the market is valuing the stock at 226.3 million already. ( ho ho ho .. life is good! (how many times must I tell you this?) )

And somehow, OSK young analyst then, could came up with a report, suggesting that this company is worth....... another 20% more! Gee another 20%? That means the stock's market cap is suggesting the company is worth 271 million!

It doesn't matter the stock lost money the last 3 years, it doesn't matter the sales turnover is only a mere 34 million! And it certainly matters not the poor balance sheet it has! It doesn't matter that it had net debts of over 50 million! And it seriously doesn't matter that the company had some 273 thousand ( that's not a typo! So stop starring at me! LOL! :P ) only in its piggy bank!

Good is good eh?

And incredibly, the analyst DID acknowledge the concerns of the stock's track record!

In an effort to learn more, let me reproduce by pasting the exact words:

Concerns on Track Record

Productivity after the lull

We note that Timberwell has not conducted large scale timber extraction for the past 3years and that its mills have run on low capacity since 2002. As such, there is concern that its productivity and EBITDA margins may be lower than that of its peers.

Net debt of RM54.8m

Timberwell may focus on clearing its debt before it pays out any dividend as its current interest expenses have averaged RM4m over the past 4 years. Nonetheless, with the increased optimism in the timber sector, Timberwell may be able to restructure or refinance its debts over a longer period.


Fair value at RM5.00

We have estimated an average price of USD320 per cu m for Timberwell¡¦s plywood prices and USD360 per cu m for its sawn timber given the recent run up of prices. We have also forecasted a CAGR of 2.6% for plywood and sawn timber prices. Based on these estimates, our EPS forecast of 26.3 sen for FY04 means Timberwell is trading at 15.8x projected PER. This is a 16% discount to the timber sector PER of 18.8x as of 10th March. With the revaluation of FMU3 which will be submitted for approval this quarter, Timberwell is also trading at 0.9x of its book value.

Timberwell has outperformed the KLCI by over 200% since December 2003. This may reflect the growing realisation that its sustainable forest concession gives it a big advantage as long as the company is able to extract what has already been allocated to it. Based on our Discounted Cash Flow model, we value Timberwell at RM5.00 given its potential for long term stable earnings. The value is price sensitive, with a 1% increase in the CAGR of log, plywood and sawn timber prices resulting in a fair value of RM5.81 while a 1% reduction in the prices CAGR gives a fair value of RM3.95. The stock is currently trading with a potential upside of 20.2% based on assumed prices for log, plywood and sawn timber.

There you go.

Do you like the way the analyst had reasoned the stock should be worth that much?

First, "An independent valuation of FMU3 has priced it at RM220m. This translates into a huge jump for Timberwell's assets and a corresponding 4.12x increase in its NTA/share from RM1.21 to RM4.99" A re-evaluation of asset.

It then brushes aside the net debt issue. ( I wonder if the analyst saw the company had only 273 thousand left in its piggy bank!)

Then it gave an EPS forecast of 26.3 sen!

Fantastic! From losing money the last three years, Timberwell earnings is supposed to drop from the heavenly skies. The stock earnings for fy 2004, despite all the recent year losses, is projected to be 14.3 million or an earnings per share of 26.3 sen. Yes babe!

From zero EPS to a 26.3 sen EPS! WOW! Well done!

And then... of course... to spice it up... a DISCOUNTING CASH FLOW model is created for Timberwell.

All the right ingredients eh?

So here comes the trick question.

Is the TARGET PRICE important or what is more important is the reasoning why the stock deserves such TARGET PRICE?

Think about it... :P

On 11 March 2004, the stock opened at 4.16. Had a high of 4.18 and a low of 4.02. It closed at 4.06.

Ok... stop laughing.


The very next day.... err.... the stock.... PLUNGED!!!!!!!!!!!!!

No joke!

TWO TRADING DAYS later, the stock closed at 2.74!

From 4.16 to 2.74!

Holy moo moo cow!

Take a look!

And get this.

A year later, Feb 2005, if one takes a look at Timwell's quarterly earnings, Quarterly rpt on consolidated results for the financial period ended 31/12/2004, one would have realised that the FY 2003 final audited losses were adjusted to 5.95 million! And yeah, Timwell had losses for FY 2004 too! And it had losses for FY 2005 too!

Of course OSK has its Disclaimers nicely inserted back then!

  • The information in this report has been obtained from sources believed to be reliable. Its accuracy or completeness is not guaranteed and opinions are subject to change without notice. This report is for information only and not to be construed as a solicitation for contracts. We accept no liability for any direct or indirect loss arising from the use of this document. We, our associates, directors, employees may have an interest in the securities and/or companies mentioned herein.

Remember that.

Remember they accept no liability for any direct or indirect losses!

Of course they have since changed the wordings slightly.

  • All research is based on material compiled from data considered to be reliable at the time of writing. However, information and opinions expressed will be subject to change at short notice, and no part of this report is to be construed as an offer or solicitation of an offer to transact any securities or financial instruments whether referred to herein or otherwise. We do not accept any liability directly or indirectly that may arise from investment decision-making based on this report. The company, its directors, officers, employees and/or connected persons may periodically hold an interest and/or underwriting commitments in the securities mentioned.

So how?

Is the TARGET PRICE important or what is more important is the reasoning why the stock deserves such TARGET PRICE?

Of course, hackers would scream out loud!

Hindsight is simply story telling!

Here are some of the more recent ones.

Remember the JCY story? (Oops that passed a long time already yes?) 27th Aug 2010: Regarding JCY International

  • JCY earned some 207 million for its fy 2009. CIMB says times are good in 2010, so JCY should earn some 359 million! And 2011, JCY earnings will be even more super. JCY should earn some 441 million by then!

And JCY's Target Price of 2.68 was based on this projection. A projection that JCY should earn 441 million.

And the reality?

  • .... JCY's total 3 quarters so far is only 198.944 million. And to make matters worse, the earnings are declining each quarter. Would JCY even post a net earnings of 250 million for its fy 2010? I dunno. And what's CIMB's estimates again? 359 million for 2010 and 441 million for 2011!

Clearly, back in Aug 2010, one could clearly see that CIMB numbers were way too optimistic.

And sadly, JCY started missing... and the downgrade of earnings had to be made.... and with it ... the downgrade of Target Prices.

Do remember JCY has 2044 million shares!

Simple exercise for fun. Do you think JCY should trade at around 1.00?

Let's back track. For JCY to trade at 1.00 and at a PER of 12x (why 12x? Well that's what folks like CIMB had been using for JCY) JCY eps should be around 8.3 sen. And based on 2044 million shares, this would translate to an earnings of 169.652 million. Ok so far?

Is an earnings of 169.652 million possible for JCY?

JCY Q1 earnings is only 7.5 million only!!!! Can JCY's remaining 3 quarters earn some 162 million? Or an average of 54 million per quarter? From 7.5 million per quarter to 54 million per quarter?

Ok. How about a more recent example?

Take Perisai. Have you not heard people suggesting out loud that Perisai target price is 1.43?


Did you hear that?

Why 1.43?

Cos the anaylsts said so!


Seriously. Is the target price all that matters?

Or should one take the time and read how the anaylsts are reasoning why the stock is worth so much?

From this month's posting: Why Perisai Is Rated So High By The Local Analysts?

Let me paste what's written here again:

My comments: Again as stated before the potential is a mere USD25 per annum revenue. (revenue and not profit). I am also curious the statement 'NOT the same asset'. Look that asset is going to be 'refurbished' (Yes, going to be refurbished. The rig is not even fully converted yet! and yes, Perisai is buying a refurbished unit. A reconditioned unit.). So doesn't the 'refurbished' unit comes from the very same asset???

♦ Potential for upside. Our back-of-the-envelope calculation suggests net profit contribution from the charter to be around RM40-50m, vs. the FY10 reported net profit of RM10.3m and FY11 consensus net profit of RM30m (which excludes the Intan acquisition as well as this proposal). As this proposal is only expected to be completed in the 4Q11, the full-year impact would be in FY12, lifting the current consensus FY12 net profit estimate to around RM70-80m. Assuming 846m enlarged share capital, this suggests an FY12 EPS of 8.3-9.5 sen or a PER of 10.6x. Tentatively assuming a target PER of 15x, i.e. in line with our target for the market, this implies a fair value estimate of RM1.25-1.43/share.

My comments: RHB is now declaring that the NET PROFIT contribution from the charter works out to be RM 40-50 million and the very basis of their reasoning that Perisai should be worth around RM 1.25 to 1.43 per share.

Now that's their reasoning and based on their estimated earnings they reckon Perisai should be worth that high.

Simple question to ask is what if their estimate is way too optimistic?

Ah... why such a question?

Reasoning is simple also.

The higher the estimate the higher the assumed fair value is.


From my flawed mindset, I would ask the following questions...

The obvious glaring thing for me is that Perisai's own comments is that Garuda is only giving them a USD 25 million revenue per annum. To be exact, let me paste again.

  • 9) The expected revenue of USD25 million is based on the bareboat charter to be entered between the Target Company and GEM.

Using a slightly higher USD exchange rate conversion of 3.1 to the Ringgit, this would be about rm 77.5 million expected revenue per annum.

And is 'expected' revenue only. Sometimes the figure can be lower.

Now what's RHB estimated PROFIT? Let me quote them again:

  • Our back-of-the-envelope calculation suggests net profit contribution from the charter to be around RM40-50m,

rm 40-50 million per annum??

Take the lower number, 40 million.

So RHB is saying from a revenue of 77.5 million, the net profit contribution should be at least 40 million????


Isn't that an extremely profitable business?

But is the charter of a MOPU such a profitable business???

Is that possible?

Now the following document is posted by Perisai: PERISAI-announcement(290311).doc

  • The bareboat charter of MOPU business is a competitive industry, with other players operating in the Malaysian market. Competitive factors include price and quality of services as well as the quality and availability of MOPUs.

Those were Perisai's own words.

The bareboat charter of MOPU is a competitive industry!

If that's the case... how did RHB analyst come out with an estimate net profit contribution of at least rm 40 million??

Hey in terms of net profit margins, RHB is saying a net profit margin of 40/77.5 = 52%!!!!

A 52% net profit margin estimation when Perisai declared that "The bareboat charter of MOPU is a competitive industry"!

WOW! WOW! and WOW!

Think about that.

And the other silly question I would ask is if Garuda's earnings potential is good, ie 40-50 million per annum, why is Nagendram selling Garuda to Perisai for only 210 million????


Think about it. Is RHB estimate way too optimistic?

What if.... Perisai's earnings from this charter business is only worth say 10 million per annum. Adding in Intan Offshore possible earnings contributions and Perisai's own business, perhaps a 40 million net earnings is pssible.

Now the problem with a 40 million estimate, based on an extremely enlarged new share base of 845.791 million shares, this would work out to an eps of only 5 sen per share!

And get this... if I use a 15x multiple on Perisai, this would equate to rough estimate of only 75 sen!

Ok. Of course that's a flawed simple thinking.

However, you can play around the numbers yourself. Yes, PLEASE DON'T USE MY FLAWED ESTIMATE OF 40 MILLION! :=)

You could use a net profit estimate of 50 million. This would equate to an eps of only 6 sen!

What about CIMB Research? Here's a snap shot.

    • Perisai is paying US$70m (RM210m) in cash and shares for Garuda Energy (L) Ltd, owner of a jack-up rig that is being converted into a MOPU, which will be supplied to an oil major. We estimate that Garuda will contribute RM40m p.a. to Perisai’s bottomline effective 4Q11. In view of this, we raise our EPS forecasts by 25.0% for FY11, 76.8% for FY12 and 67.6% for FY13.


    CIMB also is using the estimate value of Rm 40 million!


    Ah.. perhaps their (RHB and CIMB) estimates are all spot on... and my posting is simply flawed!

    Yes, that is is very much possible but whatever it is, best you think about it.

    So how?

    Is the TARGET PRICE important or what is more important is the reasoning why the stock deserves such TARGET PRICE?


    Remnant 613 said...

    Guess it's a case of "pump and dump". Esp when the stocks in ref is losing money and has surged from under RM1...

    One look at current EPS would tell me if a report on a stock is worth checking out. Makes you wonder if ppl do employ some cow sense into investing and churning some basic numbers..?

    Doesn't need much sense to go figure out if OSK analyst or fund mgr is of top notch or just so so average.. Go check out their equity fund performance from March 2009 to March current.
    Then make yr own conclusion..!

    K C said...

    “Sometimes it’s helpful not to look at valuations too closely. Just blur your eye and say ‘I see a big future for these stocks’” Henry Blodget
    Extreme bullishness (but weak fundamentally) analysts reports such as those mentioned like Tinberwell, JCY, Perisai etc are the norms rather than exceptions. I used to think this was probably due to the conflict of interest with the analysts because I cannot believe analysts with their knowledge and huge advantage in information asymmetry can produce those reports. But I dare say now on top of that, most of them are purely incompetent.

    Mun Wai said...


    How far do you think QC is checked at research houses? (first at the analyst level n then the Head of Research)

    Disclaimer :
    This question is put forward SOLELY for sake of some cow knowledge :P

    Mun Wai said...

    A clip that certainly compliments your "buy call" in this post.

    See link :

    Moolah said...

    Mun Wai: Perhaps you might want to read some of these posts:

    Mun Wai said...

    Pardon me , I really can't relate these posts of yours to the question I asked. (QC v QL) ! L for lulus ?

    Arh.....Now a funky idea has come across my mind... What grass do you eat? LOL! Do I need to change my diet in order to gauge what you wanted to say? :)

    Moolah said...

    Pardon me but my I guess my the C in my computer is so super sexy that it appears as a L.

    Ok.. damn... I lied.

    I must have been drunk while reading your post.


    ( ps: let me think about it... )