How should you invest when the world is going to hell?

A few people commented to me that the market looks “volatile” & “dangerous” in the next few months and that we should wait and see before things get better.

Well, I understand how it might seem. The unrest in the Middle East, Libya, the Tsunami in Japan, the end of QE2 etc. The list goes on and on.

However, I would like to point out three problems with trying to predict the future.

Firstly, why didn’t you tell me this 3 months ago? Secondly, considering that you couldn’t predict the market 3 months ago, why would you be right this time round? And finally why on earth would the market be better 3 months later?

No matter what the media/newspaper/friends/books have you believe, very few people actually are able to predict the future with any degree of certainty that is useful to you or me. I would be extremely suspicious of anyone claiming to be able to do so in any capacity.

And the truth is, predicting the future is not a prerequisite of successful investing.

If your going to invest for the long term, through out the traditional definition of risk. Risk is not measured by beta, standard deviation etc.

Risk is the permanent loss of capital. 

My advice?

Take a moment to look through your analysis again if need be. Run through the calculations to make sure they make sense. Than, once your done, close your books and turn off the TV.

As Warren Buffett once said  -

Wall Street makes it money on activity. You make your money on inactivity.

Company Analysis of ComfortDelgro – Hit or Miss?

Famous for their blue & yellow Hyundai Taxis, ComfortDelGro (C52) is a household name to most Singaporeans. However, many will be surprised to learn that it is in fact one of the largest transport companies in the world. It has operations all around the globe – most notably in the United Kingdom, China & Australia.

2005 2006 2007 2008 2009
Revenue (S$’ Mil) 2497 2786 3013 3120 3052
Operating Expenses (S$’ Mil) 2192 2479 2676 2842 2702
Profit attributable to Shareholders               (S$’ Mil) 202 245 223 200 220
Return on Equity (ROE) 15.4% 17.6% 15.3% 13.2% 13.5%

 

The company has done reasonably well in the past five years considering the financial crisis (2007 -2010). Even though its core customer base in located in Singapore, it also does extensive business overseas.  It has for the past five years, delivered a solid ROE of at least greater than 13%, a definite plus point in my book.

2002 2003 2004 2005 2006 2007 2008 2009
Net Cash From Operating Activities              (S$’ Mil) 546 442 619 515 548 643 574 728
Capital Expenditures        (S$’ Mil) -380 -245 -363 -402 -386 -328 -351 -447
Average Captial Expenditures               (S$’ Mil) -348 -348 -348 -348 -378 -378 -378 -378
Free Cash Flow            (S$’ Mil) 198 94 271 167 170 265 196 350

 

Cash Flow Analysis of ComfortDelGro (2002 – 2009)

Net Cash from Operating Activities has been steadily increasing since 2002. Being a fairly capital intensive company, it ploughs back a significant portion of their cash back into capital expenditures. Free Cash Flow (Net Cash from Operating Activities – Captial Expenditures) is extremely healthy. Armed with a substantial war chest and healthy cash flows, the company has been making a string of acquisitions – the most recent being its attempted takeover of Swan Taxis Ltd in Perth.

Debt Analysis

2005 2006 2007 2008 2009
Shareholder Equity 1345 1441 1483 1557 1690
Total Assets 3,058 3,085 3,316 3,352 4,052
Financial Leverage (Total Assets/S.Equity) 2.27 2.14 2.24 2.15 2.40

 

As of 2009, ComfortDelGro has a financial leverage ratio of 2.4 – healthy by my standards. I do not foresee debt repayment to be a significant problem as the industry is relatively stable. Furthermore, strong cash flows help to facilitate interest and debt repayment for the foreseeable future.

Economic Moat Analysis

Despite the deregulation of the taxi industry in Singapore, ComfortDelGro continues to maintain its leadership status in the industry (63% as of 2009). Its subsidiaries, VICOM & SBS Transit also maintain similar market shares – a plus point. One of the biggest strength of ComfortDelGro is its sheer size and strong financial health. It enjoys significant economies of scales compared to its local competitors.

It must be noted however, that the transport industry (in my opinion) is highly competitive in nature. Consumers taking taxis tend not to have distinct preferences in the company of the cab they are flagging down.  Their competitive edge is further eroded overseas, where they have a much smaller foothold.

The Bear Case

Geographical Segment %
Singapore 56.7
UK/Ireland 24.5
China 9.3
Australia 9.1
Vietnam 0.3
Malaysia 0.1
Group 100.0

 

With local growth stagnating, ComfortDelGro has looked outwards to expand.  Despite the healthy growth of its businesses in China & Australia, the outlook is much more lackluster in the UK, Vietnam & Malaysia. As these are not main income contributors, I do not foresee a significant impact on its core business.  Rising fuel costs and currency translation effects will also continue to hamper their growth both locally and overseas.

Conclusion:

Despite the challenges ahead, I feel that ComfortDelGro will be able to leverage on its strong financial health and continue to expand overseas.  Potential investors should look forward to capital appreciation in the long run. Coupled with its dividend yield (about 3%), I feel that it remains an attractive investment at this point of time.

 

Free Cash Flow Part 1: Why it’s better than Net Profit!

Why Free Cash Flow?

In this post, I will discuss the benefits of using Free Cash Flow (FCF) instead of Net Profits to evaluate the worthiness of our potential investments.  FCF is simply Net Cash Provided by Operating Activities – Capital Expenditures. Companies with healthy FCF are able to pay dividends, acquire other companies and pay off their debts. Cash is the lifeblood of all companies, and without it, you can be sure that weren’t be around for very long.

I have included figures from the now defunct behemoth, Enron to illustrate my points.

Enron Financial Results Summary (1996-2000)

By all means, Enron appeared to be a fantastic company. Revenue had jumped seven-fold and net income had jumped two fold in a short span of five years! Pundits loved the company and the stock priced soared.

The Rise & Fall of Enron - Taken from "BBC Enron: Timeline"

Free Cash Flow on the other hand, tells us a vastly different tale:

Enron Financial Results Summary (1996 – 2000)

In four out of five years, the company was facing a massive outflow of cash. A tell-tale sign that something is amiss. Enron had burned through all its cash and still required a substantial amount of money to keep running.  Eventually, it was revealed that fraud was being perpetuated. Enron eventually closed its doors as it crumbled beneath its own weight.

If it doubt, always remember the old axiom: Cash, not profit is king!

Value Investing Philosophy

As part of a series of introductory posts, I decided that making clear my investment philosophy would best serve my readers (or lack of).  Drawing inspiration of Benjamin Graham and David Dodd, I follow a value based approach to investing. I have summarized the key tenets of my philosophy as:

Safety of Capital

“Rule No.1: Never Lose Money

Rule No.2: Never Forget Rule No. 1”

- Warren Buffett

Preservation of capital is of paramount importance to me. I am extremely rise adverse, and choose to invest only after making a substantial time and effort to run through my investment thoroughly.

Margin of Safety

Suppose you were an engineer building a bridge. You estimated that 150 tons of vehicles passed through its roads at any given time. How much weight would you design the bridge to withstand? 150 tons? I doubt it. 200 tons? Now we are getting somewhere. How about 400 tons just to be safe.  That’s more like it.

The additional weight is the margin of safety (MOS) that engineers give themselves in case their calculations turn out to be wrong. Similarly, the same applies to investments. Suppose you calculated that the intrinsic value of a company was $0.30 a share. How much would you pay for it? The buffer that exists between the Intrinsic Value and the actual price paid is the Margin of Safety. I will provide a more in-depth discussion on this in subsequent posts.

Take Time To Mark Out Your Circle of Competence

Circle of Competence

Understanding what you know and what you don’t is essential in getting your investments right.  Never buy into anything that you can’t understand, no matter how appealing or attractive it looks.  Despite my extensive effort, I have yet to figure out how to analyze financial companies like UOB or DBS; hence I have never considered investing in them. We all have our specific areas of expertise. Getting our circle of competence right will play great dividends in future investments.

Mr. Market

Mr. Market suffers from wild mood swings; he might be on a manic high one day and depressed the next. The most important thing to realize is that you are free to ignore him if you chose to do so. Treat him as your friend if need be, but always realize that he’s serving you and not the other way round.

In short, exploit the tendencies of the market to swing from extreme high to record low. The market is just like a pendulum swing from one side to the other. Accepting it as part of the business cycle will give you conviction when others forecast only doom and gloom.

PE Ratio of the S & P 500. Don't be a slave to the market - Exploit it to your advantage.

Do note that this list is not exhaustive. I do hope that it’s a useful guide to get you started.

Welcome to sgValueinvestments!

Merry Christmas everybody!

Over the coming months, I will be posting up articles about Value Investing in Singapore. Among the topics covered are:

  • Core Concepts of Value Investing
  • Reviews of Value Investing Resources
  • Detailed Analysis of Companies in Singapore
  • And more to come!

I draw a great deal of inspiration from the Value Investing legends: Benjamin Graham, Graham Dodd, Warren Buffett, Pat Dorsey and more. Full credit goes to them for paving the way for us. As Issac Newton once said – “If I have seen further it is only by standing on the shoulders of giants.”  To those that are willing the effort, the rewards are great. I still remember reading my copy of “The Intelligent Investor” as if it was yesterday.  Even though the book was first published in 1949, I still recommend it to those who are unacquainted with the subject. The simple truths that it espouses remain stunningly relevant even today.

Warren Buffett - Value Investing Legend

To those who are doubtful or cynical (and I don’t blame you), I implore you to explore the subject with an open eye. I have enclosed a link below, an article from a benefactor of Value Investing – Warren Buffett; I hope it will lend some credence to the subject if I have failed to persuade you of its merits.

The Superinvestors of Graham and Doddsvilles

This journey ahead is both intellectually fulfilling and emotionally rewarding. I wish you the best of luck and hope that you will enjoy it as much as I have!