(Nov 11): Which companies could benefit if the US-China trade war ends next week, next month or next year? A quick screening of Singapore Exchange-listed manufacturing companies throws up some interesting undervalued names — these companies have languished because of the impact of the trade war. Top of the list is Spindex Industries, which attracts no analyst coverage. Two other stocks Frencken and Valuetronics come lower in the rankings.
Thinly traded Spindex is up 7.3% this year. On Aug 26, the company declared a dividend of 3.3 cents a share, with the stock going ex-dividend on Nov 4. Spindex is a precision engineering manufacturer specialising in turning, machining, grinding, surface treatments and mechanical sub-assemblies. Its business divisions — which comprise printing and imaging; automotive; industrial and power tools; and consumer lifestyle and appliances — produce components that are used in a wide variety of daily appliances such as inkjet printers, washing machines, power drills and cars.
The company has a market cap of $110.2 million and a public float of 25%. Its major shareholder, Hong Wei Holdings, tried to privatise Spindex in March 2017 at 85 cents a share.
Interestingly, Spindex has very little debt and is trading at a small discount to its net asset value (NAV) and net tangible asset (NTA) of $1.06 a share. Based on a discounted assets analysis, which discounts the valuations in the balance sheet by an average of 11.5%, the company’s valuation works out to 91 cents, suggesting that the downside in the event that the trade war worsens is limited. On the other hand, there are signs that the trade war could be resolved if the US lifts all its tariffs on Chinese imports and China promises to buy more agricultural products from the US.
To be sure, Spindex is negatively affected by the trade war. Specifically, greater trade uncertainties have led to slowing demand and pricing pressures from Spindex’s customers, and therefore the company remains cautious about its business outlook for FY2020. To improve efficiency and man- age costs to enhance long-term competitiveness, Spindex has purchased leasehold land in China and Vietnam worth $5.8 million in total for the construction of office buildings and factories. The new premises should enhance Spindex’s operating flexibility.
Yields for Spindex are much more attractive than the risk-free rate and its dividend yield is 3.5% (see Chart 1). What differentiates Spindex from its regional peers is its enterprise value-to-earnings before interest, taxes, depreciation and amortisation (EV/ Ebitda) multiple of just 2.4 times compared with the average of 5.8 times for manufacturing stocks.
Given that the company lacks analyst coverage, we believe Spindex is undervalued. It has an intrinsic value of between $1.15 and $1.21 using a discounted cash flow analysis; the stock is trading at a just 0.83 times its valuation of $1.15.
Frencken pressured by presence of Jho Low’s family
Investors like liquidity, that is, stocks that can be bought and sold with ease, and have good cash flow, healthy current ratios and high interest coverage. Frencken ticks these boxes: It has a current ratio of 1.8 times, net gearing of just 0.6% and a healthy interest coverage ratio of 17.3 times. The company is attractive on the yield front versus the risk-free rate (see Chart 2). Its dividend yield is around 3%, which is reasonably attractive to most investors.
Frencken has an NAV of 64 cents a share and an NTA of 60 cents a share. A discounted asset analysis based on an average discount of 12.1% values the company at 51 cents. The stock is trading at a premium to both its NAV and NTA.
Frencken operates two main business divisions — mechatronics and integrated manufacturing services (IMS) — and is geographically diversified across more than 10 countries. The company expects the macroeconomic backdrop to remain challenging over the next six months, owing to continued uncertainties over the global trade environment and the cyclical downturn in the semiconductor industry. However, over the long term, it believes the global technology sector and the company itself will benefit from positive market trends in cloud computing, big data, artificial intelligence and the internet of things (IOT). Analysts are upbeat about Frencken’s prospects, and have a consensus price target of $0.85, representing an 18.1% upside from its current price of $0.72, according to Bloomberg.
The problem with Frencken is selling pressure because of the presence of a major shareholder who plans to divest its stake — the family of Low Taek Jho, better known as Jho Low. Low’s father, Low Hock Peng, and uncle, Low Heang Thong, owned stakes of 1.47% and 6.34% respectively in the company as at March 14. The fugitive financier is fighting extradition to Malaysia over issues associated with 1Malaysia Development Bhd (1MDB).
Investors optimistic but Valuetronics overvalued
Based on a discounted asset analysis, with assets discounted by an average of 12.3%, Valuetronics Holdings is valued at just 42 cents compared with the company’s share price of 70 cents. Its book value as at June 30 stood at 48 cents per share.
On the other hand investors could be placing a premium on Valuetronics because it is dividend-paying and in a net-cash position with 51% of its total assets in cash. Its current ratio of 2 is in the healthy range. Dividend yield is currently at 6.2% (see Chart 3); it has ranged from 4.2% to 11.9% over the past 11 years. The company’s dividend policy is to pay out 30% to 50% of its net profits.
Essentially, Valuetronics is an integrated electronics manufacturing services (EMS) provider. The company mainly provides design, engineering, manufacturing and supply chain support services to its clients and partners.
In 1QFY2020 (three months ended June 30), North America; China and Asia-Pacific; and Europe contributed 44.5%, 38.1% and 17.4% respectively to its revenue.
Not surprisingly, Valuetronics is adversely affected by the trade war between the US and China; it has said its operations are likely to be negatively affected over the next few months. For its most recent financial quarter (1QFY2020), around half of the Group’s US shipment from China was subject to a 25% tariff imposed on its customers. However, its customers are deploying diversified procurement strategies, such as assembling their products outside China, to mitigate the adverse impact of the tariffs. Valuetronics’ Vietnam expansion plan, which was implemented in June 2019, is progressing according to plan, and the company expects to stay profitable for the financial year.
Analysts are mildly positive about Valuetronics, and have a price target of $0.75, which is a 7.2% upside from its current price of $0.70, according to Bloomberg.
Price growth versus value growth: Valuetronics looks rich
Charts 1 to 3 show the price growth of Spindex Industries, Frencken Group and Valuetronics Holdings against their weighted value growth across five periods. These five periods are 15 years, 10 years, five years, three years and one year. Ideally, for a company to be attractive, the price has to be cheap but the value must be substantial — and a chart with the weighted value growth more than the price growth will reflect this.
Therefore, it is not the shape of the curve but the levels at which the charts are at. Spindex’s value growth have weighted metrics such as net profit, retained earnings and equity, operating cash flow and free cash flow — over the five periods is higher than its price growth. This implies undervaluation. The indicator is not a forward-looking one; over the last five periods, weighted value has grown by an average of 17.7%.
For Frencken, both value growth and price growth have risen in the past five years. However, price growth has outpaced value growth. In addition, selling pressure could emerge with major shareholders who are members of fugitive financier Jho Low’s immediate family likely to divest their stake.
Based on our price-value analysis, Valuetronics’ price has grown a lot more in the past five years than its valuation, suggesting that investors are a lot more optimistic about its prospects than the company has been able to deliver. If this trend persists, Valuetronics could be overvalued.
