Friday, October 10, 2008

Ferro Trouble

Ferrochina announced very grimly news. Due to the current economic crisis, they are unable to repay part of its working capital loans amounting to about RMB 706 mil, which had become due and payable. As a result, further loan facilities and notes of about RMB 2,030 mil may potentially become due and payable. Another sum of working capital loans of RMB 2,493 mil may also become due and payable.

Ferro china is thus currently in active negotiations with its financial lenders to explore various options (including refinancing) to address its repayment obligations. If unsuccessful, they will not have sufficient cash to satisfy its financial obligations. In view of the liquidity issues which Ferro is facing, the Company has temporarily ceased its manufacturing operations in its factories located in Changshu City, Jiangsu, PRC and Changshu Riverside Industrial Park, Jiangsu, PRC.

Shares are suspended till further notice.

I wanted to see if I can spot anything before this news came out. I browsed through their 2HFY08 results:


------------------------------------2H08-------------2H07
Current ratio---------------------1.02--------------0.95
Quick ratio-----------------------0.64--------------0.62
Total debt/equity----------------130%------------106%


'000,000 RMB
Cash flow from operation----------385--------------(-137)
Cash flow from investing----------(949)-------------(478)
Cash flow from finance-------------710--------------676
Cash at end of period---------------125-------------0.757


Gross margins---------------------9.1%-------------9.5%
Net margins-----------------------6.4%-------------6.9%
Diluted EPS (RMB cts)-----------50.52------------35.12

ROE (half yr)----------------------6.3%-------------2.3%
Asset turnover--------------------0.43--------------0.16
Financial leverage------------------2.3---------------2.1
Net margins(%)--------------------6.4%-------------6.9%


With the benefit of hindsight, I can see that the total debt/equity is increasing drastically from one year ago. This is due to their higher borrowings. Quick ratio is not very good, being less than 1. Thought there is an improvement, the absolute value are not good. Do not always look at the trend, the figures itself matters as much. Neither is current ratio, which is hovering around 1. I admit in the past, I would never had paid much attention to these ratios. BUT it is exactly these ratios that made ferrochina unable to tide over their working capital needs! How am I to know from these ratios that ferro is has solvency issues?

We can also see from the cash flow that most of the net cash at the end of the accounting period is coming from the financing side. Cash flow from operations isn't contributing much. They seem to be expanding too fast, resulting in a huge outflow of cash from investing activities. This made them borrow more, which is a big problem as there are problems borrowing money from the current credit crisis. BUT how am I to know in advance it's going to have troubles without the benefit of hindsight? I'm as likely to gloss over it as the rest of the companies I own!

Ferro did issued two tranches of medium term notes, amounting to US$130 mil with 65 mil warrants attached. A lot of companies are doing that these days, or to issue scrips to conserve cash. Are they going to face the same situation as ferro too?

It is both very sickening and frightening...that whatever confidence one might have over the analysis of the statements might be just illusory. At worst, it's self deception. What happened to CIMB's outperform and target price of $2.44? To be fair, JP Morgan already mentioned Ferro. Look at my post on these troubled s-shares, esp the chart attached.

Be more vigilant, but how? Be careful, but how? Just buy big caps? Never buy s-shares again? Buy companies with long history? But big caps can fall too (look at AIG, LEH, Osim, Creative Tech...).

It shall soon pass.

11 comments :

Createwealth8888 said...

Hi Brolp,

I still trust Singapore GLC true blues. Temasek and GIC will step in to help during crisis

Sgbluechip said...

At current credit climate, it is better to pay prudent attention to credit ratios.

I remembered when I attended my accounting lessons, during financial analysis of a company, my lecturer reminded us constantly to look at the numbers in the "cash at bank" section.

He said that only this number at this section cannot be manipulated.

The rest of the numbers actually tell very little of the action behind the scenes.

As for S-chips, I still have reservations of their corporate governance. Hence, even at current pricing and climate, I am still looking a blue chips.

Btw, LP are you vested in FC?

la papillion said...

Hi SBC,

Thks for ur interesting insight on the 'cash at bank', from your lecturer. It's something new to me.

I'm not vested in ferro. It didn't pass my screening at all...the gross ,net margins and ROE are too low for me. Besides, I don't like companies that are besieged by raw materials prices. Hard to make a business.

Sgbluechip said...

Actually the S-REITs are also under financing pressures due to their high gearing ratios.

It is possible that some will inevitably unable to refinance their debts (e.g., allco reit) and be forced to sell some of their assets, bringing about more downward pressure on the prices of other REITs.

I am afraid there is more pain to come.

la papillion said...

Hi SBC,

That I definitely agree. Those who uses short term debts to finance their working capital needs are the ones in trouble.

I hope those s-shares I'm holding are alright. Holding hongguo, pac andes and china milk. Swiber is not s-shares, but is quite leveraged as well.

Derek said...

Lynch also regard "cash and cash items" as a very important component when analyzing a stock.

From what SBC mentioned, now I know that term cash must not be taken lightly. In times like this, cash is King.

Brendan Lee said...

Good analysis. I only invest in stocks that generate free cash flows, this is much more important now.

la papillion said...

Hi Derek and Brendan,

I think this episodes makes us more aware of the importance of financial stability. I used to not treat these ratios seriously too, until this hit came too close for me to feel uncomfortable.

It'll change my screening forever.

Brendan Lee said...

This crisis has increased my conviction that portfolio return is 80% beta + 20% alpha.

You can be a good stock picker, but your good stocks will still fall in this kind of market.

I will start buying when STI falls to 1500, or S&P500 falls to 800, which is not very far now.

Sgbluechip said...

The latest Edge magazine have a very good write up and interview with Swiber CEO. The issue of leverage was also brought up. LP, you might want to check it out.

la papillion said...

Hi SBC,

Thks for the info, I'll see if I can get a hold on that :)