Thursday, February 28, 2008


Had this company for a while, but this is the first time I did a closer look at their financial statements. From the press release, it seems that Yongnam had a good result. A closer look should be able to see if this is really true.

Cost of goods (% to revenue)------------85.0%-----------------82.3%-------
Gross margin------------------------------15.0%-----------------17.7%--------
Net margins (include one off gains)---------3.5%------------------14.2%--------
Net margins (exclude one off gains)---------3.5%------------------6.9%---------

EPS (cents, fully diluted)-------------------0.65--------------------2.03---------

First thing I noticed is that the gross margin is rather low. I guess that’s the kind of margin one will get from a construction firm. I need to do a comparative study between players in the industry to get a clearer view of this. Yongnam had a write-back of impairment in respet of an investment property, resulting in a one-of gain of $12,774,000. Discounting that, net margins improved from 3.5% in FY06 to 6.9% in FY07.

Second thing I noticed is that the ROE varies wildly from year to year. Some years is NA (as there are negative earnings), some years have 400% over. Inherently unstable business, due to the cyclical nature of the industry, I suppose.

Another surprise for me…I didn’t know that Yongnam is still having accumulated losses. Losses had been reduced from $26.7 mil to $1.89 mil in FY07. This reminds me of Aztech since they also had been reducing their accumulated losses over the years. Something bad must have happened in the past to make Yongnam like that. If I’ve known earlier, this would be a minus point for me.

From the balance sheet, I noticed that yongnam’s short term borrowings had dropped from 35 mil to 15.7 mil in FY07, while long term loans increased from 43.9 mil to 75 mil in FY07. According to the management, this is due to them securing a syndicated loan which was used to refinance existing borrowings, as well as to further working capital.

Yongnam listed a few points could grow their revenue and margins in the future:

1. A $14 billion plan in Singapore to improve the country’s road infrastructure in the coming years, including the construction of the marina coastal expressway, Thomson MRT and the Eastern Region MRT line. These major infrastructure works will surely need steel structures. All the underground structures will need such steel struts that Yongnam provides, if I still remember my engineering foundation.

2. Looking for growth opportunities in Middle east, especially Dubai since Yongnam has established a strong foothold in there with the Dubai Metro Rail project. Looking for more growth opportunities in India too.

3. Yongnam’s order book as at 31 Dec 2007 amounted to $162 million compared to $147 million as at 31 Dec 2006. Without counting the writeback impairment of 12.8 million, Yongnam’s FY07 net profit is $12.0 million. Assuming a net margin in FY08 of 6% (compared to 6.9% margins in FY07), this $162 million order will translate into a net earnings of $9.72 million. An excess of another 2.28 million (12 - 9.72 = 2.28), or an equivalent total contract size of $38 million will make the net earings equal to FY07 (without the write back of 12.8 million)

If we are to include the write back, net earnings for FY07 is $24.8 million. Again, based on a net margin of 6%, Yongnam need to cover up a shortfall of $15.1 million in net earnings or an equivalent contract size of $251 million in order to rival FY07 net earnings.

4. Their steel fabrication plant in M’sia is scheduled to commence operation by the first half of FY2008. By then, I should expect their margins to improve. A more comforting thought will be that their steel strutting business will grow even more, which is exactly what the management had planned. It’s good that Yongnam identified their strengths and work on leveraging it to exert a competitive advantage in this cutthroat business. Setting a steel fabrication plant should lower down the cost (I hope!).

There are still some contracts for the IR which is not awarded yet. What is the contract amount that is still up for grabs? If we know the amount, we can roughly see if Yongnam net earnings will be more or less than FY07 based on IR contracts alone. It’ll be excellent if Yongnam can derive more earnings from overseas then from Singapore. Let’s take a look at their segmented results:

For FY06
Revenue (% to total)----------83.5%------------2.9%------------11.3%----------
Margin --------------------------9.5%-------------26.7%----------NA(neg earnings)-

For FY07
Revenue (% to total)-------------62.3%------------37.6%------------0%------------
Margin ----------------------------61.7%-----------18.6%------------0%-------------

As can be seen, there is a huge range of margins derived from the same place at different periods. Construction is really a hard business to place a value on, since their business variables are volatile and numerous. Thus order book really doesn’t mean anything as the margins can change drastically, depending on the conditions of the actual site to work on. There doesn’t seem to be a consistent pattern to base the revenue and the margins from, and hence I shall refrain from doing so too. If I ever do a valuation of construction firm, I must bear this in mind – the inherent instability of the industry will require a huge margin of safety and an equally conservative estimate of all the business variables.

Horror of horrors. I did a conservative estimate of Yongnam based on its net tangible assets (net assets – inventories – intangibles), and found that its NTA is only 8.09 cts. Okay, maybe steel materials can still sell for some value. Let’s give Yongnam a break and value the steel materials that it’s holding at book value, so its NAV will be 8.93 cts. If I assume that Yongam’s forward looking earnings in FY08 is the same as the FY07 (I take it as $24.8 million, including the writeback), applying a net margin of 7% will give me a forward EPS of 0.143 cts.

Adding together gives me a value of 9.1 cts of $0.090. Even if I double FY08 earnings, my value will be slightly north of $0.092. How about 10 times earnings for FY08 from FY07? I get around $0.104 – still a far cry from the present price of $0.245. How the hell did Yongnam go up to 50 cts in the past? My goodness…and I bought at 34.5 cts and 43.5 cts pre-warrants issue. Atlas, the dangers of not knowing the value of what you’re buying.


Musicwhiz said...

Hi LP,

Wow, a good bit of heavy analysis you did on your blog, and sorry I have not had time to read it as I was in China on a biz trip and only just back this evening.

But rest assured I will comment on YN, Ossia and Old Chang Kee. Just small comments since I did not have the time to run through their biz model.

As we did discuss before, time is always a problem....hahah


la papillion said...

Hi mw,

Thks for even wanting to read it in the first place :) Every little comment will help me get better, so pls do so when you're free :)

You might want to read a little more on Ossia, especially the comments by Yong. He's an analyst so he provided me with some good insights.

Have a good rest from your trip back, Mw :)

Musicwhiz said...

Hello LP,

2 comments on your Yongnam analysis (which I must say is comprehensive and quite excellent !).

1) Margins for construction business have always been volatile. This is because of fluctuating material costs like sand and cement which can significantly add to the cost of a project, so budgets are quite useless unless you have a crystal ball to look into the future. This is one reason why I avoid construction - due to uncertain margins and no earnings clarity. This is just a personal view though.

2) YN had a mound of accumulated losses due to the 10-year construction slump starting from 1996 to about 2006. In fact, it was only with the announcement of the IR did construction get a jab in the arm and suddenly all construction and property companies are in the spotlight (note CSC, Lian Beng, Lum Chang etc). Thus, I feel people are getting excited even before seeing the earnings (i.e. counting the chicks before they hatch). Of course, if it's for punting it's fine; but for investing, it can be risky not knowing what you are buying and the value of the assets you are purchasing.

To end off, I feel that YN does have potential to clinch more projects; the uncertainty is how consistently it can build up its order book and its margins. These are 2 major factors which are preventing me from "leaping" into the construction industry.