Super Group Ltd and why I dipped into it

 

“When a stock price falls, buy, don’t sell.” Warren Buffett

Buffett followed his own advice last year when he lost $2 billion in a matter of days after disappointing earnings reports drove down the prices of some of his biggest investments. But in general, his advice is to buy dependable long-term stocks in companies whose industry and business model you thoroughly understand.

As mentioned in my earlier post, I chose to add on to my position in Super Group despite the recent sharp drop in its share price. Basically, I used the dividends I received in May so far to buy these Super Group stocks.

Perhaps to recap, I have previously written about Super Group (read here, here, here, here, here and here).

So why did I do that? eg. Buy some lots in Super Group. The critic in me would ask. Well, a lame answer is probably be because I am reinvesting my dividend, what have I got to lose? (my dividend…) And a ‘lamer’ answer is I didn’t manage to buy Colex due to its low trading volume (although technically the Colex stock price compare favorably with the intrinsic value and PEG I have calculated).

 

1) First of all, the vulture in me likes to look at ‘fallen’ stars. I like stocks that are out of favour. To help with the margin of safety. Super Group was a super star growth stock at one time, but in recent years, the earnings have disappointed (esp. after it issued the bonus shares). The stock price got a boast after the better than expected earning results in Feb 2015, only to get shot back down recently due to the poor earning results.

 

2) Quarter Results

Ok, as any true blooded value investor would tell you, one must think long term, and should take min. 5 years results (or even 10 years results if available) to get a fair evaluation of a company. True. In my past posts I have looked at 5 years trend. Technically the Intrinsic Value is not lower than the Stock Price yet. Price was shot down – but not that down. Actually if one look deeper, the dividend yield & EPS 5 yrs CAGR have both deteriorated. At one time, dividend yield was 3.98, and EPS 5 yrs CAGR was 19.02, now it is 2.46 and 10.52 respectively. This will subsequently lower the intrinsic value and increase the PEG  (doing a quick calculation, trailing PEG = 20.43/(2.46+10.52) = 1.57). Even 5 yrs data are moving targets. (which is why Warren Buffett likes using 10 years data)

However, the neurotic part in me like to look deeper into the quarterly earnings, to see if there is indeed fundamental growth or deterioration. Well, the headlines may scream increase / decrease in revenue or net profit. However, I like to strip away factors such as one-off gains, non-recurring losses, non fundamental gains / losses (taxes, currency fluctuation beyond management’s control), to see if fundamentally, the company earnings have improved or not.

When I looked through the history of Super Group’s quarterly earning reports, I see more downs than ups. Even with the Up, eg. in item 6, it is due to a one off sale of  sale of the group’s property in Chin Bee crescent. However, in comparison, the recent 24% drop in the latest quarter is lesser than the 59% & 46% drop in Aug 2014 & Nov 2014. But that is little consolation, bad results are bad results after all.

• On 11 Nov 2013, Super Group reported their third quarter earnings which showed a 17% year-on-year decline in net profits (to S$18.7m). At one point, the shares were down 30.5% in the span of three days.
• On 24 Feb 2014, Super Group reported that net profit for the year rose 26% to S$100 million. Super Group saw its net profit for the fourth quarter rise 6 per cent to $22.6 million
• On 12 May 2014, Super Group reported its first quarter results which showed net profit slumped 19% year-on-year to S$18.6m partly due to higher foreign exchange gain of S$2.6 million seen last year as compared to S$0.2 million in the latest quarter
• On 11 Aug 2014, Super Group reported its second quarter results which showed net profit plunged 59% year on year to  to S$15 million. Due to the one-off gain that had occurred when the company sold its 35.3% interest in Sun Resources Holdings Pte Ltd in 2013.
• On 10 Nov 2014, Super Group reported its third quarter results which showed net profit fell 46% to $10.5 million due to a combination of cost pressure from raw materials, a higher composition of lower margin FI sales, additional cost for marketing, higher depreciation expense and the expiry of a tax incentive.
• On 27 Feb 2015, Super Group reported its fourth-quarter earnings for the year ended 31 December 2014, net profit was $26.8 million, up by 15% compared with the same quarter a year ago. Profit for the quarter was boosted by the sale of the group’s property in Chin Bee crescent. For the full year, cash flow from operations came in at $62 million with capital expenditures clocking in at $39.6 million. The low capex gave the F&B outfit $22.4 million in positive free cash flow, up from $15.4 million seen in 2013. Free cash flow for 2014 benefitted mainly from lower capex spending compared to 2013.
• On 12 May 2015, Super Group reported its fiscal first-quarter earnings. Profit attributable to shareholders was $13.6 million, down a hefty 24% when pitted against the same quarter a year ago. Cash flow from operations came in at $5.6 million with capital expenditures clocking in at $9.1 million. This puts the F&B outfit innegative free cash flow territory to the tune of $3.5 million, up from the negative free cash flow of $5.4 million seen a year ago.

If we zoom in to this particular 1Q15 earning report:

a) In comparison to last year first quarter earnings (read here):  The effective tax rate increased to 20% of profit before tax in 1Q15 from 10% in the previous reporting period mainly due to the expiry of tax incentive enjoyed by an overseas subsidiary in July 2014. As such, net profit decreased by 22% to S$14.6m. Despite the decline in net profit, EBITDA increased to S$24.6m as the Group continued to enhance its income generating capability.

So if we strip away the effect of tax, the earnings did improve (although a small one). (1Q15’s $24,550,000 vs 1Q14’s $24,454 ,000). The effect of Malaysia new GST requirement in April 2015 will probably weigh in on Super Group’s next quarter’s earning.

David Teo, Chairman and Managing Director of Super Group has also mentioned: “Despite lower net profit, the income generating capability of our integrated business model remained sound as evident in the increase in EBITDA [earnings before interest, taxes, depreciation and amortization] to S$24.6m for the first quarter of FY2015.”

Ok that is in comparison to the quarterly earnings (same period) a year ago. Let’s compare to the last quarter earnings (eg. 1Q15 vs 4Q14).

b) In comparison to fourth quarter 2014 earnings: 4Q14 profit was $25.9 million. As mentioned here, Net other income increased 275% to $9.0m mainly due to the S$6.5m gain on disposal of the Group’s property in Chin Bee Crescent, Singapore. If we remove the $6.5m gain, the net profit for 4Q14 will be $19.4m. And if we compare that 1Q15 profit of $13.6m, there is a drop of almost 30%. However normally we should compare the current quarter to last years same period quarter (as earnings differs ‘seasonally’). 1Q15 is a seasonally weaker quarter.

However, let’s look at the quarter’s profits between 4Q13 ($22.6m) and 1Q14 ($18.6m) – there is a drop of 18%. So actually the difference between 4Q and 1Q has worsen in 2015 (in comparison to 2014). However, one must factor in that the 1Q15’s 20% tax rate was higher than expected.

c) Interestingly, although there is much hype about the better profits in 4Q14 ($26.8m) – resulting in a big run up in share prices, if we remove the one-off gain of the sale of the group’s property in Chin Bee crescent ($6.5m), net profit for 4Q14 becomes only $20.3m. Net profit for the 4Q13 is $22.6 million. So if we compare 4Q14’s net profit to 4Q13’s net profit – there is actually a drop of approx. 10% without the one-off gain. Hmm.. the power of headline news.

 

3) Future growth

The BC segment is Super Group’s main pillar for growth in the future, and the FI business exists to compliment the BC segment. However, Branded Consumer (“BC”) sales declined 5% YoY to S$84.2m in 1Q15 as lower sales into the Eastern Europe and the Southeast Asia markets, in particular the Philippines and Malaysia, offset higher sales into East Asia. Meanwhile, Food Ingredients (“FI”) sales rose 4% YoY to S$37.4m in 1Q15 from higher sales into the Southeast Asia markets.

There is no clear signal on Super Group recovery (esp. in the BC segment). No new products were launched in 1Q. However, perhaps as mentioned in Maybank’s recent report, 2H of 2015 will see more new product launches (read here). I would like to be surprised on the upside (I mean what could be worse right? —-> continual of having no new products or the new products bombed. :p).

 

4) Free Cash Flow

To say the least, FCF is lumpy. However, there is an overall improvement through the years.

 

Well, the business in which Super Group is in, is not an easy one. The 1Q15 results are far from perfect. However, if we look deeper there are bright spots such as better EBITDA, and also questions on the lack of new products in 1Q15 (and anticipation of new products in 2H).

Ultimately, I feel in the long run, the effect of one-off gains, tax, currency fluctuations will have a lesser effects on the earnings (or rather I choose to not consider them too much in the fundamentals of the company financials). Some may argue that currency fluctuations (forex earnings) if well managed can be beneficial to the earnings of the company (but it is too macro-economics for my evaluation). Similarly I treat the past political chaos in Thailand, drop in Malaysia / Indonesia currency vs Sing dollar due to Crude Oil prices, Malaysia 6% GST, drop in Myanmar’s kyat in April, prices in CPO, coffee, sugar, etc as distractions. I can’t predict these, and don’t intend to.

It is the ability to have a brand (moat) and good products that will determine Super Group’s future. A wide geographical diversification and good management is also important.