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South Ocean Holdings Share Analysis |
14 November 2013 : My interest is usually piqued when directors start buying the shares of a small company. Since the 19th August Edward Pan has bought R659,000 worth of South Ocean Holdings shares, at prices varying from 127c to 155c per share. Mr Pan is the non-executive Deputy Chairman of South Ocean Holdings, having served as CEO from 2007 to 2011 - clearly a man who knows the business better than almost anybody else! Although, one does wonder why none of the other directors are climbing in with him. And I'm also concerned that there was a big seller at 150c/share.
However, Edward Pan is not the only knowledgeable shareholder buying - on the 12th November it was announced that Hong-Tai Electric Industrial Co had increased its stake in South Ocean Holdings to 28% of the total shares. Hong-Tai is a Taiwanese electrical cable company which assists South Ocean Electrical Wire with technical support.
South Ocean Holdings, through its subsidiaries:
manufactures & distributes low voltage electrical cables (via SOEW). They sell to wholesalers & distributors who supply the building & construction industries.
imports & distributes light fittings, lamps, electrical accessories (via Radiant Group). They have a footprint in many sub-saharan African countries.
owns property (via Anchor Park Investments) - SOEW's Alrode plant, SOH's Alrode head office & Radiant's warehouses, offices & showrooms in Johannesburg & Cape Town.
Procures business via SOH Calibre International, based in Hong Kong.
A key market for South Ocean Holdings is the residential property market.
The group's results to the 30th June 2013 were mediocre, partly as a result of an electricity supply problem experienced by South Ocean Electric Wire from February to April 2013. This has resulted in lower production than budgeted, increased production costs, increased scrap rates and decreased production efficiencies. The electrical supply problem has been resolved by the municipality replacing the electrical cables supplying the transformer. Production from April to June 2013 was as budgeted. SOEW's margin on revenue was only 3%, compared to an average historic margin of 6% since 1 January 2011. If historic margins had been achieved, EBITDA would have been some R12m higher.
Lighting revenue is cyclical, with more revenue in the 6 months to 31 December than in the 6 months to 30 June. "Management expects the historic seasonal trend to continue." However it does seem that Radiant is on a lower profit trajectory to previous years.
In the financial year to 31 December 2012 there was an impairment loss of Goodwill of R175m, which was recognised in operating expenses. The impairment charge arose as a result of declining profits in the Radiant CGU resulting from current market conditions and a disruption to the business due to the nationwide strike in September 2012. [On an annual basis an impairment is created, to the extent that the carrying amount of assets exceed their recoverable amounts. The risk with impairments is in the valuation - if you're carrying out a valuation based on owner earnings, and the owner earnings has been reduced by the value of the impairment, you'll probably be undervaluing the company (the impairment value itself reflects the decrease in value of the business)].
Very basically, SOEW buys copper and changes it into electrical cables. Changes in the price of copper are passed on to customers, and profits/losses are made on the stockpile of copper. At any one time they have a stockpile of copper in various forms. If the copper price increases this means that in addition to their normal profit margin, they make a further profit from the increase in the price of copper. However, if the copper price drops they make a loss. Management tries to keep inventory levels as low as possible to reduce the exposure to the copper price.
My estimate is that SOH turns over its inventory in very roughly 3 months. So, the inventory which is sold from July to December 2013 would have been bought from April to September 2013. A rough calculation indicates that the Rand copper price from July to September 2013 was roughly 5% higher than the Rand copper price in the previous 3 months. My very rough calcs indicate that there wouldn't have been much profit/loss in October/November from changes in the Rand copper price.
A red flag is the increase in the overdraft from R85m to R162m. However, SOH does say that "significant customers paid at the beginning of the month following this period".
5 September 2013 : Marc Hasenfuss draws attention to SOH's tangible NAV of 328c/share, and wonders why deep value managers aren't investing.
A broker report I read cites concerns about the dependence on a recovery in the construction & related sectors, dependence on commodity prices, poor cash generation, low ROE & poor interest cover; and recommends that investors avoid the share at the moment.
I found the impact of the copper price on past earnings difficult to analyse and the poor interest cover is a concern - although my conclusion was different, that these are reasons to buy less of the share than I would otherwise, rather than avoid it completely.
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