Friday, 16 September 2016

Quarterly Result Commentary - Favelle Favco Berhad

Favco's quarterly results have mixture of both good and bad. Overall, we can see the management is making good progress with regards to profit generation (in terms of margin, not absolute) in a challenging environment. Here are some key takeaways:

- Comparing cumulative six months result with previous six months, the fund from operations decreased from RM 53.6m to RM 34.2m (margin decreased from approx. 27% to 21%). The free cash flow declined from RM 80m to RM 43.6m (margin decreased from approx. 40.3% to 26.2%). It is worth noted that the free cash flow generation of previous six months was boosted by positive change in working capital (60% higher than current six months) hence temporarily increase its free cash flow. Margin in double-digit range which is still significantly higher than its competitors.
- Order book declined from Q1 RM605m to RM571m (5.6% declined).
- Overall, the revenue declined was due to bad performance in foreign sales while partially offset by robust domestic demand.

- Despite the revenue declined by c. 16%, Favco managed to increase its profit (+15% compared to Q2 15) due to 1) better control over operating expense (down from 86% to 84%), 2) better profit contribution from associates and 3) low effective tax rate (down from 39% to 28%). It is worth noted that looking at six months cumulative results (instead of comparing individual quarter), it is still 23% lower than previous six month.
- Given its already low leverage, Favco's management decided to reduce its leverage further. Debt decreased from RM64m to RM28 (56% decreased). The justification could be its high cash holding which management attempts to cut unnecessary bank borrowing.
- Despite the debt repayment, cash went up by 9% in its recent quarter, from RM334m to RM365m.

To summarise, the outlook for Favco is neutral (short term) but positive in the medium term as we believe negative factors might dominate the positives for a while and infrastructure spending may be evident in the coming months in under-developed countries (AIIB approved $500million loans in June 2016). We believe that it would facilitate the already weak global economy by boosting spending on necessary developments which cranes manufacturers and rental companies are expected to benefit from such demand.

We are of the opinion that its low relative valuation provides a good investment opportunity with good upside potential (to recap, our relative valuation only focus on discount on multiple while ignoring the potential multiple expansion. Hence the upside potential could be higher but we are being conservative in our estimation). It is currently trading at close to its support, low PE ratio of around 6x, high cash holdings and good dividend yield (which currently the firm has good dividend coverage, we would assess the sustainability in its upcoming financials and report whether there is material change).

Feel free to comment and contact me with any contradictory views.

Thanks and Happy Trading,


Disclaimerthe views above are opinions based on facts and subjective judgements. We do not take any responsibility for any actions rely on the information discussed.

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