Weekend notes: Property - the next big play, Peso to hit new highs

Property - the next big play

Property stocks are set to take center stage. After mining, the property sector staged the biggest comeback since the market hit bottom last August 17. The PSE property index rose by 27% compared to the 24% increase in the PSEi Index. On the other hand, the mining index rose by 66.3% during the same period.

Mining stocks rose on the back of the decision of the U.S. Federal Reserve (US Fed) to cut rates by 50 basis points to 4.75%. The move led to a weaker US Dollar which boosted the value of gold and other base metals. Analysts term this as "asset reflation". In other words, prices of assets are moving inversely proportional to the value of US Dollar.

The "asset reflation" that we saw in the mining sector should spillover to the property sector as well. Real estate assets are no different from gold and other base metals. Real estate values will also move inversely proportional to the value of US Dollar. The Hong Kong market reached new highs in the past month on the back of an expected property revaluation. The Hang Seng Index (HSI) is heavy on property counters.

Hong Kong is viewed as the proxy for the property sector in the region. In other words, the "property revaluation" will eventually spillover to the rest of the region. Hong Kong essentially triggered the property bull-run in the early 90s.

Locally, the crucial event to watch out is how the bidding for the remaining lots in Fort Bonifacio pans out. The government is set to bid out 1.2-hectare lot in Fort Bonifacio Global City for a minimum bid price of P160k per square meter. Already, 8 bidders have signified interest. My gut feel is that the bid will likely surprise on the upside.

In 1996, lots in Global City sold for P168,000.0 or US$6,350.0; based on P26.5:US$1.0. Fast forward to 2007, the P160,000.0 is equivalent to US$3,550.0 at current exchange rate. So, in effect, the asking price is still 44% below what it was 10 years ago. To approximate the value paid in 1996, price per square meter should go up to P292,000.0. This leaves a lot of room for upside.

I have written a lot about the upcoming property boom. However, the most compelling argument is that property prices are nowhere near the levels we saw in 1996 despite that fact that per-capita income has doubled to US$1,400 while the PSEi index has climbed back to the 1997 levels. Everything else equal, property values should follow.

As mentioned, Fil-Estate (LND-P1.22) is my top-pick. The expected property revaluation will further enhance the value of LND considering that it owns close to 3,000 hectares of landbank. Based on its current market capitalization of P3.5bn, the implied value of its landbank is just P1,166.0 per square meter. This is way "too cheap" considering the prospects of asset revaluation and an ongoing turnaround plan. To date, LND has arranged close to P2.5bn worth of financing to complete its various projects.

I am also looking closely at SM Dev't Corporation (SMDC - P4.30). From the looks of it, the SM group will likely consolidate all its property and tourism ventures under SMDC. After successfully merging Equitable PCI Bank with Banco de Oro (BDO - P56.0) in 2007, it would not be a surprise to see SM Group make a major move in 2008 to restructure its property and tourism assets under one listed vehicle. Already, Henry Sy has mentioned that the next big thing for the country is tourism. Simply put it, follow where the billions are going.


Peso to hit new highs

A leading investment bank has predicted that the P/US$ rate will hit P42.0 to US$1.0 by end of the year.

The best gauge on where the P/US$ rate is heading is to look at the movement of Philippine Long Distance Telephone Co. (TEL - P2,950.0). TEL, the largest Philippine company by market capitalization, is a proxy for foreign funds flow.PLDT rose by 30% since it hit bottom last August 17. Typically, the P/US$ rate captures 60% of the movement of TEL shares. So base on this, the P/US$ will likely appreciate by 18% from its recent low of P47.00 to US$1.0, to around P40.0.

TEL is the only PSEi component stock that made new highs after the market rout. There is no material change in the fundamentals of PLDT. The move merely reflects a looming Price Earnings Ratio (PER) expansion. TEL is currently trading at 16x PER to 12/07 earnings - its highest level in more than 5 years. So most likely, other PSEi component stocks will follow.

For comments, you can send me an email at jack.galt888@gmail.com

Weekend Notes: Another "P" for Jollibee (JFC-P52.0), The GEO Grace (GEO - P1.96) phenomenon

Another "P" For JFC

JFC added another "P" in its "4P" metrics.

Last Friday, JFC announced that it will acquire Beijing based Hongzhongyuan chain of congee restaurants. JFC is paying US$50.5m for the acquisition. In a disclosure, the company said that Hongzhongyuan operates 33 stores and generates close to US$24.5m in sales. It also mentioned that Hongzhongyuan is "highly profitable" and debt-free. This is the second acquisition of JFC in P.R. China. In 2004, JFC paid US$22.5m for a controlling stake in Shanghai-based Yonghe King. This brings JFC total store count in P.R. China to 138.

The acquisition should bolster the potential of JFC. China is a vast market for JFC to grow. Each province in China can potentially be as big as JFC's reach in the Philippines. I am confident that JFC can replicate its success in Yonghe King. In 2005, Business Week named Yonghe King as "Top 10 Most Valuable Brand Franchise" in China. From how things are shaping, JFC will likely develop a "home-grown" franchise for each province in China to suit the local taste.

As a "4P" stock, the value of JFC should approximate its average growth prospects in the next 3 years. JFC is currently trading at 17.0x PER. To my mind, JFC should trade at around 20-22x PER.

The GEO phenomenon

Is GEO a "hype" or a "reality"?

GEO has a market capitalization of P5.0bn. On paper, it has P500m in cash that was generated from the recent rights offering and P173.0m worth of mining claims. For 2008, GEO expects to generate US$70m in revenues and US$20m in net income. So from a valuation perspective, GEO trades at 7.4x and 7.8x Price to Assets (P/A) and Price to Earnings (PER) respectively based on 2008 forecast.

Thus at these levels, valuations look "hyped-up" and the "reality" of seeing any earnings is still months away. Who knows what will happen to commodity prices in 2008.

However, more than the argument on "hype" or "reality"; GEO is a phenomenon that we cannot ignore for as long as the commodity boom stays its course. GEO is a proxy play on the renaissance of the local mining industry. Based on estimates, the sector is expected to generate US$6.0bn revenues by 2010 or roughly 10x what it was three years ago. In 2004, total mineral output reached a mere US$650m. What is happening to GEO is a microcosm of the turnaround in the mining sector. Despite the huge run-up of mining stocks, the combined market capitalization of the sector is "just" P85.0bn. This suggests that mining is still underrepresented in the market. For comparison, Megaworld (MEG - P3.20) has a market capitalization of P60.0bn.

Looking back, the "GEO phenomenon" is not an aberration. It is a reality that we saw during past booms - internet, property, telecoms, emerging markets etc. At the height of the internet boom, 2 stocks that best reflect this phenomenon are College Marketing Group, Inc. (CMGI) and Softbank Capital (SB). Both companies saw its market value surge from less than US$1.0bn to almost US$140.0bn. CMGI and Softbank seeds start-ups that will eventually become major players in their markets. Some notable names include Yahoo, eTrade, Snapfish and Geocities.

So, beyond "hype" or "reality"; investors should learn to live with the phenomenon.

Quote of the week

Henry Sy: You cannot just depend on what is happening; you should always be ahead. Many of the things that we do are not according to market trends

Deconstructing Henry Sy, The Asset, July/Aug 2007 Issue

For comments, you can send me an email at jack.galt888@gmail.com

"4Ps" - Finding the next Starbucks in the Philippines

Last week I wrote about the "4Ps" - great People, leading Products, huge Potential and Predictability, that was coined by Michael Moe, founder of Think Equity Partner as a basis for finding the next winners. To know more about the "4Ps", please log on to www.findingthenextstarbucks.com.

I received several emails asking me if the "4P" methodology is applicable to Philippine companies. Obviously, the answer is YES. Two companies that come to my mind are Jollibee and SM Prime Holdings. Let's look back and see how these 2 stocks performed since it went public.

Jollibee (JFC - P52.0) was listed in 1993. Its market capitalization upon listing is P3.3bn. Systemwide sales at that time was a "mere" P4.1bn. Today the company generates P34.0bn in revenues with systemwide sales reaching P44.0bn - roughly 10x from where it was 14 years ago. Its current market capitalization is P52.1bn. Earnings, on the other hand is expected to hit P2.5bn this year or 8.6x more than the P290m it reported in 1993.

So, if you kept your Jollibee shares since IPO, your P6.0; would have grown 9x to P52.0. On top of that, the company paid out P2.35 in cash dividend which further reduces your investment cost to P3.65 per share.

As a budding analyst, Jollibee was one of the first companies I covered. I was fortunate to have a one-on-one interview with its founder, Tony Tan Caktiong. Skeptics were saying that the Philippines cannot support the growth that its founder has set. At that time, there are less than 100 Jollibee sores. I remember vividly Mr. Tan Caktiong saying that he envisioned Jollibee to have 500 stores in 10 years. Today, after 14 years, Jollibee has a total of 1,559 stores - outpacing even the target set by Mr. Tan Caktiong.

So let's do the "4P" test on Jollibee.

First, great people. You can never argue with a visionary. Mr. Tan Caktiong set out to build Jollibee into the biggest quick service chain in the country. He has the distinction of beating US fastfood giant McDonald's in its own ballgame. Second, leading product. "Chicken Joy" is the top selling fastfood item in the country. It is something that Filipinos all over the world craves for. In fact, "Chicken Joy" brought Jollibee to where it is now. Third, huge potential. Jollibee leveraged its expertise in the quick service sector by expanding into other sub-segments of the market and eventually being leader at that. It owns the number one Chinese fastfood chain - Chowking, the largest pizza chain - Greenwich Pizza and the biggest bakery outlet - Red Ribbon. With the way things are going, Jollibee can more than double its current size to 5,000 stores by 2012. Fourth, predictability. It is very easy to estimate the earnings of Jollibee. Drivers for earnings growth are clear - revenue per outlet multiplied by number of stores. For the past 14 years, the company has consistently delivered double digit earnings and revenue growth. Based on current trend, earnings for Jollibee can reach the P5.0bn mark in the next 5 years.

SM Prime (SMPH - P11.0) was listed in 1994. Its market capitalization upon listing was P29.3bn. Total revenues was P2.2bn with net income reaching P1.0bn. There were only 3 SM Malls operating that time. During its IPO, SMPH was priced at a lofty 29x PER. Analyst said it was overvalued. However, Mr. Henry Sy stuck to his vision and mentioned that the growth potential of SMPH far outweighs its lofty valuations. During the roadshow, Mr. Sy mentioned that SM Malls will be present in all major cities in he Philippines and promised that earnings will grow by at least P500m every year. People doubted but the taipan persisted.

Today, SMPH generates P15.0bn in revenues with earnings expected to reach P6.0bn. By year end, there will be 31 SM Malls nationwide. On the other hand, its market capitalization has reached P130.0bn. From its listing, shares of SMPH have risen from dividend adjusted P2.36 per share to P11.50 - or roughly 400% return. During the same period, the company paid out close to P2.0 in cash dividend.

So let's do the "4P" test on SMPH.

First, great people. No one can argue with the richest man in the Philippines. Mr. Henry Sy set out to build SMPH into the biggest retailing concern in the Philippines. No doubt, he is Sam Walton's counterpart in the Philippines. Second, leading product. SM Mall has the largest retail space in the country and commands a 30% price premium over its nearest competitor. I guess, the 50% net margin is a testament to this leadership. Third, huge potential. Until such time that SM Mall is present in all the major cities in the Philippines, skeptics should stop asking how SMPH can grow its revenue. The 31 malls in its portfolio today, can potentially be 100 malls in 10 years. Fourth, predictability. Like Jollibee, earnings drivers for SMPH are clear - revenue per sqm. multiplied by the number of retails space. For the past 13 years, earnings for SMPH has grown by an average of 25% p.a.

No doubt SMPH and JFC are "4P" stocks that investors should own. Incidentally, Henry Sy is the biggest shareholder in JFC outside the Tan family. It shows that Mr. Sy practices the "4P" principle in his investments as well.

For comments, you can send me an email at jack.galt888@gmail.com

Technicals vs. Fundamentals: It's all about risk management

One of the most debated topic in stock investing is whether to use technical or fundamental analysis. To me, its a non-issue; both analysis are as important. In simple language, technical analysis tells us when to buy whilst fundamental analysis tells us what to buy. Investors should use both in coming up with their investment decisions. In fact, even "purist" on either sides cannot ignore the fact that they use both analysis in arriving at their conclusions. Investors who use fundamental analysis will ultimately based his/her decision on certain fair value assumptions which is based on price. On the other hand, investors who use technical analysis will refer to certain fundamental reasons - be it a hot tip, rumors, earnings news etc. in choosing which stock to chart.

Investing is not an exact science. No system can predict with certainty which way a stock price will move. It boils down to probability. The most important thing, to my mind, is how risk is managed. As a regular reader of Finance Manila , I suggest to keep a close watch on the posts of agent_tracker and Mark T. Market. These guys are good in presenting their arguments using both technical and fundamental analysis.

Previously, I talked about how I apply the "rule of 3" in allocating my portfolio into three groups of stocks based on expected returns: speculative, long term and patient bets. Please read: Rule of 3 I also follow the "rule of 3" in building my stock position. As a rule, I buy stocks in quantities that are divisible by 3. This allows me to divide my holdings into three, 1/3 positions. The first 1/3 is my "trading" position whilst the other 1/3s are my "core" and "insurance" positions. The trading position is for me to trade out the price range whilst waiting for the price to go up. By doing so, it helps me lower my average cost and at the same time hedge my bets just in case things go wrong. On the other hand, my "core position" is what I long until the stock reaches my target price. Finally, my "insurance position" is what I keep after I sell my core and trading positions. Most likely, by that time, the "insurance position" has zero cost in my books. So whatever happens, I have already realized the full benefit of my position.

Thus, by combining technical and fundamental analysis, one gets to manage portfolio risk. In the end, it is not about winning all the time but more about winning most of the time that matters.

For comments, you can send me an email at jack.galt888@gmail.com

Weekend Notes: Gold, Banking sector + The 4 Ps

Gold at US$1,000?

It seems that gold is heading towards US$1,000.0 based on its recent price action. For the first time this year, gold closed above US$700.0. A chartist friend of mine told me over the weekend that a major breakout is in the works for as long as the central banks would refrain from selling gold in the open market.

I totally agree with my friend's observation. There are two things that will trigger a breakout. First, the US Federal Reserve will likely cut interest rates by more than 75 basis points in. Based on the futures number, the expectation is for a 25-50 basis points cut in overnight borrowing rate. The US job report for august - which saw the labor market shrunk by 4,000 jobs, will likely fuel this move. This is the first time since 2003 that the US economy registered negative job growth. Second, holdings of US treasury bonds by government and central banks at US Federal Reserve fell by 3.8%, the steepest decline since 1992. Please read: Treasury Rally May Falter These two trends will likely see the US dollar trade lower in the coming weeks. Considering that gold price is inversely correlated to US dollar, I must say that the writings are clearly on the wall.

Banking sector consolidation seen

Investment banking giant UBS Securities Philippines is bullish on the banking sector due to reforms seen leading to better asset quality, loan growth and operating efficiency. They also expect mergers and acquisitions (M&As) to perk up the industry with the top 3 banks -Metrobank (MBT-P55.0), Banco de Oro (BDO-P58.0) and Bank of P.I. (BPI-P62.0) expected to acquire banks with specific niche. Please read: UBS Bullish on RP Banks

The best way to play the sector is to look at banks that will likely be the targets. I do believe that both Security Bank (SECB - P72.50) and RCBC (RCB - P23.75) are candidates for acquisition. SECB has a strong niche in the mid-size/Chinese merchant market that will fit nicely into BPI's portifolio. On the other hand, RCB can provide the "asset boost" to either BDO and MBT in their quest to become the largest bank. RCB is also the cheapest bank in the sector at .80x P/Bv giving investors the best upside potential in any m&a plays.

The 4 Ps

I am currently reading "Finding the Next Starbucks" by Michael Moe. The book was recommended by CKP through his blogsite www.ckp168.com. Mr. Moe is the founder of ThinkEquity Partners - an investment management company based in San Francisco. During his stint as an analyst in Merrill Lynch, he was amongst the first to recommend Starbucks Coffee Co. The company turned out to be one of the best performing stock in the last decade. From a mere US$250m company during IPO in 1992, Starbucks now sports a market capitalization of US$20.0bn

In looking for the next big winners or the next Starbucks, Michael Moe suggests that we focus on the 4 Ps - great People, leading Product, huge Potential, and Predictability. Please log on to www.findingthenextstarbucks.com to read excerpts from the book.

Wealth Effect

Incredible?

Last Wednesday, Pres. Gloria Arroyo announced that the Philippine economy rose at its fastest pace in 20 years. Based on the recent figures reported by National Statistical Coordination Board (NSCB); GDP in 2Q07 grew by 7.5% versus the consensus forecast of 6.5%. In 1Q07, GDP rose by 6.5%. The GDP number is clear sign that the economy is roaring ahead. To critics, the figures seem incredible. To me, the numbers are believable. Here's why.

The services sector contributed 4.1 percentage point to the overall GDP growth. The sector grew by 8.4% in the said quarter. The biggest driver in the services sector is the business process outsourcing (BPO) industry. In 2007, BPO revenues is expected to grow by 66% to US$3.5bn from US$2.1bn in 2006. Note that BPO revenues are mainly labor inputs - salary and wages. So this means that the US$1.4bn will translate to incremental expenditure in the economy. The burgeoning BPO sector has emerged as the proverbial "silver bullet" of the economy. Based on estimates, for every US$1.0 generated, close to 80% or US$0.80 is kept at home. In other words, the net value-added high. Contrast this to the mid-90s when growth was reliant on electronics export. For every US$1.0 that was generated then, only 20% or US$0.20 is kept at home since most raw materials have to be imported. So looking beyond the headline figures, the numbers are indeed credible.

Wealth stocks

Amidst the backdrop of a roaring economy, investors should focus on stocks that reflect the new found wealth of the Filipino consumers. Clearly, a paradigm shift will emerge as Filipinos change their spending habits. Below are 2 stocks that fall under this category.

1.) Jollibee (JFC - P55.0). Obviously, eating-out as a percentage of overall expenditure will expand. I guess this is already reflected in the recent earnings result of the company.JFC reported that 1H07 earnings rose by 31%. However, what is more important is that top-line revenue continues to grow at double digit pace. This reflects the bullish trend in thefastfood sector considering that Jollibee is the number 1 chain in the country.

Jollibee currently trades at 22.0x PER to 12/07 earnings. My "gut feel" is for the stock to trade at 30x PER - or roughly around P75.0 per share. The potential re-rating should capture the underlying growth of the company and at the same time ride the "wealth effect" paradigm.

2.) Alaska Milk (AMC - P5.10). To some extent, milk consumption is also a proxy play for wealth effect. Milk is not a staple amongst Filipino consumers, however, with higher disposable income brought about by higher GDP growth, milk consumption will likely increase.

I have written about AMC before and its 1H07 numbers further strengthen my belief that the company is a gem-of-a-stock. AMC reported that 1H07 earnings rose by 156% on top of a 183% increase in 2Q07 net income. Again, what's more important is that top-line numbers continue to grow on back of higher selling price per unit and volume recovery. This suggests that consumers are willing to pay more without affecting consumption behavior.

AMC is currently trading at 6.0x PER to 12/07 earning. To my mind, the company should easily be valued at P8.50, equivalent to 10.0x PER to 12/07 earnings. The ingredients for a re-rating are in place: earnings growth + market dominance. The acquisition of Nestle milk brands earlier this year effectively gaveAMC 90% share in the liquid milk market. I guess the valuations are too compelling to ignore.

The property sector on the other hand will mirror the "feel good" effect of the economic boom. What we are seeing right now is that local property sales is growing at a much faster pace than sales to overseas Filipinos. The amount of property ads that we see in major newspapers is a sign that real estate companies are aggressively tapping the local market. This harps back to the property boom of the mid-90s.

However, what we are seeing is a recovery- and not quite a bull market yet. This means that big money can still be made in the sector and investors can position ahead of the curve. Property play will be a major investment theme in 2008 similar to how mining plays emerged in the past 2 years. Note that property prices are still 30-40% below its 1997 peak. In dollar terms, property prices are mere 30% of its 1997 highs. Thus, it is safe to assume that property prices have more room to grow - until such time we see it go back to those levels.

In the coming weeks, I will write more about the property sector and discuss some possible property plays to watch out. We saw how C&P Homes (CMP - ) morphed into Vista Land (VLL - P5.10) and in the process rewarded its shareholders with 150% return when VLL was listed. Please read The Saga Continues . I have also written extensively about Fil-Estate Land (LND - P1.16) and looking ahead, I think the stock remains to be attractive at current levels. Please read Fil-Estate Land