RHB Research has recently published an interesting report on the life insurance sector in Malaysia.

Currently there are 16 life insurance companies in Malaysia and the major players are Great Eastern, AIA, Prudential and ING. The industry size is around 11.9m policies with annual premiums of RM17.4 billion. RHB Research expects insurance premiums to grow by 12-13% per annum for 2010 to 2012.

Malaysia has a relatively low market penetration rate, with premiums to GDP ratio of 3%. This compares to 7.9% for Singapore, 13.9% for Taiwan and 9.1% for South Korea.

Rising healthcare cost and the use of life insurance as a savings plan will play an increasingly important role to up the penetration rate in Malaysia. It is believed that Muslims consider life insurance to be “haram” or sinful and this has somewhat inhibited the growth of life insurance in Malaysia. However with the introduction of Family Takaful, there is now a strong potential for the life sector to grow.

In addition the government has continued to support the sector in its 2010 Budget. The income tax deductible amount was raised from RM6k to RM7k per annum. This is to encourage greater savings and protection among Malaysians and reduce burden on the government as our population ages.

If you are interested to profit from this growing sector, most Malaysian banks can offer some sort of exposure to the life insurance market. However, some other purer plays listed on Bursa Malaysia include:

* Total Assets includes policyholder funds

LPI Capital (which owns Lonpac Insurance) trades at a huge premium, much like its parent company Public Bank Bhd. On Bursa Malaysia, we can’t really buy exposure to the leading life players such as Great Eastern, AIA and Prudential. So looking at this, Allianz and Manulife are both decent bets for long term exposure to the Malaysian Life Insurance market. Both are controlled by leading global life companies and have the expertise to build their operations over here. In addition, Manulife has just formed an asset management division which is currently managing unit trust funds and seeking client mandates for managing equity funds in the Asia region. It would give exposure to the Malaysia funds management market in the longer term.

Bursa Malaysia stock codes shortnames:
- Allianz Malaysia Berhad (ALLIANZ)
- LPI Capital (LPI)
- Kurnia Asia (KURASIA)
- Manulife Holdings Berhad (MANULFE)
- MNRB Holdings Berhad (MNRB)

Disclosure: The author holds shares in Manulife Holdings Berhad.

Currently QCAPITA is the sixth largest REIT on Bursa Malaysia as measured by market capitalization.

Tenancy Profile by NLA: Quill Capita REIT continues to diversify its asset base. Following its recent acquistion of Tesco Penang, Cyberjaya properties now account for less than 50% of its portfolio (by Valuation).

Q&A Session with Quill Capita Trust on 1 July 2009

Quill Capita Trust management team headed by CEO Chan Say Yoong

Quill Group Founders Dato Low Moi Ing and Dato Michael Ong

QCAPITA Financial Overview
QCAPITA Recent News
QCAPITA Share Price Chart

It looks like Public Bank overtook Bumiputra Commerce today as the top dog in FBM KLCI.

Check out this screen shot from last week:

Similar share price and similar number of issued shares! Neck to neck competition! Of course the other company with around 3.5 billion issued shares is TM.

I notice some large stocks have hardly moved in the current rally (eg. IOI Corp Hong Leong Bank, Affin, YTL Power).

Talk about Petronas-linked companies (PETDAG, PETGAS, MISC) loosing out on the FBM KLCI shuffle may be just that only… TALK. It’s almost as if there is some sort of share price control mechanism in place. The share price is what the mighty one wants it to be. A double-edge sword indeed.

REITs are looking good, with solid follow-through buying support. And many of them are still trading well below NTA. July to August is distribution time, eg. STAREIT (half-yearly), TWRREIT (half-yearly), QCAPITA (half-yearly), ATRIUM (quarterly) UOA REIT (half-yearly) and AXREIT.

One of my favorite investment style is to invest in higher yielding stuff 1-2 months before dividend time. For example if you invest in a REIT yielding 9% that distributes income half yearly, you are almost getting three distributions (ie, close to 15% yield) in the first year.

That’s almost as good as what banks charge you on your credit card. See… anyone can be Ah Long haha!

But I’m enjoying the fruits of it now. Looking at the current rally, I’m sure glad I hung on to my AMMB and COMMERZ shares over the past few months. As you might recall, both these counters were in free fall with all the dooms day prophecies just a few months ago.

Now we have FBM KLCI and institutions are scrambling to re-weight their portfolios. Retailers and momentum players are following suit.

FTSE Bursa Malaysia KLCI
To recap, the FBM KLCI consists of the 30 largest eligible companies on listed on Bursa Malaysia’s Main Board, with at least 15% free float, and a minimum 10% annual turnover of free-float shares in the 12 months prior to an annual review each December.

In its recent report, CIMB Research wrote:

As investors have less than three weeks to adjust their portfolios before the FBM KLCI takes effect, the impact on the market should be significant. The net impact should be positive as big-cap liquid stocks with high free float also happen to be blue chips. This concentration on quality could push up the FBM KLCI, especially if foreign funds return to Malaysia in a big way. Theoretically, the market should be lifted by selling of the 70+ stocks no longer in the index and buying of FBM KLCI component stocks. We maintain our OVERWEIGHT stance and year-end KLCI target of 1,220 points.
(Source: Rijigging the KLCI II: 17 June 2009):

Take a look at the market…  this prophecy is being fulfilled before our very eyes.

It’s interesting to note the list of expected “Winners” and “Loser” from the FBM KLCI shuffle.

EXPECTED WINNERS
1. CIMB Research
- Main Winners: Bumiputra Commerce & Public Bank
- Other Winners: Sime Darby, Tenaga, Maybank, IOI Corp, Genting, Axiata, AMMB, Berjay Toto and UMW Holdings.
(Source: Rijigging the KLCI II: 17 June 2009)

2. Credit Suisse:
- Main Winners: Bumiputra Commerce & Public Bank
- Potential Winners, Resorts, YTL Power and Parkson
(Source: Malaysia Market Strategy, 10 June 2009)

3. OSK:
- Resorts, YTL Power and Parkson
(Source: Malaysia Equity Daily 12 June 2009)

EXPECTED LOSERS
1. CIMB Research
- The 73 companies that fail to make the cut (eg. AirAsia, Bursa Malaysia, EON Cap, Gamuda, IGB, IJM, KNM, Mah Sing, MRCB, SP Setia, Top Glove and WCT).
- The 15 big caps which have a drop in weightings due to their lower free float and liquidity (eg. RHB Cap, MAS, Petronas Dagangan, Petronas Gas, MISC, DIGI, PLUS, Hong Leong Bank, Astro and MMC).
(Source: Rijigging the KLCI II: 17 June 2009)

2. Credit Suisse:
- Construction, property, hotel and tech stocks do not feature in the current FBM30 components.
- Borderline entries such as MAS (30% free float), RHB Cap (18%) and Petronas Dagangan (30%).
 (Source: Malaysia Market Strategy, 10 June 2009)

3. OSK:
- Companies with low free-float such as the Petronas-linked ones and companies linked to Tan Sri Ananda Krishnan will lose out.
(Source: Malaysia Equity Daily 12 June 2009)

Just an observation… Public Bank’s share price recovery has been milder as compared to Bumi Commerce and AMMB which were hit harder. It seems RHB Research is now changing its stance, calling PBBANK an Outperform partly due to its large weighting gain in the FBM KLCI.

Whenever the newspaper talks about the car sector, it almost always revolves around Proton, Perodua, car sales and so on. You hardly ever hear of a company called APM Automotive.

It doesn’t grab the headlines, but APM is one of those companies that just goes about its business, makes money and pays dividends, year-in year-out.

I bought a couple of APM shares back in 2006 at RM2.20. Last Friday it was trading at RM1.57 and I picked up a few more shares at that price. Now I’m not really in favour of investing in smaller cap stocks currently and there are many reasons NOT to buy APM but I decided to take a chance to average down anyway.

As you can see the share price hasn’t gone anywhere over the years, but I’m quite OK with this investment. It’s been paying decent dividends so the low price just gives me an opportunity to buy a few more shares.

Now this isn’t one of those high growth companies that will give you a five bagger return. It isn’t one of those companies that Warren Buffett would buy. NO. I bought the shares because I’m a sucker for bargains. That’s my weakness. And ya… I know this is a terrible strategy more often that not.

But let’s see what APM offers:

1. APM trades at 55% of its NTA of RM2.81
2. It has EPS that usually comes in between RM0.25 to 0.35 every year
3. It sits on a Net Cash pile of RM160 million
4. At RM1.57 APM has a market capitalization of RM 317 million. Strip out its net cash pile and you are paying less than RM160 million for its entire business.
5. The average EBIT for the last 4 years is around RM79 million which means APM trades at only 2 times its earnings.
6. APM’s business requires little capex. In fact for the last 3 years, they sold more equipment than they bought.
7. Free Cash Flow was around RM70 million in the last 2 years. Even after paying dividends, it was left with RM40-50 million surplus each year.
(Financials refered to are based on 2007 figures going back as 2008 figures still pending at the time of writing.)

APM Financial Details here

Some of the products manufactured by APM Automotive:

And you might have seen their billboards while driving on the highways:

Now what really triggered me to buy more shares in APM?

Strangely it was an article in TheStar Business on Friday about Maybulk. Huh??? I wrote about Maybulk in January and said that I wasn’t too hot on this company anymore. And it seems that Maybulk directors also feel the same way, seeing how some of them are dumping their shares on the market. Strangely enough, the share price has been going north and I’m just holding out a bit longer before offloading the rest of my Maybulk. After all the traditional 30 sen tax free dividend is coming in soon.

So what’s this gotta do with APM?

I’ve been following the insider moves in Maybulk and even APM. Unlike Maybulk, the APM insiders are buying. The company is actively buying back its own shares around RM1.50 – 1.60. Directors are buying in a meaningful way.

The above is a screenshot of APM’s Bursa Malaysia announcements during March. Go back a bit further and it tells the same story. It looks like APM directors really believe in their company.

Here’s a trustworthy saying by the investment guru:

There’s no better tip-off to the probable success of a stock than that people in the company are putting their own money into it…. When insiders are buying like crazy, you can be certain that, at a minimum, the company will not go bankrupt in the next six months… Long term, there’s another important benefit. When management owns stock, then rewarding the shareholders becomes a first priority, whereas when management simply collects a paycheck, then increasing salaries become a first priority.
Peter Lynch, One Up on Wall Street P142-143

Construction and Plantation Sector
These two sectors are holding up the KLCI. Construction Stocks have been in an uptrend of late as traders buy up construction stocks in anticipation of a sizable stimulus package in March.

Plantation stocks have been on a rebound following the rebound of CPO prices. HLeBroking says the plantations indices chart recently revealed a prominent trend of decreasing highs. Furthermore it is drifting below its short term Moving Average line. Given the weighting of the sector, it means further weakness in the overall KLCI.

Technology & Industrial
The Malaysia Exports data expected next week is scaring off many investors from these exports-reliant sectors which are still finding new lows each month. And with the looming release of the exports data, it could possibly accelerate and drag the KLCI lower still.

Banking
From my observation of recent earnings announcements, the major banks are lowering their forecasts.
- AMMB  will not hit its ROE targets.
- Bumiputra Commerce ROE targets has gone from 20% last year to 18% and now 12%.
- Maybank needs fresh capital infusion so badly and it looks pretty certain that more shares will flood the market.
- Hong Leong Bank looks quite steady but did not give much guidance. 
- Public Bank said yesterday following Bank Negara’s rate cut that net interest margins might come off a bit but will be offset by the loosening in Statutory Reserve Ratio and the bank’s large portion of fixed rate HP loans. Public Bank is still aiming for 15% loan growth but acknowledges this will be challenging. Some analysts even have PBBANK net profit declining to RM2.0 – 2.2 billion.

OK now let’s look at what the analysts are saying about our plantation majors:

IOI Corporation
1. Bank of America Merrill Lynch - Neutral (18-Feb)
2. RHB Research - Underperform (23-Feb)

KL Kepong
1. Bank of America Merrill Lynch – Underperform (19-Feb)
2. Credit Suisse – Outperform (19-Feb) - CS expects palm oil prices to pick up this year and KLK to show strong output as plantations are young.
3. Maybank Investment Bank – Sell (19-Feb) - Target Price RM7.40
4. RHB Research - Underperform (23-Feb)

Sime Darby
1. RHB Research - Underperform (1-Dec-08)
2. Sime announced its first half profit of RM1.16 billion yesterday (down 25%). I bet the analysts are scrambling to come up with their reports now. My guess is it won’t be too positive.

In summary, there is nothing really positive to drive up the market for now. Even if palm oil prices edge upwards, valuation in the plantation sector is far from attractive. On the flip side if palm oil prices takes another dive, it could be a rude awakening for the plantation die-hards out there. I suspect we’ll have some rough sailing on Bursa Malaysia for some time yet…. still good to stay defensive for now.

I first bought into this company in June 2006 when the share price was hovering at RM2.00 – 2.10 (pre-bonus basis). Adjusted for bonus issue, I believe it works out to be less than RM1.70 per share.

Maybulk share price has had a nice run throughout 2007 reaching a high of over RM5.00. It started tanking at the end of 2007, hitting a low of RM2.06 in December 2008.

Dividends
In just the last 2 years, I’ve collected RM0.78 worth of dividends… and most of it has been tax free.

Sep-08  Interim Dividend of 10 sen
May-08 Final Dividend of 30 sen
Sep-07  Interim Dividend of 8 sen
May-07 Special Dividend of 18 sen
May-07 Final Dividend of 12 sen

Needless to say I was happy with the company’s management.

So in September 2008 when Maybulk dropped to RM3.00, I decided to add a few more shares to my holding.

A couple of days later on 15 Sep 08, Maybulk announced that it was looking to fork out between RM517 million to RM862 million to invest in a company called PACC Offshore Services Holdings Pte Ltd (or POSH). Maybulk would buy a 22% interest from Pacific Carriers Limited, its own mother company.

SHOCK HORROR!!! I had completely no idea this was coming.

Since then I’ve been looking for an opportunity to sell some of my Maybulk shares. I finally sold some shares at RM2.73 yesterday.

Is Maybulk a Good Company?
I have no doubt that Maybulk has top management in running a dry bulk shipping business. After all that is why I bought Maybulk shares.

Furthermore their acumen in buying and selling ships is exceptional to say the least. But I must say I’m not keen on the POSH acquisition at all. Here’s why:

1. It is a purchase of a minority stake – only 22%. It is not a 100% controlling interest and Maybulk does not have access to POSH’s cash flow.

2. Management never foreshadowed such a large investment in its previous reports. It’s a nasty surprise.

3. From what I read, POSH has quite a bit of borrowings. Furthermore the capital expenditure requirements could be high. An article in The Edge reported of unhappy minority shareholders who helped to shed some light on POSH’s high borrowings and capex obligations.
 
4. Cash is King. Consider the opportunity cost. I’m sure you’ll agree that RM800 million is a lot of money in such times. There’s no shortage of what you can buy now. Now that the Baltic Dry Index is low, why not buy more dry bulk tankers at distressed prices? This is really why I bought Maybulk shares in the first place. If I want oil & gas sector exposure, I’d certainly be buying some other share and not Maybulk. Even if no suitable investment opportunity is found, I would have preferred if Maybulk continues to pay 25-30 sen dividend every year which it could well afford to do for many years even in this distressed environment. This would make it a very enviable company which stands out from the crowd. Management would look very smart to me because it shows they are concerned about capital management and removing excess cash from the balance sheet.

5. Related Party Transaction – Any concerned investor cannot help but wonder what is really driving this deal?

So I’m somewhat surprised when TheEdge included Maybulk as one of its’ 20 stock picks for 2009! It quoted a report by OSK Research:

“Considering the acquisition and lower earnings, OSK Research believes Maybulk could still afford to maintain a dividend yield (based on its share price of RM2.31) – a return that is substantially higher than fixed deposit. Furthermore, the 22% stake in POSH, a provider of offshore support vessel services for the oil and gas industry, could be a re-rating catalyst for Maybulk’s share price in the future”

Hmmm… I’m glad there are some eternal optimists around.

For now I’d be happy to offload more shares if it does run up again.

Remembering Warren Buffett in this Lesson
As I thought about my little loss on this investment, some of Warren Buffett’s investment tenets came to mind. Buffett applies three tenets about a company’s management:
1. Rationality
2. Candor
3. Resisting the Institutional Imperative

The third point is the one that struck me. It refers to the lemming-like behaviour of managers to blow large amounts on acquisitions because everyone else is doing it and the market is demanding it.

If a company generates high returns, management has a duty to reinvest those earnings back into the business for the benefit of shareholders. If the money cannot be reinvested at such high rates of return, it has 3 options:

1. Ignore the problem and continue to re-invest at lower returns
2. Buy growth (acquisitions)
3. Return the money to shareholders, who then have a chance to re-invest the money elsewhere at higher rates.

In Buffett’s mind, only one choice is rational and that is option 3.

As we attempt to assess a company’s management, the decision made at this crossroad provides us with a good clue. The choice management makes will prove either valuable or disappointing for shareholders long before the results appear in an annual report.

Has the market bottomed out?

I’ve just read a pretty good report by CIMB Research. Can’t say that I agree with everything they said but there are some good observations.

The report looks at the six major bear markets that Malaysia experienced in the past 30 years. The observation is that each bear market lasted 15-17 months on average (from peak to trough).

As you can see, the average decline from peak is 53%. Using this figure, CIMB derives a floor of 707 points for the KLCI. Based on the average period, it says the market may bottom out around May-Jun 2009.

Positive Political landscape
Deputy PM Najib Razak is set to take over as Prime Minister around Mar-Apr 2009. According to the report, investors typically give new leaders the benefit of the doubt and this time should not be different. In the 6-7 months before Dato Seri Abdullah Badawi took over from Tun Dr Mahathir in Oct 03, the KLCI rallied 29%. Three months after the handover, the Malaysian market went up another 13%.

Weak Corporate Earnings
The recent quarterly results in 2008 have been generally poor and this is expected to continue for at least another 1-2 quarters. Malaysia is a net oil exporter and the world’s largest exporter of Crude Palm Oil. The recent plunge in these commodities will filter through into lower earnings. Many brokers have downgrades across the board especially for sectors such as plantation, construction and property.

The flip side is that lower petrol prices will reduce operating costs for businesses. Here’s a good illustration of our petrol prices over the last 8 years.

Source: CIMB Research

Price fall for coal and steel will also mean lower energy cost and raw material costs for industries such as construction and property. We are now in for a period of stable prices and low inflation and hence stable interest rates. This may be the slowdown Malaysia needed so it’s really a blessing in disguise.

Foreign Shareholding
According to CIMB Research, foreign shareholding in Malaysia is still relatively high at 21% which is 5-6% higher compared with the previous trough.

Foreign shareholdings in some heavyweights remain high and there is a risk of further sell down. In Jan-Sep 2008, portfolio outflows amounted to RM41 billion. In 1997 to 1999, portfolio outflows totalled RM71 billion. According to CIMB Research, similar outflows would wipe out a further 10% of market capitalisation.

Corporate Strength
Except for the utility and infrastructure companies, net borrowings in top Bursa Malaysia companies are low. Malaysian banks are looking strong. However among the small to mid-size listed companies, quite a number that have a Net Gearing ratio of more than 100% (i.e. Net Borrowings more than Shareholders Funds).

Individual Wealth
Unlike the bull markets of the mid-1990s, individual investors now have low exposure to the stock market. Wealth lost in the stockmarket collapse in 2008 is much less than in 1997-98. Property prices continue to hold firm although transaction volumes are much lower.

According to CIMB Research, total household debt is now higher at 67% of GDP as at end 2007. My guess is that these days, people are borrowing more to buy more expensive houses and cars because they have more disposable income. A low interest rate environment helps to keep this sustainable.

As I am writing this article I am in Kuching, Sarawak and the economy has never looked better. Although there is talk of job losses (such as Western Digital retrenching 1,500 workers), the economy in Sarawak has been riding on years of growth and favourable conditions. So a lot of wealth has been created. Furthermore Sarawakians are a conservative lot, many are cashed up and misers when it comes to spending.

But I believe Sarawak is changing fast. The younger generation are starting to spend more and the consumer profile is changing. Good restaurants continue to mushroom and many are well patronized despite charging KL prices. I attended banquet dinners and each time the restaurants were unbelievably packed.

If there is anything that epitomizes the modern consumer, it is the modern shopping centre. Go to The Spring in Kuching and you will feel like you are shopping in Mid Valley, 1Utama etc. You have the convenience of everything under one roof, brands that look familiar – Parkson, Giordano, Starbucks, HSL, MPH, FOS, Padini, Vincci etc etc. Truly, Sarawak is playing its catch up game seriously! And I really should mention some of the cars I saw – Aston Martin Vantage, Ferrari 360 Modena and a ton of other latest model Mercedes and BMWs. OK enough rambling … basically Kuching is in great shape going into the slowdown and should do more than its fair share for the Malaysian economy.

There should be some good opportunities to accumulate stocks in the coming months. Some companies with conservative balance sheets and solid market positions are trading at low PE multiples. Rather than being too defensive in your Portfolio, maybe it’s time to identify companies that are reasonably priced and can take advantage of the coming downturn to build their business further.

Earnings can be puffed up with fictitious accounting transactions. The telling sign is usually this…

While the company reports seemingly healthy profits, its debt level continues to rise.

So with a bit of effort, we have compiled a Cash Flow Statement for each of the Top 50 Bursa Malaysia companies covered (excluding banks). To access this, click on the Cash Flow link in the Investor Database.

The approach we have taken is different from the statutory format which I actually find confusing. What we have done is to work out the company’s Free Cash Flow and Residual Cash Flow.

Free Cash Flow is something like the cash earnings of a company. To get this figure, we take the accounting profit and adjust for several items including:

1. Depreciation and Amortization
These expenses do not reduce cash, so we add it back to earnings.

2. Capital Expenditure
Eg. Purchase of equipment. Say a company buys a machine – it usually does not expense the whole amount but will book it as an asset. Subsequently it will incur a depreciation expense against the asset every year. But in terms of cash flow when the company buys equipment, the whole amount is a negative cash flow. Therefore capital expenditure drains cash.

3. Working Capital
Receivables: When a company sells something, it may not collect cash immediately. The sale is booked and a profit is recorded. Without collecting cash that profit is meaningless. So to work out Free Cash Flow:
1. If Receivables Increase: Earnings – Increase in Receivables
2. If Receivables Decrease: Earnings + Decrease in Receivables
Basically the more you collect, the more cash flow you will have.

Inventory: Companies manufacture or buy stock with the aim of selling it for a profit. When things are not going so well, inventory starts to build up and this is a drain on cash.

Payables: Most companies buy things from suppliers on terms and will only pay for them 30-60 days later. Often the telling sign of a failing company is where is keeps stretching suppliers to conserve cash.

Below is an example Cash Flow Statement for Air Asia Berhad:

Air Asia is a company that claims to make money but its borrowings keep increasing. As you can see from above, most of the cash outflow is in capital expenditure. Air Asia says that it buys aeroplanes and what you need to decide is whether you believe their story or not. It operates in an industry where most companies are scaling back and price competition is cut-throat. Is Air Asia really doing what it says it’s doing? Does it have to keep spending on capital expenditure? Can it fill capacity at a profitable price? Is there a time bomb waiting to explode?

Look at what Warren Buffett had to say about the airlines business:

The airline business has been extraordinary. It has eaten up capital over the past century like almost no other business because people seem to keep coming back to it and putting fresh money in. You’ve got huge fixed costs, you’ve got strong labor unions and you’ve got commodity pricing. That is not a great recipe for success.
Interview in 2002, The Age

The worst sort of business is one that grows rapidly, requires significant capital, and then earns little or no money. Think airlines.
Berkshire Hathaway, 2007 Annual Report

RHBinvest.com – a leading financial portal in Malaysia – is actually showing an expired domain message on its homepage.

Can’t believe it too? Check out this screenshot:

Upon further investigation, it looks like the domain expired last Friday and someone forgot to renew it. It was only renewed yesterday but the website is still not showing up, probably because the change in domain status is still being propagated throughout the web.

I suspect we’ll see the site back up tonight or tomorrow morning latest.

Since I have an account with RHB, I received an email which played down the event somewhat.

It says: “We have received several incidences whereby there were some technical issues on 14 December 2008 (Sunday). The issue has been resolved yesterday evening…”

I sure wouldn’t want to be in the Webmaster’s shoes right now. There’ll be some angry RHB bosses looking for scapegoats to fry.

For those of you who trade through RHBinvest, there is no need to panic… Our money is still there. Things should be back to normal tomorrow.