Forterra Trust (formerly: Treasury China Trust)

[Boon]

Interesting figures/ratios :

All 3 entities are China pure-play property counters, but the ratio of (DFL / Capital Value of properties) seems to vary a great deal among them – What are the potential explanations and implications?

SGD million
( Deferred Tax Liability / Capital Value of Properties Owned ) Ratio :
Forterra = 393.6 / 2,438 =16.1%
CRCT = 159.6 / 2,058 = 7.8%
PCRT = 41.6 / 1,501 = 2.8%

(vested)

Boon-san

As I understand it, the deferred tax liability just tracks the difference in tax cost base of each property Vs the valuation, i.e. a bigger revaluation surplus will result is a bigger deferred tax. Other than the fact that it is valuable (i.e. can and will be written back upon a sale), I think that your comparison will not yield much information.

If your intention is to show the relative success of each management in enhancing the value of the properties under their care, a straight comparison of their asset revaluation surpluses might be more easily understood.

Hi HitandRun,

Thanks for your contribution.

I wish I could have accessed to the tax cost base of EACH property – unfortunately, I don’t.

Anyway, from FRS 12,

“The measurement of deferred tax liabilities and deferred tax assets shall reflect the tax consequences that would follow from the manner in which the entity expects, at the end of the reporting period, to recover or settle the carrying amount of its assets and liabilities.
In some jurisdictions, the manner in which an entity recovers (settles) the carrying amount of an asset (liability) may affect either or both of:
(a) the tax rate applicable when the entity recovers (settles) the carrying amount of the asset (liability); and
(b) the tax base of the asset (liability).

In such cases, an entity measures deferred tax liabilities and deferred tax assets using the tax rate and the tax base that are consistent with the expected manner of recovery or settlement.”

The other key drivers are:
- Tax rate, and
- The expected manner of recovery (or settlement)

(vested)

[Boon]

So far, I haven't seen your valuation model, or you don't have one?

But it should be obvious to any value investor that Forterra can't earn any meaningful profit from its property owning business. However, if you are betting that the property will be sold at or above or slightly below valuation, I wish you best of luck because you are going to need it as there is no other way to earn.

Even, let's assume the valuation on the book is right(which I doubt). One thing the book does not reflect is other operating cost such as administrative expense and trust management expense in the case of Forterra Trust. The financial cost is reflected on the book as the debt. If anyone tries to apply DCF on administrative expense and trust management expense and reflect it on the book, the book value would be very different. What the book shows now is that the trust can operate without any additional cost but financial cost.

Please see my reply in { }
_________________________________________________________________________________________________________________________________________________

So far, I haven't seen your valuation model, or you don't have one?
{What value do you seek to measure - Value of a particular property of Forterra - Company Value of Forterra – Stock Value of Forterra? I will let you choose a valuation model and see what I can do}

But it should be obvious to any value investor that Forterra can't earn any meaningful profit from its property owning business. However, if you are betting that the property will be sold at or above or slightly below valuation, I wish you best of luck because you are going to need it as there is no other way to earn.
{“what is your definition and/or “value measure” of “value investor”, “meaningful profit” and “no other way to earn”? There are many other ways depending on your definition !}

Even, let's assume the valuation on the book is right(which I doubt).
{ Don’t you agree MOS is abundant to cover for over-valuation ? And MOS is one key matrix that a value investor should work on?}

One thing the book does not reflect is other operating cost such as administrative expense and trust management expense in the case of Forterra Trust.
{Why do you expect operating costs to be shown on the Balance Sheet (B/S)? they are captured in the P/L}

The financial cost is reflected on the book as the debt.
{The financial cost is the cost of borrowing and is reflected on the P/L but not on the B/S. Debt is shown as Liabilities on the B/S. If it is the case, what is the amount that you have quantified? }

If anyone tries to apply DCF on administrative expense and trust management expense and reflect it on the book, the book value would be very different
{Why and how would anyone apply DCF on administrative expense and trust expense and reflect it on the book? What is the purpose of doing so? }

What the book shows now is that the trust can operate without any additional cost but financial cost.
{I am afraid I do not understand you? Please elaborate}

(vested)

[Nick]

My understanding from Freedom's post is that the book value fails to capture the cost structure within the Trust which acts as a off balance sheet liability. Let's assume the same property was owned and managed by 2 companies with different cost structure.

Property X under Company A

Value: 100 mil
NPI: 7 mil
Admin Cost: 3 mil
Profit: 4 mil

Property X under Company B

Value: 100 mil
NPI: 7 mil
Admin Cost: 1 mil
Profit: 6 mil

The valuation of the property is exactly the same. They are both debt-free. They will have the same book value. But which will be afforded a higher valuation by the market ? Clearly B since it generates more profits - it has a leaner cost structure. The PV of the 'cost' over the years do add up to be a liability. This is the same reason why some companies choose to spin off properties into REITs - the same building generates same revenue but it reduces cost from tax saving do add an incremental value. I don't think valuation report of buildings will capture the holding company cost structure.

A good example is FT vs CRCT. Currently the NPI yield for FT is 2% as opposed to CRCT's 5%. Even if the NPI yield is boosted to 5% for FT and its $2.4 billion portfolio generates $120 million NPI, it still have pay $57 million interest expense and close to $30 million as admin expense and management fees. This works out to PBT of around $30 million ! On the other hand CRCT's $2.0 billion portfolio yields NPI of $103 million and it pays $11 million interest expense and admin fees of nearly $10 million. There is a gulf in the cost structure between them. Naturally, this may change with Nan Fung taking over with costs being substantially stream lined and cost of debt reduced over time.

Freedom - please correct me if I misunderstood you.
Boon - please correct me if my numbers are wrong or I misunderstood the business model entirely.

(Not Vested)

[Boon]

My understanding from Freedom's post is that the book value fails to capture the cost structure within the Trust which acts as a off balance sheet liability. Let's assume the same property was owned and managed by 2 companies with different cost structure.

Property X under Company A

Value: 100 mil
NPI: 7 mil
Admin Cost: 3 mil
Profit: 4 mil

Property X under Company B

Value: 100 mil
NPI: 7 mil
Admin Cost: 1 mil
Profit: 6 mil

The valuation of the property is exactly the same. They are both debt-free. They will have the same book value. But which will be afforded a higher valuation by the market ? Clearly B since it generates more profits - it has a leaner cost structure. The PV of the 'cost' over the years do add up to be a liability. This is the same reason why some companies choose to spin off properties into REITs - the same building generates same revenue but it reduces cost from tax saving do add an incremental value. I don't think valuation report of buildings will capture the holding company cost structure.

A good example is FT vs CRCT. Currently the NPI yield for FT is 2% as opposed to CRCT's 5%. Even if the NPI yield is boosted to 5% for FT and its $2.4 billion portfolio generates $120 million NPI, it still have pay $57 million interest expense and close to $30 million as admin expense and management fees. This works out to PBT of around $30 million ! On the other hand CRCT's $2.0 billion portfolio yields NPI of $103 million and it pays $11 million interest expense and admin fees of nearly $10 million. There is a gulf in the cost structure between them. Naturally, this may change with Nan Fung taking over with costs being substantially stream lined and cost of debt reduced over time.

Freedom - please correct me if I misunderstood you.
Boon - please correct me if my numbers are wrong or I misunderstood the business model entirely.

(Not Vested)

Nick,

Thanks for your comments which certainly have thrown the discussions wide open - interesting stuff indeed...........will comment later.

Meanwhile, for buddies who are interested, please google "FRS 40 Singapore" and "FRS 16 Singapore" - I do find these related standards very helpful in better understanding of financial statements of property companies.

(vested)

[Boon]

Hi Nick,

1) Your model simply reinforced the fact that Balance Sheet of a company does not capture its cost structure - it wasn’t meant to be in the first place.
2) Agreed - High cost structure would result in lower profit which would be reflected on the P&L.
3) High cost structure would also result in lower OCF (hence lower FCF available to Equity) which would be reflected on the Cash Flow Statement.
A DCF based valuation analysis should be able to capture this. hence, it would be unnecessary and unrealistic to expect it to be captured on the BS.
4) Book Value (BV) = Accounting Value (AV)
5) BV of property X could be different for each company if Company A uses the Fair Value Model (FVM) while Company B uses the Cost Model (CM) – Refer to FRS 40 and FRS 16 – St****** and Amara are adopting the CM approach for their hotel portfolio – as PPE.
6) If both companies use FVM approach,
Then, BV of Property X = Market Value (MV) = 100 mil under both companies.
7) I think the closest comparison for FT is PCRT - both are BT with very similar Trust Structure – but since their property portfolio are at different “maturity” phases – hardly any meaningful comparisons could be carried out.
8) As for CRCT, I think most of their properties are stabilized while FT only has 2.5 properties (BLP, Forterra House and office portion of HQ1) stabilized – need to take a closer look at their figures.
9) If both company A & B are listed entities - their share price should reflect the difference in cost structure.
10) But in reality, things are a lot more complicated - once factors such as tax, DTL (which has value), gearing, WACC, is property at development or transition or stabilized stage etc ) are taken into consideration.

(vested)

[freedom]

My understanding from Freedom's post is that the book value fails to capture the cost structure within the Trust which acts as a off balance sheet liability. Let's assume the same property was owned and managed by 2 companies with different cost structure.

Property X under Company A

Value: 100 mil
NPI: 7 mil
Admin Cost: 3 mil
Profit: 4 mil

Property X under Company B

Value: 100 mil
NPI: 7 mil
Admin Cost: 1 mil
Profit: 6 mil

The valuation of the property is exactly the same. They are both debt-free. They will have the same book value. But which will be afforded a higher valuation by the market ? Clearly B since it generates more profits - it has a leaner cost structure. The PV of the 'cost' over the years do add up to be a liability. This is the same reason why some companies choose to spin off properties into REITs - the same building generates same revenue but it reduces cost from tax saving do add an incremental value. I don't think valuation report of buildings will capture the holding company cost structure.

A good example is FT vs CRCT. Currently the NPI yield for FT is 2% as opposed to CRCT's 5%. Even if the NPI yield is boosted to 5% for FT and its $2.4 billion portfolio generates $120 million NPI, it still have pay $57 million interest expense and close to $30 million as admin expense and management fees. This works out to PBT of around $30 million ! On the other hand CRCT's $2.0 billion portfolio yields NPI of $103 million and it pays $11 million interest expense and admin fees of nearly $10 million. There is a gulf in the cost structure between them. Naturally, this may change with Nan Fung taking over with costs being substantially stream lined and cost of debt reduced over time.

Freedom - please correct me if I misunderstood you.
Boon - please correct me if my numbers are wrong or I misunderstood the business model entirely.

(Not Vested)

Thanks, Nick.

I can't say it any better.

[Boon]

My understanding from Freedom's post is that the book value fails to capture the cost structure within the Trust which acts as a off balance sheet liability. Let's assume the same property was owned and managed by 2 companies with different cost structure.

Property X under Company A

Value: 100 mil
NPI: 7 mil
Admin Cost: 3 mil
Profit: 4 mil

Property X under Company B

Value: 100 mil
NPI: 7 mil
Admin Cost: 1 mil
Profit: 6 mil

The valuation of the property is exactly the same. They are both debt-free. They will have the same book value. But which will be afforded a higher valuation by the market ? Clearly B since it generates more profits - it has a leaner cost structure. The PV of the 'cost' over the years do add up to be a liability. This is the same reason why some companies choose to spin off properties into REITs - the same building generates same revenue but it reduces cost from tax saving do add an incremental value. I don't think valuation report of buildings will capture the holding company cost structure.

A good example is FT vs CRCT. Currently the NPI yield for FT is 2% as opposed to CRCT's 5%. Even if the NPI yield is boosted to 5% for FT and its $2.4 billion portfolio generates $120 million NPI, it still have pay $57 million interest expense and close to $30 million as admin expense and management fees. This works out to PBT of around $30 million ! On the other hand CRCT's $2.0 billion portfolio yields NPI of $103 million and it pays $11 million interest expense and admin fees of nearly $10 million. There is a gulf in the cost structure between them. Naturally, this may change with Nan Fung taking over with costs being substantially stream lined and cost of debt reduced over time.

Freedom - please correct me if I misunderstood you.
Boon - please correct me if my numbers are wrong or I misunderstood the business model entirely.

(Not Vested)

Thanks, Nick.

I can't say it any better.

Hi Nick,

More than 90% of CRCT portfolio are stabilized.

Assuming your estimates are correct,

on per unit basis,

NPI (net of all expenses before tax) per unit

CRCT = ( 103 - 11 - 10 )/805.8 = SGD 0.102 per unit ( share price = 1.38 per unit )

FT = ( 120 - 57 - 30 )/253.8 = SGD 0.130 per unit (share price = 1.83 per unit )

Going forward, which has got a better upside/downside, optionality and MOS ?

(Vested)

[Nick]

Hi Boon,

Based on the numbers above, both companies are generating 7% before tax recurring returns. Naturally, there is a key distinction - CRCT is delivering a 7% return currently while FT may deliver a 7% return if it manages to execute its development plans and stabilize its assets resulting in its NPI yield to increase by 150% to 5%. Alternatively (and perhaps more easier), it could aim to cut its cost substantially. So MOS and upside wise, I would prefer CRCT.

CRCT:

Admin Expense: 0.8 mil
Management Fee: 8.6 mil
Total Fees: 9.4 mil
AUM: 2,058 mil
Fees / AUM: 0.46%

FT:

Admin Expense: 12.2 mil
Management Fee: 16.1 mil
Total Fees: 28.3 mil
AUM: 2,514 mil
Fees / AUM: 1.13%

So basically there are 2 points I am try to raise - 1) Has the market already priced in FT's upside ie NPI yield improving to 5% and 2) Even if its NPI yield is raised, its high cost structure compared to CRCT would reduce unit-holders returns ie the property is better off held in CRCT vehicle.

Would value your inputs.

(Not Vested in Either Companies)

[valuebuddies]

What an interesting topic, thank you Boon, Freedom, Nick and the rest for contribution. I only go though the basic history of it and what I can see is buying interest increased because of the price NF paid for its 30% ownership and also speculation over the potential GO. Apart from this, I need to admit that it doesn't look very favourable to me despite the significant discount on its traded price against the underlying assets. I share the same view as Nick as I tend to value a company on its earnings power rather than its future potential capital gain. To me earning power is something you can see from the past and as a guide for the future , but capital gain is purely base on future expectation which is still something unrealised.

To summarise, I think I need a bigger MOS for the reasons below:
- the fact that assets were mostly centralised in Shanghai, with property prices rising too fast over the past years
- the reit/trust which do not pay dividend (or little dividend prior 2012)
- its gearing level and high financing cost
- its low earning power (am referring to accounting profit excludes fair value gain on its properties)

Back on a very old topic, NF's acquisition, could NF paid a higher price for the trust in order to take over also the trustee/property manager? NF paid approx. S$30M for the property manager, but generates S$16M (or more) management fee per annum, is it a good deal that prompted NF to take over from the Britain?

Please correct me for any mistake.

[safetyfirst]

What an interesting topic, thank you Boon, Freedom, Nick and the rest for contribution. I only go though the basic history of it and what I can see is buying interest increased because of the price NF paid for its 30% ownership and also speculation over the potential GO. Apart from this, I need to admit that it doesn't look very favourable to me despite the significant discount on its traded price against the underlying assets. I share the same view as Nick as I tend to value a company on its earnings power rather than its future potential capital gain. To me earning power is something you can see from the past and as a guide for the future , but capital gain is purely base on future expectation which is still something unrealised.

To summarise, I think I need a bigger MOS for the reasons below:
- the fact that assets were mostly centralised in Shanghai, with property prices rising too fast over the past years
- the reit/trust which do not pay dividend (or little dividend prior 2012)
- its gearing level and high financing cost
- its low earning power (am referring to accounting profit excludes fair value gain on its properties)

Back on a very old topic, NF's acquisition, could NF paid a higher price for the trust in order to take over also the trustee/property manager? NF paid approx. S$30M for the property manager, but generates S$16M (or more) management fee per annum, is it a good deal that prompted NF to take over from the Britain?

Please correct me for any mistake.

yeah i enjoyed following this thread too. I thought freedom, Boon and nick contributed interesting discussions of good learning value.

Personally, i tend to distrust capital gains, for i think it is used to cover-up poor earnings but after looking at what boon has shared, i realised i may have been too narrow minded. Will explore further, still not vested