Wong Fong Industries IPO-ed on a private placement two years ago to little fanfare. While its share price rose to slightly more than 40 cents within the first few days from the IPO price of 23 cents, it is now languishing at about 16 cents. Such price movements is not uncommon for most small cap stocks which came to the market in recent years. WF’s latest Annual Report shows that the number of shareholders is small; only 288 for are holding more than 10,000 shares. It seems reasonable to say that the market has largely turned its attention away from WF.
After studying publicly available information on the company, it seems that an opportunity for a Graham-type undervalued stock has emerged. WF is an attractive business that is selling for a conservative price. But there are also reasons for its low price.
At its core, WF sells and services a number of truck-related equipment. These include cranes (mounted behind the cabin of a truck), hook lifts (for loading and unloading portable bins and waste compactors), hydraulic tailgates (to assist loading and unloading of heavy goods), and portable waste compactors. If you drive frequently, or spend most of your time watching traffic, you can see the extent of equipment sold and/or serviced by WF that is out there, by looking out for its decals pasted on the various equipment mentioned above.
Business
There are four reasons why this business is attractive; products which are somewhat ‘disruption-proof,’ capital requirement is low-moderate, business is recurring and cash generative, and it commands a dominant share of the Singapore market.
1) The equipment it sells and services is essential to the construction, logistics, aboriculture (tree management), and waste management industry. For example, construction equipment (scaffolding, heavy tools, scissor lifts, small excavators, etc) require transportation from storage shed to worksite. And then they require unloading. Until a more efficient method of loading and unloading heavy equipment is found, truck-mounted cranes will remain relevant for the foreseeable future. Ditto for the pruning of large trees, and (transportation of) waste compactors.
2) Unlike the construction, logistics, and waste management businesses it serves, WF’s business model is not intensive in its working capital, and capital expenditure, requirements. As such, WF does not hold – nor does it require – much debts.
(in $m) OCF before WCC WCC Net OCF ICF FCF
FY17 6.0 +3.0 9.0 -1.8 7.2
FY16 7.1 -4.2 3.9 -2.8 1.1
FY15 7.1 +3.8 10.9 -5.2 5.7
FY14 8.3 -2.0 6.3 -2.1 4.2
FY13 6.8 -3.1 3.7 -3.0 0.7
There are three reasons for its low working capital and capital expenditure requirement.
- The credit terms given to WF by its manufacturers, and those that it gives to its customers, is generally favourable to WF. When customers make an order, a 20% downpayment is required. When WF delivers customers’ orders, trade receivables are collected within about 2 months, while payables to manufacturers are about 3 months. The receivables days and payables below are calculated only with the FY figures.
Receivables Days Payables Days
FY17 58 129
FY16 52 108
FY15 59 147
FY14 52 111
FY13 68 107
- Compared to distributors in general, WF does not hold large inventories of equipment that sit in storage while waiting to be sold. Inventories mainly comprise general components, smaller-capacity cranes, and spares used for repairs. Generally, when a customer places an order, WF sends the order to its manufacturer in Europe. It can take 2-3 months for the order to arrive in Singapore, and another 2-3 months for assembly works before delivering to the customer. This means that it may lose sales to its better-stocked competitors, but this also means that it is more conservative in its general business approach.
(in $m) Total Assets Inventory Inventory as % of Total Assets (%)
FY17 72.0 11.0 15
FY16 66.4 13.3 20
FY15 62.5 13.1 21
FY14 55.7 17.5 31
FY13 47.7 15.0 31
- The low capital requirement means that WF financing needs, and hence debt levels, are low. The largest asset on the balance sheet – apart from cash – is PPE, which is valued at $20m. PPE consists of its main (12,000 sq ft GFA) workshop at 79 Joo Koon Circle, a smaller (3,500 sq ft GFA) workshop at 16 Tuas Avenue 6, and another in Johor. About $10m was spent on upgrading and purchasing these facilities since FY13, so it is unlikely that for large capex in the near future, at least for its Singapore operations. Considering all the major items on its balance sheet – PPE, receivables, inventories, cash, payables, and loans – WF’s financial position looks strong.
(in $m) Cash Total Debt Net Cash
FY17 25.5 6.7 18.8
FY16 20.7 8.0 12.7
FY15 16.5 6.7 9.8
FY14 11.9 2.8 9.1
FY13 8.4 1.2 7.2
3) Since WF does not hold a lot of inventory, and has a long lead time for customers’ orders, this cannot be where its value-add to customers lie. Indeed, the bulk of WF’s profits are not from the sale of equipment, but the maintenance and repair of it. History from its segment information show that income from maintenance earns margins that are far superior to sales. In fact, the margins from sales are so thin that it seems WF’s strategy is to increase market share through competitive selling price, and then earn from maintenance services which recur over the long-term. Apart from maintenance, WF is also approved by Singapore Accreditation Council to conducts inspection and issue certification on hookloaders and open-top container bins.
(in $m) Equipment Sales PBT PBT Margin (%)
FY17 44.4 1.1 2.5
FY16 48.5 1.1 2.3
FY15 58.4 2.3 3.9
FY14 61.5 1.4 2.3
FY13 60.5 2.8 4.6
(in $m) Repair & Servicing PBT PBT Margin (%)
FY17 11.9 3.5 29.5
FY16 13.5 4.2 31.5
FY15 13.6 4.1 30.4
FY14 15.0 5.9 39.8
FY13 13.8 3.6 26.0
4) Part of the reason why WF may have such favourable credit terms, and why WF has a stable repair and servicing business, is likely because WF is the sole authorised dealer of Palfinger. And has been so since 1995. Although WF does not disclose the breakdown of its sales by brand and equipment type, based on its purchase disclosure in its IPO Prospectus, sales of Palfinger products can be deduced to make up about half of its equipment sales.
WF’s main competitors are Sun-Pacific (which sells Fassi cranes) and Cargotec (which sells Hiab cranes). My personal observation of truck-mounted cranes is that about 6/10 are Palfinger, 3/10 are Fassi, and 1/10 are Hiab. Effer (yellow-coloured) and PM (blue-coloured) truck-mounted cranes are also sold in Singapore, but are a rare sight. Sun-Pacific was formerly listed as Twinwood Engineering. Past financial information of Twinwood that found online did not demonstrate it to be a stable and profitable business, but the situation may be different now. For hooklifts, it is harder to observe, as they are less visible. For tailgates, WF market share looks to be about 3/10, and 2/10 for waste compactors. These are my personal observations. While there is no publicly available market study, it seems apparent that WF is one of the larger players involved in all these products.
WF also has 2 smaller but related divisions. First is a projects division to provide custom vehicle engineering requests. The local military is usually the customer. The second – WF Academy – provides training for operators of the cranes and hooklifts, among other construction-related WSQ courses. The contribution from the projects division is unstable, while the contribution from training division is presently small. However, the training division is expected to grow from the acquisitions WF has been making over the past 2 years. Management’s expectation is that the division will generate a larger – and stable – proportion of WF’s income over the long term. Since truck-mounted crane operators are required by MOM to undergo mandatory training, having a dominant share of the training market – where the equipment used during lessons are presumably Palfinger models – may provide a boost to demand for Palfinger equipment over the long term, as a result of operator familiarity.
Key Risk
Since the majority of WF’s business is from the sale and/or service of Palfinger products, this makes WF dependent on the vagaries of its principal. Palfinger is headquartered in Austria, and its manufacturing facilities are found in various locations in Europe. Its key markets are Europe and North America, where its key competitors are Cargotec (Hiab’s parent) and Fassi, just as it is in Singapore. HSBC’s research claims that Palfinger has the world’s largest market share for truck-mounted cranes, at more than 30%; only slightly more than Cargotec’s 25%-30%. In recent years, Palfinger has expanded, through a number of acquisitions, into building cranes for the marine industry; entering Cargotec’s turf by competing with its Kalmar cranes. This has resulted in its equity-to-asset ratio falling, from 48.3% in 2008, to 37.3% in 2017. Over the same period, Cargotec’s equity-to-asset ratio rose from 33% to 41.5%. There is cause for concern for Palfinger’s increasing leverage, but when compared against its closest competitor, high leverage does not appear to be unusual. Nevertheless, it is important to keep an eye on Palfinger’s financial health, for it may mean poorer support for its dealers such as WF, where changes in credit terms, selling prices, and distribution model, may be unfavourable to WF.
Valuation
The recession in the construction and oil and gas industries has resulted in the decline of WF’s sales and profit since FY14. As seen from the segment results, the damage was mostly dealt to the equipment sales division, where WF’s customers reduced spending on capex. Although the government rations its public construction projects at a steady pace, and the en bloc frenzy of 2017-2018 will create demand for construction services, the overall construction industry is likely to remain muted, as private construction projects are stemmed by the new property cooling measure. In other words, growth in the construction industry could take a longer time to return.
For WF, this means continued pressure in its equipment sales, as contractors demur on increasing/upgrading their lorry cranes. The saving grace for WF though, is that its maintenance division is expected to remain stable and profitable until recovery occurs. This is probable, since WF’s maintenance division has already managed to remain largely stable during this downturn period. Although WF is exposed to the cyclical construction industry, it is more stable than the customers it serves. Furthermore, it also serves the aboriculture and waste management industries, which are non-cyclical.
WF also operates its sales and repair business in Malaysia and Myanmar, though the contribution remains small. As of FY17, 91% of total revenue is from Singapore. Nevertheless, WF effort to push into overseas markets may be drawing management attention away from its core Singapore business. And there should be cause for concern; WF entered the PRC market in 2006 and has yet to have anything to show for. Without a proven track record, prospective investors should not be holding their breath on WF’s success in overseas markets
At the current price of about $0.16, and 235 million total shares, WF is valued at $37.6m. Against a shareholder equity of $48m, this translate to a p/b of 0.78. Using the 5-year average net profit of $5.0m, p/e works out to to be 7.5. If net cash of $16.8m (out of $18.8m) is excluded from the market cap, WF will have an ex-cash p/e of 3.9. On account of WF’s dominant share of truck-mounted crane market, recurring and cash generative maintenance division, and disruption-proof products, the current market’s appraisal of WF looks cheap.
Yet, the issues standing in the way of better valuation of its shares lie not solely in the circumstances of the industries it is operating in – which is beyond its control – but is well within its locus of control.
Possible Catalyst
WF has a rather low dividend payout ratio of 20% for FY16 and FY17, since its listing in August 2016. It current dividend yield is about 2.25%, which is pretty low. Since WF is sitting on much more cash than it needs for expansion, and since the business generates a recurring and healthy amount of cash every year, WF will be able to comfortably increase its dividend payout ratio to at least 50%.
(in $m) Profit Dividends Dividend Payout Ratio (%)
FY17: 4.2 0.85 20.2
FY16: 3.6 0.70 19.4 (Post IPO)
FY15: 5.6 2.20 39.2 (Pre IPO)
FY14: 6.2 5.15 83.0
FY13: 5.2 0.26 5.0
But perhaps the low(er) profit and dividend payout ratio is related to not just the health of the industries WF serves. From its disclosure, WF lowered its management compensation in the years leading to IPO, and then duly restored them after, seemingly having no relation to profit. When management compensation is measured against profit, it is also higher by about a third, than the average companies of similar market cap.
(in $m) Profit Management Compensation MC to Profit Ratio
FY17: 4.2 2.0 0.49
FY16: 3.6 2.0 0.58
FY15: 5.6 1.8 0.33
FY14: 6.2 1.5 0.25
FY13: 5.2 2.0 0.38
By aligning the interest of management and OPMI – by lowering management’s base salary and increasing dividend payout ratio – the controlling Lew and Liew families (same family, different surnames) stand to gain a lot more in terms of not just a higher market cap, but also a finer reputation in the capital markets.
With the recent passing of the James Lew, who founded the company, WF begins on the next phase of its path under the leadership of his son, Eric Lew. It remains to be seen whether WF can continue to strengthen its market share, improve the durability of its earnings, and better align its interest with OPMI.
References
Feature article on truck-mounted cranes in Singapore:
http://www.cranestodaymagazine.com/featu...-warriors/
Wong Fong AR17:
http://infopub.sgx.com/FileOpen/Wong%20F...leID=34587
Wong Fong AR16:
http://infopub.sgx.com/FileOpen/WONG%20F...leID=31572
Wong Fong IPO Prospectus:
http://infopub.sgx.com/FileOpen/Wong%20F...ileID=5274
HSBC’s research on Palfinger & Cargotec:
https://www.palfinger.ag/-/media/Corpora....pdf?la=en
Palfinger AR17:
https://www.palfinger.ag/-/media/Corpora....pdf?la=en
Cargotec AR17:
https://www.cargotec.com/globalassets/fi...w_2017.pdf
https://www.cargotec.com/globalassets/fi...w_2017.pdf
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