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Positioning in good stocks at the right times for hattrick gains

Since my earlier articles on “Profiting from High Yield Securities” and “Immuninising one’s portfolio” in this column, several readers have written-in to ask me to share a few of my secrets in finding good stocks to buy at the right times.

In particular, Singtel which was highlighted in last month’s article at $3.40 recorded an unprecedented 5-year high at $3.93 on Thursday 2nd May or a whopping gain of 53cts or 16% in less than a month! I have no doubt Singtel will trudge higher in the coming months ala providing the resilience of a Bayern Munich’s defence in reaching the Euopean Champions League Final, the premier soccer competition. In doing so, Bayern humiliated European top club, Barcelona 7-0 in the 2-match semi-finals.

One key defence strategy that I always seek is to unearth companies and industries that yield continual “safer” returns via dividends as opposed to capital gains. These can be found in strong business models will throw up good free cash flows that can return gradual but increasing dividends to shareholders. Some of these companies may have been ignored by the market because they are tag as “boring no-growth businesses” or industries that are considered matured.

Free Cash flows or FCF is a measure of how a company earns its hard cash less capital expenditure. It is one of the key “sweeper” role that I deploy :-

Thus, FCF = Operating Cash Flow – Capital Expenditure

For high yield stocks, I reckon that FCF is a better base figure to use rather than Net Profits as dividends are paid out from cashflows although most investment reports use Net Profits as the base.

FCF is also a better foundation to understand and pick companies with good cashflow generation rate rather than just companies with good profit growth rates which the stockmarket tend to over emphasize. Investors should look out for companies that deliver strong profit growth rates, but shareholders do not partake it its profit growth if its cashflow do not allow for dividend distribution.

Essentially, a company’s cashflow is essentially utilized for:-

  1. Capital Expenditure to maintain the level of operating efficiency
  2. Pay off debts n thereby lower its gearing
  3. For payment as dividends to shareholders
  4. For profit retention

As these companies have been operating for many years, economies of scales have kicked in at this phase of their economic cycles in the various markets they operate in. For the past few years for now, capital expenditure or capex, for these telecom companies have remained low and stable as compared to their Operating Cashflows which mean they throw out almost consistent FCF available for dividends distribution year after year.

It was in this context that most analysts have asked unnecessarily questions or got unduly worried which presented great buying opportunities just 7 – 8 years ago for companies like Starhub and M1.

In last month’s article, I illustrated my points using Singtel as an example. In this month’s article, I present an introspection on M1, illuminating my various pointers :-

  2004 2005 2006 2007 2008 2009 2010 2011
M1's FCF $254 $160 $242 $172 $157 $103 $68 $161
M1's FCF Yield 34.4% 20.6% 31.4% 21.5% 19.7% 13.2% 7.0% 15.1%
M1's DP Ratio 43.0% 66.6% 106.6% 56.0% 82.5% 116.5% 233.3% 81.4%
  1. How could the company pay dividends above 100% or a DP ratio of above 100%? M1 DP ratio first went above 100% in FY2006. The median average share price of M1 then was $1.58 and that was when I started accumulating the shares. The Global Financial Crisis then presented another great time to buy big in FY2008.
  2. The same questions were raised again when M1 DP ratio rose above 100% in FY 2009 and again in FY2010. The median average share prices of M1 then were $1.83 in FY2009 and $2.20 in FY2010.

On serious analysis, it was quite clear that M1 could well-afford to do so as its balance sheet and cash flows had afforded such luxury:-

  1. Telcos like M1 were normally touted then as “no growth mature” companies. But the reality was that the earlier capital expenditure in building up their 2G, 2.5G and 3G networks, spectrums and base stations were depreciated at close to $100 million annually. However, the latter is not a cash outflow item and while they dent the profits, they do not affect the cashflows. The result was that the FCFs then were healthier than the underlying net profits. However, most market analysis tended to focus on net profits and their lackadaisical net profit growth. If only the market had gone for a free kick towards goal instead of scrambling around the goal mouth, looking for goals, only to bump into opposing defenders!
  2. By the time telcos like M1 had expanded on their fixed assets, the ongoing capex going forward would be mimimal as the next “big” capex was the bidding of 4G/LTE licences which no longer cost as expensive as the previous 2G or 3G licences. It was clear in M1 cashflows statement that despite capex at $120 mln in FY2010 and $123 mln FY2011, M1 still had the capability to repay bank loans of $69.5 mln in FY2010 and $55.7 mln in FY2011!
  3. The balance sheet of telcos, for that matter M1 remained strong – M1 only has a long term loan of $250 mln which are unsecured and repayable in full in May 2013, yes this current month. They consist of a $125 mln fixed rate loan at an effective interest cost of 2.6% pa and another $125 mln floating rate loan based on SWOP rate which you and I know, has been decreasing in the past few years. Measured against M1’s total assets of $972 mln in FY2011, M1’s gearing was only 25.7%, much lower than most of the REITs’ gearing of 35%. The Reits were top performers, up 33% last year and up almost 20% YTD this year.

No wonder teleco stocks have been in the rage this year – both my Starhub and M1 have shot up almost 25% (despite its “boring, no growth” tag) while Singtel is up a wonderful 19%, all three thumping the STI by almost 3x outperformance!!

Telcos' hattrick End 2012 2-May-13 UP % UP
Singtel $3.30 $3.93 $0.63 19.09%
M1 $2.71 $3.38 $0.67 24.72%
Starhub $3.79 $4.73 $0.94 24.80%
STI 3,167 3,402 235.00 7.42%

So how does one position in the right stocks at the right time? Of course, many investment professionals will tell you that market timing is very difficult and almost impossible to win all the time. However, based on my own experiences, it can be perfected and improved, like taking a banana freekick and turning in towards goal from 40 metres out. What you need is tons of hard work and patience – easier said than done, most would say.

Yes, time and tide waits for no man – the shrewd investor should always position when the market is misled or unduly worried/focused wrongly on a particular company or sector. These present great buying opportunities at your leisure – my M1 holdings have almost tripled in value (including the compounding interest from the more than 5% dividend yield that I receive annually since FY2006), but I am in no hurry to sell or trim any of my positions.

The great striker is one who knows when to score a hattrick – perhaps in the Europeans Champions Cup Final?

Gabriel Yap
Gabriel Yap

Mr Gabriel Yap,CFA was an eminent stockbroker who retired from stockbroking in 2009 to devote himself to philanthropy to help the needy, poor and handicap globally. He has donated and assisted Charities Aid Foundation, Australia (CAF), a not-for-profit donor funds management business. CAF has granted over A$100 million in the past decade to needy organisations to undertake aid and charity work across the world.

Mr Yap is also Executive Chairman of GCP Global Pte Ltd, an investment firm that invest in both direct capital markets, bonds, real estate, commodities, foreign exchange and builds businesses. Mr Yap appears regularly for the TV media like Channel News Asia and Bloomberg and radio channels like FM93.8 for their various investment programs.

Previously Mr Yap has also lectured at renowned government institutions like the SEASEN Course for the Monetary Authority of Singapore and at Asian Development Bank. Mr Yap has also lectured at financial institutions like the Stock Exchange of Singapore, Institute of Banking and Finance, the Institute of Certified Public Accountants, the Singapore Institute of Management and the Securities Investors Association of Singapore.

In 2010, the venerable Reader’s Digest magazine created the Money Savvy column in their magazine, helmed by Mr Yap who writes on all things finance and answers questions from the magazine’s subscribers.

Mr Yap presently splits his time between Melbourne, Hong Kong/China and Singapore.