Arbitrage Opportunity ? Not Really
Publish date: Sun, 23 Mar 2014, 03:29 PM
Writing this article is like MH370 investigation, full of ups and downs, twist and turns.
I started by analysing Narra. It only has market cap of RM100m+ and I like small cap. However, as I dug deeper, Narra is not as good as it first looked (will explain), HLI seemed more interesting as it looked like there is opportunity for arbitrage.
So I searched for HLI info at i3. To my surprised, there is an article dated 14 February 2014 by RHB with regard to the same topic. So it kind of comes in handy as I dont need to dig out so much raw data.
As I studied further, it turned out that HLI disappointed as well. There is not much room for arbitrage. The stock seemed fully valued. Our market is actually quite efficient.
(1) Narra
Based on 65m shares and market price of RM1.68, market cap is RM110m. Small furniture operations incurred few million losses every year. Clean balance sheets. Essentially, you can treat Narra as a shell company and its most valuable asset is its listing status.
(2) Injection of Hume Cement into Narra by Hong Leong Industries ("HLI")
In September 2013, Narra announced that it proposes to undertake the following corporate exercise :-
(a) consolidates 2 Narra shares into 1; and
(b) issue new shares to acquire Hume Cement and concrete business from HLI
Post share consolidation and acquisitions, Narra will have 480m shares.
In response to that announcement, Narra share price spiked from 60 sen to the curent RM1.68.
HLI also announced that it will undertake a demerger by distributing the Narra shares it receives to HLI shareholders. HLI share price went up from RM4.50 to RM6.50 now.
As at to-date, the share consolidation and the acquisitions have yet to be effected.
The question now, is whether there is still opprtunity for us to make money from Narra or HLI ? That is the reason I write this article.
(3) Fair value of Narra
The most critical component in this entire scheme of thing is actually the market price of Narra post proposals. Getting that right will determine out next course of action.
(a) based on current market price of RM1.68 and the fact that 2 shares will be consolidated into 1, the market is valuing Narra post proposals at RM3.40.
(b) RHB's analyst had ascribed a fair value of RM2.20 to Narra post proposals, based on 15 times PER for FY2015 projected earnings of RM72m
I crossed check the above two figures by objectively comparing Narra with Lafarge and Tasek, and it seemed that RHB analyst's fair value of RM2.20 is actually quite credible. Please refer to the table below for details.
^ 2 shares consolidated into 1, current market price RM1.68
* implying that the current share price should be RM1.10 instead of RM1.68
(4) Observations
(a) Lafarge and Tasek's average EV per MT is RM700,000+. However, at current price of RM1.68, Narra's valuation reflects EV per MT of RM1,319,333, almost 100% higher than the most established, efficient and dominant players in the country.
From PER point of view, it is also expensive at 22.6 times.
(b) RHB analyst's valuation is quite reasonable. Its earnings projection of RM72 mil is achievable. It represents net profit per MT of RM48,000, in line with Lafarge and Tasek's RM47,000 and RM44,000 respectively.
Based on fair value of RM2.20, EV per MT is RM936,000, also in line with Lafarge and Tasek.
PER works out to be 15 times, which is also reasonable and in line with Lafarge and Tasek.
(5) How about HLI ?
HLI traded at about RM4.50 before announcement. Now it trades at RM6.50. I belive this has more or less reflected the free 1.08 Narra shares per HLI share.
At current price, I would deemed it as fairly value (not much room for arbitrage)
(6) My dilemma
When I first started blogging, I face a dilemma. If I write good about a stock, nobody will be upset as the price will go up if the readers like it.
However, if I wrote that a stock has unfavorable fundamentals or it is overvalued, some of our i3 members here will suffer if the price goes down.
I voiced it out in one of my earlier article. However, some i3 members gave me encouraging words. They told me I shouldn't be overly concerned about this. If I am right and the stock is overvalued, it is going to go down some day, irregardless of how I write about it. By examining the details and sharing with i3 members, I help certain people to avoid being trapped by over valued stocks. So there is benefits as well.
(7) Conclusion
On paper, Narra doesn't look undervalued.
However, I noticed (from Narra circular) that Quek and related parties will own more than 83% post proposals. Such tightly held shares sometime do defy gravity. As such, it is too early for me to say that Narra price will not be able to sustain at current level.
I hope the readers of this article dont just blindly follow my analysis. Please do your own homework to verify my figures and concepts. Invest wisely and have a prosperous future.
Have a nice day.
I started by analysing Narra. It only has market cap of RM100m+ and I like small cap. However, as I dug deeper, Narra is not as good as it first looked (will explain), HLI seemed more interesting as it looked like there is opportunity for arbitrage.
So I searched for HLI info at i3. To my surprised, there is an article dated 14 February 2014 by RHB with regard to the same topic. So it kind of comes in handy as I dont need to dig out so much raw data.
As I studied further, it turned out that HLI disappointed as well. There is not much room for arbitrage. The stock seemed fully valued. Our market is actually quite efficient.
(1) Narra
Based on 65m shares and market price of RM1.68, market cap is RM110m. Small furniture operations incurred few million losses every year. Clean balance sheets. Essentially, you can treat Narra as a shell company and its most valuable asset is its listing status.
(2) Injection of Hume Cement into Narra by Hong Leong Industries ("HLI")
In September 2013, Narra announced that it proposes to undertake the following corporate exercise :-
(a) consolidates 2 Narra shares into 1; and
(b) issue new shares to acquire Hume Cement and concrete business from HLI
Post share consolidation and acquisitions, Narra will have 480m shares.
In response to that announcement, Narra share price spiked from 60 sen to the curent RM1.68.
HLI also announced that it will undertake a demerger by distributing the Narra shares it receives to HLI shareholders. HLI share price went up from RM4.50 to RM6.50 now.
As at to-date, the share consolidation and the acquisitions have yet to be effected.
The question now, is whether there is still opprtunity for us to make money from Narra or HLI ? That is the reason I write this article.
(3) Fair value of Narra
The most critical component in this entire scheme of thing is actually the market price of Narra post proposals. Getting that right will determine out next course of action.
(a) based on current market price of RM1.68 and the fact that 2 shares will be consolidated into 1, the market is valuing Narra post proposals at RM3.40.
(b) RHB's analyst had ascribed a fair value of RM2.20 to Narra post proposals, based on 15 times PER for FY2015 projected earnings of RM72m
I crossed check the above two figures by objectively comparing Narra with Lafarge and Tasek, and it seemed that RHB analyst's fair value of RM2.20 is actually quite credible. Please refer to the table below for details.
| Lafarge | Tasek | Narra at current price | Narra's fair value (based on RHB report) | |
| shares (mil) | 849 | 124 | 479 | 479 |
| price (RM) | 9.16 | 15.3 | 3.40 ^ | 2.20 (post consolidation) * |
| Equity value (RM mil) | 7,800 | 1,897 | 1,629 | 1,054 |
| add : loans (RM mil) | - | 6 | 350 | 350 |
| less : cash (RM mil) | 451 | 400 | - | - |
| Enterprise value (RM mil) | 7,349 | 1,503 | 1,979 | 1,404 |
| Clinker capacity (MT) | 8,200 | 2,300 | 1,500 | 1,500 |
| EV per MT (RM) | 896,000 | 654,000 | 1,319,333 | 936,000 |
| Net profit (RM mil) | 382 | 94 | 72 | 72 |
| Net profit per MT (RM) | 47,000 | 44,000 | 48,000 | 48,000 |
| PER (times) (excludes cash) | 19.2 | 16.0 | 22.6 | 14.6 |
^ 2 shares consolidated into 1, current market price RM1.68
* implying that the current share price should be RM1.10 instead of RM1.68
(4) Observations
(a) Lafarge and Tasek's average EV per MT is RM700,000+. However, at current price of RM1.68, Narra's valuation reflects EV per MT of RM1,319,333, almost 100% higher than the most established, efficient and dominant players in the country.
From PER point of view, it is also expensive at 22.6 times.
(b) RHB analyst's valuation is quite reasonable. Its earnings projection of RM72 mil is achievable. It represents net profit per MT of RM48,000, in line with Lafarge and Tasek's RM47,000 and RM44,000 respectively.
Based on fair value of RM2.20, EV per MT is RM936,000, also in line with Lafarge and Tasek.
PER works out to be 15 times, which is also reasonable and in line with Lafarge and Tasek.
(5) How about HLI ?
HLI traded at about RM4.50 before announcement. Now it trades at RM6.50. I belive this has more or less reflected the free 1.08 Narra shares per HLI share.
At current price, I would deemed it as fairly value (not much room for arbitrage)
(6) My dilemma
When I first started blogging, I face a dilemma. If I write good about a stock, nobody will be upset as the price will go up if the readers like it.
However, if I wrote that a stock has unfavorable fundamentals or it is overvalued, some of our i3 members here will suffer if the price goes down.
I voiced it out in one of my earlier article. However, some i3 members gave me encouraging words. They told me I shouldn't be overly concerned about this. If I am right and the stock is overvalued, it is going to go down some day, irregardless of how I write about it. By examining the details and sharing with i3 members, I help certain people to avoid being trapped by over valued stocks. So there is benefits as well.
(7) Conclusion
On paper, Narra doesn't look undervalued.
However, I noticed (from Narra circular) that Quek and related parties will own more than 83% post proposals. Such tightly held shares sometime do defy gravity. As such, it is too early for me to say that Narra price will not be able to sustain at current level.
I hope the readers of this article dont just blindly follow my analysis. Please do your own homework to verify my figures and concepts. Invest wisely and have a prosperous future.
Have a nice day.
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