Is Parkson Holdings a buying opportunity? (Part 2 of 3)

Value Investing Case Study 12-2: In Part 1, the company analysis indicated that PHB Group is not a value trap. I will dig deeper in Part 2 to provide a more definitive answer to the question of whether PHB is a value trap or buying opportunity. In Part 3, I will address the question that if you were limited to investing in only one of the 3 listed companies within the PHB Group, which would you select?

As of 26 of Mac 2021, Parkson Holdings Bhd (PHB or PHB Group) was trading at RM 0.22 per share compared to its Book Value of RM 1.53 per share (as of the end of Dec 2020).

You may argue that there is a large intangible component in the Book Value due to the historical acquisitions. Ignoring the intangibles, PHB Group has an NTA of RM 0.33 per share (as of the end of Dec 2020).

With such discounts to the Book Value or NTA, you must be wondering whether it is a value trap or a buying opportunity.

The challenge for the PHB Group is that it is undergoing a turnaround. The PHB Group is in the department store business that is being disrupted by digital technology. I have shown in Part 1 that the PHB Group is reinventing itself to meet the digital challenge.

Is the market suggesting that the PHB Group would fail in its re-invention efforts and is a value trap?

Join me in Part 2 of this 3-part series where I further analyze and value the PHB Group to show that it is not a value trap but a buying opportunity. Part 1 was published on 4 April 2021 while Part 3 was published on 18 April 2021.

Would there be a fantastic buying opportunity at such a price? Well, read my Disclaimer

This blog is reader-supported. When you buy through links in the post, the blog will earn a small commission. The payment comes from the retailer and not from you. Learn more.

Is there a Great Future?

How well did Top Management Seize Opportunities?

Is there a great Buying Opportunity?

How to Gain from the Case Study

Is there a Great Future?

In 2011, the Harvard Business Review had an article on the future of shopping where it opined:

“… digital retailing is quickly morphing into something so different that it requires a new name: omnichannel retailing. The name reflects the fact that retailers will be able to interact with customers through countless channels—websites, physical stores... social media, mobile devices…. If traditional retailers hope to survive, they must embrace omnichannel retailing… must turn shopping into an entertaining, exciting, and emotionally engaging experience…”

According to e-Marketer, the US retail market had been the largest in the world for a least a century. However, its position was taken over by China in 2020 because of the Covid-19 pandemic. But as the US recovers from the pandemic, it will reclaim the No. 1 position in 2021 and 2022—but after that, China will once again move to the top position, where it will likely remain for several decades.

Apart from overtaking the US, China retail sector is also leading the way in confronting the challenges brought about by e-commerce. While the American malls and department stores are dying out due to digital disruption, the experience in China is different.

“Revenue for the Department Stores and Shopping Mall industry in China is expected to grow at an annualized 2.6% over the five years through 2020, to an estimated $264.7 billion…” IBISWorld

The growth in China is partly due to:

The concept of “new retail” by the tech companies.

The traditional department store operators adopting an Omni-channel strategy.

The “new retail” concept was unveiled by Alibaba founder Jack Ma in 2016. It consists of offering a new shopping experience without boundaries. It merges online and offline commerce. This strategy aims to combine the best of both online and offline shopping experiences.

The situation in South East Asia is no different.

“By the end of 2020, the number of digital consumers in Southeast Asia would reach 310 million…. This means almost 70% of Southeast Asian consumers will go digital by the end of 2020. Southeast Asia’s online retail market penetration has also now surpassed India’s, increasing 1.6x to reach 5%. Its e-commerce gross merchandise value grew 23% per year from 2018 to 2020, faster than the compounded annual growth rate of China’s, India’s, and the United States…during the same period.” Bain

How has PHB Group responded to this?

In its 2014 Annual Report, Parkson Retail Group Ltd (PRGL) said that it will now focus on an Omni-channel strategy. PGRL said that there would be a combination of online and offline businesses, shopping malls, dept stores with lifestyle elements, specialty stores as well as fashion outlets.

In its 2017 Annual Report, PGRL said that while “new retail” has brought a lot of challenges to the entire retail industry in China, PRGL sees ample opportunities and positive signs ahead with its new retail format.

As for the other countries, in its 2016 Annual Report, Parkson Retail Asia Ltd (PRA) stated that the department store model is shifting towards a multi-dimensional model which seeks to create a more family-oriented experience.

The turnaround in the same-store sales for China and Malaysia in 2017 is a good sign that the PHB Group is re-inventing itself.

How well did Top Management Seize Opportunities?

The Board of PHB comprised of 2 Executive Directors and 3 Independent Non-Executive Directors. They have an average age of 58 and have been with the Group for an average of 13 years.

The Board of the 2 listed subsidiaries comprised of:

2 Executive Directors, 1 Non-Executive Director, and 3 Independent Non-Executive Directors in PRGL. The Non-Executive Directors have on average 11 years of tenure with PRGL.

2 Executive Directors and 3 Independent Non-Executive Directors in PRA. The Non-Executive Directors are relatively new to PRA with an average of 3 years tenure.

The Chairman cum MD of PHB also serves as the Chairman and Executive Director of PRGL and PRA. The Chairman also has 3 different daughters each serving as Executive Director in each of the listed entities.

With the Chairman’s 59 % interest in PHB, and having one daughter as Executive Director in each of the listed entities, this is an owner-managed Group.

There was 6 senior management staff featured in PHB 2020 Annual Report. They had an average age of 53 and an average of 19 years of service with the PHB Group and/or Lion Group.

There were some common senior managers featured at both the PHB level and at the listed subsidiary level.

In addition to the 3 common senior managers in PRA and PHB, there were another 2 senior managers featured in the PRA 2020 Annual Report. They had an average of 3 years of service with the PRA.

There were 2 other senior managers in PHB that were also featured as senior managers in the PRGL 2019 Annual Report. Also, there were 7 other senior managers with an average of 7 years of service that were featured in the PRGL 2019 Annual Report.

What does the composition of the senior management and the Executive Directors suggest? That PRGL and PRA are not independent operations of PHB Group.

Given the owner-managed setup and the close-linked management, how did these companies perform?

Operations

For peer comparison, I selected listed companies that have department stores in China and Malaysia.

Since the PHB Group is unique in its presence in both China and Malaysia, I have separated the peer comparisons by country.

China Peers - listed on Hong Kong Stock Exchange (HKEX)

Golden Eagle Retail

New World Dept Store China

Maoye International

Shirble Department Store

Malaysian Peers - listed on Bursa Malaysia. Malaysia accounted for about 90 % of the revenue from 2011 to 2019. Looking at Malaysian Peers does make sense when comparing the performance of PRA.

Aeon

Kamdar

Malaysian United Industries - MUI retailing segment

Suiwah (retailing segment)

From an overall perspective, the respective subsidiaries' performance did not stand out. The rationale is as follows:

1) From the China perspective, PGRL was not among the top performers in terms of revenue and Return on Assets (ROA) as can be seen from the following 2 charts.

Chart 1: PRGL Peer Revenue Index

The average ROA from 2009 to 2019 were as follows:

Company	Average ROA (%)
Golden Eagle	6.4
New World	3.8
Maoye	3.4
PRGL	3.1
Shirble	2.5

Table 1: PRGL Peer Average ROA

Chart 2: PRGL Peer ROA

2) As for Malaysia, PRA lost out to Aeon in terms of revenue but it did better than its other peers. But when it came to ROA, PRA only performed better than the MUI retail segment that had much smaller retail operations.

Chart 3: PRA Peer Revenue Index

Note:

a) The break for MUI retail segment and Kamdar is due to the change in the financial year

b) Suiwah was delisted in 2019

Chart 4: PRA Peer ROA

Note:

a) The break for MUI retail segment and Kamdar is due to the change in the financial year

b) Suiwah was delisted in 2019. I have assumed the group tax rate for the retail segment to derive the segment PAT

Capital allocation

From 2009 to 2020 the PHB Group generated RM 5,186 million cash from operations. Of these

RM 650 million was paid out as dividends. Considering that RM 2,023 million PAT was generated over this period, this is equal to a 32 % payout ratio.

RM 754 million was spent on the purchase of treasury shares.

RM 3,178 million was spent on net CAPEX (including investment properties and net acquisition of subsidiaries). “Net” in this context is after accounting for monies received from the sale of assets.

Cash was reduced by RM 717 million.

Note that from 2009 to 2020, the debt (ignoring the lease liabilities) remained about the same.

You can see that the amount spent on capital expenditure far exceeded the PAT generated. In the long term, unless the PAT increases, this is not a sustainable expenditure. The positive note here is that the capital expenditure is still within the cash flow from operations.

You may argue that the large CAPEX was because the PHB Group is re-inventing itself. If so, you would expect the % of CAPEX relative to both the PAT and the free cash flow to decline in the coming years. If this does not occur, you would question the management capital allocation plan.

Is there a great Buying Opportunity?

Case Notes

PHB is a good case study on why it is important to also read the notes to the financial statements.

In the PHB case, it has Investment Properties. If the PHB Group was in the property sector it would be likely for the Investment Properties to be revalued annually. And the revaluation surplus would have been recognized in the P&L.

But, PHB is not a property company and so there was no need for the Investment Properties to be revalued every year. Furthermore, even it there was a revaluation surplus, there would not be any need to recognize it in the P&L.

This was exactly what happened to the PHB Group in 2020. It had a revaluation surplus for the Investment Properties amounting to about RM 1.619 billion. Yet this was merely stated as a note in the financial statement.

The Book Value of PHB based on the financial statement thus did not present the fair value of its assets.

Secondly, as we had the financial statements of PRGL and PRA, we could see that the intangibles and revaluation surplus were at the PRGL level.

As such when it came to assessing their impact on PHB, it was more realistic to account for them based on the % shareholdings of PRGL held by PHB.

The impact would be different from the “accounting approach” that would have assumed that all the impact accrued to the shareholders of PHB.

As you can see, fundamental analysis is more than just applying some formula. If you don’t have the business background to undertake such an analysis and yet want to invest based on fundamentals, you may have to rely on financial advisers to do them for you.

There are several financial advisers who provide such analyses. Those who do this well include people like Seeking Alpha.* Click the link for some free stock advice. If you subscribe to their services, you can tap into their business analysis and valuation.

I normally estimate the value of a company using an Asset-based approach and an Earning-based approach. In a turnaround situation, the challenge is the Earning-based approach.

The Earning-based approach involved discounting the free cash flow generated by the company. There are 2 ways to project this free cash flow for a turnaround case.

Project free cash flow from the current loss position to a profit scenario year by year. This requires you to make assumptions about when it will return to profitability and the “normalized profit” that can be achieved.

You can just estimate the free cash flow based on the “normalized profit”.

The latter approach is likely to result in a higher value than the former approach. But you avoid the challenge of projecting the free cash flow year by year. In my valuation, I chose the latter approach and handled the “higher value” by seeking a higher margin of safety.

Furthermore, in the case of the Asset Value of PHB, I have included the revaluation surplus associated with the Investment Properties. In the 2020 Annual Report, the value of the Investment Properties did not include the revaluation surplus amounting to RM 1.62 billion.

Since the revaluation was for properties held by PRGL, I had assumed that about 55 % of this would accrue to the shareholders of PHB. This was equal to RM 0.83 per share added to the Book value of PHB.

My valuation of the PHB Group showed that

It had an Asset Value of RM 2.35 per share after accounting for the revaluation surplus.

Its Earning Power Value was estimated to be RM 0.62 per share.

Over the past 5 years, the market price of PHB had been below the revised Book Value

Chart 5: Valuation

You can see from the valuation table below that the value of the various components of the Asset Value is much higher than the Earning Power Value. This could mean one of the following:

My estimates of the normalized earnings after the turnaround were too conservative.

There may be further impairment of assets.

The PHB Group had undertaken several impairments over the past 10 years. As such the NTA (with the revaluation surplus) represented a good estimate of the intrinsic value.

Table 2: Valuation metrics

Note

(a) Assumed that the intangibles and revaluation surplus are at the PRGL level and thus 55% of it is attributable to the shareholders of PHB.

In my Earning Power Valuation, I used the average EBIT from 2011 to 2013 to represent the “normalized earnings” after the turnaround. This turnaround value would of course depend on the revenue and profit assumptions:

If you took a more optimistic view, you would have a higher value. Note that the 2011 - 2013 average EBIT for the PHB Group used in my valuation is 25 % lower than the highest EBIT achieved by the PHB Group (in 2009).

If you had a more conservative view, you would have a lower value. The assumed average EBIT is double the PHB Group EBIT achieved over the past 12 years. Note that in the past 12 years EBIT was reduced by a significant amount of impairment. I estimated that without this impairment, the EBIT would be about 20 % higher.

It is obvious that the Earning Power value is very dependent on the assumptions. Because of the “hidden” revaluation surplus, the Asset value of the PHB Group is a more reliable estimate of the intrinsic value.

How to Gain from the Case Study

PHB is certainly not a value trap.

The PHB Group had recognized the online challenge and had adopted a number of strategies to address it.

The department store industry in China is not a sunset industry like what happened in the US. In Malaysia, the performance of Aeon suggests that this is also not a sunset sector.

The trend of the same-store sales in China and Malaysia indicated that the PHB Group is not going to go the way of the Malaysian newspaper companies.

While the Asset Value of the PHB Group has been reduced over the past few years by impairment charges, the fair value of the Investment Properties will enable the PHB Group to “rebuild” the Asset Value.

Even on a conservative earnings-based valuation, the market price of PHB is far below the EPV.

There is a buying opportunity at the current market price. Even if you had invested in PHB a decade ago, this is not the time to divest as there is value in the assets.

End of Part 2 of 3

Part 3 of 3 was published on 18 April 2021

Note that Part 3 is restricted to subscribers of the blog. It will be password protected. I would encourage you to subscribe if you want to be able to access all the restricted pages.

Reading guide

If you are a first-time visitor to this blog, you may not be familiar with some of the concepts that I have used in my analysis and valuation. I suggest that you check up the Foundations series - Fundamentals 01, Fundamentals 02, and Fundamentals 03. I also have a Definitions page in case you are not familiar with the terms I have used.

- - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -

How to be an Authoritative Source, Share This Post

If the above article was useful, you can find more insights on how to make money in my e-book. The e-book is now available from Amazon, Kobo and Google Play.

PS: If you are in Malaysia or Singapore, the e-book can only be download from Kobo and Google Play.

Disclaimer & Disclosure
I am not an investment adviser, security analyst, or stockbroker. The contents are meant for educational purposes and should not be taken as any recommendation to purchase or dispose of shares in the featured companies. Investments or strategies mentioned on this website may not be suitable for you and you should have your own independent decision regarding them.

The opinions expressed here are based on information I consider reliable but I do not warrant its completeness or accuracy and should not be relied on as such.

I may have equity interests in some of the companies featured.

This blog is reader-supported. When you buy through links in the post, the blog will earn a small commission. The payment comes from the retailer and not from you.

Your link text

Search This Blog

Investing For Value