Is Asia File still a value trap? (June 2021)

Value Investing Case Study 02-3. This is an updated fundamental analysis and valuation of Asia File based on the unaudited financial results till FYE Mac 2021.

Is Asia File still a value trap?

The fundamental analysis of Asia File Corporation Bhd (Asia File or the Group) was first published in my blog in Jul 2020.
  • At that juncture, Asia File was trading at RM 1.85 (as of 1 July 2020) per share compared to its NTA of RM 3.06 per share.
  • The fundamental analysis was based on the Annual Reports for the financial year ended (FYE) 2008 till 2019. At that juncture only the unaudited results for FYE Mac 2020 were available. 

The Group has since released its 2020 Annual Report and we also have the unaudited FYE Mac 2021 results. 

The question of whether Asia File is a value trap still remains. Asia File market price of RM 2.28 per share (as of 2 June 2021) is still below the latest NTA of RM 3.33 per share (as of March 2021).

In this article, I will focus on the issues that will have a major impact on the prospects of the Group.  If you are not familiar with the Group’s history, business profile, and track record, you should first read the 2 previous articles.  Otherwise, you may not be able to follow this article. 

This article which incorporated the 2021 unaudited financial results has two goals:
  • To assess whether the previous investment thesis is still valid. In other words, if you have bought Asia File then, do you still hold onto the shares?
  • To assess whether there is a margin of safety based on the updated valuation. In other words, is there still an awesome buying opportunity?

I would say yes to both these questions. Should you go and buy Asia File? See my Disclaimer.

Contents

  • Recap
  • Is the current performance outstanding?
  • Is there any change in the business direction?
  • Was shareholders’ value created?
  • Is there still an awesome buying opportunity?
  • How to secure your Investments by minimizing risks
  • Conclusion
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Asia File - recap

Recap

In July 2020, my investment thesis for Asia File was based on the following:
  • The stationery business is a cash cow for Asia File.
  • We are unlikely to see the historical growth rates in the future as it was achieved via M&A-type expansion into Europe.  The Group has already announced that its focus is not expanding into the stationery sector.
  • The potential disruption by digital technology is still unclear. This gives the existing filing business some runway to continue to be profitable.
  • The Group is financially strong giving it time to seek a diversification path.
  • The market price then did not reflect its Asset value let alone the Earnings value.  There was thus downside protection.
  • For any re-rating, it has to improve its ROE.  This will not come from the existing business. If it wants to be re-rated to match the 5 years high price, the ROE should go back to the 15 % level.
  • But any new venture has to be sizeable, and the Group did not have such an investment yet.

I had concluded then that Asia File was not a value trap.

If you were to invest in Asia File, it must be because you had a long-term horizon.  There was downside protection.  You were betting that either:
  • The market will eventually re-rate it based on its existing earning power,  
  • Or better still the Group finds an opportunity to redeploy its cash and the market re-rate on this basis.

Is the current performance outstanding?

For FYE 2021, the Group had a revenue of 258.1 million and a PAT of RM 46.6 million. For FYE 2020, the revenue and PAT were RM 293.4 million and RM 36.9 million respectively.

The lower revenue was attributed to the Covid-19 pandemic. The better profits were due to the increased contribution from associates (Muda Holdings Bhd).

What was significant was the contribution from the Consumer & Food ware products segment.  In 2021, it accounted for about 18 % of the operating profit. 

The Group had ventured into this segment in 2017 but there were no financials presented for this segment until 2021. The results were a pleasant surprise.  I had assumed (wrongly in hindsight) that the segment was not doing well as there were no segment results previously.

The Consumer & Food ware products segment benefited from the 2020 Covid-19 pandemic lockdown in Malaysia. Malaysia is having another round of lockdown in Jun 2021.  I expect this segment to continue to contribute positively to Asia File in FYE 2022.

Asia File Performance Index 2021
Chart 1: Performance Index

From a long-term perspective, the 3 performance metrics do not point to a turnaround yet as illustrated in the chart.
  • While the gross profit margins have remained about the same for the past 3 years, gross profits declined in tandem with the decline in revenue. At the same time, the total assets deployed had increased. This combination resulted in declining gross profitability. 
  • The increased profit in 2021 was due to the contribution by the associates. In other words, operating profit continued to decline from the 2016 peak.
There are 3 Bursa Malaysia companies in the stationery product business - Asia File, Pelikan, and CWG.  As the revenue chart below shows, none of them showed any revenue growth in 2020.

Asia File Bursa Malaysia peer revenue
Chart 2: Peer revenue.  Source: TIRK.com

Is there any change in the business direction?

The Group has a Total Capital Employed (TCE) of RM 713 million as of 31 Mac 2021 comprising shareholders’ funds, minority interest, and loan.  These were deployed as shown in the chart below.

Asia File capital structure
Chart 3: Sources and Uses of Funds
  • You can see that only RM 240 million or 1/3 of the TCE was deployed for the operations. In 2021, the Group achieved RM 28.3 million operating profit equal to an 11.7 % return on the RM 240 million. This is a reasonable return given its 8.8 % WACC.  Note that the WACC was based on after-tax whereas the return is pre-tax. 
  • Cash accounted for about 40 % of the TCE. The Group is still sitting on top of a pile of cash (RM 282 million) that only generated RM 3.3 million of interest in 2021.
  • The balance of the TCE is invested in Muda Holdings Bhd. 

The Group has 2 operating segments - Filing products and Consumer & Food ware products.  Unfortunately, the unaudited results did not provide a breakdown of the RM 240 million deployed TCE for the 2 operating segments.  

When Asia File first diversified into Consumer & Food ware products, a budget of RM 30 million was reported.  Let us see whether the 2021 Annual Report would provide a clearer picture of the capital employed and hence the returns for this segment.

The Consumer and Food ware products segment has benefited from the Covid-19 pandemic. It remains to be seen whether it has the potential to mitigate the digital threat to the stationary business. Otherwise, Asia File has to continue to look out for another growth path.

Corporate changes

The following changes have been made since my previous post:
  • Mr. Lim Soon Wah (LSW) had retired as Executive Director on 1st Dec 2020.  Mr. Lim Soon Hee (LSH) the Non-Independent Non-Executive Alternate Director to LSW also ceased as Alternate Director. Both LSW and LSH are brothers to Dato Lim Soon Huat, the Executive Chairman.
  • KPMG had resigned as Auditors in Dec 2020 as they could not reach an agreement with Asia File on the fees.  BDO had been engaged as the new Auditors.

Based on the 2020 Annual Report, the Executive Chairman is the controlling shareholder with 45 % indirect shares.  The majority of the indirect shares were held through Prestige Elegance (M) Sdn Bhd.  LSW and LSH were not reported as having indirect shareholdings in Asia File through Prestige Elegance (M) Sdn Bhd.

Even with the above changes, I do not think that there is any significant change in the Group direction or the way it is going to be managed.

In its 2020 Annual Report, the Group had stated that:

“Apart from the first phase diversification into recyclable food ware, the Group will embark on further diversification in consumable products beyond its traditional filing products.”


Was shareholders’ value created?

I had before used the Q Rating to assess whether shareholders’ value was created. Comparing the Q Rating of 2021 with 2020 you can see that risk, growth, and profitability have improved in 2021.

Asia File Q Rating 2021
Chart 4: Q Rating

Apart from the Q Rating, I also used the following 3 metrics to gauge shareholders’ value creation.
  • Comparing the after-tax return on Total Capital Employed (TCE) with the WACC.
  • Comparing the return assuming no dividend or share buyback ie CAGR in SHF with the cost of equity.
  • Looking at total shareholders' gain from investing in the shares.

As can be seen from the analyses below, the returns for these 3 metrics exceeded the respective cost of funds.  In other words, shareholders’ value was created during this period. 

Asia File value creation metrics
Chart 5: Value creation metrics
Notes
a) Based on average EBIT/TCE from FYE 2010 to FYE 2021 and assuming a 24 % tax rate
b) From FYE 2010 to FYE 2021. This looked at how the SHF would have grown over this period assuming that no dividends were paid. 
c) Refer to total gain for shareholder computation.
d) Based on 2020 data as the 2021 audited financials were not available.


Total gain for shareholder

These are the returns that a shareholder would have obtained if he had bought RM 1,000 of Asia File shares at the start of 2010 as shown below.

Asia File total gain for shareholders
Chart 6: Total gain for a shareholder

Is there still an awesome buying opportunity?

In my previous post, I valued the Group based on the financials from 2009 to 2020. Here I will look at the valuation based on the financials from 2010 to 2021.

The chart and table sum up the Group updated values. 

Asia File valuation Jun 2021
Chart 7: Valuation
  • The value of the Group derived from a conservative Earning-based valuation is greater than the Asset value.  This is not surprising as I have added the value of the non-operating assets to the Earning value of the operating assets.
  • Over the past 5 years and even currently, the market price of Asia File share has been below the Earning Power Value.  Note that I have also updated the past 5 years' market prices compared to the previous ones.
  • The company is currently still trading below its updated NTA.

In deriving the Earnings value, I have assumed that the past 12 years' average performance represented the future.  This means that
  • If you believe that the future is better, then Asia File Earning Power Value will be higher than RM 4.69 per share.
  • But, if you think that it will be worst, then the RM 4.69 per share is over-estimated.

You will note that the Earning-based values are higher than those computed before.  The main reason for this is that the valuation is based on 12 years rolling period. The latest year’s EBIT from ops is higher than that for 2009. As such the current rolling period average value is higher than the previous rolling period value.

Asia File valuation table 2021
Chart 8: Valuation

I use 2 valuation methods to derive the intrinsic value:
  • The Discounted Free Cash Flow method as per Damodaran.
  • The Discounted Residual Income method as per Penman.

I then take the average from both methods as the final computed intrinsic value. This applies to both the EPV and the Earning value with growth. 

When it comes to growth:
  • I use the fundamental growth equation to derive growth for the Discounted Free Cash Flow method. This is Return X Reinvestment rate = growth.
  • For the Residual Income method, I compute the growth trendline based on the historical residual income. 
  • In both cases, I capped the growth at 5%.

The results you see in the table are based on these computations. You will note that the growth component of the Earning value is very small. 

I have mentioned earlier that only 1/3 of the TCE has been deployed for the operations. Based on this perspective, I have modeled the Group business as shown below.

Asia File segment performance
Chart 9: Segment Performance
Notes
a) The segment profit for the Operations was the average EBIT from 2010 to 2021. 
b) The profit for Cash referred to the 2021 interest income before tax
c) The profit for the Associates was the average share of the profit from Associates from 2010 to 2020

You will note that the returns (Segment profit/Capital employed) were low for Cash and Associates.  

The value of the Associates in the consolidated financial statements was consolidated based on the equity method. If the value was based on the Earning Power Value of Muda Holdings, there would be an impairment of about RM 56 million. Refer to the Case Notes.  This would reduce the value of Asia File by about RM 0.29 per share.

Even accounting for this impairment, the Earning Power Value of Asia File is still greater than the market price.

Note that if based on the NTA of Muda Holdings, there would not be any impairment to the NTA of Asia File. 

Case Notes

About RM 190 million of the Group’s assets is for its 20 % shareholding in Muda Holdings Bhd (Associates). 

As of the end of Dec 2020, the 20% value of Muda Holdings based on several valuation metrics were:
  • RM 225 million based on the NTA of Muda Holdings.
  • RM 170 million based on the market price of Muda Holdings.
  • RM 134 million based on Earning Power Value of Muda Holdings. This is based on the 2010 to 2020 average EBIT of RM 57.8 (Source: TIRK.com) million and a WACC of 11.25 (Source: FinBox). I have also added RM 157.2 million cash to the EPV.

From a valuation perspective, we should use the Earning Power Value of Muda Holdings rather than the accounting value when determining the value of Asia File. 

As you can see, fundamental analysis is more than just using some formula. There are choices to be made in terms of which approach to use and what to assume. 

So, if you are just starting out to analyze and value companies, it may be helpful to supplement it with third-party analyses and valuation.  

There are several financial advisers who provide such analyses. 

Those who do this well include people like The Motley Fool. Click the link for some free stock advice. If you subscribe to their services, you can tap into their business analysis and valuation.





How to secure your investments by minimizing risks

We considered two main risks previously.
  • Investment risk - will Asia File be privatized?
  • Business risk. Is there enough time to establish another core segment before its earning power is affected by digital disruption?

The privatization risks look less likely now since this was not pursued last year when the market price was much lower. 

The current main investment risk is whether you have the holding power while waiting for a turnaround and/or the market to re-rate it.

As for the risk due to digital disruption, the global demand for stationery products is still growing as illustrated by the following:
  • “The global stationery market is forecasted to record growth at a CAGR of 9.50% during the period spanning 2020-2024”.  Research & Markets
  • “The global market for stationery products…is projected to reach a revised size of USD 217.9 billion by 2027 growing at a CAGR of 1.8 % over 2020 - 2027”. StrategyR.
  • “The global stationery products market size was valued at USD 90.6 billion in 2018 and is expected to expand at a CAGR of 5.1% over the forecast period 2019 - 2025”. Grand View Research
  • The revenue of the listed stationery products companies in Japan and China showed that those in China are still growing.

Asia File China and Japan Peer revenue
Chart 10: Peer Revenue - China and Japan    Source: TIKR.com
Reference code in the chart
  • Kokuyo Co Japan (KOK)
  • Mitsubishis Pencil Co (7976)
  • Pilot Corp (7846)
  • Shanghai M&G Stationery (603899)
  • Shenzen Comix Group (002301)
  • Guangbo Stock Group (603899)

Given the above, I would conclude that the earnings from Asia File’s stationery products are not at any immediate risk of turning negative. It is not like the media companies in Malaysia. But Asia File has to find another core business.

In the digital disruption context, I have another article on Asia File. Refer to “Asia File: Will there be time to meet the digital disruption challenge?”

The other positive thing is that the stationery products business is still a cash cow. From 2010 to 2021, the cash flow from operations and investments averaged RM 44 million per year. And it is not a declining trend.

Conclusion

A value trap is a stock that while appearing to be a bargain turns out to be a dud. This is because the company actually has insurmountable problems that affected its profitability.

Asia File value from just cash and investment in Associates comes to RM 2.43 per share. From a liquidation perspective, all shareholders will be able to get more than the current share price.

The Group is still generating positive net cash flow from operations and investments. You would think that this would give the Group enough time to diversify and grow the next core business.

In this context, the positive sign is that the Group has managed to grow the Consumer and Food ware products business since venturing into it in 2017. 

Management has shown that they are prudent in spending money and I am confident that they are cost-conscious.  There is ample margin of safety provided you have the holding power.

I would conclude that last year's investment thesis is still valid and if you have bought Asia File’s share then, there is no reason to exit. 

If you had not bought it last year, there is still a margin of safety between the current market price and the intrinsic value.  Even today, Asia File is not a value trap. 

But, as an investor, it is not only about holding power.  Are there better investment alternatives?  If there are, then Asia File may not be so attractive.

The other consideration for investing in Asia File today is dependent on how you assess the intrinsic value. Do you look at a stock from a liquidation perspective or a going concern basis? 

The margin of safety from an EPV basis is much greater than an Asset Value perspective. This implies that the existing operations will continue to be viable and generate cash. 

Management has mentioned not paying out so much dividend in order to have a reserve for diversification. However, there is a possibility that the operations may throw up more cash than needed for this. Should this happen, there could be more dividends in the future than what was paid in the last few years. 


END



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 on 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. 



Investment books that I have read.

Books


Comments




A must-read book if you are a value investor.  If you have read his partnership letters and the Berkshire Hathaway "lectures" you should not miss this book. 

 

 

 

I tend to read all books on Warren Buffet just to see whether I have missed out on any insights about value investing.  

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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.

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