In previous post, we conducted a business analysis on RGB. In this post, we look into the financial figures of RGB for the past 5 financial years + latest trailing twelve month (TTM). For the sake of simplicity, we will only extract the figures and illustrations that are relevant to our findings. When come across some financial terms that are new to the readers, we suggest the readers to find out the definitions from respectable sources like http://www.investopedia.com/ to fully understand the article. We are obligated to remind our readers that at the time of writing, RGB was last traded at RM 0.27, which is the figure being applied in some valuations and assumptions in later part of this article.
As indicated in Illustration 1, RGB shows a clear sign of uptrend in its revenue, gross profit and net profit. Table 1 shows that RGB recorded impressive 5 year CAGR in revenue (18.3%), gross profit (26.4%), EBIT (22.1%) and net profit (44.7%). When we look into the figures of each year, it’s not hard to notice the growth in RGB revenue has not been very stable over the financial years under coverage. Thus, we will look close into RGB’s revenue segments in the later part of this article to conduct further analysis.
Back to Table 1, the higher CAGR in gross profit, EBIT and net profit (compared to revenue) suggested there have been better cost control for RGB over the years, so we move on to see what Illustration 2 tells us about the profit margin of RGB.
In Illustration 2, there is no clear sign of margin expansion in gross profit margin and EBIT margin, but a clear one in net profit margin. This was attributable to lower financial costs resulted from reducing borrowings. We would like to point out that such net profit margin expansion was achieved at the back of higher tax expense, which we suppose it was resulted from diminishing tax loss carry forward from loss making years. Going forward, RGB may not able to continue to expand its net profit margin through financial costs reduction as there will not be much room to do so.
In Table 2 and Illustration 3, we highlighted the significant reduction in the Group borrowings since FY11, the year when the management first announced to pare down their debts through annual report. On the other hand, there is significant improvement in cash held by RGB. The Group turned into a net cash position in FY15, and in the latest quarter 3QFY16, its net cash position stands at RM 67.6 mil, equivalent to 18.4% of its market capitalization at time of writing.
With its net cash position, and strong liquidity ratio (current ratio, quick ratio & cash ratio) which measures the Group’s ability to meet its financial obligations as they come due, it means that the downside risk in RGB balance sheet has basically been taken care of.
Cash Flow Statement
What good is a company that is able to make profit in book, but fail to collect the cash? This is the reason why we must look into the cash flow statement. From Table 3, we can see that RGB not only able to maintain positive CFFO for every year under coverage, but also managed to generate operating cash flow that is substantially higher than its net profit every year (compared Table 3: CFFO vs Table 1: net profit). It indicates that the Group has an unusually short cash conversion cycle which will be analyzed later.
After assessing RGB’s CFFO, we look into RGB’s FCF. FCF is equal to CFFO minus CAPEX, representing the cash that a company able to generate, after paying what is necessary to maintain or expand its business. Therefore, FCF is the cash flow that is more likely to reward investors, either being distributed in terms of dividend, or used to pursue opportunities on another level. Illustration 4 indicates uptrend in CFFO, with consistent CAPEX, which is in line with the management style to be careful and strict in spending CAPEX. As a result, RGB has been able to maintain strong FCF over the years, with CAGR of 5%.
Looking at commonly used ROA and ROE, RGB might not seem attractive. As indicated in Table 4 & Illustration 5, ROE of RGB doesn’t show any improvement over the years, while ROA has always been subpar, never surpassing 10%.
As we all know, ROE can be misleading when there have been significant changes in the company capital structure, as reduction in financial leverage will drag down the ROE, vice versa. This situation is applicable to RGB since the borrowings of the Group has reduced by 92.5% in 5 year time, and we attach Dupont Analysis of RGB (Illustration 6) to support our view.
While for ROA, it could understate the performance of a company especially when the company has a big part of non-operating assets, and RGB falls under this category. How do we know that? By looking at the CCC in Table 4. CCC measures how fast a company can convert cash on hand into even more cash. Generally, the lower this number is, the shorter period of time that a company need to finance its business operations. As shown in Table 4, RGB was able to achieve CCC of negative from FY11 to FY15, which indicates its ability to pay the suppliers for goods after receiving payment for those goods from customers, and it doesn’t need to hold too much inventory in house. In other words, RGB does not need its own capital to pay its suppliers.
With the limitations of ROE and ROA in the case study of RGB, we suppose ROIC and CROIC is the better measurement of RGB performance. ROIC is derived from the net operating less adjusted taxed (NOPLAT) divided by invested capital, and invested capital is defined as the total investor capital required to fund the operations (PPE + receivables + inventories – payables). While CROIC is derived from FCF divided by invested capital. ROIC and CROIC of RGB has been fantastic and in a uptrend under the years covered.
Table 5 indicates the 2 main revenue segments of RGB, i.e. SSM and TSM. To clarify, there are other revenue sources from RGB including leasing of Chateau building, manufacturing activities and R&D but contribute less than 0.5% of the Group revenue, therefore is not included in our analysis. Profit before tax from both segments have excluded unallocated expenses for SSM and TSM.
In terms of revenue, we notice despite the higher CAGR achieved in SSM segment, the growth in the segment has been unsteady. On the other hand, TSM segment is able to provide more stable and recurring income to the Group. SSM and TSM have contributed 60+% and 30+% to the Group revenue respectively in the past 3 financial years being covered.
In terms of profit before tax, TSM segment contributes higher portion to the group due to its high margin. In fact, there’s a clear margin expansion in TSM profit margin but we couldn’t say the same about SSM. Table 5 shows us that TSM segment has been the segment with more stable & recurring revenue, and higher & expanding profit margin. However, the Group is still struggling to expand the overall revenue contribution from TSM segment in relative to SSM segment.
Illustration 7 is self-explanatory in regards to geographical segment of RGB in FY15. The Group is still highly concentrated in Philippines and Cambodia in terms of revenue and non-current assets.
Given RGB stable and decent FCF growth over the years under coverage, we decided to apply Discounted Cash Flow (DCF) analysis to derive the intrinsic value. In value investing, we always say that buying into a stock is equivalent to owning part of the company, and therefore deserve a proportional sharing of whatever profit made. However, that is not completely true. Dividend is the only form of real cash reward to investors by holding onto a company share, and a strong FCF always lead to potential higher dividend.
Assumptions need to be made for DCF analysis. According to Table 3, 5 year CAGR of RGB’s FCF is 5%. We therefore create 3 assumptions for each scenario for our analysis.
In Best Case scenario, we assume FCF of RGB continue to grow at 5% CAGR in the first 5 years, and 2.5% for the next 5 years. In Base Case scenario, we halve FCF growth rates to 2.5% in the first 5 years, and 1.25% in the next 5 years. In Worst Case scenario, we assume no more growth in FCF for the next 10 years. In all scenarios, we assume terminal growth rate and discount rate to be constant at 3% and 10% respectively.
After running the 3 scenarios, we derive intrinsic value of RM 0.33 for Best Case, RM 0.30 for Base Case and RM 0.27 for Worst Case. At time of writing, RGB share price of RM 0.28 no longer offers great margin of safety in all 3 scenarios.
In previous post, RGB – Siding with the Top Bookies, we explained the business nature of RGB and the risks involved. We highlighted RGB superb management as one of its attractiveness.
In this post, we present the financial highlights of RGB for the past 5 years and relate the figures to the business analysis in previous post. It is interesting to see how the figures in management efficiency have reconfirmed our view on management capability. As much as we like RGB from several perspectives, we would remind our readers that at current price RGB doesn’t offer much safety of margin.