A Super Stock

AA ““SSUUPPEERR”” SSTTOOCCKK HHooww II MMaaddee aa 224433..55%% RReettuurrnn

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Victor Chng

FifthPerson.com AA ““SSuuppeerr”” SSttoocckk - 2 -

Contents

A “Super” Stock 3

How did we identify the idea? 3

Business 4

Branded Consumer Products 4 Raw Ingredients 4 Segmental Sales 5 The Tipping Point: Key Growth Drivers 6 Expansion Updates, of ingredients sales in 2010 6

Management 7

Behaviour Analysis 7

Financials 8

Peers Analysis 10

Valuation 12

Divestment: Why We

Sold? 13

Final Words 15

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A “Super” Stock By Victor Chng & Rusmin Ang | The Fifth Person

It’s a great pleasure for us to share

with you our investment philosophy

on how we identified and invested in

Super Group in 2011 and later sold it

for a 243.5% gain just two years later.

+243.5% Price appreciated in 2 years!

The information provided below are

all based on research and analysis

done at that point in time. What is

crucial here is that you understand

our investment thought process --

from identifying the investment idea

to the analysis of the company to the

signs that told us to divest the

company. For a 243.5% gain

(excluding dividends) in two years,

hey, I think we did not too bad here!

Have fun reading!

How did we identify the idea?

Back in 2011, we were screening for

stocks which were heavy on insider

buying. That was when we noticed

that the chairman and directors of

Super Group were increasing their

stakes in their company when its

stock price came crashing down

during the 2008/2009 recession.

That was a huge signal for us to look

deeper into Super. We usually avoid

companies who expand and diversify

into non-core businesses (which

Super was “guilty” of). However by

that time in 2011 Super had decided

to divest their non-core businesses

and focus back onto their core

operations.

The other thing that caught our eye

was the growth of their ingredient

segment sales which grew from a

meagre $1.5 million (2006) to $58.2

million (2010). That’s an eye popping

3,780% growth (150%+ CAGR) in

just four years.

Of course, you don’t just jump in the

moment you pick up a piece or two

good news. It’s supremely important

to understand the full picture and

what you’re buying into before you

invest your hard-earned money in any

stock.

So how did we analyze Super and

decide to go ahead with the

investment? Read on :)


Business

Super’s core business consists of two segments – branded consumer products

and raw ingredients.

Branded Consumer Products

Super’s Brands (Source: Company)

Super offers a range of over 200 instant coffee and convenience products.

Brands include household names like Super, Café Nova, Coffee King, Owl,

Super Power, Ye Ye, Gold Eagle, Liang Bo, Negresco and Super Kids.

They have a strong brand presence in Singapore, Malaysia, Thailand &

Myanmar and Super is ranked in the top 3 for in market share for instant

coffee for those countries.

Raw Ingredients

Super also produces raw ingredients such as non-dairy creamers, spray-dried

coffee and freeze-dried coffee. Nearly 80% of ingredient sales are sold mainly

to industrial users in Taiwan and China, while the rest is used by Super

internally.


Segmental Sales

Sales by Region

South East Asia

(excluding Singapore)

is Super’s biggest

revenue contributor.

This is followed by

East Asia (Taiwan &

China), Singapore and

Others.

Sales by Product Super’s coffee product is

still the largest revenue

contributor at 62%.

Ingredient sales which

consists of Non-Dairy Creamer,

Soluble Coffee and Other

(Ingredient Sales) account for

16% of total revenue.

Other (Branded Consumer

Sales) and Cereal Products

account 14% and 8%

respectively.

63%11%

20%

6%

South East Asia (Exc. Singapore)

Singapore

East Asia

Others

62%8%

14%

13%

2%

1%

Coffee

Cereal

Others (Branded Consumer Sales)

Non-Dairy Creamer

Soluble Coffee Powder

Other (Ingredient Sales)


The Tipping Point: Key Growth

Drivers

Super’s ingredient sales grew from

$1.5m (2006) to $58.2m (2010) which

is a compound annual growth rate

(CAGR) of 150%.

In 2006, ingredient sales only

accounted for 0.7% of Super’s total

revenue. At this amount of

contribution, even a doubling of

ingredient sales would have been

insignificant to the group’s total

revenue figure. The tipping point

came when ingredient sales started to

contribute to 16.5% of the group’s

sales in 2010. At this point, any slight

increase in ingredients sales would

have significant impact on total

revenue.

In March 2011, Super’s first quarter

results showed that ingredient sales

grew by 104%. The management

mentioned it was the result of strong

demand in the East Asia market.

Due to the strong demand, the

management planned to increase

production capacity by another

25,000mt to 100,000mt by 3Q2011.

This signified a strong growth driver

for the company. Additionally, at

larger capacities of production, the

company enjoys economies of scale,

increasing production efficiency and

reducing production costs.

Expansion Updates, of ingredients

sales in 2010

Due to strong demand in the market,

Super completed the installation of

two additional non-dairy creamer

production lines in Wuxi, China

increasing the existing production

from 75,000mt to 125,000mt per

annum.

There was also a construction of a

production facility to produce freeze-

dried soluble coffee powder. In 2010,

Super only produced spray-dried

coffee powder with an annual

production of 10,000mt. Freeze-dried

soluble coffee powder is viewed as

superior in terms of flavour and aroma

over spray-dried coffee. The plant was

completed in June 2012 with an

annual production of 1,500mt.

The soaring consumer demand and

Super’s financial and production

capability to meet this demand meant

that the company was well poised to

reap substantial profits due to this

explosion in growth.


Management

Behaviour Analysis

In 2010, the management made a

successful strategic decision (as you

will see later) to divest all their non-

core businesses and focused back

onto their core business – branded

consumer products and ingredients

sales.

They also continued to innovate and

introduce new branded consumer

products with higher margins to the

market.

In alignment with shareholders, the

management declared a dividend

pay-out policy of at least 50% of the

group’s annual profits as dividends

to shareholders.

In 2008/2009, the chairman and

directors of the company also

purchased a substantial amount of

Super stock from the open market

increasing their ownership stake.

This gave us further confidence in

the future growth prospects of the

company.

As legendary Wall Street investor,

Peter Lynch, used to say:

“Insiders might sell their shares for

any number of reasons, but they buy

them for only one: they think the

price will rise.”

“Insiders might sell their shares for any number of reasons, but they buy them for only one: they think the price will rise.”

Peter Lynch


Financials

When we had a look Super’s books, they told a story of company that was

financially sound and that was growing increasingly well. Few things stood out:

Positive trend in their revenue and net profit.

Super’s business model was able to stand resilient during The Great

Recession. The group posted a stronger profit margin of 24.9% in

2008/09 despite a drop in revenue.

Similarly, gross profit margins also increased from 33.2% (2008) to

37.2% (2010). This increase in margins was due to the introduction of

new products with better margins, better cost management and

increased production efficiency.

Year Dec, S$m 2004 2005 2006 2007 2008 2009 2010

Revenue 171.8 187.9 210.6 253.5 300.1 296.2 351.2

Net Profit 18.2 23.3 18.3 25.5 30.5 38.1 46.9

Cash Flow 26.4 21.7 5.5 5.1 35 66.4 55.4

Capex 9.4 19.1 18.9 11.4 7.2 6.8 14.5

Free Cash Flow 17 2.6 -13.4 -6.3 27.8 59.6 40.9

Cash & Cash Equivalent 35.4 22.8 22.8 21.5 25.8 70.4 141.7

Revenue Y-O-Y Growth 9.4% 12.1% 20.4% 18.4% -1.3% 18.6%

Net Profit Y-O-Y Growth 28.0% -21.7% 39.8% 19.6% 24.9% 23.0%

Cash Flow Y-O-Y Growth -17.8% -74.7% -7.3% 586.3% 89.7% -16.6%

Account Receivables Y-O-Y Growth 16.6% 23.1% 8.1% 5.0% -31.3% 57.2%

Inventory Y-O-Y Growth 39.9% 43.7% 10.7% 24.2% -28.2% 26.4%

Gross Profit Margin 42.5% 40.6% 35.8% 34.1% 33.2% 34.9% 37.2%

EBITDA Margin 20.1% 18.9% 15.6% 13.6% 15.0% 16.2% 17.2%

Net Profit Margin 10.6% 12.4% 8.7% 10.1% 10.2% 12.9% 13.3%

Cash Flow to Net Income Ratio 1.3 0.9 0.3 0.2 1.1 1.7 1.2

SGA Ratio 26.3% 25.9% 24.5% 23.6% 21.2% 22.0% 21.8%

Operating Expense to Sales Ratio 85.4% 85.9% 89.1% 89.8% 88.4% 87.2% 85.6%

Financial Track Record

Growth

Profi tabi l i ty

Expenses Management


Cash & cash equivalents increased

from $36.4m (2004) to $141.7m

(2010).

Super produces high quality

earning as we can see from the

cash flow to net income ratio; it is

consistently above 1.0 from 2008

to 2010.

Management also indicated that

they would be reducing their costs

which was reflected in the

numbers with operating expenses

decreasing.

Return on equity increased from

10% (2008) to 14.2% (2010).

We also took a look at EBITDA

on equity (which we view as a

better tool for accessing

management ability to generate

returns) – Super posted 18.4%

which is above our benchmark of

15%.

Super is a cash rich company with

a cash ratio of 1.5 which was

reflected in their cash hoard of

$141.7 million. Debt to equity

ratio was as low as 0.9% which

meant that they didn’t need any

debt to expand their business.

Management Efficiency 2004 2005 2006 2007 2008 2009 2010

Return on Equity 11.9% 13.5% 9.8% 11.2% 10.0% 14.5% 14.2%

EBITDA on Equity 22.6% 20.6% 17.6% 15.1% 18.0% 17.3% 18.4%

Return on Assets 8.1% 9.3% 6.3% 8.1% 7.3% 11.0% 10.5%

Receivable Days 98.4 104.9 115.3 103.5 91.8 64.0 84.8

Payable Days 57.6 65.1 50.0 43.9 43.3 37.3 46.5

Inventory Turnover Days 102.7 127.2 151.0 135.2 140.1 104.5 115.6

Cash Conversion Cycle Days 143.4 167.0 216.3 194.8 188.5 131.2 153.9

Market Cap 202.4 219.6 313.2 428.6 219.4 344.1 785.9

Outstanding Shares 493.7 493.4 493.2 542.5 541.6 537.6 557.4

Cash Ratio 0.7 0.4 0.3 0.4 0.4 1.1 1.5

Total Debt to Equity 2.6% 2.3% 18.8% 3.2% 3.4% 1.4% 0.9%

Net Debt to Equity -20.7% -10.9% 6.5% -6.3% -6.9% -24.0% -42.1%

Dividend Per Share ($) 0.0095 0.0111 0.0128 0.0160 0.0160 0.0260 0.0540

Dividend Yield 2.3% 2.5% 2.0% 2.0% 4.0% 4.1% 4.1%

Dividend Payout 22.7% 22.6% 25.0% 28.6% 33.2% 34.6% 50.8%

Price to Earning Ratio (PE) 11.1 9.4 17.2 16.8 8.7 8.6 16.8

Price to Sales Ratio (PS) 1.2 1.2 1.5 1.7 0.7 1.2 2.2

Price to Book Ratio (PB) 1.4 1.3 1.7 1.9 0.9 1.3 2.2

Price to Cash Flow (PCFO) 7.7 10.1 56.9 84.0 6.3 5.2 14.2

EV to EBITDA 5.0 5.7 9.9 12.0 4.5 5.8 9.8

EV to Cash Flow (EV/CFO) 6.5 9.3 59.2 81.2 5.8 4.2 11.7

Financial Strength

Dividend

Valuation


Dividend per share was also increasing with an average dividend yield of 3%.

Super’s historical dividend pay-out ratio was between 22%-34% which was

increased to a minimum pay-out of 50%. In addition, Super’s profits were

growing steadily as well which meant that the dividends per share were also

going up and up.

Super’s PE ratio was a bit on the high side. We focused more on

EV/EBITDA because that took into account their huge cash position, which

gave us a truer reflection of their value. In 2010, Super’s EV/EBITDA was

9.8 which was a fair valuation. But with ingredient sales growing at a rate of

150% p.a., that figure of 9.8x looked way much cheaper.

Peers Analysis

Referring to the next page, Page 11 - Peers Comparison, Super’s ingredient

segment that they were able to have better cost management and production

efficiency which led to higher gross and net profit margins compared to their

peers.

As a testament to their management skills, Super was able to generate a

higher ROE even with the lowest debt to equity compared to their peers.

Food Empire had the highest receivable days (115.5 days) because they

sell to distributors instead of direct to end consumers. In our view, the

disadvantages lie mainly in Food Empire’s business model.

Super was growing the fastest in the industry (25.5%) compared to Food

Empire (-10.1%) and Viz Branz (6.3%).

Super might have the highest PE but they also had the lowest PEG

because they were growing so much faster than the rest. Using the

EV/EBITDA ratio, Viz Branz had the cheapest valuation, but Super’s

solid business model and strong growth made up for their more

“expensive” EV/EBITDA, which at 9.8 was considered fair value.

Super also had the highest dividend yield among its peers.



Valuation

2004-2008 2006-2010 2004-2010

Revenue 8.1% 13.6% 12.7%

Earnings 24.0% 26.5% 17.1%

Cash flow 25.8% 78.1% 13.1%

Compounded Annual Growth Rate

Looking at the CAGR table above,

Super’s revenue and earnings growth

from 2006-2010 is 13.6% and 26.5%

respectively. Taking into account that

future growth may not always pan out

as expected (as witnessed when

Super’s revenue and earnings growth

during 2008-2010 dropped to 8.1%

and 24% respectively), we used a more

conservative growth projection of 15%.

Super’s intrinsic value was estimated at

$1.78 (please note the intrinsic value

took into account the sizeable cash

position Super had). At that point in

time, Super was trading at a 30%

discount to our intrinsic value, with PE

ratio and EV/EBITDA was 15.6 times

and 9.8 times respectively.

And it is acquired… When we compared Super with its

peers, the company was definitely the

most financially sound and had the

most growth potential among them.

Super had a strong balance sheet with

$141.7 million cash hoard and a low

debt to equity ratio of 0.9%. Their

ingredient sales segment was growing

at a massive 150% p.a. for the past

four years. The latest quarter that was

released at the point in time (March

2011) showed that ingredients sales

doubled up again!

Management had divested all their

non-core businesses and decided to

focus back on their core business.

Management also declared a

minimum dividend pay-out of 50% of

annual net profit to shareholders.

With all these positive factors and

hardly any negative ones, we were

more than willing to pay a fair price

for Super, especially with all the

growth drivers already in place.

In March 2011, we entered and

purchased Super at $1.31.


Divestment: Why We Sold?

We bought Super at a price of $1.31

in March 2011 and later sold it at

$4.50 in June 2013 – a 243.5% gain in

just over two years.

When we sold the stock, many of our

friends questioned our decision

because the stock shot to an all-time

high of $4.93 right after we sold!

Historical Share Price, 2011 – 2013

(Source: markets.ft.com)

Many were expecting Super to shoot

above $5. Well, it didn’t happen and

the stock has since dropped to $3.76

at this time of writing (Feb 2014).

How were we so sure that it was the

right time to sell?

There were certain factors that we

reasoned that finally triggered our

decision to sell Super in 2013.


Reasons for Selling

Super’s 1Q2013 results showed

revenue and net profit growth at 9%

and 25% respectively. The slowing

revenue growth was due to ingredient

sales growth slowing to 33% and

branded consumer sales growth at

only 1%.

Moreover, the 25% growth in net

profit in 1Q2013 was due to cost

reduction in raw materials and a forex

exchange gain. Hence it was not

organic growth. We also didn’t, and

couldn’t, expect ingredients sales to

continue to growing at a whopping

150% p.a. anymore.

When Super was trading at $4.50, the

PE and EV/EBITDA was 33.0 and

25.0 respectively. This is considered

to be on the high side, especially so

when compared to when we bought it

at PE 15.6 and EV/EBITDA 9.8.

Theoretically, we can also “deduce”

the growth rate of a company through

its ROE. Assuming a company

doesn’t give out any dividends and

they maintain their ROE at a certain

rate, theoretically the company will

eventually grow at the same rate as its

ROE.

Applying that to Super with its ROE

at 19%, its growth rate will similarly

be 19%. Based on a PE of 33.0 and a

growth rate of 19%, Super’s PEG is

1.73x which is overvalued. In

addition, Super actually pays out 50%

of profits as dividends which means

its true growth rate is even less in fact.

Finally, we did a discounted earnings

projection with a highly optimistic

growth rate of 25% and its intrinsic

value only worked out to $4.48 (also

taking into account the net cash

position) – which was two cents away

from where Super was already trading

at.

Based on these factors, we decided to

cash in and sold the stock at $4.50. In

hindsight, with Super’s stock hovering

below $4.00 as of now (Jan 2014), it

does seem that our decision has paid

off rather handsomely.


Final Words

We hope this simple report has

opened your eyes to what safe,

rational investing is and how it can

make you a very tidy profit if you do

your proper research and due

diligence.

Super was already an established

brand in the market and like all

established players, growth can be

rather limited. We would have

missed the boat on Super had we not

taken a deeper look at its business

model and financials and noticed that

a segment (ingredient sales) was

growing at a searing pace of 150% p.a.

This kind of growth of in a mature

company is rare and hard to come by.

However this alone was not enough

to invest in the stock; we had to make

sure that the company was financially

sound and all risk factors were

properly considered – protecting our

downside. Once we were certain that

the risks were limited and the

probability of this investment going

sour was unlikely, we still didn’t jump

in!

We had to make sure that we were

getting a good or fair price for

purchasing the stock. With our

valuation models in hand and using

the ones that best fit Super and its

scenarios, only then were we certain

that the stock was undervalued and

represented a good deal.

Once you have done your full

research and you are certain of your

conclusions, waste no time in

investing because time and tide wait

for no man. If you wait too long

because you are unsure, you might

miss the boat altogether. You have to

trust your logic and analysis and jump

(assuming you really did your

homework!).

As in was in our case, our conclusions

did prove right after all. A 243.5%

gain in a little over two years is

nothing to sniff at. Not to toot our

own horn here, but we just want to

show you how profitable it can be

when you apply logic and knowledge

to your investing. A “Super” stock

was only super because it all made

sense.

Happy investing!

Victor Chng & Rusmin Ang

Documents

A Super Stock