Q1 2018 update

Viet Portfolio

The Viet portfolio is made up of 5% of my parents and 15% of my brother’s net-worth.

Despite having no money of my own in this portfolio, I aim to invest my family’s money exactly the way I would for my own.

During Q1 of 2018, the biggest change in the portfolio has been the introduction of a sub-portfolio comprised of a group of deep-bargain stocks (further details in here). This sub-portfolio, called Bargain Portfolio, is now accounted for 24% of the whole Viet portfolio.

These bargain stocks, when bought, were selling in a range of PEx between -1x to 3x. (“minus” being the core operation was not only given away for free but investors will have intrinsically been paid an extra small amount of money for it by acquiring their stocks via the open market)

Most of these businesses’ value were hidden due to their huge net-cash position relative to their marked-to-market net-worth and some of their positions in short/long-term investments (either quantifiable because the investments are publicly-listed or because your author has an average understanding of the investments to be able to subjectively estimate their worth)

Over the course of 2 months (from the end of January where we first established it to end of March), the bargain portfolio returned 8%. The details of the portfolio is specified below

Bargain port

We registered more marked-to-market loss (paper loss) than paper gains in terms of quantities. However, the paper gains on the absolute level resulted in our positive paper gains of the entire bargain portfolio of 8% mentioned above.

The largest position is in an arbitrage situation – TTT – The parent company of a listed cable-car operator in Ba Den Mountain situating in Tay Ninh province.

TTT owns 51% of TCT (the cable car operator). As TCT is listed, we can calculate (based on quoted price) that 51% of TCT is worth about 400-450bn VND…yet TTT’s market cap is only 210bn VND when we bought the stock.

The mismatch of roughly about 200bn VND…where does it come from then?

At the time, we tried to answer this question (with a thought in mind that we could have missed sth) by looking at TTT’s balance sheet to see if the business had got any outstanding debts, or major liabilities that were of provisional nature. But we found that the business didn’t have any debt at all. To be exact, the business has 17bn VND in total debts (including also trade payables, etc) yet TTT alone (excluding TCT from perspective of consolidation accounting) already has 80bn VND in cash.

With this debt question going out of the way, the 200bn VND worth of mismatch looks to us as a great arbitrage opportunity.

Then came 15 March 2018 when the majority shareholder of TTT (the Government of Tay Ninh) announced to sell their stake to a (yet disclosed) strategic partner at a minimum price that is 15% premium to what we paid to acquire the stocks (and the price has not even moved to reflect this minimum price yet…how inefficient the Viet market is!). Such price still undervalued the whole TTT business by ~70% or so. As such, we are now waiting for the key catalyst in which a major strategic partner (Sun Group – a key player in tourism industry in Vietnam has been already in talk with the Government of Tay Ninh) will come to buy the government-owned stake.

We see no risk to owning shares in TTT therefore. We could have been totally wrong in only having roughly 7% or so worth of position sizing in the stock…

The 84% paper-gain on NDN (a real estate company in Da Nang) wasn’t expected. At the time when we purchased the shares, we calculated that the core operation of the real estate business was valued at 2x PFCF. We spotted that the business had a huge net cash position coupled with a big equity portfolio and several associate investments in some listed businesses. Statistically, stripping these out resulted in a 2x PFCF on the core operations. After the rally, the core is now valued at around 10x PFCF. We do not understand extremely well the underlying economic power of NDN’s core operations (chiefly the reason why it is part of the diversified bargain portfolio than being in the core portfolio) and so we would take some time to go over the core operations to see if NDN can ever be converted into a core holding at a 10x PFCF (which would be the kind of multiple we want to get into for a core holding after an extensive free-cash valuation exercise of course). So this one is to be continued.

Of the companies that so far have registered a paper loss ranging from -2% to -18%, we found nothing wrong that has occurred to their true net-worth. These businesses still have net cash/short/long-term investment positions that are large enough to be missed by the market as far as a single arithmetic PEx is concerned (and as far as “voting machine” is still at work and the “weighing machine” is still at sleep in Vietnam) and so we would expect to continue owning their shares until major announcements occur to them.

Other than the bargain portfolio, our core holdings have carried out their respective shareholder/annual meetings where we had a glimpse into their future business plan. We are happy with the majority, neutral with a few and don’t feel bad with any of them. (for details of our core holdings, please also visit here)

Of the core holdings, we aim to top up a bit on REE (a nicely run conglomerate owning stakes in power/water/mechanical & engineering/real estate industries) which we think the company’s consolidated operations are still being priced between 3-5x and that their power/water portfolio’s book value fail to reflect its true economic value that can be exchanged shall they be divested (especially the water business!)

We have cut 20% of PNJ’s position (the largest branded gold jewellery business in Vietnam). The stock’s performance has far outstripped its earning power as far as short-to-medium-term economic visibility is concerned. Our target price to significantly cut it to a 2% position of our portfolio (right now it is a 8% position) is around 25% on top of their current stock price. However, I must emphasize that the management at PNJ has done a terrific job in growing the business. While gold jewellery consumption increased by 7% in 2017, PNJ revenue registered a whopping 20%+, highly implying market share gains (depending on pricing growth which we do not think exceeded 13%). As a result, the stock has gone up 90% since we established our first position 9 months ago. Over the long-term, jewellery is a very cyclical business and so we are extremely careful in having PNJ as the top biggest position at any point in time. However we are weighting this risk-averse attitude against the managerial talent and the strong economic moats of the company when deciding the position size for the shares in our portfolio.

That is it for a quick update on the Viet portfolio…

Global Portfolio

The global portfolio is my own savings and investments. (the reason why my family’s money is only limited to Vietnamese stocks is because of regulatory reasons, whereby it is not possible to shift Vietnamese-based private investors’ money abroad to invest globally)

For the global portfolio, I spent 2 months in Q1 to change broker. This rather lengthy process was because I switched holding the stock positions from a UK broker to a US-based one. This change reflects on a lesson on fees…”Performance comes and goes. Fees never falter”! I was using an expensive broker that over the past 2 years would have cost me 2% of annual compounded return on buying/selling stocks. The main reason for this is because I thought I would have saved money by taking advantage of the tax benefits offered by the ISA account (a UK-based type of saving account) that allows you to not pay any tax at all in case capital gains and dividends are realised (there is however a cap on the amount I can pay into my account every year). While this sounded like a sweet deal, and that normal broker doesn’t offer ISA account, I missed (or more like ignored) the allowance amount that anyone would have had when they realise capital gains as a UK-based investor. That amount is around £11,000 which, measured in gains, I don’t think I will convert paper gains into real-money gains at that absolute amount given that 1/I aim to hold an ownership in a business rather than buying in and selling out and 2/that would roughly require my net-worth to be about 10x higher than my current one (which, together with saving and investing, will not be likely in the next 3-5 years). Ignorance costs!

So yes, lesson learned. One that I would thank David (my mentor whom I introduced in my earlier posts) for decidedly telling me my ex-broker was expensive. Should I have re-read books written by Mr Jack Bogle several more times I would probably have not committed this mistake…What a rookie mistake!

The main activities of the portfolio over the course of Q1 has been to buy shares in 3 outstanding businesses:

Unilever

Berkshire Hathaway

Alphabet

I talked about Alphabet before. My purchase of Alphabet has been reinforced by my learnings from David and other great investors.

So that leaves us with Unilever and Berkshire to talk about. Though I will probably leave Berkshire for another update later on and focus on talking about Unilever.

Over the course of the last 2 months, I come to understand much better the operation of Unilever and its lenghthy lifetime.

The key thesis for investing in Unilever is as follow:

  • Valuation: Unilever owns 2 large subsidiaries – Hindustan Unilever (the Indian arm) and PT Unilever Indonesia (the Indonesia arm). On a look-through basis, the 2 subsidiaries make up ~37% of Unilever’s market cap, yet only ~12% of its free cash flow. This leaves the Unilever ex India/Indonesia trading at the time of purchase at around ~15x PFCF. Buying this “equity bond” that is likely to grow its earning power over time at the valuation of around historically-observable on the 20-year risk-free US government bond (16x or 6%) doesn’t sound like an expensive deal at all (in fact, I think it’s much of a reasonable price). Other than that, I have attached my simplified version of Unilever’s valuation here for your reference.Unilever simplified valuation

 

  • Capital allocation: Unilever has only been in its golden shape for the second decade over its 13 decades in existence. In the 1960s, Unilever’s board first created a vision for the group to become a pure-play branded consumer-good business (behind P&G for about more than 6 decades or so). Yet it took the business another 3 decades up until ~1997 to finally become one (subsequent to the divestment of its Chemical business). Over the course of 7 decades or so (from around 1920s to 1990s), the group had wasted a lot of money in non-consumer-good segments such as the trading of edible fat around the world (especially in UAC – its then African subsidiary), chemicals business with the notable National Starch purchase in the 1970s, its huge capex plan devoted to these “non-core”. At one time, around 1960s, the management of Unilever described the group as a business that “does all kinds of things in different places”. Capital allocation was described as being hugely dependent on the energetic level of the people who run a particular division rather than the needs to invest in it. Unilever from capital-allocation perspective, was decades behind P&G. The Unilever that we are seeing today, however is the best shape the business has ever been. I therefore think, from a historian perspective, this is the best time to own the shares (subjected to the price that one is getting at any point in time)

 

  • Moats: Thanks to my newly equipped knowledge from reading “How Brands Grow” books by Professor Byron Sharp (see below), I come to understand much better the economic moats attached to brands. Professor Sharp introduced to me the “double jeopardy law” which states that large brands enjoy 1/ more customers who 2/buy more frequently than smaller brands. Small brands therefore experience double competitive disadvantages. This law is backed by empirical evidence and also by other laws as introduced in the book. I am however trying to be careful in relying solely on these laws even though I must admit that Professor Sharp changed my perspective when it comes to advertising, brands and the laws underpinning them. Reading his book has been a great source of education.

 

  • Overstated problems: at the moment, Unilever is portrayed in the press as having suffered from fierce competition from small local brands. Though I found this to be the problem that has existed ever since Mr William Lever (the founder of Lever Brothers which later merged with a Dutch business to become the Unilever) said that there were 3 problems facing his soap business in overseas: tariff, distribution costs and local competition. This was back in the 1900s. With tariff applied on international companies in the favour of local companies and distribution costs having largely been reduced to nil in the subsequent century, local competition remains (it has to otherwise Unilever and other consumer good companies just don’t have any challenge at all oversea!). Over the course of the 20th century and the first 2 decades of the 21st century, local companies have produced fine competition to Unilever, from the introduction of synthetic detergent by P&G to fight off Unilever in the US market (and subsequently international markets) to the low-cost products introduced by Indian companies costing Unilever’s Surf brand dearly, to Japanese consumer good manufacturesr *look at Kao* deterring Unilever from ever acquiring large market share, to the failure of Unilever’s ice cream business in my own country Vietnam…I think that Unilever has therefore “been there done that”. Though, this is not an excuse for me to overlook the kind of problems the company is running into. It just serves the fact that the knowledge that Unilever has acquired over more than a century positions itself to be one rare formidable enterprise to face off any kind of competition in the consumer-good space. Its scale, its diversity of brands will provide a massive barrier to emerging local companies, especially its advertising capability. Like Mr William Lever has taught us a century ago that soap (or any kind of consumer good products) are the same, soap was different only in colour and smell. The chief factor of success is how one is selling them. Mr Lever was the one who brought “mass advertising” to the competitive landscape, and century later it is still advertising that helps business in this space succeed over time.

 

  • Tailwind: over 60% of Unilever’s sales are in emerging market. This provides the company with much above-average tailwind compared to other firms. It is the largest most-exposed-to-emerging-market consumer-good company in the world.

The points mentioned above were reached with the assistance of the following resources:

“Renewing Unilever” – a book written by Mr. Geoffrey Jones who is a British historian, currently working at the Harvard Business School. This book is commissioned by Unilever, however it is emphasized by Geoffrey that a critical view of the business was guaranteed provided that he obtained full access to Unilever’s archieve (which he did). This book covered Unilever’s history from ~ 1960 to 1990

“The History of Unilever – volume 1” – a book written by Mr Charles Wilson, also a British historian. You can think of this one as the preceding history book to “Renewing Unilever”.

“Rising Tide: Lessons from 165 years of brand building at P&G” – a book written by a small group of American historians (Davis Dyer, Frederick Dalzell, and Rowena Olegario). This can be viewed as the equivalence of the 2 books mentioned above on Unilever for P&G

“How Brands Grow” – 2 books written by Prof. Byron Sharp who is the professor of Marketing Science at the University of South Australia. He is also the director of the Ehrenberg-Bass Institute which is the world’s largest centre for research into marketing.

Company’s annual reports and news.

 

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