Friday, September 26, 2008

Three Signs of A Market Soaking in fear

Times have been extremely chaotic. There are some glaring signs of immense fear that signals for the value investor to awaken from hibernation and pick up some bargains:

1. Long queues outside financial institutions

When the sub-prime crisis brought about a possible collapse of AIG, the local policyholders started surrendering their insurance policies despite repeated calls from MAS that everyone's money is safe. Investors started dumping their holdings in the stock market for fear of greater implications to come. We read of news where policyholders said that they felt "safer in having cold hard cash from AIA." This a definite sign of mass panic and investors riddled with immense fear.

2. A wildly gyrating stock market that fluctuates +/- 10% or 1000+ points over 5 days

Dow Jones Industrial Average swung by a difference of 1000+ points over a short period of 5 days, driven by a mere piece of news of a possible US$700b bailout plan by the US government. This is a colossal move of 10+% in a matter of days and is purely irrational behaviour.

3. Do you also feel the fear and stampeding tremors too?

The fear of a financial meltdown and currency fallout was so prevalent and real that at a point in time even I, an ardent impassioned and rational person, was influenced to think that it might be a wiser choice to stay by the sidelines and do nothing but hold on to cash.

Fear is such a powerful weapon, where there was once I started doubting my own judgments. It was an immense internal struggle on whether to-act or not-to-act. However, the better half of me eventually won: I decided to make a move now.

Be greedy when everyone is fearful

The greater the fear is, the greater courage the value investor must have to act in a rational manner that will go in the opposite direction of the stampeding herd; only then will he be able to reap gains when the time comes.

This reminds me of how Warren Buffet recently acted to acquire a US$5b stake in Goldman Sachs.

As long as (1) the financials of the company have been evaluated to be sound, and (2) there is a significant margin of safety in the price to intrinsic value, and (3) there are good prospects and growth drivers for the company to grow continuously even in recessionary years, the value investor must trust in my own independent judgment and make decisions based on that.

I have started to do my shopping. Have you?

Sunday, September 21, 2008

A Cursory Study of Eu Yan Sang

Eu Yan Sang strikes me as a very interesting business proposition. Apparently, in the entire Traditional Chinese Medicine industry in Singapore (and probably the region as well), the only well-known brand is Eu Yang Sang. This definitely warrants a further investigation into the entire business.

Disclaimer: The author is not vested. YMMV.

Industry Overview

When Traditional Chinese Medicine (TCM) was introduced, it was initially not well received by the masses and the medical fraternity. It was then believed to be 'alternative medicine', where the effects of the medication are hard to measure and difficult to draw correlative conclusions. But in recent years, as scientific methods of measurement advanced and studies were conducted on various aspects of TCM, the medical fraternity grew to recognize the benefits of acupuncture, traditional chinese herbs, and 'tieh ta'. We are witnessing a tectonic shift in perspectives of TCM; the paradigm shift is slow but definite.

The traditional chinese medicine industry worldwide is highly fragmented with so many small and unknown players, countless unknown brands of Chinese medicine. Besides Eu Yan Sang, there are no other brands that I can associate TCM with at the moment.

Company Synopsis

Eu Yan Sang's business proliferates all aspects of TCM ranging from clinics to products and herbs distributorship. The company has created a strong retail brand, incorporated scientific methods of measurement to ensure products are of high quality and consistency, established trained general practitioner clinics. In addition, the company has established distributor and retail channels to sell their TCM products which include Bak Foong pills for pregnant ladies and bird's nest drink.

Over the last couple years, Eu Yan Sang made efforts to tap into the growing numbers of health-conscious people by setting up a large concept store of Red-White-Pure, like a one-stop hub for all things related to TCM, ranging from dining to therapy and retail galleries. However, this endeavour failed miserably. A simple google on "red white pure" and instantly I got to read so many yucky reviews on the restaurant food.

Competitive Advantages

1. A strong brand in retail products

Eu Yan Sang has a very good brand in their retail products. Ask any shopper what products/brands they associate with TCM, and Eu Yan Sang naturally comes to one's mind. The other customer touchpoints of clinics and herb distributorship further reinforce the brand of Eu Yan Sang.

2. Sole distributorship for world's finest ginseng - Wisconsin Ginseng

Wisconsin ginseng is famous for being the world's finest form of ginseng with the highest concentration of gisenocides, a chemical that makes consumption of ginseng highly beneficial to the health of human beings. In 2006, Eu Yan Sang managed to secure from the Board of Wisconsin Ginseng a right to exclusively manage, distribute and sell Wisconsin Ginseng.

This is a Buffett classic type of toll bridge economics, or sustainable competitive advantage, that will help the company generate enduring profits for a very long time to come.

3. Differentiated products - high in quality and consistency

The general retailers use arbitrary methods of visual, touch and smells to identify the herbs. The probabilities and occurrences of mis-prescription, and product quality problems are significantly higher, as the method of identification will then rests on the skill of the individual staff.

What sets Eu Yan Sang apart from the rest is that it leverages on scientific methods to ensure the quality and consistency of all the retail products. They employ modern methods that are equivalent to DNA fingerprinting to check and ensure products are consistent and correct.

My Final Comments

On cost controls, revenue expansion

Eu Yan Sang has been making losses for the last few financial quarters; although there's a growing revenue base, costs are spiraling and chewing off the profit margin. Despite the multiple competitive advantages possessed by Eu Yan Sang, it is very disappointing to know that that management has somehow not been able to effectively capitalise on them and generate enduring profits.

On business strategy

Proliferation of Eu Yan Sang products in South East Asia countries is not significant, and much less in China. There remains a huge latent market in South East Asia that is untapped. However, Eu Yan Sang has taken the direction to 'educate' the westerners on the benefits of TCM; they have been expanding their presence in Australia and the United States. Is this business strategy successful? I guess the financial numbers will have to speak for themselves.

Everytime I pass by Eu Yan Sang retail stores, what consistently struck me are the vast retail space and the lack of customers, mostly a few at any one time. While I agree that it is important to strengthen the consumer brand through establishing shopfronts, the management must be conigzant that not a lot of consumers buy health products every day, and must less so for TCM products. Spawning shopfronts at expensive shopping malls and incurring high rental costs may not be a very wise and prudent move.

On transparency

When key appointment holders resign and are replaced just weeks (or was it days?) prior to the the results release,
it doesn't reflect well on the company and leaves one's imagination to run wild, was there a serious conflict of opinion that made the CFO decide to leave?

On attractiveness as an investment

Eu Yan Sang was successful at the initial years of public listing; but it made some costly mistakes too. It is only in recent months that they have finally completed cleaning up their balance sheet and restructured the company. As to whether it has potential to become a great investment opportunity, there is still much to be seen.

Friday, September 19, 2008

The Lurking Dangers behind Structured Investment Products

I read with great interest, when Straits Times posted the article on how a certain structured product of High Notes 5 in DBS is currently facing the problem of an imminent dissolution due to the collapse of Lehman Brothers. To understand more about structured products, you may read

Brilliant marketing + investment products = Beware of the devil in the fine print

I do not deny the benefits of leaving your money in the care of professionals and experts, but the biggest gripe is most if not all structured products use clever marketing words to mislead and imply statements that are not true, and the disclaimers are always written in the smallest font in the last line of the brochure. Words like "9% payout on 1st year..." does not necessarily mean you will receive an investment return of 9%, but rather 9% is tapped from your initial investment and repaid to you.

Sadly, so many people take things at face value, make uninformed decisions and always end up on the losing side of the deal.

There's a brilliant website that read and analyzed several structured products of Singapore Banks. You may want to read them at

So, if you ever want to consider investing in structured products, think again.

Friday, September 5, 2008

Analysis of Adampak (Part III - An Interview with the CEO)

I was invited by to publish this article at

I had the great honour to meet up with Adampak CEO Mr Chua on 29th August at Adampak's office at Loyang Way. Prior to this meetup, I had submitted the analysis and list of queries lock-stock-and-barrel, to him via his secretary. He had already read through everything and gave me very interesting observations about Adampak and its business. I did not make any recordings, as it will be too rude; everything existed as just a verbal discussion that flowed for 90 mins.

I have summarized and properly categorised my takeaways from my conversation with him, as below. In all my analyses, as more information is acquired, it is only natural that the perceptions evolve and are refined to greater accuracy. Penned in this blog will be the observations and corrections to past erroneous perceptions. Please do not be alarmed as you encounter conflicting propositions as compared to earlier research reports.

Disclaimer: The author is vested in Adampak. YMMV.

On business strategy:

1. Gun
for the big deals from the MNCs in any available sector

Mr Chua revealed that Adampak's business strategy is to focus on securing contracts from big time multi-national corporations and making their name known amongst them. Business from other MNCs will then automatically come through referrals etc. Gunning for deals from MNCs is a good strategy and there are two key benefits: firstly, Adampak can ride along on the bustling growth of the MNCs; secondly, increased resilience to regional economic impact. In 1997 when Asian was struck with the financial crisis, sales of Adampak continued to increase at double digit growth, simply because a bulk of Adampak's sales went to US, European MNCs.

The fact that 90% of Adampak's sales derives from the electronic sector is an outcome that is just somehow generated as Adampak just grew it's portfolio over the years; there was no deliberated or active efforts on a particular market focus.

2. Establishing a localised presence as a proximity advantage

In Mr Chua's words, "In this competitive industry, the first one in, wins." In the manufacturing industry, for customer companies to engage a manufacturer, they have to first go through a lengthy qualification process to assess whether the manufacturer is up to standards and can match their requirements. It is after the qualification process that the manufacturer will stand a chance at gaining a part of the contract. A localised presence has helped Adampak obtain more customers who have qualified their plant.

The best exemplification is China. Adampak set up a factory in Suzhou Industrial Park geographically sited alongside many MNCs and the company has an added proximity advantage over other non-local label suppliers based in South-East Asia. In many ways, this move has helped to increase the list of customers who qualified Adampak's plant. In recent months, the number of suppliers based in China has increased sufficiently for a break even point to be achieved at Adampak Suzhou. And it is expected for the number of qualified suppliers to continue to grow

3. Building strong relationships with suppliers to achieve a preferred label converter status and increase revenue streams

Over the years, Adampak has forged strong relations with their suppliers. Today, Adampak is a preferred label converter to 3M, which will recommend their clients to adopt Adampak's services. This further lends credence to Adampak's reputation and opens up an additional revenue stream.

4. Building a strong reputation of quality, reliability, consistency in service delivery

At first glance, it does appear that anyone can do the job of printing labels. But to be able to do the job, consistently, every time is an immense challenge. This is a critical success factor: over the last 20+ years, Adampak has built a strong brand of being able to consistently deliver high quality products on schedule. The brand is there, and the big corporations like HP, FedEx, Seagate, P&G, major telcos, etc. all know Adampak for its ability to consistently deliver at the lowest cost. It was also revealed that HP has been using Adampak's services for the last 20 years since the Adampak was founded. How amazing for a little factory that started in Loyang Avenue!

On growth drivers

"RFID faces a chicken and egg problem. No one wants to take the lead in adoption; everyone just want to be the follower of a tried, tested technology". Those were words of Mr Chua. The history of barcode labels is a very good case study. It used to be very expensive in the early phases of industry adoption, every company only started to catch on the wave when major players started using it and costs concurrently went down. Likewise, RFID in 3rd Party Logistics will definitely come as the next big wave, as it greatly simplifies inventory management, let's wait patiently to see this sector blossom.

On competitors

According to Mr Chua, it is hard to claim that Adampak is the industry leader in South-East Asia because the coverage is just too difficult to ascertain. There are so many companies operating in a similar fashion in the region, and all are covering different scopes with different strategies. Just to name a few, like Brady, Zephyr (these I know) and ITW, etc. I would estimate there are 10 odd competitors in this industry.

Nonetheless, Adampak is certainly no small player here. Mr Chua shared that a lot of MNCs know Adampak when it comes to die-cut products and high end labels, and companies acknowledge Adampak's reputation for a consistent delivery of quality products. This is a good sign of a company that probably counts as the top few of the list.

He also revealed that Zephyr did make an attempt to break into China many years back, but the venture failed miserably and never materialised, and this made Zephyr's management adopt a more conservative approach of keeping to local confines of Malaysia and China.

On production capacity and scaling up capabilities rapidly

Adampak's factories run 24 hours shift. Mr Chua shared, "in this industry, there's no way you can survive if you work only on 1 shift". The plants run at full capacity for 5 full working days, and during peak periods, the staff work overtime. Clearly, Adampak is running at maximum operating capacity, with little evidence of any excesses.

One of the critical success factors for the manufacturing business is the ability to flex and scale up production capacity rapidly within a very short notice. If a company does not have strong processes in place, achieving a rapid scaling up will not be possible. Mr Chua shared that Adampak has the ability to set up new plants, new factories and get them up and running in a matter of 2~3 months.

On financial management

The sense of financial prudence

Mr Chua shared that the management closely watches the returns on equity. In addition, the company practises a good sense of financial prudence because the management is always fully cognizant of the risks involved in credit calls when banks face a liquidity crunch. Adampak has consistently maintained a high current ratio (current assets over current liabilities), whereby the short term borrowings and liabilities are well within the company's capabilities to repay within 1 year.

Good cashflow management

He also mentioned that Adampak happens to be doing well in this area and is very fortunate because "the customers see the company not as bankers", and their clients have been very prompt and regular with their payments. This is another sign of a well managed business where the company has a very strong relationship of trust and goodwill with their clients.

On process re-engineering and cost rationalization

Adampak does not have a specific department on this. But what they have are a few key staff trained in Six-Sigma (a qualification in process streamlining to reduce costs). Initiatives on cost rationalization are always on-going. For quality checks, computerised imaging was employed a few years back, but there are problems with obtaining a consistent output. Hence the idea was shelved and manual labour is retained. "Nothing beats a visual check", he says.

Putting the money at where there are greatest cost savings/avoidance

If there are any projects ongoing, Mr Chua cited that the company will generally invest more resources to refine the key processes that are potential show-stoppers in the entire manufacturing process. For example, one of the showstoppers in the label manufacturing chain is the punching of label holes and unwarranted retention of debris that causes clogging. This was mentioned by Mr Chua to be a real problem where resources in engineering were diverted to improve the process because of the immense costs of failure in the entire chain.

On Aident
Mr Chua shared that the original plans for Aident was to secure a public listing on the Malaysian Stock Exchange. However, for some reasons, this did not materialise.

I vaguely recalled that in one of my conversations with a Malaysian factory businessman, he mentioned that for anyone to go on a public listing in M'sia, 50% of the company shares will have to go to the government. That is why, there are so many companies that do not want to go public listing to raise funds, because by doing so, they will have lost control of the company and will be reduced to doing the bidding of the government. This is anecdotal evidence, and has yet to be verified. But this might just be one of the reasons that Aident's listing never materialised and Adampak decided to acquire Aident.

On dilution of earnings post-consolidation with Aident
Mr Chua enlightened that the gross profit margin dilution is primarily due to a consolidation with Aident. For 1H07, profits from the associate company Aident were accounted for, but not the revenue. Whereas for 1H08, post-consolidation, the revenue is now included, hence this accounts for the decline.

On impact of inflation and cost increases

I further asked Mr Chua on the impact of inflation on Adampak's business. He gave a very straightforward reply that these are factors that are not within Adampak's control, and when raw material costs increases, Adampak just transfer the cost increases to the customer. This also meant that Adampak should be insulated from damaging effects on cost increases in raw material

On employees

Giving where credit is due, and striving to reduce employee turnover to a minimum

Adampak's management strongly believes in the principle of rewarding the employees for their efforts. This could probably explain why admin expenses generally rose in a 1:1 ratio to revenue, while maintaining a very strong ROE. And this principle has done Adampak a lot of good. Mr Chua shared that it's a well known fact that "Adampak has one of the lowest employee turnover rates around"

This is comforting, because with a HR policy that focuses on rewarding good managers for their efforts, I do not have to worry about excellent managers being poached by other companies.

On management succession planning

I asked him on the plans for management succession planning, he mentioned that this has already put in place - all the managers running different segments of the company. As for the question of importing foreign talent to helm the ship, like many Singapore companeies, Mr Chua said that the issue is not on foreign talent, but on finding the right man for the right job. He is confident that if he is not around, his managers can step up and run the company as well as he does.

On the board of directors

A strong representation of independent directors with experience across multiple industries

Mr Chua also shared that the representation of solid independent directors who hold concurrent appointments on other companies' board helped a lot. The executive management has received good advice from these people who are able to draw on their industry experience.

My final remarks

I think Adampak is a very good company, that is well worth the money I put in as investment. From a financial perspective: the intrinsic value is much higher than the current share price of S$0.22, and there's a very significant margin of safety. Moreover, the net asset value approximates S$0.18 cents per share. Their current significant exposure to the electronics industry will also mean that they may ride along the economic cycles, but I do not expect their ardent clients like HP and Fed-Ex to go out of business, so I am not really worried.

(A sidenote, I realised that HDD are dirt-cheap now. Now, don't you think that developing nations will be very hungry over the next few years for such low-cost storage?)

From a people perspective: it is well managed by a strong team, and this is validated by every single touch point I have with Adampak. From asking of AGM minutes, to requesting for a meetup with the CEO, to posing as a customer to test the sales staff competency, to warm customer service officers who gladly brought me around the factory floor to see a group of workers who are going about their tasks professionally. The team has not failed my expectations thus far. The management is financially prudent, and people like Mr Chua comes across as a forthcoming person an astute businessman.

Does it really bother me if there will be a recessionary year ahead and that electronics industry may be affected? Not at all. Even if the stock market shuts down for the next 12 months, I can continue to sleep well, knowing that the company will continue running and my money will be in good hands. I have done my due diligence to the best of my abilities, and the entire study tells me that the odds are in my favour. Let's wait to see if this gem will really shimmer and shine so brightly that the market cannot ignore anymore.

For Adampak, I have done more than sufficient as an analyst and part owner. It's time to move on to understand other businesses, while keeping this in view.

(P.S. Mr Chua was visibly impressed when he knew that all the written analyst reports I submitted to him came from an engineer. "Not many engineers I know write as well", he said. What a compliment! I guess I was just short of submitting my resume to seek employment in Adampak. :P )