Tag Archives: asia

Hidden Champions As A Source Of Wide Moat Investment Opportunities

Summary Hidden champions are market leaders in specific niches that are off the radar of most investors. U.S. hidden champions include companies like Columbus McKinnon, the domestic market leader in material handling products; and Gaming Partners International Corporation, the world’s largest seller of casino chips. Asian hidden champions hold even greater promise than their U.S. counterparts, due to their relative obscurity and longer growth runways. Background On Hidden Champions A hidden champion is defined as a market leader either globally or in any specific continent in terms of market share, with sales under $4 billion, and operating out of the public limelight. The term “hidden champions” was first coined by Professor Hermann Simon, chairman of Simon-Kucher & Partners Strategy & Marketing Consultants, in his 1996 international best-seller of the same name. He went to published an updated version of his book in 2009 titled “Hidden Champions of the 21st Century, Success Strategies of Unknown World Market Leaders.” In a 2010-2011 survey done in German-speaking countries, Professor Hermann Simon was voted the most influential management thinker after the late Peter Drucker. Hidden champions are potential sources of wide moat investment ideas, since both high market share and high Return on Invested Capital (NASDAQ: ROIC ) are indicators of sustainable competitive advantages. However, while it is possible to screen for high ROIC stocks, hidden champions boasting high market shares require significant digging by investors on their own. Examples Of Hidden Champions I have written extensively about hidden champions in several Seeking Alpha articles. They include companies such as Columbus McKinnon (NASDAQ: CMCO ), PGT, Inc. (NASDAQ: PGTI ), Gaming Partners International Corporation (NASDAQ: GPIC ), Knowles Corporation (NYSE: KN ), EnerNOC, Inc. (NASDAQ: ENOC ) and Generac Holdings (NYSE: GNRC ) among others. I will elaborate in greater detail about the moats and growth runways of three of these stocks below. Columbus McKinnon holds the largest domestic market share (46%) in material handling products, representing 74% of its fiscal 2014 U.S. sales. Its largest product category comprises hoists, trolleys and components. Columbus McKinnon benefits from high customer switching costs, since its material handling products improve efficiency, enhance productivity and maximize profitability for its client, but yet cost a fraction of their customers’ total product costs (80% of its revenues are generated from products that are sold at under $5,000 per unit). Also, stealing market share from competitors is not Columbus McKinnon’s only growth avenue, since its largest installed base of hoists in North America allows it to cross-sell complementary and new products to its existing customers and benefit from after-market sales for replacement units and components and repair parts. Gaming Partners International Corporation is the global market leader in casino currency and boasts approximately 90% market share of the casino chip, plaque, and jeton sales in Macau. Given that casino operators place a strong emphasis on the quality of casino currency and the need to minimize the threat of counterfeit gaming chips, they are likely to stick with trusted players like Gaming Partners International Corporation. There is a razor-and-blade model at play here, as Gaming Partners International Corporation can cross-sell ancillary products and consumables like playing cards, table layouts, dice, and table accessories as an integrated supplier of casino table gaming equipment. PGT has approximately 70% market share of impact resistant window and door market in Florida. PGT’s moat is derived from the strength of its WinGuard branded products, which are now synonymous with quality, built upon a three-decade long track record of zero reported impact failures. Its growth drivers are the strength of the Florida housing market and the increase in penetration rates of impact resistant window and door market in Florida. Moats Of Hidden Champions While individual hidden champions might have their respective competitive advantages and diverse moats, a recurring theme is what Morningstar terms as the efficient scale moat. Hidden champions typically have significant market share in a niche where the market is sufficiently small, making it uneconomical for new entrants to compete. So what can potentially narrow or even destroy an efficient scale moat for hidden champions? If either the niche market experiences faster growth, or larger ancillary market segments experience slower growth, it might attract new competitors like bees to honey. Customer preferences and switching costs could also change, leading to greater ease of grabbing market share from the incumbent hidden champions. Growth Potential Of Hidden Champions Growth is another interesting topic for hidden champions. Most hidden champions will find it difficult to grow significantly by gaining market share from competitors, since they are usually already the outright market leader. Similarly, the organic growth prospects for the niche market tend to be modest (which deters new entrants). On the other hand, moving to ancillary market segment tends to expose them to competition from larger players and entrenched incumbents in other markets. As a result, hidden champions possessing either pricing power or the ability to cross-sell complementary products under a razor & blade model are favored. Asian Hidden Champions There are no shortcuts to identifying hidden champions. I seek hidden champions by starting with the As in a list of sub-$1 billion market capitalization stocks and paying attention to details on market share and unique niches based on the industries they operate in. My own experience is that Asian-listed hidden champions tend to have a higher probability of remaining off the radar of most investors. Firstly, Asian stocks in general have a lower concentration of stocks enjoying sell-side analyst coverage, due to the relatively lower market capitalizations and liquidity of a wider spectrum of companies listed on Asian stock exchanges. Secondly, since certain Asian companies neither report their financial results in English nor feature themselves in English media, a great proportion of international investors are unable to access these names. On the flip side, it is precisely because Asian hidden champions are relatively more “hidden,” their potential for outsized investment gains will be higher. More importantly, as these Asian companies are smaller, lie at an earlier stage of their corporate lifecycles and are still working hard at penetrating the broader yet fragmented pan-Asian market, their growth runways are also longer. This compares favorably with most other U.S. hidden champions already in the mature stage of their corporate lifecycles with limited growth drivers. As a special bonus for my subscribers, they will get access to the names of five (5) Asian-listed hidden champions in a separate bonus watchlist article. My December 2015 Stock Idea meant exclusively for subscribers also happens to be an Asian hidden champion with leading domestic market shares in certain money handling equipment. Note: Subscribers to my Asia/U.S. Deep-Value Wide-Moat Stocks exclusive research service get full access to the list of wide moat investment candidates and value traps, which include “Magic Formula” stocks, wide moat compounders, hidden champions and high quality businesses, that I have profiled.

The Two Definitions Of Net-Nets: Net-Net Working Capital Versus Net Current Asset Value

Summary There are two definitions of net-nets: Buying stocks at below two-thirds of net current asset values (NCAV), and purchasing stocks trading under net-net working capital, a revalued version of NCAV. I offer some general principles and caveats that apply in the case of both low P/NCAV net-nets and low P/NNWC net-nets. My exclusive research service, Asia/U.S. Deep-Value Wide-Moat Stocks, provides watchlists and profiles of net-nets, net cash stocks, low P/B stocks and sum-of-the-parts discounts. Defining Net-Nets Two different “versions” of net-nets have evolved from the teachings of Benjamin Graham in his two books “Security Analysis” and “The Intelligent Investor.” The first definition of net-nets involves comparing the net current asset values (current assets – total liabilities) (NCAV) per share of stocks against their share prices and buying them if the P/NCAV ratios are below two-thirds. The second definition of net-nets, more commonly known as net-net working capital (NNWC), makes an attempt at “revaluing” NCAV with the following adjustments: +100% of cash and short-term investments +75% of accounts receivables +50% of inventories -100% of all liabilities Both definitions of net-nets try to incorporate a margin of safety for the collectability risk of accounts receivables and the salability of inventories to a certain extent (the former through an arbitrary discount assigned to the net current asset value; the latter via specific discounts for accounts receivables and inventories). Most deep value net-net investors tend to use the first definition of net-nets, P/NCAV, in their search for potential investment candidates, as the screening for low P/NNWC stocks is more difficult in reality (compared with low P/NCAV stocks). Firstly, there is a greater likelihood of data services providers getting the calculation of accounts receivables wrong since a significant number of companies tend to lump accounts receivables and other receivables and may not provide the necessary disclosure to differentiate between them. If one incorporates all receivables (including non-operating receivables) in the calculation of low P/NNWC net-nets, he or she may be overstating the value of NNWC. Secondly, simply taking 100% of cash and short-term investments at their face values may not be the wisest thing to do since the market values of short-term investments will fluctuate and not all cash are unencumbered and excess in nature. Thirdly, the 25% and 50% discounts assigned to accounts receivables and inventories respectively may not be appropriate for all companies. For example, some companies may have customers which are MNCs or government-linked where the probability (and history) of defaults is close to zero, so even a 25% discount for accounts receivables is considered harsh. On the other hand, for companies which sell products with short lifecycles and shelf lives and are witnessing growing inventory days, a 50% discount for inventories may be simply too little. The second definition of net-nets, buying at less than two-thirds of NCAV tries to solve this problem by assigning a blanket 33% discount to all the current assets on the balance sheet. Stocks Trading At Low P/NCAV But High P/NNWC Continuing from the discussion above, it will be intuitive to conclude that stocks trading at low P/NCAV ratios but high P/NNWC are likely to have lower margins of safety since the “quality and quantity” of assets are questionable. I provide two examples of such stocks for illustrative purposes below. I focus on assessing the margin of safety for the stock (comparing net current asset value against net-net working capital) rather than the stock’s investability as a net-net. STR Holdings (NYSE: STRI ), a provider of encapsulants to the photovoltaic module industry, appears on the net current asset value screen as a net-net trading at 0.32 times P/NCAV, but it will not qualify as a net-net if one considers its P/NNWC ratio of 1.5. This is because STRI’s current assets include income tax receivable and other current assets amounting to $8.3 million and $4.7 million respectively, which I do not include in the calculation of NNWC. Hong Kong-listed Xinjiang Tianye Water Saving Irrigation System Co. ( OTC:XJGTF ) (840 HK), a company engaged in the design, manufacturing and sales of drip films, PVC/PE pipelines and drip assemblies used in water saving irrigation system, is valued by the market at a P/NCAV of 0.64 times, but its P/NNWC ratio exceeds 2 times. This is largely due to the fact that inventories and accounts receivable contribute 63% and of 16% of Xinjiang Tianye Water’s current assets respectively and are therefore heavily discounted based on the net-net working capital formulae. The full list of 75 U.S. and Asian low P/NCAV (less than 1) net-nets trading at high P/NNWC (greater than 1) ratios, which should warrant greater attention to their underlying asset values, is available exclusively for subscribers of my Asia/U.S. Deep-Value Wide-Moat Stocks exclusive research service in a separate bonus watchlist article. Assessing The Real Margin Of Safety For Net-Nets There are some general principles and caveats that apply in the assessment of the margins of safety for both low P/NCAV net-nets and low P/NNWC net-nets. One of them is the collectability risks relating to accounts receivables. Accounts receivables are near-cash in nature as long as they do not become bad debts i.e. customers default on payment. One can assess the collectability risk of accounts receivables for a specific stock in terms of the trend in accounts receivable days, the credit payment terms for customers, the credit strength of major customers, the adequacy of current provisions for bad debts and the potential for further write-downs on the receivables. Another point to take note of is the salability risk of inventories. Under normal conditions, the costs and selling prices of inventories are relatively stable. In reality, rising raw material costs, changing customer preferences and lack of bargaining power with suppliers and customers could lead to overstocking, loss-making finished products, and eventually write-downs on inventories. Similarly, cash and short-term investments are not always as “safe” as they appear to be. The accounting values of short-term investments such as stocks, bonds, hybrid securities, structured products are typically mark-to-market with huge volatility in their prices and values. In addition, not all of a company’s cash balances are unencumbered and excess in nature since some cash may be set aside for security deposits or working capital purposes. Also, if a net-net is loss-making, the market may be discounting the future cash burn into its share price. For readers interested in learning more about the background of net-nets and specific Asian names, they can refer to my articles on Hong Kong net-nets and Japanese net-nets here and here respectively. Note: Subscribers to my Asia/U.S. Deep-Value Wide-Moat Stocks get full access to the watchlists, profiles and idea write-ups of deep-value investment candidates and value traps, which include net-nets, net cash stocks, low P/B stocks and sum-of-the-parts discounts. Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

Pacific Funds In Focus On Trans Pacific Partnership Deal

After hectic negotiations for half a decade, the contentious Trans Pacific Partnership (TPP) was secured by the U.S. and 11 other countries. This is the biggest trade agreement in history aimed at reducing tariffs and setting common trading standards for the 12 Pacific Rim nations, including the U.S., Canada, Japan, Australia, Brunei, Chile, Malaysia, Mexico, New Zealand, Peru, Singapore and Vietnam. The agreement will thus widen the horizons of trade in the Pacific region. TPP will cut tariffs and create common standards for all 12 member countries. On first look, these measures look promising enough to boost the business environment of the Pacific or related countries. For example, the deal will create new opportunities for companies in Pacific regions while providing adequate protection for U.S. manufacturers. While it helps the companies and the stock performances, the funds should look to benefit too. However, the TPP is not without controversies and opposition. US Democratic presidential hopeful Hillary Clinton is against the trade deal and said the proposed pact does not address currency manipulation. The deal puts Pacific funds under the spotlight, which are hoping to rebound from the negative territory. The funds are favorably-ranked but the market concerns this year had dragged them to the red too. Positive impact of the TPP, which will lower trade barriers around the Pacific and boost export-heavy markets, will be a welcome factor for the Pacific mutual funds. A Look into TPP Deal Currently, TPP member nations represent about 40% of global GDP and 30% of global trade. The deal will open up trading avenues for key export products of Vietnam such as textile, garment, footwear, and seafood in broader market such as the U.S., Japan, and Canada due to their ultra low import tariffs. An argument in favor of the TPP deal is that it will expand U.S. exports and create higher-paying jobs. On the other hand though, there may be an outflow of American jobs to overseas economies. There is also uncertainty about why the exact wording of the TPP was kept relatively secret during negotiations. As the TPP reaches the Congress for approval, it will witness apprehensions from both parties. The Congress may thus take months to deliberate. Meanwhile, the public will also get a minimum of two months to review the content of the deal before Congress decides on its approval. Talking of apprehensions, presidential hopeful Hillary Clinton commented: I have been trying to learn as much as I can about the agreement…But I’m worried. I’m worried about currency manipulation not being part of the agreement. We’ve lost American jobs to the manipulations that countries, particularly in Asia, have engaged in. I’m worried the pharmaceutical companies may have gotten more benefits – and patients and consumers fewer. I think there are still a lot of unanswered questions. On a separate note, it was interesting to find out the absence of China. It is a prominent country in the Pacific Rim, but the second largest economy and the world’s largest exporter was not part of the proposed pact. Though some believe that China will join in later, but for now this is an opportunity for others to grab a share of China’s export market. 3 Pacific Mutual Funds to Buy Below we highlight three Pacific – Equity mutual funds that carry either a Zacks Mutual Fund Rank #1 (Strong Buy) or Zacks Mutual Fund Rank #2 (Buy). Remember, the goal of the Zacks Mutual Fund Rank is to guide investors to identify potential winners and losers. Unlike most of the fund-rating systems, the Zacks Mutual Fund Rank is not just focused on past performance, but also on the likely future success of the fund. Also, the funds have encouraging 3- and 5-year annualized returns. The minimum initial investment is within $5,000. The Guinness Atkinson Asia Pacific Dividend Builder Fund (MUTF: GAADX ) invests heavily in dividend generating equity securities issued by companies form the Asia Pacific region. Common and preferred stocks, related convertible securities, rights and warrants constitute GAADX’s major investments. Guinness Atkinson Asia Pacific Dividend carries a Zacks Mutual Fund Rank #2. Over 1-year period, GAADX has gained 4.3%. The respective 3- and 5-year annualized returns are 4.9% and 4.1%. GAADX carries no sales load. The Fidelity Pacific Basin Fund (MUTF: FPBFX ) seeks to achieve long-term capital appreciation by investing a major portion of its assets in securities of issuers located or are economically tied to Pacific Basin. FPBFX generally invests in common stocks of companies located across a wide range of Pacific Basin countries. Factors such as financial strength and economic condition are considered before investing in a company. Fidelity Pacific Basin carries a Zacks Mutual Fund Rank #1. Over 1-year period, FPBFX has gained 5.2%. The respective 3- and 5-year annualized returns are 11.3% and 7.6%. FPBFX carries no sales load, and annual expense ratio of 1.18% is lower than the category average of 1.33%. Wells Fargo Advantage Asia Pacific Fund (MUTF: SASPX ) seeks capital growth over the long run. SASPX allocates a lion’s share of its assets in equities of companies located in Asia Pacific Basin. SASPX emphasizes on factors including earnings growth, financial condition and management efficiency for selecting companies. SASPX may also invest in participation notes. Wells Fargo Advantage Asia Pacific Investor carries a Zacks Mutual Fund Rank #2. Over 1-year period, SASPX has gained 3.5%. The respective 3- and 5-year annualized returns are 8% and 5.2%. SASPX carries no sales load. Link to the original post on Zacks.com