Friday, July 14, 2006

My Investing Journey: Global Tech Part 1 10 comments

(P.S: Sorry for any disturbances the advertisements above may have caused you)
Now I digress to a particular stock investment that I made over the course of 2002-2003 which is to date, my greatest loser both in absolute and percentage terms. It actually marked a turning point in my investment approach, and I shall devote two parts to this. I have actually written about the story of Global Tech in my StockTalesLot blog already, but here I shall concentrate on more personal aspects to my investment in this stock.

What could be more obvious an investment to make than Global Tech in 2002? As a handphone distributor (Nokia, Motorola, Samsung) in China, it was in one of the hottest sectors around (one handphone for every of the 1 billion Chinese!). In terms of earnings track record, it earned HK$300M, HK$450M and HK$550M over FY1999, FY2000 and FY2001 respectively, on steadily growing revenue. There was this little niggly issue of a report that one of its senior management had been detained in Guangzhou for tax evasion, which was denied by the company. Yet despite the strong track record, the stock kept sinking from >$0.20 in mid-2000 to $0.10 in mid-2002. The trailing PE by mid-2002 had become <5X, while the dividend yield had become fantastic: close to 10%!

And so I bought in my initial line, 50 lots at 10.5 cents in mid-2002. It conformed to my ideal of conservative small-caps as outlined in a previous article: steady track record over the last 3-5 years, growing earnings and revenue, and good dividend.

It seemed one of the surest bets. My subsequent experience in this stock has convinced me that there is no sure thing in the stock market, explaining why a red alert sounds in my head when anyone claims there is one (previously United Food, Anwell, New Lakeside, Zhongguo Powerplus, Eucon, and current flavour of the month: CG Tech). Unless one is aware of the reason why the stock is trading at a low multiple despite strong earnings, and chooses to invest despite this reason, he should be extra careful towards such stocks; comprehensive research (and hence work) should be done, to justify the greater potential reward.

Two months after my initial purchase and the stock still had not been "discovered" by the market and bid to the "rightful" multiples Global Tech's track record deserved. On the online forums, "fundamentals"-based investors vested in the stock were also voicing the same thoughts. The thing about stock buying that your attention is focused on the most recent purchase, and so my attention was riveted on Global Tech among my whole stock portfolio. When the stock fell below 10 cents, I thought a good bargain had just become better (that's what Buffett says: take advantage of Mr Market's irrational price quotes), and bought another big line of 100 lots at 9 cents. In August 2002 I received my dividend of $800 from my 150 lots, and with cash as proof that Global Tech's cashflow was genuine, I bought my final line of 200 lots at 4.5 cents (half my initial purchase price) in January 2003, with part of my bonus money.

I had averaged down and taken increasing proportions of my final position as the price dropped, trying to catch the bottom. That was a heavy gamble and I paid a heavy price for it. The bombshell dropped in early-2003 in the release of the company's FY02 results, where massive provisions were made for doubtful debts and slow-moving inventory leading to a loss of HK$200M. Things got worse; later it transpired that earlier rumours had been right: the company's chairman eventually admitted to tax evasion and had to step down from his positions to be taken over by his brother Timothy.




Anonymous Anonymous said...

This is why I don't like investing in "hot" sectors - the rubbishy mantra about what if each of China's inhabitants buys one ...

Apart from China's markets not being as homogenous as one might superficially assume, there is the issue of the honeypot and lack of competitive advantage - "hot" sectors draw in competition which self evidently erodes margins, and where was the competitive advantage of this stock.

Incidentally I was aggrieved to see you include Zhongguo Powerplus as another example of a doubtful sure thing. O ye of little faith! (Just jesting). This is a stock not in a hot sector, and there are plenty of doubters, despite the cheap valuation and "wind behind your back" advantage of governmental assistance to the rural masses, who constitute the vast bulk of China's population. Being in a "dull" industry, there is somewhat less competition (or at least the company has consistently indicated that it's only main competition is a lumbering Government organisation, although there are reports of multinationals in the area setting up factories). We have a 4X bigger factory to allow major expansion over the next few years, institutional involvement beginning which will doubtless increase as the spread of products increases, the OEM contract ramps up and revenue and profitability increases.

7/14/2006 11:01 PM  
Anonymous Anonymous said...

Hi Danielxx,

If I am not wrong, gobal tech would have shown certain signs of fundamental weakness in their cashflow statement and balance sheet before the collapse. Would you mind conifming this if you still have a copy of their annual report or financial statements?
Possible Fundamental weaknesses:
1)Detiorating operating cashflow or a declining op cashflow / earnings ratio
2) Increasing receivables or inventories with respect to cost of goods sold.
3) Declining cash in balance sheet
4) Fixed Assets are being capitalized for too many years in notes to accounting statement

If weakness 1) and 2) appears, i would guess that the company is fundamentally weak and probably fatal, no matter how low the PE is. If weakness 1) is not apparant but other weakness are seen, probably the company is not that weak.

I am quite surprised that in your article, you equate low PE and a good story to FA and deemed it sufficient for under-valuation. In FA, the first thing to look out for is whether the company is an ongoing concern, and cashflow/cash held is the main indicator here.

One may use low PE as a screen but low PE alone is never sufficent for investment.

7/15/2006 4:46 AM  
Anonymous Anonymous said...

On afterthoughts, probably my interpretation that you equate low PE and good story to FA is quite wrong.

7/15/2006 4:50 AM  
Blogger DanielXX said...

To Anonymous 1,
I know, the rural story in China is good. That's why I don't consider ZPowerplus as a bad stock. I was rather unsure about the chairman Lim Seck Yeow selling off, but I might consider it worth looking at. Let's check the price action in times of adversity, say next week.

7/15/2006 5:42 AM  
Blogger DanielXX said...

According to the 2002 report, FY01 operating profit was HK$400M, while net operating cashflow was HK$300M; hardly a warning sign.

However, if we scrutinise the components, there was increase in receivables of HK$250M and increase in inventory of another HK$250M. However if we look at the balance sheet, inventory formed about 1/7th of total FY01 annual revenue, while receivables formed 1/6th of annual revenue. Not really huge.

The large increase in receivables and inventory might have been a warning sign. But hindsight is 20/20. As I mentioned, the low PE and good dividend (it helped that I actually saw the cash via dividend) were too seductive.

Up till then I had adopted a low-PE stockpicking approach coupled with consistent earnings growth. You're right about the interpretation. But I had an epiphany following the Global Tech episode. Watch for my Part 2.

7/15/2006 6:03 AM  
Anonymous Anonymous said...

DanielXX - can't agree with watching the price action next week. If you are doing that as Buffett says you are being controlled by the market, rather than taking advantage of it.

7/15/2006 9:05 PM  
Blogger DanielXX said...

As sure as anything the market downside is greater than upside for at least the beginning part of next week. That will limit stock upside across the board. Hence if you are in cash, you have the luxury of observation. :-)

7/15/2006 9:11 PM  
Anonymous Anonymous said...

yep I'm 40% cashed up ;)

Despite this I wouldn't be that keen on buying Zhongguo Powerplus at the present price (when you've been in the market a long time you know it is unforgiving and it is important whether for margin of safety considerations or otherwise to purchase at a low price on price action, regardless that even at the present price it is ridiculously undervalued).

But too much is made of Dr Lim's sales, in my view. For a man who can make 10X his money by bringing listings to the SGX, it is more surprising that he has held onto so much for so long. You will note he has not sold when the stockprice went into the thirties, which he would surely have done if his intention was to cream a bit of profit (unlike those proverbial sh**s in eg China Paper)

7/16/2006 1:07 AM  
Anonymous Anonymous said...

Mr Tan - watch Zhongguo Powerplus now after the trading halt - good things come to those who purchase the right stocks!

7/18/2006 10:28 PM  
Blogger DanielXX said...

Oui, oui, c'est la vie!

7/22/2006 9:08 PM  

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