I initiated a position in Straco Corporation recently at a share price of $0.855 for 50,000 shares.
I don’t think I have to introduce this company much more. We all know they’ve been returning incredible shareholder’s value since its inception in 2004 and it was only after around 2014 that the share price remains rather flat until today.
For me, I am treating this more of a momentum play given that organic growth is back on track and debts remain lowest since they acquire the Flyer back in 2014. I still want to see the company generating double digit growth either through organic or M&A and the latter remains to be questionable given the past 3 years have been a lackluster performance in terms of share price since they bought the flyer.
In the 2nd quarter of 2017, we see visitors to the attractions up by 8.3%, which highly impacted the better performance of the SOA, LCC and Flyer through increase in revenue by 8.4%. UWX was the only exception as it reported lower sales.
Assuming growth is back on track, we should see similar growth in the Q3 and Q4 and EPS for the year should comes in at about 4.70 cents. Assuming share price is at 85.5 cents, this translates to about 18x earnings. It’s just about fair given industry average for tourism sector is at 20x. I don’t think there’s much to shout at.
The company generally generates around $40m to $60m cashflow on average depending on working capital situation.
They have been consistently reducing their debts from the purchase of the flyer by repaying around $12m to $20m every year on average through their operating cashflow, while using the other $20m to pay dividends. Any retained earnings will go back to their cash in the balance sheet.
The company currently has about $56m worth of debts in their book (net cash: $104m) and cash of $160m. So they can essentially be debt free in the next 3 years or faster if they are more aggressive in repaying the debts.
The company generates tons of free cash flow through their model.
Asset Lease Concession
The asset concession is one to watch out for.
The flyer, for example, is a 30 years asset on lease concession that commences on July 2005. The initial cost to build the flyer is $240m and Straco bought it in 2014 for $140m with 19 years lease left (90% stake).
Today, they are generating a revenue of about $40m and an operating profit of about $10m a year.
The asset is capitalized throughout the useful life of the asset (35 years and 7 months) based on about $8m a year. Adding this back and deducting capex assuming at $1.5m (based on AR) every year, the company would generate a cashflow of about $16.5m a year from this asset. If we multiple back the $16.5m throughout the 19 years, this would sum up to about $313m. This would translate to about 9.1% IRR ($313m – $140m) / 19 years which I thought was pretty decent. This though, only takes up 1/3 of the overall assets they own (~$40m/$120m revenue)
The other 2/3 makes up of mainly SOA and UWX, both of which are flagship assets of the company.
For SOA, the agreement for the incumbent land use right is a period of 40 years concession from 1997 to 2037. That means we essentially have about 20 years left as of today. For UWX, the agreement for the incumbent is also a period of 40 years concession from 1994 to 2034, translating to about 17 years left.
The company generates a sales of about $82m with a handsome gross profit margin of about 70% at $58m operating profit.
This makes up almost 80% of the overall operating profit segment, so clearly this is one that we should watch out for. Too bad they didn’t provide the detailed segmental breakdown any further between SOA and UWX. With tourism gaining traction back in China and the assets have about 17 to 20 years left, Straco can enjoy a lot more years on this. Capex is also in the range of only around $2m a year so if they can keep the overhead down, it’s pouring cashflow for them for the next 17 to 20 years. I don’t even have to mention the crazy IRR they have on these two investment over the years.
This reminds me of China Merchant Pacific.
I don’t think the valuation we are looking today represents crazy compelling value if we look at it from an earnings point of view but if we try to use a discounted cashflow, it does look a bargain. Though, with the model, it depends on what we put in the assumptions. We need to make sure the growth in future years is higher than the WACC that we assign.
Clearly, organic growth can only help that much at this point, that pile of cash will surely be required to boost the company into the next stage of phase. That will be important to the g function in our dcf model.
Straco will report its Q3 on the 14th Nov.
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