HOMERIZ (5160) - HOMERIZ - The Usual Suspects (F)


HOMERIZ (5160) - HOMERIZ - The Usual Suspects (F)


Introduction

In previous post, we conducted a Business Analysis on HOMERIZ, introducing The Usual Suspects to consider when analyzing exporting manufacturers with little or no economic moat like HOMERIZ. In this Financial Analysis, we will first present the superb financial track records of HOMERIZ, followed by how it was impacted by The Usual Suspects, and finally conduct a valuation to determine if the current price of HOMERIZ is attractive.

Income Statement

 Illustration 1: Profitability of HOMERIZ over the  5 Financial Years

 Illustration 2: Profit Margin of HOMERIZ over the 5 Financial Years

Illustration 1 & 2 shows a clear uptrend in HOMERIZ profitability and profit margin over the past 5 financial years under coverage. The Group achieved CAGR of 9% in Revenue, 9.8% in Gross Profit and 13.4% in Net Profit. There has also been clear margin expansion in Net Profit Margin, EBIT Margin and Gross Profit Margin for the Group.

However, we must not forget the figures in Illustration 1 & 2 are highly affected by the strengthening of USD against MYR over the past few years as indicated in Illustration 3 below.

 Illustration 3: USD/MYR 5 Year Chart

From Income Statement, we are able to see Revenue and Net Profit of a company, but we couldn't tell how much of the growth was attributed to strengthening of USD as such information was not disclosed in details. Let's look at excerpts from Financial Reports below:
 Taken from HOMERIZ 1QFY17 Financial Report

 Taken from HOMERIZ 3QFY16 Financial Report

 Taken from HOMERIZ 2QFY16 Financial Report

Therefore, it is really difficult for us to measure the real performance of HOMERIZ without taking currencies into account.

It is also important to know the geographical classification of HOMERIZ's revenue, which is shown in illustration 4 below.

 Illustration 4: Revenue classification of HOMERIZ by geographical areas

Despite the revenue of HOMERIZ is heavily focus in Americas & Europe and Asia Pacific (mostly Japan), HOMERIZ client base is well diversified with only 2 customers with revenue equal to or more than 10% of Group revenue. The managing director Chua Fen Fatt also mentioned that the largest client of the Group contributed only 12% to the Group's revenue in FY16.

 Taken from HOMERIZ FY16 Annual Report

Balance Sheet

 Illustration 5: Balance Sheet of HOMERIZ from FY12 to TTM1QFY17

 Illustration 6: Liquidity Ratio of HOMERIZ from FY12 to TMM1QFY17


From Illustration 5, we can see that HOMERIZ has been a net cash company in all the years under coverage. It has also turned debt free in FY16. Illustration 6 shows even more impressive financial ratios, with current ratio, quick ratio and cash ratio stays above 8x, 6x and 4x respectively, far surpassing our standards of 1.8x,1.4x  and 0.5x. Liquidity ratios analyze the ability of a company to pay off both its current liabilities as they become due as well as their long-term liabilities as they become current. In the case of HOMERIZ, it is quite safe to ask the question: What is the worst thing that could happen?

Cash Flow Statement

What good is a company that can earn profit and be asset rich BUT fail to generate cash flow? I know we have repeated this many times but it's so important that readers should expect us to mention this over, and over, and over again. Instead of merely looking at the cash flow figures of the company, we like to assess a company's cash flow generating capability by analyzing its FCF (Free Cash Flow). FCF is derived by deducting CAPEX (Capital Expenditure) from CFFO (Cash Flow from Operating Expenses). A company with strong FCF is more likely be able to increase dividend to shareholders, which in turn lead to increase of share price.

 Illustration 7: CFFO, CAPEX and FCF of HOMERIZ from FY12 to TTM 1QFY17

Illustration 7 shows the strong CFFO and FCF of HOMERIZ over the financial years under coverage. The sudden increase in CAPEX in FY16 (which result in lower FCF) was due to the purchase of 10 acres of land within the Bukit Bakri Industrial Park for future expansion.

 Illustration 8: Cash Flow Checklist of HOMERIZ

Illustration 8 shows the Cash Flow Score of HOMERIZ in TTM1QFY17 and FY16. We opine HOMERIZ has a very strong cash score of 85%. The usual CAPEX of HOMERIZ ahs been around RM 2 mil each financial year. The purchase of Bukit Bakri Land in FY16 has affected the cash flow score in the two financial years in illustration 8. If we exclude it, the cash score of HOMERIZ would have been close to PERFECT.

The Usual Suspects

# Usual Suspect 1: FOREX

Yes we know, we have promised to show readers the  performance of HOMERIZ without taking the strengthening of USD into account. The truth is, we can't give you the exact figure, but we can try to get an idea using currency analysis.

 Illustration 9: Revenue growth of HOMERIZ vs USD/MYR

Illustration 9 shows HOMERIZ revenue growth (qoq) and USD/MYR growth (qoq) from 1QFY15. 1QFY15 is being used in this illustration as it marked the beginning of USD strong strengthening (refer to Illustration 3). Please note that HOMERIZ financial year end is August, so the average exchange rates you use for 1QFY15 should be Sept - November 2014.

Illustration 10: Inference of HOMERIZ volume growth  

The figures in Illustration 10 was derived by deducting USD/MYR growth from Revenue growth. Yes, as we mentioned earlier, these figures can't be precise. but this the best we can get with available data. Here are the things Illustration 10 fails to take into considerations:

1) Revenue in USD - Approximately 99% of HOMERIZ revenue is denominated in USD. However, this is just a rough figure. In Illustration 10 we assume 100% of the sales derived in USD, and sometimes that 1% can make big difference.

2) Elasticity of demand - In Illustration 10, we assume sales volume of HOMERIZ would not have been affected by the strong USD. However, this is not necessarily true. A strengthening in USD would give more purchasing power to some clients and  make HOMERIZ products relatively cheaper, which in turns leads to higher revenue volume.

3) Average foreign exchange rates - We use average USD/MYR in Illustration 9 to estimate revenue volume growth in Illustration 10. In reality, however, revenue was transacted in USD and the exchange rate used depends on the rates upon conversion in the quarter. Using average forex exchange rates is just the best alternative we have. Below two excerpts from HOMERIZ 1QFY17 and 4QFY16 show the volume growth (qoq) of HOMERIZ, which is 20% in 1QFY17 and -15% in 4QFY17. It is not very far from our estimation in Illustration 11, which is  19.41% in 1QFY17 and -17.5% in 4QFY17.

 Taken from HOMERIZ 1QFY17 Financial Report


 Taken from HOMERIZ 4QFY17 Financial Report

# Usual Suspect 2: RAW MATERIAL

In previous post, we mentioned leather hides is the main raw material of HOMERIZ, which makes up to 40% of total production costs. Even though in HOMERIZ annual reports, the managing director again and again mentioned increase price in raw material and fluctuations in foreign exchange rates are the main challenges, we opine HOMERIZ has the ability to pass down its higher raw material cots to its clients.

 Illustration 11: Leather Hides price 5 year chart Source: http://www.indexmundi.com

Illustration 11 presents Leather Hides price over the past 5 years. We can see that leather price has experienced an uptrend in mid of 2013 and reached historical high price in end of 2014. However, in Illustration 2 above, we can also see HOMERIZ's capability to maintain its gross profit margin above 40% even at the time when the raw material cost was at peak. Please take note that leather price are trade in USD so this finding of ours couldn't have been distorted by strong USD at the year under coverage. 

Valuation
  
 Illustration 12: Comparison table among few furniture exporters listed in BURSA

 Illustration 12 compares 5 listed furniture exporters which are on our radar. While looking at HOMERIZ alone, its latest 6.72x EV/EBIT looks undervalued (our standard EV/EBIT is 8x). Assuming EV/EBIT of 8x, the target price of HOMERIZ should be RM 1.13, providing 15% potential upside at time of writing.

However, EV/EBIT, P/E and P/B are relative valuation methods, which mean they are more meaningful when comparing among their peers. From Illustration 12, we can see that HOMERIZ is  relatively higher in valuation compared to HEVEA, JAYCORP, LIIHEN and POHUAT (ohhhh but HOMERIZ investors, please don't be too hard on yourself. In Stockify, we are very picky and selective when comes to in our stock picks, so naturally stocks on our radar are always lower valuation). On the other hand, HOMERIZ is also, among the peers, one of the furniture exporters with highest net profit margin and management efficiency ratio. 

Conclusion

When conducting Financial Analysis on HOMERIZ, we are very impressed with its track record and regard it as the all rounder, who scores perfectly in Income Statement (capability to make profit), Balance Sheet (capability to remain safe in book and protect its shareholders ) and Cash Flow Statement (capability to generate FCF and rewards its shareholders). However, in terms of valuation, Investors must also pay higher valuation as the price to be the owner of the all rounder like HOMERIZ.

It is also very important to know The Usual Suspects when analyzing manufacture exporters like HOMERIZ. In previous post, we concluded #Usual Suspect 3: LABOUR, is the biggest constraint for HOMERIZ to expand. In this post, we presented how #Usual Suspect 2: RAW MATERIAL, shouuld not be too much of a concern to HOMERIZ given its ability to pass down the cost to the customers. However, the #Usual Suspect 1: FOREX, serves like a double edge sword, recent surge in USD has contributed to good revenue and good profit margin to the group, which result in higher ROE, ROIC, CROIC in Illustration 12. A reversal in USD could make valuation adjustment in HOMERIZ, this is a fact investors must be aware of.


References:

The Edge Financial Daily 26 January 2017
HOMERIZ Annual Report FY2011 to FY2017
HOMERIZ Financial Report 1QFY17, 1QFY16-4QFY16, 1QFY15-4QFY15, 1QFY14-4QFY14. 
http://www.indexmundi.com
http://www.x-rates.com

HOMERIZ (5160) - HOMERIZ - The Usual Suspects (F)
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