A Good Long Look At Mieco Chipboard Again

I have written many a times on Mieco Chipboard before. ( Here is the link to the past articles that I had written before: click link here )

Today I try something new.

Yeah, most know that iCapital is a huge fanboy of the stock. So what I will do is make a new posting based on what iCapital wrote back in 2007.

I will mark in dark blue font as what I think as significant.

• Mieco Chipboard (Mieco, 5001)
  
  [Updated on 02/07/2007 07:49:00]
  
  Principal activities: Manufacturing and sale of chipboards and other related products.
  Major shareholders: Bandar Raya Developments Berhad, Lembaga Tabung Haji.
  
  This week, i Capital updates Mieco. A quick recapitulation. Mieco is one of the two largest particleboard manufacturers in the Asia-Pacific region. Mieco offers a wide range of plain and value-added products, including decorative melamine faced chipboard (MFC), decorative electron beam foil chipboard (EBFC), decorative polymer faced chipboard (PFC), worktop, direct post form (DPF) board, laminated flooring, and ‘Do-It-Yourself’ (DIY) type of furniture, which are sold under its ‘MIECO Livin Style’ brand.
  
  Sales
  Half of Mieco’s output is sold locally, while the remaining half goes to over 20 countries, including China, Taiwan, Japan, Korea, Hong Kong, South East Asia, the Indian subcontinent, the Middle East, Africa and the Australasian countries, with China remaining as its main export market. Mieco’s export markets mainly take plain boards, which give the group a margin of around 11-14%. In contrast, the domestic market takes both plain and value-added boards, such as MFC and PFC. Value added boards give better margins, around 8-10 percentage points higher than that of plain boards. Since domestic sales give a better margin, domestic sales constitute, in monetary terms, around 80% of the group’s total sales – see table 1.
  
  Update on its latest plant located in Kechau Tui, Pahang
  Mieco’s first and second particleboard lines, both located in Semambu, Kuantan, were respectively commissioned in 1976 and 1990. In 1995, the group installed a third production line in Gebeng, Kuantan. These production lines all together gave the group a total annual production capacity of around 300,000 cu m. Mieco had its new plant, which is located in Kechau Tui, Pahang, commissioned in Mar 05, and the near RM400 mln investment gives the group an additional yearly production capacity of 640,000 cu m, bringing the group’s total annual production capacity to 940,000 cu m. The new plant produces only plain boards. While older plants are running at full capacity, the new plant is currently running at around 70% of installed capacity.
  
  By the end of the year, the group will increase its capacity utilisation rate to 75%, without incurring any additional capital expenditure. In 2008, with an additional capital expenditure of RM40 mln to upgrade the group’s press line, the group will be able to run at full capacity in the beginning of 2009.
  
  Performance analysis
  
  While Mieco’s sales have been improving, the percentage of revenue that goes to the group’s earnings before interest, tax, depreciation and amortisation (EBITDA) has been on a declining trend, and the decline was accentuated when the group started running its new plant in 2005 – see figure 1. The main reason for the decline in profitability was the rising cost of raw materials. In 2006 alone, wood cost rose 48%. Cumulatively, over the past 5 years, costs of glue and wood have increased 56% and 129% respectively. Also, in 2005, as a result of low selling prices, the group’s sales, grew only 10% from 2004. This also contributed to the group’s lower profitability level in 2005.
  
  Particleboard selling prices plunged in 2005. The plunge was caused by regional industry-wide particleboard production capacity expansion. Similarly, Mieco was also one of those that embarked on an expansion process. Figure 2 shows the sales and EBITDA margin of Vanachai, which is the other large particleboard manufacturer in the Asia Pacific region. Similar to Mieco, which expanded its original capacity by more than double in 2005, Vanachai expanded its annual production capacity significantly from 498,000 cu m to near 948,000 cu m in 2004. Around the same time, other main particleboard players in Thailand had also significantly increased their production capacity. It has to be noted that Vanachai’s business model is different from Mieco’s, that is, besides manufacturing particleboard, its core operations comprise medium density fibreboard (MDF) manufacturing. Thus, compared with Mieco, Vanachai shows much a higher sales value and EBITDA margin.
  
  As demand did not pick up as fast as the capacity expansion, Mieco made a net loss of around RM8 mln in 2005 compared with a profit of RM30 mln in 2004. However, these trends did not apply only to Mieco, but to the particleboard industry as a whole. As such, industry players experienced significant squeezes in their margins, and plunging profitability, despite rising sales, which were mainly due to increased sales volume. Both figures 1 and 2 represent the trend that had been experienced by the industry players.
  
  However, things are turning around. Demand has been picking up quite well, and is thus, stabilising and improving selling prices. Besides, increasing demand particularly in Asia and Europe is expected to boost the group’s capacity utilisation rate. Rebounding demand from Europe would further improve particleboard prices and is also expected to lower the supply coming in from that region. Demand from Asia remains strong. Also, Mieco has successfully expanded its existing markets and entered into new markets such as India and the Middle East. In the longer-term, improving capacity utilisation and particleboard prices are expected to improve the group’s sales, and thus its bottom line. In the shorter-term, however, the situation is not expected to be all that positive.
  
  The reason is that while particleboard prices are improving, the Korean government has come up with a policy, stating that each person is allowed to own only one house in Korea. This has reduced the demand for particleboard from that country. Korea is one of Thailand’s main particleboard buyers. As such a policy has reduced the demand for particleboard from Thailand, manufacturers in Thailand have dumped their products in Malaysia, lowering particleboard selling prices. Currently, particleboard prices are softening and are hovering around RM125 per cu m. Such a situation is expected to continue for another few months, as the Thai manufacturers continue to dump their particleboard over to Malaysia. However, particleboard prices are expected to pick up towards the end of the year, as sales volumes are always stronger in Q3 and Q4.
  
  Q1 07 Results
  Compared with Q1 06, the group’s revenue in Q1 07 improved by around 40% from RM68 mln to RM95 mln, due to higher selling prices and higher sales volume. However, its EBITDA hardly changed. Compared with Q4 06, the group’s sales improved by 11% but its EBITDA declined 11%. Comparing Q1 07’s results with that of Q1 06 would give a more accurate picture of the group’s performance, as in this industry (being a cyclical one), sales are usually at their lowest in the first quarter, and will then pick up in the third and fourth quarters. In terms of loss per share, Mieco made a loss of 6 sen in Q1 07, a significant improvement compared with a loss of 43 sen in Q106.
  
  Although selling prices are expected to soften further in the coming months, the group has been working very hard to improve its production efficiency. A thermo plant, which is expected to be set up soon, is expected to give the group annual savings of around RM3-4 mln. Besides, the group’s effort in increasing its capacity utilisation rate will reduce its fixed cost per unit of production, contributing positively to the group’s bottom line.
  
  Rise in raw material costs tapering off
  Another good news for the industry is that the rising cost of resin and wood is tapering off. In the shorter term, the impact of the softening particleboard prices is expected to be cushioned by tapering raw material costs.
  
  As part of Mieco’s cost saving measures, Mieco will involve itself in reforestation soon. Mieco was granted an area of 10,000 acres. Also, Mieco managed to secure log supply from a total area of around 2,653 acres from FELDA’s rubber replanting area.
  
  Conclusion & Advice
  
  At RM1.02 and including its 100 mln warrants, Mieco is capitalised at around RM247.2 mln. For this, what do investors get in return ?
  
  Compared with Mieco’s market capitalisation prior to its expansion in 2005 of around RM317 mln to its current market capitalisation of RM247.2 mln, has the near RM400 mln investment added no value to the group? The investment has equipped the group with an additional yearly production capacity of 640,000 cu m, and prepared the group to reap the benefits from the rising demand for particleboard in the region. Also, the new plant has given the group a firmer foothold in the industry.
  
  As expected, recovering particleboard prices have contributed positively to the group’s top and bottom lines, and this trend is expected to continue in the longer-term. While in the near term prices are expected to soften further and lower the group’s margin and thus, its profitability, such a development is expected to be partly offset by the group’s efforts in improving its production efficiency. Despite the group taking up some debts to finance its new particleboard production line, improving profitability along with the contribution from improving prices and demand will enable the group to pay off its loans in a few years time. Based on the positive prospects of the industry as a whole, and together with Mieco’s prudent management, i Capital retains its longer-term buy rating for Mieco Chipboard.
  
  Disclosure of interests (required by the Securities Industry Act): The publisher and associates have an interest in Mieco Chipboard.

Here's my interpretation.

First and most important issue is the vested interest issue. When one has vested interest, how could one NOT have anything positive to say? Yes?

Now the first few bold blue lines.

Declining selling price coupled with rising raw material cost.

In regardless of what company, who is managing the company, who owns the company or who is recommending the stock, how would you interpret that? How would I?

This for me sounds like a real tough industry to be in. (remember Warren Buffett's famous investment advice on such business?)

And not helping at all is Mieco had decided to built a state-of-the-art plant costing some 400 million in 2005 when the tough time hit. One can call it bad timing or one can call it bad luck but fact remains is that Mieco built an extremely expensive plant when the economics of the particle business turned really bad.

400 million plant, plunging selling price and rising cost price simply equated to bad business.

So back in July 2007, iCapital suggested a buy. It said things are turning around. And they used the following reasoning.

• Compared with Mieco’s market capitalisation prior to its expansion in 2005 of around RM317 mln to its current market capitalisation of RM247.2 mln, has the near RM400 mln investment added no value to the group?

Firstly, let me say that, in my flawed opinion, what iCapital is doing here is rather risky.

It valued Mieco via market capitalisation. Valuing by market capitalisation is based ultimately on the stock price. Which is saying that the market is valuing the stock correctly and if one is in the game long enogh, one would understand the risk involved in making such a statement. Why? Any given stock can go up on any given Sunday and more often than not, in our local markets, fundamental reasoning and valuation do get dumped into the drain and stocks go flying without wings!

So is the market valuing the stock correctly back in 2005?

Or is the market valuing the stock wrongly back in 2007?

Before I attempt to answer those two questions, let's do a simple review.

Let's look at Mieco's earnings back in 2003.

Back in 2003, Mieco was a solid company. 180+ million and no debts. Growth is there too! ( Do refer this earnings report: Quarterly rpt on consolidated results for the financial period ended 30/6/2003. )

Aug 2005. Quarterly rpt on consolidated results for the financial period ended 30/6/2005. Mieco earnings is only 120k.

Aug 2005: Bandar Raya Bhd, who owns Mieco, "proposed a capital repayment which would be satisfied by the distribution of up to 119.1 million shares in Mieco on the basis of one Mieco share for every four BRDB share."

Not sounding good when the owner announces that they want to dispose Mieco shares!

Nov 2005. Quarterly rpt on consolidated results for the financial period ended 30/9/2005. Mieco is now losing money! Mieco posted a net loss of 3.742 million! Cash in its piggy bank is now only 16.883 million! Total loans stood at 210.849 million.

July 2007, iCapital wrote on Mieco.

Aug 2007. Quarterly rpt on consolidated results for the financial period ended 30/6/2007 Mieco losses increased to 6.075 million! Cash balances has now shrunk to 14 million. Total loans stood at 243.514 million!

How? Earnings went from profit growth to worsening losses. Balance sheet deteriorated. Cash shrank. Loans increased.

So if the market in 2007, values Mieco lowly, wasn't it justifiable?

Perhaps it would be better if I understand the business economics of the company, yes?

It was a business which had bad business economics, in which average selling prices of the product were falling and raw materials costs were increasing! Does this sound like a good business to invest in?

Or should I attempt to value a business in a difficult business environment?

And so Mieco had a 400 million new plant. But just what's the use? Correct or not? Mieco could have the the state of art plant and Mieco could have the best management but if the business economics is not there, what's the use?

( Coincidently see this posting S&P has a Strong Buy on Mieco Chipbaord!. I was bemused. )

Anyway, let's see how Mieco fared since then.

Jan 2008. Bandar Raya to reconsider disposal of Mieco. They tried it in Aug 2005. They failed. Now they try again! No joke. (ps: the Star business link still works. :D )

• But Jagan stressed that BDRB's plan to dispose off its stake in Mieco had “nothing to do with the chipboard maker's performance.”
  He believes Mieco would bounce back to the levels of its heydays. “The glut in the industry will subside when the supply of hardwood gets scarce,” he said. Also, he pointed out that the increasing environmental awareness would lead to a growing demand for chipboard, which is more environment-friendly.

May 2008: Quarterly rpt on consolidated results for the financial period ended 31/3/2008. Mieco lost money again. Losses totals 3.339 million.

Feb 2009: Quarterly rpt on consolidated results for the financial period ended 31/12/2008. Mieco lost some 14.5 million. Losses were compounded by the fact that they lost some rm5.9 million from disposal of plant and equipment.

May 2009: Quarterly rpt on consolidated results for the financial period ended 31/3/2009. Mieco lost some 22 million! Cash balances only left some 10 million. Total loans stood at 196.567 million.

July 2009: Bandar Raya continues to attempt to sell Mieco. LOL! Link to Business Times article titled 'BRDB bullish on Mieco but welcomes suitors' is broken.

Aug 2009: Did Mieco Chipboard Have A Turnaround??

Nov 2009, yesterday. Mieco announced its earnings. It lost 1.574 million. Cash is now only 6.221 million. Total loans is now 177.792 million.

Did you see the line 'Amount due to holding company' under 'Non-current liabilities' in the balance sheet?

Yeah, Mieco now owes Bandar Raya some 35.3 million!

Isn't it so clear why Bandar Raya had been trying to dispose Mieco since 2005?

Consider that fact.

If the holding company doesn't want, why would you want?

---------------------------------------------------------

Here's the business times article.

• BRDB bullish on Mieco but welcomes suitors
  
  Ooi Tee Ching Published: 2009/07/07
  
  Mieco is an attractive bride, but Bandar Raya Developments, as a parent, is very choosy of prospective suitors for Mieco, says Mieco chairman
  
  Property developer Bandar Raya Developments Bhd (BRDB) (1473) is optimistic of prospects for subsidiary Mieco Chipboard Bhd, but may sell the chipboard maker if there is a good enough offer.
  
  "Mieco is an attractive bride and is never short of dates. She has always had suitors and is frequently courted. It is just that BRDB, as a parent, is very choosy of prospective suitors for Mieco," Mieco chairman Datuk Mohamed Moiz JM Ali Moiz told Business Times in an interview in Kuala Lumpur.
  
  He disagreed with the view that furniture manufacturing was a sunset industry.
  
  "Furniture is a necessity, be it in a residential, commercial or industrial setting. This industry has legs to see through the tough times. We remain optimistic of the long-term prospects," he said.
  
  Last year, Mieco posted losses of RM36.3 million. It continued to lose money in the first quarter of this year. Mohamed Moiz admitted that it would be tough for Mieco to make money this year.
  
  However, the group has been cutting costs.
  
  "Mieco's monthly output used to be around 50,000 sq ft, but it has now dwindled to 15,000 sq ft. We have had to let go of 166 employees and close down the Hong Kong office.
  
  "In November 2008 we closed our plant in Kechau Tui (in Pahang), but this is temporary. Basically, we've done what we have to do. We've centralised marketing activities to Kuantan," Mohamed Moiz said.
  
  Mieco also has a total debt of RM150 million, but the chairman stressed that the chipboard maker was not defaulting.
  
  "Given the current weakness in global demand for chipboard, we need to take pre-emptive action with the banks. We're re-scheduling the loan repayments to give us some breathing space. We're looking at a two-year-extension. We hope to wrap up talks this month."
  
  Four years ago, BRDB's plan to demerge its stake in Mieco to BRDB's minority shareholders under a capital repayment exercise failed. Mohamed Moiz explained that property development and chipboard manufacturing were capital-intensive industries.
  
  "Back in 2005, BRDB directors saw it fit to just focus on property. We needed at least 75 per cent vote from other shareholders. But when it went to count, we didn't get the numbers. So we left it at that," he said.
  
  Asked if a demerger exercise might be revisited, he replied: "In business anything is possible. It does not necessarily have to be a demerger. We keep our options open.
  
  "We've been in the chipboard-making business for 35 years. We're in this for the long run."