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*hold my breath* d.o.g., maybe names should be kept SIC or changed to *ahem* protect the identities of the *ahem* victims. We had received two, erm, complaints before and I think this may warrant the third one coming.

(24-06-2013, 05:16 PM)psolhawk Wrote: [ -> ]*hold my breath* d.o.g., maybe names should be kept SIC or changed to *ahem* protect the identities of the *ahem* victims. We had received two, erm, complaints before and I think this may warrant the third one coming.

The previous complaints were predicated upon accusations that were not backed up by hard evidence.

In the case of the Lee family, the events mentioned are fully documented in the public domain. I quoted from publicly available documents like newspapers, court proceedings etc. As for Lin Jiancheng, if there are valid explanations for what he is doing then I am all ears. I have only suggested two possibilities, certainly there may be other answers.

I am not saying that we have a duck. It just looks like a duck, walks like a duck and quacks like a duck. But I cannot confirm that we do, indeed, have a duck.

boon, are you saying the effective interest rate of 32% as calculated by d.o.g. was wrong?

(24-06-2013, 03:35 PM)Boon Wrote: [ -> ]Corporate Tax Rate in PRC is 25%. Since interest expenses are tax deductible, therefore, it should be fully accounted for as well.

Also, the subscription price of RMB 100.5 million is for BOTH Bonds and Warrants.

Subscription Price of Bond (SPB) + Subscription Price of Warrants (SPW) = RMB 100.5 million

SPB + SPW = 100.5

Principal Amount of Bond (PAB) = RMB 134 million

Discount to PAB (DPAB) = PAB – SPB = PAB – 100.5 + SPW = 134 – 100.5 + SPW = 33.5 + SPW

Assuming DPAB could be amortized over two years with tax deductibility

SPW up < = > SPB down < = > DPAB up < = > tax deductible (TD) up < = > effective annual interest rate (EAIR) down

SPW (zero) < = > SPB (100.5) < = > DPAB (33.5) < = > EAIR (24%)

SPW (33.5) < = > SPB (67) < = > DPAB (67) < = > EAIR (20%)

See Excel File attached

It is hard to ascribe a “correct” Effective Annual Interest Rate” without knowing the full details of the deal plus the relevant allowable accounting and tax treatment in PRC. For those that know how to do it (I am not one), I believe there are many ways to structure this deal.

No doubt, this hybrid security could be “decomposed” into its basic building blocks or components - Bond and an Equity Option – and with each component being analyzed independently - the key thing in the first place is to get the building blocks right.

Comments are most welcomed.

(29-06-2013, 12:47 AM)greengreengrass Wrote: [ -> ]boon, are you saying the effective interest rate of 32% as calculated by d.o.g. was wrong?

(24-06-2013, 03:35 PM)Boon Wrote: [ -> ]Corporate Tax Rate in PRC is 25%. Since interest expenses are tax deductible, therefore, it should be fully accounted for as well.

Also, the subscription price of RMB 100.5 million is for BOTH Bonds and Warrants.

Subscription Price of Bond (SPB) + Subscription Price of Warrants (SPW) = RMB 100.5 million

SPB + SPW = 100.5

Principal Amount of Bond (PAB) = RMB 134 million

Discount to PAB (DPAB) = PAB – SPB = PAB – 100.5 + SPW = 134 – 100.5 + SPW = 33.5 + SPW

Assuming DPAB could be amortized over two years with tax deductibility

SPW up < = > SPB down < = > DPAB up < = > tax deductible (TD) up < = > effective annual interest rate (EAIR) down

SPW (zero) < = > SPB (100.5) < = > DPAB (33.5) < = > EAIR (24%)

SPW (33.5) < = > SPB (67) < = > DPAB (67) < = > EAIR (20%)

See Excel File attached

It is hard to ascribe a “correct” Effective Annual Interest Rate” without knowing the full details of the deal plus the relevant allowable accounting and tax treatment in PRC. For those that know how to do it (I am not one), I believe there are many ways to structure this deal.

No doubt, this hybrid security could be “decomposed” into its basic building blocks or components - Bond and an Equity Option – and with each component being analyzed independently - the key thing in the first place is to get the building blocks right.

Comments are most welcomed.

I do find this an interesting case study and am too following the developments with great enthusiasm.

I would not use the word “wrong” to describe the 32% effective annual interest rate worked out by d.o.g.

If you change all of the “tax deductibles” inputs in my attached excel file to zero (the one with subscription price of bond = RMB 100.5 million, subscription price for warrants = zero), you would get the same answer of 32% as calculated by d.o.g.

What I am saying is :
In d.o.g.’s calculation, tax deductibility of interest expenses have not been taken into consideration. IMO, it is the NET cash outflow that Eratat has to bear for the issuance of BOTH the bond and warrants that counts – not the GROSS amount.

Let’s work through the tax deductibles in detail:

1) Tax deductibles on Bond Coupon interest expense:
Principal amount of Bond = RMB 134 million

Coupon interest payments = 12.5% payable quarterly base on RMB 134 million = (1 + 0.125/4)^4 – 1 = 13.1% payable annually. = RMB 17.55 million per annum

Corporate tax in China is 25%, and Eratat has been profitable and paying quite substantial amount of tax every year since listing – enough tax to offset.

Tax deductible on coupon interest payments = 25% of 17.55 million = RMB 4.39 million.

In another words, net coupon interest payment incurred by Eratat is 75% of the actual payments and not 100%.

2a) Tax deductibles on Bond Discount ( SPB = RMB 100.5 million ; SPW = zero )

The subscription price of bond (SPB) + subscription price of warrants (SPW) = RMB 100.5 million

That is, we only know : SPB + SPW = 100.5 , but we do not know the proportional mix.

If we ASSUME: SPB =RMB 100.5 million and SPW = zero.

Discounted Price of bond = RMB (134 – 100.5) million = RMB 33.5 million

Assuming further that this amount of discount could be amortized over two years and is tax deductible,

“Discount amortization” per year = RMB 16.75 million per year.

Tax deductible on “discount amortization” = 25% of 16.75 = RMB 4.19 million per year

In another words, by selling the bond at 75% of PAR, Eratat is assumed to be entitled to tax deductibility on “discount amortization” of RMB 4.19 million per year for two years.

If the above 1 and 2a tax deductibles are taken into consideration, the “effective annual interest rate” would be reduced from 32% (as worked out by d.o.g.) to 24% instead (roughly a reduction of 25%) – Please refer to my excel file earlier.

2b) Tax deductibles on Bond Discount ( SPB = RMB 67 million ; SPW = RMB 33.5 million)

Now in the above calculation, we had assumed
SPB = RMB 100.5 million
SPW = zero

What if SPW is not zero, as d.o.g. had mentioned earlier, the warrants is out of money, but time is on its side and therefore it has some value.

Let’s assume if SPW = RMB 33.5 million (I am not implying this is the correct pricing to the warrants, it does seems high, but for the sake of the exercise, let’s assume this figure)

Assuming further that this amount of warrants subscription proceed of RMB 33.5 million would be treated as paid-in-capital and not an income, and therefore not taxable.

If SPW = RMB 33.5 million, then SPB = 100.5 – 33.5 = RMB 67 million

Bond discount became = 134 – 67 = RMB 67 million

“Discount Amortization” = 0.5 x 67 = RMB 33.5 million per year over two years.

Tax deductible on “discount amortization” = 25% of RMB 33.5 million = RMB 8.38 million per year over two years.

In this scenario, by ascribing a positive value to the warrants, the bond appears to be sold even at a bigger or deeper discount to PAR ( a lot more cheaper), and the “effective annual interest rate” for the bond issue alone would be even higher. HOWEVER, the tax deductible on “discount amortization” has increased, resulting in an overall DECREASE in the “equivalent effective annual interest rate” for BOTH (bond and warrants issue), from 24% to 20% (see my excel file)

Without taking tax deductibility into consideration, it appears that it doesn’t matter what is the “proportional mix” or made up of the subscription price of RMB 100.5 million between bond and warrants - for whatever proportional mix ( 1: 0 or 2/3 : 1/3), the total combined subscription price that Eratat would get is fixed at RMB 100.5 million – no more or no less – it would not change.

However, once tax deductibility is taken into consideration, and depending on the allowable accounting and tax treatment for the bond/warrants issue, “proportional mix” seems to have bearing on the amount of tax payable (or deductible) by Eratat – hence the “equivalent effective annual interest rate” on the bond/warrants issue – if one choose to measure it this way.

As always, an analysis is just as good as its underlying assumptions. Until we know the exact breakdown of the total subscription proceed of RMB 100.5 million between Bond and Warrants, and/or its relevant allowable accounting and tax treatment, honestly, I do not know how to work out the “equivalent effectively annual interest rate” of the “Bond AND Warrants Issue” combined– neither could I work out the “effective annual interest rate” of the “Bond issue” alone.

SPB = RMB 100.5 million and SPW = zero, is only one of the many possible scenario.

Comments are most welcomed.

^^^ Great analysis taking into account tax savings, which is what corporate raiders or LBO looks at in substituting tax payments with interest payments. But IMHO an EAR of 25% or 32% is academic... it is too high in a low interest rate environment. We only see these kind of rates in distressed environments. Personally I focus on being approximately right than precisely wrong.

(23-06-2013, 12:15 PM)yeokiwi Wrote: [ -> ]If buying a stock requires such in-depth understanding, interpretation, postulation, guesstimation of the company intention of issuing the bonds, it is probably too much for me.

There are more than 700+ companies in SGX and there are countless that are easier to understand with a higher probability of capital preservation with gain.

Different stroke for different people. I prefer things that are easier to understand with a high probability of guessing the right intention/value.

An incredibly sensible conclusion in the midst of the noise. There are many reasons why it is done but if the probability is heavy towards loss of management credibility, then probably it's time to move on and watch the show on the sidelines. No tickets needed.

Nonetheless I have to applaud those who made detailed analysis. That's what make this forum great

Boon

I'm inclined to share the views of specuvestor as well.

Tax savings should be the appetizer, rather than the main course. Even if tax savings lower the effective interest rate to 15%, the question remains....

(30-06-2013, 08:31 AM)HitandRun Wrote: [ -> ]Boon

I'm inclined to share the views of specuvestor as well.

Tax savings should be the appetizer, rather than the main course. Even if tax savings lower the effective interest rate to 15%, the question remains....

Hi Hitandrun,

Haha! Interesting remark, if tax savings is appetizer, rather than the main course, then what should represent the main course? How about dessert?

Don’t get me wrong, I do concur with specuvestor that these kinds of rates only happen in distressed environments. Even after taking into account of tax savings, the effective rate still looks abnormally high at around 20%.

I would not rule out the possibility that we could have misunderstood certain terms and conditions of the deal – resulting in drawing wrong calculation/conclusion.

To eliminate this risk of misconception, it is best to look at the original “Subscription Agreement” – which fortunately is available but only for a limited time.

As stated in the bond/warrant issue announcement - “The Subscription Agreement may be inspected at the registered office of the Company during normal business hours at 50 Raffles Place #32-01 Singapore Land Tower Singapore 048623 for a period of three (3) months from the date of the announcement:”

I would love to take a look at this document personally but unfortunately I am not based in Singapore at the moment. I would definitely do so if I happen to be in Singapore during the 3 months allowable inspection period.

(not vested)

Perhaps we should reference to the 'Eratat' forum thread on NextInsight. -> http://www.nextinsight.com.sg/index.php/...?start=666

The people there are more bullish.

For me, I am skeptical and will pass on this. The company is cash-rich and they went to issue another set of warrants. This is already a major red-flag. Either their cash is not free cash or they are going to adopt another round of 'renovation subsidy'. Is it me or does it seem to be fishy that right after their 'stellar' 1Q13 earnings result, there comes another warrant issue?

The stock is so cheap at 2x P/E, with its balance sheet loaded with cash. If this is so good to be true, the CEO should buy more for himself. It's a "no-brainer analysis" because the CEO has the insight into the business and should know whether it succeed or not. I did a quick check on the SGX announcements and correct me if I am wrong, there was nothing but shares issuance and warrants.

Especially in China, the apparel business is not easy and it doesn't become easier as you move up the value chain. Have anybody been to a Eratat shop? What makes them compete with the better known local/international brands?

This counter will be an interesting case study and I would be eager to see how it turns out.

I am currently based in Shanghai and would like to share the following.

Eratat had incorporated a wholly owned subsidiary in Shanghai last year and intend to use Shanghai as a platform to further expand its presence across China, particularly in reaching out to new distributors. The management believes that this strategic move will help strengthen the marketing of the ERATAT Brand - which would attract new distributors, improve its domestic visibility and ultimately, driving sales.

From what I have observed in Shanghai so far over the past few months, it seems to me that there have been “real activities” taking shape – they have been doing what they said they would do.

- I have seen Eratat Premium outlets popping up in Shanghai – Personally I have walked past two shops but did not go in. I do not know how many shops they have now in Shanghai.
- I have seen its recruitment advertisement for shop assistant/sales staffs etc. over the media for its various new outlets in Shanghai
- I have seen “retailer recruitment” advertisements over the media put up by its distributors
- They have move the trade show to Shanghai from Hangzhou.

In my opinion

- It seems like they do have strategy and plans in place for expansion to grow its business – and these are being carried out. How sucessful it would turn out - only time will tell.
- Eratat is not considered big compared to some of its local peers. If it intends to grow as big as some of them – it would need a lot more capital – its current cash reserve (assuming it is real) would not be enough – but these are future needs - if it could grow that big.
- However, for its immediate needs, it still makes no sense to me to commit to the bond/warrant issuance at such ridiculously lousy terms, considering that it still has so much cash.
- Renovation subsidy is not a concern to me – it is normal in China with this kind of business model.
- If its books are “real” and the cash is “real”, then it is a “real” undervalued stock.

(not vested)

Maybe check out the pricing of eratat's product and the no of customer who buys them over the weekends too.

A bottom down observation of the company's product would be great.