Chow Sang Sang (0116.HK)

[dreamybear]

Its most recent reported book value is HK$16 per share, isn't it ...

May I know by book value, are you referring to NTA or NAV ?

imho, the quality of assets is more impt than the reported book value, e.g. - having a little short experience in running a bizess, those "ppty/used plant / equipment" in some cases(mostly used equipment), hardly has any value in reality, worst case may even need to spend money to dispose or make whole to original state or refurbish. So unless it's a freehold / prime / good location / property / land in a stable political environment(country with strong rule of law), if I am not very confident of a stock, I wld usually assign 0 value to property / plant / equipment(any recovery amt is a bonus) for my own margin of safety. Speaking of which, land in HK and mainland China are leasehold. Some types of inventories may also become obsolete(may it be by design(fashion), perishable items, new SG cars sitting in the warehouse for a few years may depreciate quite a lot, etc) thereby not being worth as much when time goes by. Cash may also be slowly depleted if sales are very bad due to the prolonged unrest in HK. Other than that, CCS also has 496m of cash held on behalf of clients(means not its own) & 1b of receivables(can be subjected to impairments esp in a poor economic env) for its securities and futures bizness, making up part of its current assets.

Do note that I am not an accountant, just sharing my limited knowledge. As such, pls feel free to correct my understanding if necessary.

[gemini]

Its most recent reported book value is HK$16 per share, isn't it ...

May I know by book value, are you referring to NTA or NAV ?

imho, the quality of assets is more impt than the reported book value, e.g. - having a little short experience in running a bizess, those "property / used plant / equipment" hardly has any value in reality, worst case may even need to spend money to dispose or make whole to original state. So unless it's a freehold / prime / good location / property / land in a stable political environment(country with strong rule of law), i wld usually assign 0 value to property / plant / equipment(any recovery amt is a bonus). Speaking of which, land in HK and mainland China are leasehold. Some types of inventories may also become obsolete(may it be by design(fashion), perishable items, new SG cars sitting in the warehouse for a few years may depreciate quite a lot, etc) thereby not being worth as much when time goes by. Cash may also be slowly depleted if sales are very bad due to the prolonged unrest in HK. Other than that, CCS also has 496m of cash held on behalf of clients(means not its own) & 1b of receivables(can be subjected to impairments esp in a poor economic env) for its securities and futures bizness, making up part of its current assets.

Do note that I am not an accountant, just sharing my limited knowledge. As such, pls feel free to correct my understanding if necessary.

Does not make sense to attribute zero to property la.  Going by your assumption/reasoning, all the property stocks would crash at least 50% overnight already.

[karlmarx]

Chow Sang Sang (CSS) has some shares in HKEX, a small securities brokerage, and a small amount in investment properties. But these are not important to its overall value. CSS is primarily a manufacturer and retailer of gold jewelleries, and should be studied as such. 

As a gold retailer, CSS can profit in two ways:

1) ensure that it purchases gold at prices that are lower than what it sells to its customers for. 
2) produce desirable designs for which it may earn higher-margins for, also known as the labour charge.

Because gold retailers stock large quantities of gold inventory, a very large portion of the business' assets are exposed to the market price of gold. In a situation where it sells its gold to customers at market prices which are lower than what it paid for, it will incur a loss on the gold, though may make-up for it in the labour charges. To avoid exposure to the fluctuating gold price, thereby locking-in profits on their labour charges, gold retailers like CSS performing hedging by selling gold on contracts. I believe this is what the "bullion loans" are for.

The downside of such hedging is, of course, that the retailer does not enjoy any upside if gold market prices rise. The other danger is that during such increases in gold market prices -- where the retailer will incur a loss on the short contract -- the retailer is unable to monetise his/her inventory to meet the short contract obligations, even as the inventories are now worth more. In the event where the short obligations fall due but the retailer has no liquidity to fulfil those obligations, the retailer will have to melt inventories at market prices, which means forgone profits (and losses) on labour charges.  

Chow Tai Fook stated in its latest profit warning that its bullion loan to bullion inventory ratio is 60%. CSS has about HK$1b of bullion loans against HK$8b of inventories, but its gold inventories are not disclosed. It seems likely that CSS is less hedged, and thus, has higher exposure to gold market price.  

This means that a large fall in gold prices for a prolonged period of time will not only have disastrous impairments on CSS' balance sheet, as inventories represent about half of its total assets, but also possibly large losses on its P&L, as previously explained.

Hence, an investment in CSS -- or any gold retailer with little/no hedging on gold price -- will necessitate a belief that gold (jewellery) will continue to be in popular consumer demand, so as to allow continued gold price appreciation. If this is true, then CSS, which has a history of profitability, consistent dividend payouts, low gearing, and whose valuations are close to 2010 and 2014 levels, does look cheap.

[money]

hi, if CSS performs hedging by selling on contracts, does it mean that when it eventually sells the gold jewellry to the consumer, there will be a double selling? It sounds weird to me

[karlmarx]

hi, if CSS performs hedging by selling on contracts, does it mean that when it eventually sells the gold jewellry to the consumer, there will be a double selling? It sounds weird to me

Yes. But it will have to use the sales proceeds from the customer to buyback its paper shorts. So there is no double selling.

Though, in practice, this may not exactly be how the process will flow (i.e. buy physical from supplier, sell paper to hedge, then sell physical to customer, and buy paper to cover hedge), since it is not likely that the gold shorts will be tagged to any particular piece(s) of jewellery.

I have looked through CSS AR but have not found a clear explanation of their hedging process.

[dreamybear]

Chow Sang Sang (CSS) has some shares in HKEX, a small securities brokerage, and a small amount in investment properties. But these are not important to its overall value. CSS is primarily a manufacturer and retailer of gold jewelleries, and should be studied as such. ...... I believe this is what the "bullion loans" are for......

Thanks very much karlmarx, for your inputs to my doubts on bullion loans, and the possible implications of such loans, even when you are not obliged to.     (truncated your post to minimize forum pages, hope you don't mind)

For fellow buddies who may be interested in CCS/CTK, maybe you can also reference our local listed "equivalent" of gold /jewelry chains(at this pt in time, I am not too familiar with these).

[karlmarx]

The local equivalent for CSS is probably SK Jewellery. Like CSS, all SKJ stores are self-owned-and-operated. SKJ also use contracts to hedge against gold price movements, but almost negligibly. SKJ has a higher leverage, but faster inventory turnover, and higher dividend payout ratio. SKJ's limited potential for market growth makes it look appropriately priced. Though, its new line of lab-grown diamonds may be worthy of attention.

Chow Tai Fook's and Luk Fook's business model is quite different, since most of their profits are from wholesaling sales and franchising fees in the mainland market. This is probably why it hedges such a large ratio of its inventory; the profits from wholesaling and franchising has satisfied them sufficiently against what they may deem to be unnecessary exposure to the gold market price.

[gemini]

hi, if CSS performs hedging by selling on contracts, does it mean that when it eventually sells the gold jewellry to the consumer, there will be a double selling? It sounds weird to me

Yes. But it will have to use the sales proceeds from the customer to buyback its paper shorts. So there is no double selling.

Though, in practice, this may not exactly be how the process will flow (i.e. buy physical from supplier, sell paper to hedge, then sell physical to customer, and buy paper to cover hedge), since it is not likely that the gold shorts will be tagged to any particular piece(s) of jewellery.

I have looked through CSS AR but have not found a clear explanation of their hedging process.

Hi karlmarx,

Appreciate your useful input.  Continuing on this subject matter, i'll like your view pertaining to CSS' book NTA which is currently at $16.10/share, implying that its share price is trading at barely 0.6x pr/book.  This is about 2 std deviation away from the norm.  in your mind, do you reckon such a discount is warranted, and if not, what in your mind would a stock such as CSS trade at? ... LF trades at 1.25x pr/book, and CTF trades at 2x pr/book.

Thanks.

[karlmarx]

1) The valuation of CSS is not comparable to LF or CTF, because, as mentioned previously, of their different business models. And so the gulf between CSS' p/b when compared against LF and CTF is not a sign that CSS is undervalued, while LF is close to fully-valued, and CTF is over-valued.

The market values these three (and all other) companies based on several assessment criteria, such as profit, dividend, performance record, debt level, and future growth potential.

If you understand these companies, what they have done, and what they are trying to do, you will understand whether they are undervalued or not.

It is very unlikely that CSS will trade at a p/b that is close to CTF. Unless they break their long-held rule of developing a franchising business.

2) If a goldsmith shop which has been consistently profitable with only light gearing is available for sale, and it is available for sale at 60% of the value of the book, how will you respond? Does it sound like a good deal?

I have mentioned in an earlier post that I thought CSS was selling at a cheap price. There can be several reasons for its cheap price, with obvious ones being the retail disruptions to its HK market, and trade war in the mainland.

I do not know think such a discount is warranted, especially if you have a long time-horizon.

[gemini]

1) The valuation of CSS is not comparable to LF or CTF, because, as mentioned previously, of their different business models. And so the gulf between CSS' p/b when compared against LF and CTF is not a sign that CSS is undervalued, while LF is close to fully-valued, and CTF is over-valued.

The market values these three (and all other) companies based on several assessment criteria, such as profit, dividend, performance record, debt level, and future growth potential.

If you understand these companies, what they have done, and what they are trying to do, you will understand whether they are undervalued or not.

It is very unlikely that CSS will trade at a p/b that is close to CTF. Unless they break their long-held rule of developing a franchising business.

2) If a goldsmith shop which has been consistently profitable with only light gearing is available for sale, and it is available for sale at 60% of the value of the book, how will you respond? Does it sound like a good deal?

I have mentioned in an earlier post that I thought CSS was selling at a cheap price. There can be several reasons for its cheap price, with obvious ones being the retail disruptions to its HK market, and trade war in the mainland.

I do not know think such a discount is warranted, especially if you have a long time-horizon.

(1) i would agree that it is highly unlikely that CSS will trade at a p/b close to CTF.   Apart from your well-flagged and v valid point re their difference in biz models, CTF being 10x larger in mkt capitalisation and a market leader also enjoys the benefits of fund flows.  In spite of these clear (and arguably justifiable) differentiations, however, i'd sought to compare their pr/NTAs and pondered what sort of discount/premium to NTA each deserves, ... hence my earlier question (and thanks for the reminder again

(2) your example is a very valid one, and i would even go so far as to surmise that ... assuming i am LF or CTF, if i am keen to take out a competitor (in this case, CSS), i will probably be unable to do it unless i offer a premium to their NTA.  Of course in reality this may be many years down the road, if it happens at all.   It may be worthwhile to note that, because of the current disruptions to its HK market, CSS shares do trade at some 2 std dev from their normalised pr/NTA ... which unsurprisingly, is about 1.1-1.5x Pr/NTA (which leads back to my earlier point).

Yes, i would share your sentiment that the discount is unwarranted.

Thanks again very much for your input, karlmarx ... i have much to learn from you.