Philippine Markets Daily

This well-established UITF from the largest bank in PH has found ways to consistently outperform its benchmark since inception…also, ALI tearsheet

June 4, 2021

This equity unit investment trust fund (UITF) from the largest bank in the Philippines has outperformed its benchmark, the Philippine Stock Exchange Composite Index (PSEi). It has done so by holding companies whose average ROA is 6%, 1.5 times higher average as-reported returns.

Investors looking at those as-reported metrics would be left confused with the fund’s stock picks. Fortunately, Uniform Accounting helps make sense of the fund’s investments and how it continues to outperform the market.

In addition to examining the fund’s portfolio, we are including fundamental analysis of one of the fund’s largest holdings, providing you with the current Uniform Accounting Performance and Valuation Tearsheet for that company.

Philippine Markets Daily:
Friday Uniform Portfolio Analytics
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BDO Unibank, Inc. (BDO) is a full-service universal bank in the Philippines. It was established in 1968 as Acme Savings Bank (Acme) with just two branches in Metro Manila.

In 1976, Acme was renamed to Banco De Oro Savings and Mortgage Bank when it was acquired by the SM Group, one of the country’s largest conglomerates. The bank was then renamed to BDO in 1996 and merged with Equitable PCI Bank in 2007, making the combined company the second largest bank in the Philippines.

Today, BDO is recognized as the largest bank in the country.

BDO offers a complete array of banking services including both commercial and investment products. Their investment products and services include money market funds, bond funds, balanced funds, and equity funds to cater to the varying risk profiles of their clients.

We’ve written about BDO’s different UITFs before:

This week, we’ll be giving an update on one of their other funds, the BDO Institutional Equity Fund.

BDO Institutional Equity Fund was launched on June 15, 2005 and is one of the oldest and most established funds in the Philippines. The fund aims to maximize capital growth over the medium to long term by investing substantially in PSE-listed equities. The fund is suitable for investors with aggressive risk profiles.

The fund is invested in 98% of PSE-listed equities while the remaining is invested in bank deposits and other short-term fixed income instruments for liquidity and portfolio re-balancing purposes. The fund’s benchmark is the Philippine Stock Exchange Composite Index (PSEi).

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The BDO Institutional Equity Fund started with a net asset value per unit (NAVPU) of PHP 1,000.00 at its inception in June 2005. In October 2007, the fund’s NAVPU rose to PHP 2,322.36. The fund’s 132% gain outperformed its benchmark’s 94% gain over the same period.

Due to the market sell-off caused by the global financial crisis, the fund’s NAVPU fell to PHP 1,031.76 in October 2008. The fund’s 56% loss matched its benchmark’s loss over the same period.

After 10 years, the fund’s NAVPU bounced back to PHP 5,772.33 in January 2018. The fund’s 459% gain outperformed its benchmark’s 431% gain over the same period.

Shortly after, the fund’s NAVPU declined to PHP 4,430.07 in November 2018 because of global concerns like Brexit and the US-China trade war. This resulted in a 23% loss from its previous high, slightly outperforming its benchmark’s 24% loss over the same period.

By July 2019, the fund’s NAVPU bounced back to PHP 5,426.78, recording a 23% gain that slightly outperformed its benchmark’s 22% gain over the same period.

The fund’s NAVPU dropped to PHP 3,073.39 in March 2020 due to the pandemic-induced market sell-off. The fund’s 43% loss outperformed its benchmark’s 45% loss over the same period.

As of May 31, 2021, the fund’s NAVPU has recovered to PHP 4,218.94, though this 37% gain underperformed its benchmark’s 43% gain.

Nevertheless, since the fund’s inception, the fund has had a cumulative gain of 322% that has well outperformed its benchmark’s cumulative gain of 233%.

As-reported metrics would have investors believe that the fund’s portfolio consists of companies that do not generate economic profit. However, Uniform Accounting reveals the truth behind the companies this fund invests in.

The table below shows the top eight core non-financial holdings of the BDO Institutional Equity Fund along with its Uniform return on assets (ROA), as-reported ROA, and ROA distortion—the difference between Uniform and as-reported ROA.

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Most of the companies in the BDO Institutional Equity Fund show as-reported ROAs at or below cost-of-capital levels, suggesting that they are not generating economic profit. The fund is generating an average as-reported ROA of 4%, lower than the global corporate average returns of 6%.

However, on a Uniform Accounting basis, this UITF’s holdings have actually delivered better returns with an average Uniform ROA of 6%, 1.5x the average as-reported ROA. These companies have strong returns, with some of the companies having Uniform ROAs above global average returns.

The Uniform Accounting framework addresses financial statement inconsistencies attributable to the flaws present in the Philippine Financial Reporting Standards (PFRS). This enables investors to determine the true underlying performance of companies and avoid distorted financial analysis and valuation.

As such, it should not be surprising that when analyzing the non-financial holdings of the BDO Institutional Equity Fund, the figures that easily stand out are the large discrepancies between Uniform ROA and as-reported ROA for these companies.

While at a glance, the difference between as-reported ROA and Uniform ROA may not seem that great, the distortion in percentage ranges from -232% to 134%, with JG Summit Holdings, Inc. (JGS:PHL), Ayala Corporation (AC:PHL), and SM Investments Corporation (SM:PHL) having the highest distortions.

As-reported metrics understate the profitability of Ayala Corporation, suggesting an unprofitable firm with an as-reported ROA of 2%. In reality, this firm more closely resembles one that is breaking even, with a Uniform ROA of 5% that is in line with average cost of capital. Prior to the pandemic, it consistently generated returns of at least 9% from 2005 to 2019.

Similarly, as-reported metrics understate the profitability of SM Investments Corporation, suggesting a below-average firm with an as-reported ROA of 3% when in fact, it is an average firm with a 6% Uniform ROA. It has consistently generated returns of at least 6% since 2005.

By focusing on as-reported metrics alone, these companies look like anything but profitable businesses.

That said, looking at profitability alone is insufficient to deliver superior investment returns. Investors should also identify if the market is significantly undervaluing a company’s earnings growth potential.

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This table shows the earnings growth expectations for the major non-financial holdings of the fund. It features three key data points:

  1. The two-year Uniform earnings per share (EPS) growth represents the Uniform earnings growth the company is likely to have for the next two years. The earnings number used is the value of when we convert consensus sell-side analyst estimates according to the Uniform Accounting framework.
  2. The market expected Uniform EPS growth represents what the market thinks Uniform earnings growth is going to be for the next two years. Here, we show by how much the company needs to grow Uniform earnings in the next two years to justify the current stock price of the company. This is the market’s embedded expectations for Uniform earnings growth.
  3. The Uniform EPS growth spread is the difference between the 2-year Uniform EPS growth and market expected Uniform EPS growth.

On average, Philippine companies are expected to have 5%-6% annual Uniform earnings growth over the next two years. Meanwhile, the BDO Institutional Equity Fund’s major holdings are forecast to outperform with a 32% projected Uniform earnings growth in the next two years, while the market is forecasting an underperformance with a 24% projected Uniform earnings shrinkage.

All the companies in the BDO Institutional Equity Fund have a positive Uniform earnings growth spread except for Ayala Corporation (AC:PHL) and PLDT, Inc. (TEL:PHL). Among these companies, JG Summit Holdings, Inc. (JGS:PHL), Ayala Land, Inc. (ALI:PHL), SM Investments Corporation (SM:PHL), and SM Prime Holdings, Inc. (SMPH:PHL) have the highest positive Uniform earnings growth spread.

The market is pricing JGS’s Uniform Earnings to shrink by 242% in the next two years, while sell-side analysts are projecting the company’s earnings to grow immaterially.

Likewise, the market is pricing ALI’s Uniform Earnings to grow by 12% in the next two years, while sell-side analysts are projecting the company’s earnings to grow by 104%.

Similarly, the market is pricing SM’s Uniform Earnings to grow by 10% in the next two years, while sell-side analysts are projecting the company’s earnings to grow by 68%.

As for SMPH, the market is pricing its Uniform Earnings to grow by 23% in the next two years, while sell-side analysts are projecting the company’s earnings to grow by 67%.

Overall, as-reported numbers would have investors incorrectly conclude that this portfolio consists of low-quality companies. While these firms suffer from the adverse effects of the coronavirus pandemic, dragging down their short-term earnings growth expectations, Uniform Accounting metrics show that these mature, low growth, but high return companies have intact business models that should drive economic profitability moving forward.

SUMMARY and Ayala Land, Inc. Tearsheet

Today, we’re highlighting one of the individual stock holdings in the BDO Institutional Equity Fund—Ayala Land, Inc. (ALI:PHL).

As the Uniform Accounting tearsheet Ayala Land, Inc. highlights, it trades at a Uniform P/E of 28.2x, above the global corporate average of 23.7x, but below its historical average of 32.6x.

High P/Es require high EPS growth to sustain them. In the case of Ayala Land, Inc., the company has shown an 81% Uniform EPS shrinkage in 2020.

Sell-side analysts provide stock and valuation recommendations that poorly track reality. However, sell-side analysts have a strong grasp on near-term financial forecasts like revenue and earnings.

We take sell-side forecasts for Philippine Financial Reporting Standards (PFRS) earnings as a starting point for our Uniform earnings forecasts. When we do this, Ayala Land, Inc.’s sell-side analyst-driven forecast shows that Uniform earnings are expected to grow by 79% in 2021 and 132% in 2022.

Based on the current stock market valuations, we can back into the required earnings growth rate that would justify ALI’s PHP 34.50 stock price. These are often referred to as market embedded expectations.

Ayala Land, Inc. is currently being valued as if Uniform earnings were to grow by 12% per year over the next three years. What sell-side analysts expect for ALI’s earnings growth is above what the current stock market valuation requires in 2021 and 2022.

The company has an earning power below long-run corporate averages. Ayala Land’s cash flows and cash on hand fall short of obligations within five years and the company has an intrinsic credit risk of 130bps. This indicates that ALI has a moderate credit and dividend risk.

To conclude, Ayala Land, Inc.’s Uniform earnings growth is above peer averages, and is also trading above peer average valuations.

About the Philippine Market Daily
“Friday Uniform Portfolio Analytics”

Investors who don’t engage in the buying or selling of securities for a living often rely on professionals to manage their own investments within the scope of their investment policies.

With so many funds and managers out there, it can get confusing and difficult to decide which one best suits your needs as an investor.

Every Friday, we focus on one fund in the Philippines and take a deeper look into their current holdings. Using Uniform Accounting, we identify the high-quality stocks in their portfolio which may not be obvious using the as-reported numbers.

We also identify which holdings may be problematic for the fund’s returns that they would need to reconsider from a UAFRS perspective.

To wrap up the fund analysis, we highlight one of their largest holdings and focus on key metrics to watch out for, accessible in our tearsheets.

Hope you’ve found this week’s focus on BDO Institutional Equity Fund interesting and insightful.

Stay tuned for next week’s Friday Uniform Portfolio Analytics!

Regards,

Angelica Lim
Research Director
Philippine Markets Daily
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