Philippine Markets Newsletter

Cheers! Uniform Accounting reveals this conglomerate has more spirited returns, distributing a Uniform ROA of 14%, not 6%

December 1, 2021

This holding company was able to manage profit declines and continue finding means to raise capital to expand its various businesses amid the pandemic. 

Although its as-reported metrics showed nearly flat profitability, this conglomerate’s cost and asset management efforts allowed it to generate more robust Uniform return on assets (ROA).

Also below, Uniform Accounting Embedded Expectations Analysis and the Uniform Accounting Performance and Valuation Tearsheet for the company.

Philippine Markets Newsletter: 
Wednesday Uniform Earnings Tearsheets – Philippine-listed Focus
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The diversity in holding companies’ operations makes them attractive to investors because of their ability to pursue varying growth opportunities and mitigate specific risks to an industry.

For Cosco Capital (COSCO:PHL), its ability to shift focus from the oil and gas business into a holding company enabled it to generate robust profitability for the company, which has proven beneficial during the pandemic. 

Now, the company holds shares in various businesses including Puregold Price Club Inc. (supermarkets), Ellimac Prime Holdings (real-estate), Meritus Prime Distributions (liquor distribution), and Pure Petroleum (oil storage tanks).

We previously talked about high-growth company Puregold Price Club, Inc. (PGOLD:PHL) and how its effective cost management allowed it to generate phenomenal returns in the past decade. So while revenues suffered due to the pandemic, the company’s bottom line still came out strong. 

Combined with S&R Membership Shopping Club, Puregold contributed 63% of Cosco Capital’s total core net income for the first nine months of 2021, which translates to a 17% growth versus last year.

While the group’s grocery retailing businesses generate most of its earnings, its remaining businesses’ contributions deserve credit as well.

The most notable of the other businesses is the liquor distribution business as it delivered 23% of the company’s revenues in the first nine months of 2021.

If you recall, 2020 was not a great year for alcoholic beverage manufacturers and distributors. The nationwide liquor ban resulted in far fewer sales and higher costs due to supply chain disruptions. 

However, once quarantine restrictions had eased, we saw companies like Emperador Inc. (EMP:PHL) on brandy and San Miguel Food and Beverage, Inc. (FB:PHL) on beer bounce back.

Cosco Capital’s liquor business serves the imported and premium segments of the liquor and wines market. This means it has no direct competition among the leading local brands, making it less challenging for sales to return to pre-pandemic levels.

Moreover, Da Vinci Capital Holdings, which holds the liquor distribution business of Cosco Capital, had changed its name to The Keepers Holdings and was able to raise capital from its backdoor listing last November to expand the liquor distribution business.

With a solid financial position and minimal competition risks, its liquor distribution business has growth potential going forward as demand from travel and tourism sectors nationwide begins to rebound with loosening restrictions.

Looking at the as-reported metrics, Cosco Capital’s sales from its businesses continue to be offset by various market risks. This resulted in producing returns near cost-of-capital levels, implying that the firm has generated little economic value for its stockholders since 2013.

However, Uniform Accounting tells us that this is a misrepresentation of Cosco Capital’s profitability. In fact, the company’s Uniform ROA is far more robust than what the as-reported figures show.

What as-reported metrics fail to do is to consider the company’s excess cash on the balance sheet. While most companies inherently need some level of cash to operate, the portion of that balance that is earning limited or no return—or excess cash—ends up diluting as-reported ROAs.

When excess cash remains included in the company’s asset base in computing its performance metrics, the company’s profitability and capital efficiency may appear weaker than it actually is. Removing excess cash allows investors to see through the distortions that come from management carrying much more cash on the balance sheet than what is operationally required.

For 2020, Cosco Capital had a significant amount of excess cash sitting idly in its balance sheet for up to 24% of its as-reported total assets.

If we remove this item from Cosco Capital’s asset base and with the many other necessary adjustments Valens makes, we arrive at a 14% Uniform ROA for 2020, significantly higher than its as-reported ROA of only 6%.

Cosco Capital’s earning power is stronger than you think

As-reported metrics distort the market’s perception of the firm’s historical profitability. If you were to just look at as-reported ROA, you would think Cosco Capital’s profitability has been weaker than real economic metrics have highlighted in eleven of the past sixteen years.

In reality, Cosco Capital’s true profitability has been higher than as-reported ROA in most years.

After ranging at negative levels in 2005-2007, Uniform ROA inflected positively to 13% in 2013 and improved to 14% levels in 2014-2015. Thereafter, Uniform ROA stabilized to 10% in 2018, then expanded to a peak of 16% in 2019, before returning to 14% in 2020.

In contrast, after ranging from -3% to 1% in 2005-2012, as-reported ROA reached a peak of 8% in 2013, before gradually compressing to 6% in 2018-2020.

Cosco Capital’s asset turns are more efficient than you think

Similarly, as-reported metrics significantly distort the firm’s asset efficiency, a key driver of profitability.

From 2013-2019, Uniform turns ranged from 1.4x up to 2.2x, while as-reported asset turnover only ranged from 0.7x to 1.3x, making the company appear to be a less efficient business than real economic metrics reveal.

Moreover, as-reported asset turnover has been lower than Uniform turns in each year for the past eight years, distorting the market’s perception of the firm’s historical asset efficiency level.

SUMMARY and Cosco Capital, Inc. Tearsheet

As our Uniform Accounting tearsheet for Cosco Capital, Inc. (COSCO:PHL) highlights, the company trades at a Uniform P/E of 8.2x, below the global corporate average of 24.0x, but around its historical P/E of 7.3x.

Low P/Es require low EPS growth to sustain them. In the case of Cosco Capital, the company has recently shown a 13% Uniform EPS shrinkage.

Sell-side analysts provide stock and valuation recommendations that in general provide very poor guidance or insight. However, sell-side analysts’ near-term earnings forecasts tend to have relevant information.

We take sell-side forecasts for Philippine Financial Reporting Standards (PFRS) earnings and convert them to Uniform earnings forecasts. When we do this, Cosco Capital’s sell-side analyst-driven forecast is to see Uniform earnings shrink by 1% and 5% by 2021 and 2022, respectively.

Based on current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify Cosco Capital’s PHP 5.15 stock price. These are often referred to as market embedded expectations.

The company is currently being valued as if Uniform earnings were to shrink 17% annually over the next three years. What sell-side analysts expect for Cosco Capital’s earnings growth is above what the current stock market valuation requires through 2022.

Furthermore, the company’s earning power is 2x above the long-run corporate average. Moreover, cash flows and cash on hand are nearly 6x above total obligations—including debt maturities, capex maintenance, and dividends. Together, this signals a low dividend risk.

To conclude, Cosco Capital’s Uniform earnings growth is below its peer averages, and currently trades in line with its average peer valuations.

About the Philippine Markets Newsletter
“Wednesday Uniform Earnings Tearsheets – Philippine-listed Focus”

Some of the world’s greatest investors learned from the Father of Value Investing or have learned to follow his investment philosophy very closely. That pioneer of value investing is Professor Benjamin Graham. His followers:

Warren Buffett and Charles Munger of Berkshire Hathaway; Shelby C. Davis of Davis Funds; Marty Whitman of Third Avenue Value Fund; Jean-Marie Eveillard of First Eagle; Mitch Julis of Canyon Capital; just to name a few.

Each of these great investors studied security analysis and valuation, applying this methodology to manage their multi-billion dollar portfolios. They did this without relying on as-reported numbers. 

Uniform Adjusted Financial Reporting Standards (UAFRS or Uniform Accounting) is an answer to the many inconsistencies present in GAAP and IFRS, as well as in PFRS. 

Under IFRS, each company’s financial statements are rebuilt under a consistent set of rules, resulting in an apples-to-apples comparison. Resulting UAFRS-based earnings, assets, debts, cash flows from operations, investing, and financing, and other key elements become the basis for more reliable financial statement analysis. 

Every Wednesday, we focus on one Philippine-listed company that’s particularly interesting from a UAFRS vs as-reported standpoint. We highlight one adjustment that illustrates why the as-reported numbers are unreliable. 

This way, we gain a better understanding of the factors driving a particular stock’s returns, and whether or not the firm’s true profitability is reflected in its current valuations. 

Hope you’ve found this week’s Uniform Earnings Tearsheet on a Philippine company interesting and insightful. 

Stay tuned for next week’s Philippine company highlight!


Angelica Lim
Research Director
Philippine Markets Newsletter
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