Philippine Markets Newsletter

Its laser focus on growth initiatives built and developed this company’s foundation, achieving a Uniform ROA of 6%, not 3%

April 26, 2023

Like Vistamalls, Inc. (STR:PHL), its diversification and expansion strategy allowed this real estate company to withstand the negative effects of the pandemic. However, as-reported metrics show that these initiatives weren’t able to boost the company’s profitability.

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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Roughly a year after taking the helm as Ayala Corporation’s (AC:PHL) CEO, Fernando Zobel de Ayala (FZA) has tendered his resignation from all his key positions in the Ayala Group due to health reasons.

In his short time leading the company, he was able to successfully steer the firm through a grueling pandemic by selling non-core assets and focusing on its core business strengths.

As a way to reinforce the foundation of these core assets, Ayala Corporation allotted PHP 285 billion for its capital expenditures and investments. This, in turn, enabled the company to execute its growth and diversification initiatives.

For years, these two strategies have been the company’s main focus, expanding and diversifying its business into different sectors—such as the financial segment through Bank of the Philippine Islands (BPI:PHL), the telecommunications industry through Globe Telecom Inc. (GLO:PHL), and the real estate sector through Ayala Land Inc. (ALI:PHL).

In the real estate segment, Ayala Land holds the strongest revenue stream in the country.

Having developed the entirety of Makati City—the leading business district in the country—Ayala Land’s business just grew more as it continued to improve its property development capabilities.

Specifically, the company’s joint venture with the Araneta Group led to the development of Altaraza Development Corporation (ADC). The goal of this venture was to invest PHP 20 billion on the expansion of their mixed-use estate in San Jose del Monte, Bulacan.

This will create a more diversified set of offerings that will help boost the company’s market reach by having the newest growth center in the Metro North. As a means of developing its commercial and leisure components, this venture will push to preserve Bulacan’s rich ecological ecosystem.

On top of that, Ayala Land’s subsidiary AREIT, Inc. (AREIT:PHL) is planning on diversifying into shopping malls as it targets to acquire more assets worth around PHP 45 billion in the next three years.

By the end of 2022, Ayala Land’s capital expenditures reached around PHP 72 billion, with which 50% were spent on residential projects, 19% on land acquisitions, 16% on estate development, 11% on commercial development, and finally, 4% on other segments.

All in all, the company’s ability to capitalize on its diversification and expansion initiatives despite the pandemic has proven to be effective for Ayala Land’s profitability. However, looking at its as-reported data, that doesn’t seem to be the case.

In reality, Uniform Accounting shows that Ayala Land has actually generated better returns, with Uniform ROA reaching 4%.

One of the said distortions stems from how Philippine Financial Reporting Standards (PFRS) classifies interest expense.

According to PFRS, interest expense is an operating cash flow. In reality, interest expense represents the cost of debt and is rightfully a financing cash flow. As such, in Uniform Accounting, interest expense is added back to earnings.

Specifically, in 2022, Ayala Land recorded interest costs at PHP 11.0 billion. Adding back this expense because it is not an operating expense, along with many other necessary adjustments made by Valens, leads to a PHP 30.0 billion net income and a 6% Uniform ROA, higher than its PHP 18.6 billion as-reported net income and 3% as-reported ROA.

Ayala Land’s earning power is stronger than you think

As-reported metrics distort the market’s perception of the firm’s recent profitability. If you were to just look at as-reported ROA, you would think that Ayala Land’s profitability has been a lot weaker than real economic metrics highlight.

Through Uniform Accounting, we can see that the company’s true ROAs have been understated over the past sixteen years. For example, as-reported ROA was 3% in 2022, but its Uniform ROA was 2x higher at 6%.

Ayala Land’s earnings margins are weaker than you think

For more than two decades, as-reported metrics have overstated Ayala Land’s earnings margin, a key driver of profitability.

Moreover, Uniform margins have only reached 27%. In comparison, as-reported margins have already eclipsed beyond 43% over the same time period, making the company appear to be a more profitable business than real economic metrics highlight.

SUMMARY and Ayala Land, Inc. Tearsheet

As our Uniform Accounting tearsheet for Ayala Land, Inc. (ALI:PHL) highlights, the company trades at a Uniform P/E of 25.6x, above the global corporate average of 18.4x, but below its historical P/E of 29.6x.

High P/Es require High EPS growth to sustain them. In the case of Ayala Land, the company has recently shown a 92% Uniform EPS growth.

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, Ayala Land’s sell-side analyst-driven forecast is to see Uniform earnings shrinkage of 13% in 2023, but a 40% growth in 2024.

Based on current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify Ayala Land’s PHP 27.05 stock price. These are often referred to as market embedded expectations.

The company is currently being valued as if Uniform earnings were to grow 1% annually over the next three years. What sell-side analysts expect for Ayala Land’s earnings growth is above what the current stock market valuation requires in 2023, but below its requirement in 2024.

However, the company’s earning power is below the long-run corporate average. Moreover, cash flows and cash on hand are below total obligations—including debt maturities, capex maintenance, and dividends. Together, this signals an average dividend risk.

To conclude, Ayala Land’s Uniform earnings growth is below peer averages, but currently trades above 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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