Enterprise value valuation: A case study on Pintaras
We have used both the relative and absolute PE ratio to value Pintaras as shown in the link below:
http://klse.i3investor.com/blogs/kcchongnz/46422.jsp
From that article, we found that Pintaras at RM2.98 appears to be selling at a good discount to its value.
Limitations of PE ratio
The simplistic relative PE ratio and the somewhat more sophisticated absolute PE ratio are useful as crude screening tools but they have serious limitations. One such limitation is they do not take into considerations of one-time off and non-recurring items such as gain/loss in asset sales, foreign exchange, non operating items etc. Another is they ignore the balance sheet items. These can materially misrepresent the earnings yield of a business.
We have also attempted to look at its cash or cash equivalent holding and discussed about how we should deal with them when valuing the stock as shown in the link below:
http://klse.i3investor.com/blogs/kcchongnz/46492.jsp
However, we have not dealt with the debts and minority interest and other non-consolidated item, if any, of the company. Surely two similar companies making the same earnings, but with different amount of borrowings cannot be equal as computed from PE ratio. This brings us to the valuation method using enterprise value.
Enterprise value (EV) and earnings before interest and tax (EBIT)
Enterprise value is the price that you would have to pay to acquire a company free and clear. The enterprise value should really be called enterprise price because it has nothing to do with what the company is worth. The link below has a very good explanation of enterprise value and why we should one use it instead of market capitalization, or price.
http://classicvalueinvestors.com/i/2010/03/so-what-is-this-enterprise-value/
Investors should make the ratio of a company’s EV/EBIT a primary tool to evaluate its earnings power and to compare it to other companies instead of P/E ratio (or Market Cap/Net Profit). This is the ratio that Joel Greenblatt uses for his Magic Formula and that Buffett appears to use when evaluating a business. Buffett has said that he will generally pay 7x EV/EBIT for a good business that is growing 8-10% per year.
We will use this metrics to compare the attractiveness of investing in Pintaras as compared with some other construction companies in Malaysia.
Comparison of EV with EBIT of some construction companies
Table 1 below shows the comparison of PE and EV/EBIT ratios of some construction companies in Malaysia. We have discussed about PE ratio in the link below and hence will not deal with it again here:
http://klse.i3investor.com/blogs/kcchongnz/46422.jsp
Table 1: P/E and EV/EBIT of some construction companies (16th February 2014)
|
Company
|
Kimlun
|
Ptaras
|
HSL
|
Cresbld
|
Gamuda
|
IJM
|
WCT
|
|
Price
|
1.71
|
2.98
|
1.74
|
1.47
|
4.45
|
5.74
|
2.1
|
|
PE
|
8.3
|
9.1
|
11.2
|
5.1
|
18.7
|
18.9
|
5.5
|
|
EV/Ebit
|
7.9
|
5.9
|
7.0
|
7.7
|
21.6
|
12.4
|
7.1
|
Enterprise Value = Market Value of Equity + Minority Interest + Debt – Excess Cash
Table 2: computation of EV for Pintaras
|
Price |
$2.980
|
|
No of shares outstanding |
$160,128
|
|
Market capitalization |
$477,181
|
|
Total debt |
0
|
|
MI |
0
|
|
Excess cash |
155459
|
|
EV |
$321,722
|
So at a price of RM2.98, and high financial performance as evidenced from the return on equity (as well as return on invested capital), don’t you think Pintaras at EV/EBIT of 5.9 is undervalued?
K C Chong (18th February 2014)
Appendix
Table 3: Performance of some construction companies
|
Company
|
Kimlun
|
Ptaras
|
HSL
|
Cresbld
|
Gamuda
|
IJM
|
WCT
|
|
Net profit margin, NPM
|
5.5%
|
30.3%
|
15.0%
|
7.0%
|
14.2%
|
12.1%
|
22.5%
|
|
Asset turnover, AT
|
1.22
|
0.52
|
0.80
|
0.61
|
0.40
|
0.31
|
0.29
|
|
Financial leverage, FL
|
2.66
|
1.22
|
1.58
|
2.92
|
1.92
|
2.07
|
2.85
|
|
ROE=NPM*AT*FL
|
18%
|
19%
|
19%
|
13%
|
11%
|
8%
|
19%
|
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