Philippines Alfred Dy (63) 28865687 Market Outlook [email protected] 01 April 2011 The Moat Report plus more! q CLSA recently published The Moat Report. Report highlights 246 companies in Asia that generated return ratios above cost of capital, sustained earnings growth, and were at undemanding valuations. “Economic moats” are the basis for this durable competitive advantage. q Warren Buffet coined the term “economic moat” to refer to the ability to sustain such an advantage. Companies that have a moat around their operation can be said to have a business franchise. They generally have pricing power that leads to wide margins and good return ratios. q Out of the 246 companies mentioned, 4 are from the Philippines and these are PLDT, SM Investments, ICTSI, and Jollibee. q Aside from the 4 companies mentioned, we believe that there are still other moats in the Philippines and these are Aboitiz Power, DMCI Holdings, Univeral Robina, Alliance Global, and Phoenix. Though still EVA negative, Metro Pacific could also be considered a moat in the coming years. The experts say… In CLSA’s latest thematic piece entitled The Moat Report, Amar Gill and Anirudha Dutta highlight 246 companies in Asia that generated return ratios above cost of capital, sustained earnings growth, and were at undemanding valuations. Investment guru Warren Buffet coined the term “economic moat” to refer to the ability to sustain such a competitive advantage. To quote Buffet specifically: ‘…[the] most important thing to me is figuring out how big a moat there is around the business. What I love, of course, is a big castle and a big moat with piranhas and crocodiles.’ Firms that have a moat around their operation can be said to have a business franchise. They have pricing power that leads to wide margins and excellent return ratios. We define a “franchise” as a business that has a comparative advantage which over time will lead to return ratios staying above cost of capital which in turn will result in economic value creation or a positive EVA. There are various ways a company might be able to sustain a long-term advantage, or business franchise. The analysis of Pat Dorsey in The little book that builds wealth suggests they can create economic moats from one of the following main channels: Intangible assets, eg, brands, patents, or regulatory licenses that allow a business to sell products or services that can’t be matched by competitors; Customer switching costs that give the firm pricing power as it is hard for customers to move away from the product/services offered; Network economics where the value of the product or service increases with the number of users; and Please see important notice on last page Page 1 of 10 Philippines Market Outlook 1 April 2011 Cost advantages stemming from process, location, scale or access to a unique asset, which allows the company to offer goods or services at a lower cost than competitors. In practice, most of the corporations that build a franchise do so through developing a brand. A tale of four moats… Out of the 246 moats mentioned in the report, 4 come from the Philippines and these are PLDT, SM Investments, ICTSI, and Jollibee. Key takeaways for each are as follows: PLDT – Leading telco play in the Philippines with bundling/convergence possibilities over the longer term through affiliates, eg, Meralco and hospitals that will allow it to offer services (eg, paying electric bills on the phone) that competitors will not be able to match. Figure 1 Figure 2 PLDT’s 12-month forward PER PLDT’s 12-month forward PBV PLDT- Price to Earnings Bands PLDT - Price to Book Value Bands 3,500.0 max15.6x 3,300.0 3,300.0 3,100.0 3,100.0 13.8x 2,900.0 2,900.0 max5.67x 2,700.0 2,700.0 avg11.9x 2,500.0 5.11x 2,500.0 2,300.0 2,300.0 10.4x avg4.55x 2,100.0 2,100.0 1,900.0 min8.9x 1,900.0 3.83x 1,700.0 1,700.0 1,500.0 1,500.0 min3.12x Apr06 Apr07 Apr08 A pr09 Apr10 Apr11 Apr12 Apr06 Apr07 Apr08 A pr09 Apr10 Apr11 Apr12 So ur ce: C LSA Evalu@ t o r So ur ce: C LSA Evalu@ t o r Source: CLSA Asia-Pacific Markets Source: CLSA Asia-Pacific Markets SM Investments – Largest conglomerate in the Philippines with leading market positions in retail, shopping malls, supermarkets, cinemas and banking. Has been savvy in capitalizing on the buying habits of the middle and mass markets. Figure 3 Figure 4 SM’s 12-month forward PER SM’s 12-month forward PBV SM Investments- Price to Earnings Bands SM Investments - Price to Book Value Bands max18.6x max2.61x 683.0 640.0 583.0 15.6x 2.13x 540.0 483.0 avg12.5x 440.0 avg1.66x 383.0 9.6x 340.0 1.26x 283.0 min6.7x 183.0 240.0 min0.87x 83.0 140.0 Apr06 Oct06 Apr07 Oct07 Apr08 Oct08 Apr09 Oct09 Apr10 Oct10 Apr11 Oct11 Apr06 Oct06 Apr07 Oct07 Apr08 Oct08 Apr09 Oct09 Apr10 Oct10 Apr11 Oct11 So ur ce: C LSA Evalu@ t o r So ur ce: C LSA Evalu@ t o r Source: CLSA Asia-Pacific Markets Source: CLSA Asia-Pacific Markets Please see important notice on last page Page 2 of 10 Philippines Market Outlook 1 April 2011 ICTSI – Fast emerging as a key player in medium-sized ports globally. Management team is strong and is continuously looking form M&A opportunities globally. Figure 5 Figure 6 ICTSI’s 12-month forward PER ICTSI’s 12-month forward PBV ICTSI- Price to Earnings Bands ICTSI - Price to Book Value Bands max30.2x max4.84x 1.6 1.6 1.4 1.4 22.7x 3.56x 1.2 1.2 1.0 1.0 avg15.3x 0.8 0.8 avg2.29x 11.1x 0.6 0.6 1.59x 0.4 min7.0x 0.4 min0.90x 0.2 0.2 Jan08 M ay08 Sep08 Jan09 M ay09 Sep09 Jan10 M ay10 Sep10 Jan11 M ay11 Sep11 Jan08 M ay08 Sep08 Jan09 M ay09 Sep09 Jan10 M ay10 Sep10 Jan11 M ay11 Sep11 So ur ce: C LSA Evalu@ t o r So ur ce: C LSA Evalu@ t o r Source: CLSA Asia-Pacific Markets Source: CLSA Asia-Pacific Markets Jollibee – The biggest fastfood chain in the Philippines. Nearest competitor McDonald’s Philippines is less than half the scale of Jollibee. With strong balance sheet (net cash)the company is beginning to penetrate the vast China market. Figure 7 Figure 8 JFC’s 12-month forward PER JFC’s 12-month forward PBV Jollibee Foods- Price to Earnings Bands Jollibee Foods - Price to Book Value Bands max27.3x 111.0 max5.02x 109.0 101.0 99.0 23.2x 4.25x 91.0 89.0 81.0 79.0 avg19.1x avg3.48x 71.0 69.0 16.1x 61.0 2.82x 59.0 51.0 min13.1x min2.16x 49.0 41.0 39.0 31.0 29.0 21.0 A pr06 Oct06 Apr07 Oct07 A pr08 Oct08 Apr09 Oct09 Apr10 Oct10 Apr11 Oct11 A pr06 Oct06 Apr07 Oct07 A pr08 Oct08 Apr09 Oct09 Apr10 Oct10 Apr11 Oct11 So ur ce: C LSA Evalu@ t o r So ur ce: C LSA Evalu@ t o r Source: CLSA Asia-Pacific Markets Source: CLSA Asia-Pacific Markets Figure 9 Philippine companies highlighted in THE MOAT REPORT Company ROIC/ROE EVA/IC Jollibee Foods 30.6 20.8 PLDT 21.3 12.5 SM Investments 15.9 3.9 ICTSO 13 1.1 Source: CLSA Asia-Pacific Markets Plus more… Aside from the 4 companies mentioned in The Moat Report, we believe that there are still other moats in the Philippines and these are Aboitiz Power, DMCI Holdings, Universal Robina, Alliance Global, and Phoenix Petroleum. All of these companies are generating positive EVA. Though still EVA negative, Metro Pacific could be considered a moat in the coming years. Key takeaways of each are as follows: Aboitiz Power Please see important notice on last page Page 3 of 10 Philippines Market Outlook 1 April 2011 q Aboitiz Power Corporation is a member of the Aboitiz Group of Companies. The Aboitiz Group is one of the oldest business groups in the Philippines with over 100 years of experience in doing business in the Philippines; q Aboitiz Power is into power generation and power distribution. Aboitiz Power is one of the biggest power generation plays in the Philippines with capacity of 2,100 MW. In terms of power distribution, total capacity is at 800 MW spread into concession areas in Cebu, Davao, Cotabato, and San Fernando; q In the medium term, Aboitiz Power intends to add an additional 400MW Aboitiz Power- Price to Earnings Bands Aboitiz Power - Price to Book Value Bands 36.4 of generation capacity; andmax15.3x max4.30x 41.6 31.4 36.6 26.4 11.2x 31.6 q Stock is trading at 2011 PER of 12.5x and 2012 PER of 12.1x. 2.96x 26.6 21.4 21.6 16.4 avg7.1x 16.6 avg1.62x 5.2x 11.4 11.6 1.18x min3.2x Figure6.4 10 Figure6.6 11 min0.74x 1.4 1.6 AP’sApr06 Oct0612-monthApr07 Oct07 A pr08 forwardOct08 Apr09 Oct09 PERApr10 Oct10 Apr11 Oct11 AP’s12-monthApr06 Oct06 Apr07 Oct07 A pr08forwardOct08 Apr09 Oct09 PBVApr10 Oct10 Apr11 Oct11 So ur ce: C LSA Evalu@ t o r So ur ce: C LSA Evalu@ t o r Source: CLSA Asia-Pacific Markets Source: CLSA Asia-Pacific Markets DMCI Holdings q DMCI Holdings is one of the fastest growing conglomerates in the Philippines; q Its stable of assets are (1) DMCI Construction; (2) DMCI Homes; (3) Maynilad Water; and (4) Semirara Coal.