Nam Lee–Where did that large cash holding went into?

A lot of us look at the large cash holding and think that

• We have a value proposition there
• This cash holding can pay for many years  of dividends

Often we realize too late that  the reason for that cash holding there is to serve as working capital. It looks really good during the good operation times.

But when they are  facing some lukewarm long term or short term operational issues, or cyclical  down times, they can turn rather fast.

Nam Lee press metals was at a rather good valuation not too long ago.

It has a current market cap of SGD 77 mil but it was trading as high as SGD 89 mil.

Its cash holding 1 year ago was 52 mil and no debts.

The enterprise value works out to be 37 mil.

The appeal is that Nam Lee have a low PE or EV/EBITDA indicating value.

It would seem that at 2012 EBITDA of 19 mil, the EV/EBITDA could possible be 1.94 times.

This means that you can buy Nam Lee now and can recuperate your investment if it earns the same EBITDA for the next 2 years.

And surely it can operate for more than 2 years, so that is where the value is.

What happens is that most of the time, an investor have to take a look and assess:

• Whether that EBITDA is due to an extra special good order book period where it is unlikely to be repeated for some time. You are actually valuing it with an exceptional cash flow and not a conservative cash flow
• Debt financing and reduction in cash holdings as talked about above

Analysis of Cash Flow and Cash Holdings

A look at its latest quarterly cash flow statements will show that when sales takes a hit, inventory and receivables build up, and  management may not use so much payables to offset working capital wise.

In one quarter the very nice cash holdings, which was a cash holding 67% of market cap have been halved.

The danger here is that what if this operating conditions happen for 1-3 years. You can really see this cash holding dwindle.

Of course this is a quarterly statement, and future quarters inventory, receivables and payables may make up for it.

How investors can better learn from this

As investors, here are a few tips

• Ultimately sustainability of operations creates consistent free cash flow, which pays for dividends, pays off debts and adds to cash holdings. Cash flow is different from cash holdings
• Always evaluate the earnings, and free cash flow profile of business across a long range of reports. Evaluate 5-10 years of full year annual report to assess whether you are using a conservative, baseline or exceptional earnings and cash flow
• Also pay attention when evaluate annual reports their working capital usage pattern
• While forecast can be wildly optimistic, some balance sheet on a historical basis may look wildly pessimistic.  As the case of Valuetronics in this analysis, business profile may improve and the balance  sheet is a pale reflection on anticipated improvement, and there may be value there

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