Monthly Archives: November 2015

Honworld Group Shares Pledged by Chairman and Largest Shareholder 11/20/2015

Honworld Group Shares Pledged by Chairman and Largest Shareholder


Honworld Group                                                                                              

Ticker: 2226:HK

Closing Price (11/20/2015): HKD5.33

1 Year Avg. Daily Vol. (USD mn): 0.97

Estimated Annualized Return: 18.0%


In a November 20, 2015 announcement, Honworld Group announced on November 16, 2015, its chairman and largest shareholder “charged” 100.3 million shares representing just over 36% of his shareholding in Honworld and just under 20% of the total shares outstanding to a financial institution as security for its subscription of a note issued by Key Shine Global Holdings Limited. Key Shine is the chairman’s investment vehicle and the entity that hold his 278,169,750 shares in Honworld.


While the company used the word “charged”, this represents nothing more than a pledge of shares for a loan.  Honworld stated it did not fall under Hong Kong Listing Rule 13.17, which would have required greater discloser. In the announcement, the company made no disclosure about the size of the debt or the reason for the debt.


This is a major corporate governance red flag.  The company has not returned any communications regarding this or our continued requests for discussion about the company misallocation of capital to inventory.  The company could have been more transparent with this transaction by disclosing the amount and the reasoning for pledging shares.


The pledging of shares by an owner is something that we look at during the research process into any new investment and if shares are pledged, particularly of this magnitude, we tend not to invest in the company.  Pledging of shares greatly increase the risk of forced selling, which we would prefer not to be on the selling side, potential change of control, and potential conflict of interest between minority shareholders and the largest shareholder.


Every day the market provides a price for every listed company.  The question we constantly ask is will we buy this company today?  It takes into account a number of things such as current portfolio position, business quality, management strength, and valuations. Given this new event of shares being pledged, would we invest in this company? The answer is no.  The company seems to have a very strong competitive position but this event, the poor allocation of capital to inventory leading to poor free cash flow generation, and the lack of communication greatly decreases our confidence in management.  While the company has a strong competitive position and meets our requirement for expected return, there is no reason to risk capital if there are questions about management quality or corporate governance.


Given the company’s lack of communications, increased corporate governance risk, its misallocation of capital to inventory, and the lack of cash flow in the business, we are decreasing our stake in the company to 5% of our model portfolio.  The shares are illiquid so it may take some time to get to 5% but once there more likely than not we will be selling all our shares.

New Initiation Position Size 11/19/2015

New Initiation Position Size 11/19/2015

We initiated on our latest company.  It is a Brazilian company with multiple competitive advantages in the form of scale, low cost production, and brand. The company’s average ROIC since 2006 is over 20% and has been stable despite a few periods of industry stress.  The company has a healthy balance sheet with net cash position at 2.2 times EBIT. Management are owner operators with integrity and respect for all stakeholders. The company is trading on a NOPAT yield of 10.1%, a FCF yield of 8.5% with management guiding for double digit profit growth over the next few years.


We are starting with an initial 5% position in our model portfolio. The company is undervalued and on conservative assumptions just breaches our 15% per annum threshold with expected annual return of 15-17% over the next five years.

Miko International Position Size November 14, 2015

Miko International Position Size November 14, 2015

At the current price HKD0.66, Miko International is trading below its net cash position of HKD0.87 per share.  Given the high amount of cash in our model portfolio 40.9%, we will be increasing our position size as buying cash at a discount to cash is better than cash.  We will increase our position size to 5%.  If the price is still below the company’s net cash position, we will further increase the position size to 7.5%.

Reperio Capital Research’s Edge 11/6/2015

This is an excerpt from our October 2015 monthly review.

What is Our Edge?

At Reperio, we are firm believers that to produce extraordinary results, you have to do something different from everyone else.  What do we do different in an attempt to produce superior results?

It is something we think about a lot and we believe there are three key differentiating factors for our research.  First, we have a business owner mentality focusing on competitive position, management (not focused on by traditional research providers), corporate governance (not focused on by traditional research providers), absolute intrinsic value (not focused on by traditional research providers more focused on earnings momentum and companies beating expectations), and ensuring there is a margin of safety before recommendation (traditional research providers top picks are what is currently loved by the market due to earnings momentum are their top picks the opposite of our approach.)  We look for high quality stocks with poor sentiment.


Second, we have a long term investment horizon.  Jean Marie Eveillard once estimated that 95% of market participants are focused on the short term.  Given 95% of participants are focused on the short term; the vast majority of research providers will be catering to those participants in an effort to win their commission dollars.  Theses traditional research providers are obsessed with the next three to six months and companies with earnings momentum that can beat consensus. Our long term investment horizon coupled with our business owners approach gives us a tremendous advantage.


Third, we attempt to play a game where the competition is the weakest, i.e. Emerging Market Small and Mid Cap companies.  Just like any competition, if you play a game against very strong competition, it will be much harder than playing against weaker competition. When you are looking at US large caps you are competing against large buy side, sell-side, and hedge funds.  This is very difficult competition and while there are inefficiencies in these markets they are relatively small.  When looking at small and mid caps in Emerging Markets, competition is from the sell side, the buy side, and the public. Many of the names in the small and mid cap space have very little if any analyst coverage.  Analysts that do cover the names are more likely to be less experienced as most traditional research providers take the approach of trying to gain a small slither of a big pie and therefore put their best analysts on the bigger names.  The combination of short term orientation, and weaker experience leads to little competition. With buy side institutions, the vast majority has 100 or more names in their portfolio and has to know three to four times the number of companies.  This puts little emphasis on in-depth, independent research on smaller companies within Emerging Markets.  Additionally, 95% of buy side institutions are closet benchmark funds (over 100 stocks in the portfolio with big overweights and underweights being 1 to 2%).  This place a greater emphasis on the larger names that are in the index decreasing the importance of small and mid caps even more.  So buy side is very little competition.  The public typically are traders and have very little understanding of business so they are not much competition.


Our edge is illustrated by our PC Jeweller recommendation.  At the time of our recommendation in PC Jeweller, no large sell side institution covered the company and the smaller sell-side institutions were focused on the short term regulatory concerns leading to potential weakness in the short term and downside to earnings expectations. Our business owner mentality with a long term view saw a company that showed incredible resilience during an industry downturn (stable and high profitability) with a very strong balance sheet and innovative management with skin in the game.  There was short term looked uncertain due to regulation but the long term growth rate potential was tremendous given limited competition from organized retailers and a store opening target of 15-20% growth per year.  Despite the strengths of the company, it was valued under 5 times EV/EBIT.


Zensar Technologies is a similar story. It was a company that was coming off a period of indigestion after a large acquisition, which happens often.  Growth had slowed a bit which potentially put often the very few sell-side institution covered the company with no coverage from any big institutions.  The business owner with a long term investment horizon saw a company with very strong leadership in an industry with incredible profitability due to switching costs with industry low turnover due to a differentiated activity in an industry where the key resource is people and management was guiding 15% top line and operating profit growth for the foreseeable future. Zensar was also trading at under 5 times EV/EBIT eliminating a lot of the risk associated with the investment thesis but in the short term there were concerns putting off the sell-side.