Market Strategy – Diamonds in the Rough: VCSC

“High NPLs have banks seeing red, high lending rates have companies seeing red, high inflation have consumers red in the face, but with Tet just around the corner…the only red we want to see are red envelopes. With all the pessimism out there it’s easy to get caught up in the glum but banks are still open, farmers are still planting, construction companies are still constructing, manufacturers are still producing, people are still eating, working, playing. In other words, money is still being made and is still flowing in the system.

Not content to have our holidays spoiled by all the naysayers, we screened both the Ho Chi Minh and Hanoi indices for companies that have been profitable for the first nine months of the year, aiming to uncover some diamonds in the rough.  We limited our screen to companies with market cap between USD30-100mn and had at least on average 40,000 shares traded daily in the last 20 days. We came up with a list of 10 mid-cap stocks that have been profitable and have liquidity that may be worth putting on your watch list.

In a year that has been struggling with headwinds, many listed companies suffered negative earnings growth. In contrast, in just the first nine months of 2011 most of the companies on our list are close to or have already surpassed full year 2010 net profit numbers. These companies made about USD12.5mn on average in net income in the first nine months of 2011. Not quite mind-blowing but let’s put it in context – with an average market cap of USD56mn that translates to a 22% return, so far. These ten companies on average made VND4,442 per share in the first nine months of 2011. Yet, seven are trading around a forward P/E 2011 of just 3x. CTD and DRC are both trading at a tad over 4x while the most “expensive” of the bunch, PNJ is trading around 8x times earnings.

Whether these valuations are cheap can be argued. However, considering current market conditions, we like stocks that have the potential to pay a dividend going forward, given their payout history and given their performance this year.

We have found many such stocks that could give investors a fairly decent dividend yield. Indeed, based on the companies’ respective payout history, we calculate the average dividend yield for the companies on our list at 11.5%. We know with average estimated earnings of VND6,000 per share for full year 2011, these companies can afford to pay an average VND2,000 per share (33% payout or 20% of par value as is often referred to in Vietnam)  to keep shareholders happy. Not to mention having funds left over to reinvest into growth puts these companies in a much better position than most.

Is a dividend yield of 11.5% enough to compensate for risk when bank deposits are at 14%? Well this too can be argued but we’re talking about investing opportunities here and not about keeping your money under the mattress. The cash dividends limit some of the downside risk. If these companies can make money in challenging times, what happens when things get better and people start to spend more, consume more? It’s not a given that these companies will continue to make money but it certainly puts them at an advantage. Valuations are fairly subjective and relative, but we would rather place our bets on those companies that are making money rather than losing it. So, here is our list of ten companies to keep an eye on.”