VICOM AGM FY 2011

VICOM's AGM is pretty boring unlike all the excitements I see from the newspaper and food-snatching is not very common there. There's quite a number of long-term shareholders present and I think it is good to have though some might complain this will make VICOM more illiquid. As it's my first AGM, I am more concerned about understanding the AGM's procedure and etiquette then finding out more about the company. After the formal AGM is over, it's the buffet cum meet up with management time. I realise that it is quite important to be able to recognise faces of the key management if it is your first time attending the AGM. While it may be boring, the trip proves to be rather fruitful.

Here's some of the key points gleaned from the trip:

Financial Statement

• Someone queried about the higher receivables, Chairman Lim says there's no bad debt so far.
• With the completion of SETSCO HQ, capex for the year will drop to normal (the norm from 2004 to 2009 is FCF/Net Profit of 100-120%). No further detail is provided as to acquisition or higher dividend plan though they say that as shareholder themselves they will also want to have higher dividend.
• The parent company provided $2.6m in sales to VICOM, of which 2/3 comes from taxi inspection. (A new trick that I learn - check the parent company's annual report for inter-segment sales

Vehicle Inspection

• They have no received any concrete details as regard to the government's adoption of Euro V in 2014. (Not sure if it is because they are not allowed to)
• Comfort obviously send their buses and taxis to VICOM for inspection.
• When queried about the proportion of inspection of private cars to overall inspection figure, they say the data is sensitive and thus they cannot reveal it. However, I believe that the data can easily be retrieved through finding the right combination of statistics from LTA. (I am not going to reveal the combination, that's for you to find out)

SETSCO

• The wild card in Middle East JV has been called off. Mr Heng finds that they are not too comfortable operating in the region and decided to pull out of it.
• SETSCO without the vehicle inspection business is the number 3 in Singapore. The largest 2 are SGS and TUV SUD with revenue of $60 million + as compared to SETSCO's $55m. 
• The management admits that SETSCO is operating in an open market unlike the vehicle inspection business. So long as one can get the equipment, skilled labour and accreditation, they will be able to provide testing services.
• Regarding the recent tussle between HSA and the medical community over medical device, SETSCO has been trying to get a slice of the pie. However, it is up to the government to decide if they want to allow SETSCO to do it.

The most important part of AGM is still to get a feel of the management team, and I am lucky to be able to interact with the current CEO Mr Heng and soon-to-be CEO Mr Sim Wing Yew.

• The reason why Mr Heng sells part of his shares earlier on is as all his savings are in VICOM's shares. He will need some money now that he is retiring and to pay up loans, some of which has been used to exercise the option.
• As for Mr Sim, this is his career and he still has 4 kids to support, thus he reassures us that he will also want to grow the top and bottom line. He is still trying to learn as quickly as possible and at the same time he is also teaching his new successor in Comfort Engineering. (which is he will not take dual CEO roles)
• Mr Sim says that he will be going for evolution and not revolution when he takes over.
• As for the growing cash balance, they say it is good to have excess cash as you will never know when you will need it. Neither do they want to overpay for acquisition like what TUV SUD offers for PSB. (Seemed to be $120m for 3-5m in profit).
• Most importantly, they believe that a downturn will eventually occur in the long run and the right opportunity will surface (sound like the fat pitch theory). Mr Heng says he will rather pay with cash than to pay with credit cards for it and Mr Sim shares the same view. This was what happened in 2003 when they acquired SETSCO from Keppel Corp and they only need to borrow a bit of money for it.
• One of the shareholders who works as a head-hunter, recounts how he fails to poach SETSCO's high quality staff with a 30-40% increment in salary. Mr Sim or Mr Heng says that he always tells his staffs that while he will not pay them the highest salary, they will be guaranteed a stable income and job even during recession. He says that the equipment is not a barrier to entry as anyone with the money can buy them, but it is these skilled workers that are their biggest assets.
• Mr Sim mentions that the report of segmental revenue and profit is a disadvantage to the company, thus they cannot disclose more about SETSCO's other segments. For e.g. if competitors know that their margin is 20%, then they can compete by undercutting the margin to 17%.

Therefore, VICOM's management holds a rather conservative view though the results of the new leadership can only be assessed few years later. For now, let's wait for the FY 2012 Q1 result coming out on 10th of May as well as the dividend to be paid on the 14th of May. Using the latest figure, it will be no problem for the vehicle inspection business to show a 5-10% growth in profit in Q1.

I can't wait to attend another 3 more AGMs this coming July

VICOM - FY 2011 Review (Part 2 - Development of VICOM and SETSCO)

As I have promised, this is going to be an exciting post as it is full of new developments that have happened in the financial year. Firstly, lets start off with the vehicle inspections segment.

Figure 1 - Vehicle Inspection Segmental Result

The vehicle inspection business has been seeing double digit growth in profits for the past 7 years and has managed to increase revenue by 10.6% and EBIT by 11.25% this year. CAPEX for this segment is extremely light throughout the year with the exception in 2006 and 2010. 2006 was due to building of CDST facilities while 2010 was as a result of the construction of the new HQ at Teban Garden. The construction expense is allocated to SETSCO for FY 2011. As seen, CAPEX usually occupies at most 10% of the total EBIT for the vehicle inspection segment.

Figure 2 - Number of vehicles inspected

As I have earlier mentioned in VICOM - Part 2B, it is expected that VICOM's market share will increase by another 5%. In 2011, market share expanded by 1.6% to 72.1% which shows that the impact of the closure of Ayer Rajah inspection centre is significant. Given that it was closed in Mid-August, another increase of 3.2% to 75.6% is expected this coming year. Hence, 3.2/72.1= 4.4% rises in revenue from its gain in market share for 2012 is expected. 

Let's look at some of the developments this year that has an impact on the vehicle inspection industry at large. Budget 2011 has been a huge bonus for VICOM with an addition of 800 buses as well as incentives that level the competition between diesel car and petrol car. For the bus portion, it has been mentioned extensively here though the impact to the revenue is limited to perhaps 1%. 

                                                                         Figure 3 - Number of diesel cars

As for diesel car, the trend has been pretty encouraging and this is going to be what that will drive further future growth in vehicle inspection segment from 2014 onwards. As seen, the month on month increase has been pretty strong at 10% per month, as such by end of 2012 there should be at least 800 diesel cars on the road especially given that COE has been very high.

Another policy that many will have missed out will be LTA's tighter regulation in a bid to improve quality of taxi service. Under the scheme, minimum fleet size requirement to get a Taxi Operator License will be increased from 400 to 800 and all taxi companies other than Prime will need to have their TOL renewed by 2013. Based on the current fleet size, SMART and Yellow-Top will need to add around 600 taxis in total while Prime will be given the allowance to add 100 each year. Other than this 95% of passengers who successfully call book, the taxi need to arrive within 10 mins instead of 85% currently. For small taxi companies (less than 1000), the figure is 90% up from the current 65%. As such, the total taxi population is likely to increase further.
http://app.lta.gov.sg/corp_press_content.asp?start=791wmf7j60s0haf15bi3fbetyzcsx7uma610yn38xmu1h484uz

Regarding the general trend of vehicle inspection and government's policy, there is something which I wish to clarify. The OPTIMUM condition for VICOM to thrive will be to have the growth rate set at 3% while COE is being priced equal or higher than the current level. It is ultimately the COE that determines the deregistration rate and the percentage of vehicle undergoing inspection. However, the impact of higher COE on vehicle inspection has come on stronger and earlier than I have expected. Based on figures, a total of 45% of the car populations underwent inspection last year, which means the situation might be gloom for VICOM in 2013. Personally, using the latest figures, I foresee that vehicle inspection is likely to be peaking this year in term of growth. While revenue is very unlikely to fall, I do not see visibility in earning growth in 2013. For 2012, the general trend is likely to contribute another 5% growth in revenue for the current year.

As such, SETSCO needs to prove its ability to further contribute to the bottom line just for 2013.

Figure 4 - SETSCO Segmental Result

The soon-retiring CEO, Mr Heng Chye Kiou, has done an excellent job in making the decision to acquire SETSCO and transforming it to be the largest ITC company in Singapore. He has a great vision in using SETSCO to diversify against vehicle inspection and build it into a profitable business. While revenue only increases by 2.5 times, EBIT has increased by 7 times as a result of profit margin increasing from 7% to 19%.  For FY 2011, revenue increases by 7.37% while EBIT increases by 7.68%. Addition to vehicles, premises and equipment hit 10.5k as a result of cost of new building construction being allocated to SETSCO. This is pretty fair as other than HQ, another purpose of it was to build more testing facilities and laboratory for SETSCO. It involved training facilities for NDT courses, microbiological testing laboratory, office for NDT department and for calibration and measurement to expand their facilities.

A few new developments has happened and I was unaware of it till the recent annual report.

Firstly, SETSCO has been the first and only to be accredited by SAC in October 2011, to provide CAMS (Central Alarm Monitoring System) inspection services to security firms. CAMS not only involve all the intruder alarm installed in the private estate, it also includes security system at banks, pawn shop as well as ATM. Yes, it is on a very major scale and is a stable source of recurring income as CAMS operator's license are subjected to renewal on an annual basis. As for the actual requirement of SETSCO, I am still unsure if the inspection is supposed to be conducted yearly or once every 3 years. I am not willing to pay $60 to SPRINGS just to get the full documentation as it just does not make sense to pay money to check about regulation. According to SPF, there's more than 250 security agencies though not all are CAMS operator.
http://www.spf.gov.sg/licence/PI/others/SA%20Licence%20List.PDF

SETSCO has also recently acquired the equipment and trained staff to conduct testing on sports flooring, being one of only 2 laboratories that is capable of doing the testing. Sport flooring is about the surface and the hardness of the floor found in indoor and outdoor sports hall. Currently, about one-third of all schools has been equipped with a modern indoor sports hall which work out to be around 100 schools. This test will be to meet the requirement of BS EN 14904 to ensure that the flooring of the school's sport hall meet the standard to be safe for use.

Last but not least, it has a very significant development going on which I have not expected SETSCO to be venturing into earlier on - "We are also looking at developing more testing services including setting up a new electrical calibration & testing laboratory". Electrical products testing has always been TUV SUD PSB's strength, holding a significant market share in this area in Singapore.

In fact, SETSCO has already embarked onto electrical and electronics product certification June last year. Just to recap, the ITC industry is about inspection, testing and certification. Traditionally, SETSCO has been very weak in the area of certification, but has since 2010 started to grow this segment aggressively by securing accreditation for certification of cement, fire products and now electrical and electronics products. This can be a rather lucrative field as product certification are done on a more frequent basis especially electrical products like adaptor, kettle, audio products, fans, lamp and 3 pin plug. For the full list, please refer to the following url:
http://www.sac-accreditation.gov.sg/Admin/pcb/Cb/%7B8348FBA7-C350-4665-8E81-47F391E01036%7D_Setsco.pdf

Figure 5- Competition in Electrical Testing

As written on the annual report, the new laboratory that they are planning to set up is for electrical calibration & testing and not for certification. As seen from figure 5, the bulk of the competition in electrical calibration & testing lies in TUV SUD PSB with 29 approved area of testing whereas the others are just very small players. SETSCO has historically never touch on electrical product certification or testing, but since the certification side has already been established, it should been going into electrical testing as soon as this year. With 50 sub-categories within electrical testing and competition being sparse, it will not be a hard task for SETSCO to establish itself in this area. If it succeed in growing this segment, SETSCO will then be the only one in Singapore to be able to provide a full range of testing, certification and inspection services across all areas (electrical, biological, chemical, civil engineering, environmental, NDT, mechanical and calibration).

As such, 2012 is likely to be yet another year of record profit and revenue, bagging its 8th year of double digit CAGR in profits.Vehicle inspection business will be reaching its peak earnings this year delivering its best ever results. However, 2013 might be a tough year in terms of its growth potential and prospect as the impact of closure of STAI Ayer Rajah and the slowing deregistration rate will be almost fully realised in 2012. 2014 will then be different with the implementation of Euro V standard by the Singapore government, increased diesel vehicle take-up rate as well as a revision to the growth rate of car population.

Going forward, I will expect SETSCO to be the main growth driver as well as the main profit contributor. Vehicle inspection has done well over the past years but with its growth potential temporarily capped, it will in turn become a mature cash cow with a sole purpose of generating cash flow and not to grow in size. The transformation of SETSCO has been incredible especially in the area of profit margin growth. This growth is attributable to its continuous expansion in type of services rendered as well as growing demand coming from local and international standard and regulation board. While it has already become the largest ITC company in Singapore, it has always been seeking new sources of revenue as we have seen from its new accreditations gained in the past few years. The expansion into electrical product certification, testing and calibration will bode well for all shareholders as it is not only a large pie but one in which competition is sparse. Last but not least, let's not forget that there's still a wild card in its Middle East JV which has remained dormant in FY 2011.

Thus, don't expect me to be giving up on this stock anytime soon unless you are going to offer me a really really good price, especially when I will be enjoying my 5% dividend yield by the end of August.

VICOM - FY 2011 Review (Part 1 - Financial Statement)

This will be a 2 part review for Financial Year ending 2011 where the first part will be on the financial statement while the second will be business prospect of VICOM and SETSCO.

Ending 2011, VICOM has once again achieved a remarkable result, breaking new highs and continue its track record of 8 years of top and bottom line growth.

Fig 1 Income Statement

For FY 2011, revenue increases by 8.05% while net profit increases by 14.2%. From 2004 to 2011, total profit has grown by 300% which is a compounded annual growth rate of 17% for 7 years. This is the typical Lynch stock - the unattractive business which has been able to grow its profit at double digits without people noticing it. Net profit margin hit a new high at 28.3% from 18.0% in 2004. This is what that has really been spectacular about VICOM.

While total profit has grown by 300% in 7 years, total revenue has only grown 195%. As I have mentioned before, VICOM belongs to the type of business whose operating expense increases at a slower rate than its revenue. Since 2006 onwards, increases in operating expense has lagged behind increases in revenue bringing about double digit growth in profit. As seen in 2008, while revenue only grows by 5.56%, it has a profit growth of 25.6% as operating expenses drop by 1.14%. This is why I have such confidence in future profit growth in VICOM as all it takes is perhaps a 5-7% growth in revenue for profit to grow at double digit.

Fig 2 Operating Expenses Breakdown

As we see from the above breakdown on operating expenses, most parts remain the same with the exception of staff cost increasing by around 10%. This is pretty realistic as it is essentially a service provider whose main  cost like in its staff.

Fig 3 Balance Sheet

For the balance sheet, it's pretty unexciting. Capital structure remains unchanged with absolutely no debt while cash hit an all-time high of $55m. Despite a 60% payout ratio and spending on building the new HQ block, VETL, CDST, VICOM's total cash holding has never fail to increase over the year. Of course, this is starting to be a concern on the management's inability to utilise the cash and I am wondering if I should start to discount this cash balance.

Fig 4 Financial Ratio

Fig 5 CAPEX

Cash Flow/Net Profit drops by a further 2.4% to 71.1% last year once again due to spending on the new HQ building at Teban Garden. As seen from the figure above on CAPEX, it has incurred a sum of almost $10m from Capital-work-in-progress, Leasehold Buildings and Leasehold Land. So will capex continue to reach new high next year? I can only answer you in Part 2 as it is directly linked to the business prospect itself.

ROA and ROE continue to be very high at 19% and 24% respectively and the ROA is really amazing as it is not a technology company. I have also included a ROIC to see how well it has performed from its Invested Capital and you can see that figure has been really high at above 60% for the past 3 years. The tripling of ROIC in 6 years show VICOM's ability to scale up without investing additional capital.

This will be the end of part 1, it's pretty short as there's simply no much changes in its financial statement. As for whether it's high ROE will be maintained, this will be discussed in part 2 on business prospect of vehicle inspection and SETSCO. There's quite an amount of new and exciting developments which many may have missed or not noticed.