Stock Analysis: SM Investments Corporation
It's impressive to learn how Henry Sy maintained "the country's richest person" title. And it's no secret about his humble beginnings - selling American shoes after World War 2 ended.
Today, his success can be seen through his company, SM Investments Corporation. And perhaps, by studying how he was able to grow his company for the last ten years might show us that investing in his business may prove to be a good decision.
Or is it?
In this article, I want to present to you my in-depth analysis and thoughts behind his gigantic cash machine. By examining its value and growth projections, an investor can determine a price that can give him/her the best possible return - and this is what will I do today.
If you're interested in buying shares of this company; or maybe you're already an existing investor, then this is for you.
How Does SM Generate Revenues?
SM gets its revenues from its core businesses in retail, property and the banking sector.
SM Retail has a total of 2,357 stores as of June 2017. This also includes specialty retails stores such as Ace Hardware, SM Appliance Center, Homeworld, Our Home, Toy Kingdom, Watsons, Kultura, Baby Company, Sports Central, Forever 21 and Body Shop.
SM's also generates income through mall revenues which consists of rentals, cinema & event ticket sales and amusement, hotels and convention centers. The company also generate revenues from its residential and commercial groups.
SM also has interests in Banking; BDO - the country's largest bank, and Chinabank - the 7th largest, being its subsidiaries.
SM also holds a diversified portfolio of investments that have the potential to grow and become market leaders.
Is SM Generating Good Returns On Invested Capital?
Before I answer this question, it's worth to note that cash is the main driver of growth - and SM has lots of it. My analysis indicates that for the last five years, SM generated on average, an estimated Php24.847 billion of cash. Just last year, SM managed to generate on average around Php31.088 billion of free cash. So as you can see, there's lots of it.
Now let's see SM's invested capital. Based on 2Q17 fillings, I estimated it to be around Php647.610 billion.
The way to analyze these numbers is to figure out how much invested capital is needed to generate this excess cash. In SM's case, Php647 billion was invested in the company to generate Php24 billion of excess cash on average which equates to a CROIC of 3.71%
Putting in another perspective, if SM wants to double the excess cash it generates, it would need another Php647 billion of invested capital to achieve it. With SM's CROIC of 3.71%, SM would need 19 years to achieve that.
This just shows how capital intensive SM is.
Is SM Conservatively Financed?
The reason why SM shows low returns on cash is because I believe that the business is highly leveraged. The table below shows exactly my thoughts.
Total debt to equity ratio
LT debt < Net working capital
LT debt at Php278 billion.
Net working capital at Php28 billion.
LT debt / Net income
Source: 2Q17 and FY2016 filings
Current assets and current liabilities based on 2Q17 filings equates to Php200 billion and Php172 billion respectively. Total debt and equity is at Php361 and Php309 billion. Long-term debt, net working capital and FY2016 net income equates to Php278 billion, Php28 billion and Php31 billion respectively.
As you can see, these numbers add proof to my opinion. Current ratio is low, D/E ratio was high. Long-term debt is greater than net working capital and the ratio of long-term debt to net income is high.
This tells me that most of SM's acquisitions, expansions and working capital requirements come from loans and less from the actual cash they generate.
Earnings, Dividends And Retained Earnings
I've made a table below that shows the historical earnings made and dividends paid from 2007 to 2016. I'm impressed about the results and here's why.
Earnings, dividends and retained earnings has increased year on year. On a compounded annual basis, growth equates to 12.04%, 10.49% and 12.69% respectively.
Now think about this, if you get the difference between the 2016 and 2007 earnings, we would get Php16.59 per share. We can argue that the increase in earnings can be attributed to the company's ability to deploy those retained earnings in acquisitions and expansions in that period. If you get the percentage returns, this would equate to 12.1% (16.59/136.77).
Let's look at the dividends. Assuming you bought 1,000 shares of SM at the beginning of 2007 at Php166 per share, you now earned a total of Php51,250. That would equate to a return of 31% just by dividends alone.
And if you consider the capital appreciation assuming you bought SM in 2007 between its high and low of Php241.33 and Php157.28, your investments are now up by 240% to 421%!
Not only you made money through dividends and capital appreciation, the business also grew by a compounded annual growth rate of 12%!
Valuations: Looking At Value
SM is a business that has a proven track record of growth. There's no doubt that the business will continue to grow for the next ten years and this is why I think SM is a good long-term investment.
If you're thinking of investing in SM, the question you really want answered is not about it's value, but how much are you willing to pay to get an attractive return in the future.
If SM is a business that has a net worth of Php309 billion and generates Php25 billion of excess cash that grows 4% each year, then how much is it worth?
I'll spare the math for your convenience; SM's intrinsic value is approximately worth Php513 billion. On a per share basis, that equates to Php426.00.
INTRINSIC VALUE: PHP 426.00 PER SHARE
It appears that SM is no longer trading at that price range. The lowest closing trading price year-to-date is P599.00 and that was around March. If we can buy SM at this price, then we are getting a huge bargain. Why? Because of it's growth capabilities.
Rememember that the earnings and retained earnings has been shown to grow a a CAGR of 12%. So evidently, we are already paying a huge discount to growth.
As of this writing, SM is trading at P816 per share. Is it really worth paying at this price? Well let's see.
Valuations: Looking At Growth
Growth is best measured by taking the return on equity as a fixed variable in projecting the estimated future net worth and earnings of the business.
By also taking the average price to earnings ratio for the period, we can get a projected future price for the stock and thus calculate the best possible price to buy a stock with an attractive compounding rate of return.
You can learn about this method in this great book and I recommend you read it to get around the math behind it.
To spare you some of the effort, I did some of the math below. With these values, we can now calculate the needed figures to project its future price. These numbers are shown in the table below.
Retained earnings (per share)
Historical average P/E ratio
Dividends as a % of earnings (per share)
Retained earnings as a % of earnings (per share)
Return on equity
Return on equity (dividends)
Return on equity (retained earnings)
From 2007 to 2016, the average P/E is calculated at 18.52. It was calculated by getting the year end averages of it's high, low and closing prices from the mentioned period.
Based on Morningstar data, FY2016's earnings, book value and dividends per share equates to 25.90, 244.87 and 7.09 respectively.
So crunching these numbers yields a projected future net worth and earnings of Php513.28 and Php Php54.29 per share respectively. Total estimated dividends earned through the period equates to Php116.03 per share. By multiplying the average P/E ratio to the projected earnings, we get a projected future price of Php1,005.00 per share.
In theory, assuming that the stock price won't deviate that much to its value, we can expect the stock to be worth Php1,005.00 per share after ten years.
If you buy SM at Php816.00, you'll theoretically get an after-tax CAGR of 2.58%.
Putting in simple terms, you now have a stock that is priced at Php816.00 that gives a 2.58% annual return rate. Does a 2.58% return seems attractive to you? I hope not.
The current 10-yr. gov't bond rate is at 4.687%. Assuming we want the same after-tax returns applied to SM stock, a fair price to buy would be around Php630.00.
INTRINSIC VALUE: PHP 630.00 PER SHARE
Comparison Between Value And Growth
We have two intrinsic values, the one estimated based on value, the other based on growth. Buying in between and below these prices is a safe price to consider to get good returns.
Based on historical year to date prices, an opportunity to buy was seen in March where it traded the lowest at Php599.00 as shown in the chart below.
At this price, you can think of it as like an equity-bond that pays an after-tax return of 5.13% annually. Assuming you bought it at this price, you now have around 36% unrealized gains as of this writing.
Henry Sy has done a great job of growing his business. And it obviously one of the best stock investments out there if you can buy this company at the right price.
I strongly believe that this company will continue to grow. It also does a good job of managing leverage to generate returns even if it's high. So if you're thinking of buying the stock at a premium, I don't see any problem with it. But still, it's important to apply a margin of safety and from what the math tells me, considering the return rate of a gov't bond as a benchmark for a buy price makes a good risk management.
I want to hear your thoughts! If you have any reactions on this SM stock analysis, leave them in the comments section below.
Valuations By Top Leading Brokers
P.S. The author has no existing shares of SM as of this writing.
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