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XingQuan is one of the 4 China shoe companies listed in Malaysia. I am more familiar with MSports, XDL and XingQuan and is not familiar with KStar (too new for me to be interested).

While XinQuan has been the most favorable stock among the shoe companies to most people, it is not to me when compared to MSports and XDL. Why I like MSports has been written in my long Multi Sports Holdings review.

Unfortunately I didn’t have the time to write about XDL so I will try to tell you briefly about them.

Three of these companies are shoe companies but they have very different business model. While their market price move in tandem with each other because they share the same theme, i.e. China and Shoe, they are actually very different to each other.

MSports is a very simple business, they manufacture shoe soles and sell them to other shoe makers. Yes, plain vanilla with no added chocolate chips, just shoe soles. Their customers are other shoe makers.

Introduction to XDL (XiDeLang)

XDL on the other hand doesn’t even manufacture shoe soles! They might consider buying it from MSports or probably have been buying from MSports. Shoe soles are the most important component of a sport shoe and there are only 100+ among the 3,000 shoe companies in JinJiang that manufacture them.

XDL buy shoe soles from other shoe soles maker and use them to make complete shoes. They are not OEM shoe maker which means they are not making shoes for other branded shoe companies such as Nike or Adidas. They are manufacturing their own branded shoes XiDeLang and sell them in their own XiDeLang stores.

So, XDL is more a retail shoe companies with their own manufacturing capability and brand. MSports on the other hand manufacture and sell shoe soles. So they are very very different.

XDL also sell sports apparels for XiDeLang brand but they don’t manufacture apparels themselves. They source them from other makers. They are planning to manufacture the sports apparels themselves in the future using operating cashflow and the IPO proceeds.

They do not own the retail outlets themselves. It is more like “franchise” but not exactly that. There are 3 parties involved.

1. XDL which owns the brand and supply the shoes. They are in charged of the branding and marketing effort. They get around 38% of the final retail price.

2. Distributor – they mark up the price not more than 10% and sell to the retailers.

3. Retailers – Operate the stores and try to make money after paying for the shoes, rental and sales staff.

XDL customer in “accounting” terms is the distributor. But their ultimate customers that affect their sales is the end user who shop at the retail shops. If retailers can’t sell the shoes, they won’t buy from the distributor and distributor won’t buy from XDL. So XDL is a consumer retail business.

XinQuan = MSports + XDL

What about XinQuan? XinQuan is a mixed of both. XinQuan manufacture shoe soles and also manufacture own branded shoes AddNice and sell them in their own AddNice stores [also through distributors]. They even manufacture their own AddNice apparels.

So we shouldn’t generalize all these shoe companies and think that they are the same. They are not. They have different business model and they make their money in different ways.

Does That Mean XinQuan is Better?

For many people, yes because it has multi different income sources and is more diversified. For me, no.

Don’t get me wrong, XinQuan is a good business selling at a very very cheap valuation out now. What I am trying to do is to compare it to MSports and XDL. I am trying to explain why I like MSports and XDL more than XinQuan, not trying to say XinQuan is bad. XinQuan on its own is good enough, but not as interesting when compared to MSports and XDL.

Reason #1 – Too Much Cash

While most people assume a lot of cash is a good thing but it is not for me. I am trying to make an investment, investment that is suppose to give me good returns. But cash are – CASH! Cash are not investment because it can’t generate good return on it’s own unless it is invested.

Cash in a business is like the sugar in the coffee. We don’t want too much or too little. We are not drinking “sugar”, we want it to be just enough.

With quick approximation for better illustration, XinQuan is worth around RM500 million today (at RM1.64), but it has RM250 million net cash after paying back all borrowings! When you buy their stock, you are like making 2 investments. The first half in XinQuan business that manufacture shoe soles and sell AddNice products. The second half in something like a fixed deposit or a savings account.

I want to make money investing in “stocks” and “businesses”! If I need to put money in fixed deposit or savings account, I can do it myself and have full control instead of going through a company!

More discussions on the “cash debate” later in this article.

Reason #2 – Harder to Value

While it is cool to have a diversify business but I can get the same diversification through XDL and MSports and even better, I have 2 stocks and 2 market price instead of just 1 stock with 1 market price.

It is also slightly harder to value the business due to the business mix. Since both business (shoe soles and retailing) are very different in nature, the metrics that we are trying to get from the consolidated statements such as margin, days sales outstanding (DSO), inventory sales outstanding (DSI) will be a mixed making us harder to figure out which segment is doing better and which is not.

And as reason #1 has stated, you are technically investing in 2 investments when you buy Xing Quan – the business and the cash. You have to value the cash too and most of the time, RM1 is RM1. [No matter how hard I try, the most I can sell you my RM50 note is RM50, it can be less but not more]

The whole company is selling for RM500 million today and it has around RM250 million net cash.

So how much is the “fixed deposit” part worth? RM250 million max.

So how much is the business worth? RM250 million too. [RM500 million minus RM250 million cash]

The company makes RM100 million in the last 4 quarters, so what is the PE? PE is only 2.5 for the business! Yes it is very cheap, similar to MSports. But wait, when you buy MSports, you don’t need to make another investment in an ‘FD’. But if you buy XinQuan at PE 2.5, you need to put an equal amount in an ‘FD’ (that is out of your control) that give you maybe 2% return max.

So if you mix that “two” investment together, it no longer looks that sweet. 2% is nothing at all. It is like the cash under your mattress. Actually under somebody else mattress because you don’t have full control on it although technically it is yours.

Might as well use 50% of your money to buy XDL or MSports and put the remaining 50% in FD at a local bank? You have a real FD with full control and it doesn’t affect the valuation of your XDL or MSports.

But again, don’t get me wrong, all of these are coming from a comparison point of view with MSports and XDL. Without the 2 of them, XinQuan will look marvelous on its own. Why? Because even if you assume the cash never exist and you are buying XinQuan at RM500 million where is makes RM100 million a year, you are buying a PE5 stock, a very very very cheap valuation. What does PE5 means? If this is a private business, it means you are making a 20% return investment. Because you pay RM5 for a business that can make you RM1 per year, thus 20% return (We call this earning yield). Not bad at all.

Petronas Dagangan is selling for above PE10, Public Bank is selling above PE10 too. Both are considered fairly valued because you still get a good 10% earning yield. There are stocks like SP Setia that is selling for nearly PE20, a 5% earning yield which is expensive [at least for me].

Reason #3 – More People Are Interested

Surprisingly, more people prefer to invest in XingQuan then the other shoe companies. This can be seen by its current price as comparison with its IPO price and how much it has gone up from the bottom, which outpaced the other shoe companies. It is also owns by more funds then the others.

Why? Because they assume it is safer with that cash and the diversification mixed of their business. I have mentioned that for me it is a different story. If I need an FD, I can put it myself, no need to go through a company. And if you hold too much cash for me, I will need to worry that you are not taking good care of it! These money are not “free”, we pay for it when valuing the company as a whole. Remember we add RM250 million valuation to the company because of the cash?

And for the business mixed, I can have that by owning XiDeLang and Multi Sports. I then have 2 stocks price, 2 managements and 2 AGMs (means more door gifts, aha)…

What is a better investment? An investment that everybody interested in? Or an investment that no body interested in?

Not both, sorry I tricked you. A good investment is an investment that no body interest in RIGHT NOW but will make everybody interested in it IN THE FUTURE. There are more people interested in XinQuan right now compare to the other shoe companies, making it less favorable to serious investors.

On the other hand, MSports and XDL are better candidates as investments that not many people interested in NOW but ‘might be’ in the FUTURE.


When they announced the Q4 earnings and dividend 3 days ago after market close, my first respond (and the second and third for the entire night and until today) is “WHAT THE DUCK!!!” [replace D with F]

These management certainly doesn’t seems to understand the importance of minority shareholders. They announced another 2.5 cents dividend making it total 5 cents for the year. [Their financial year end is June 2010]

The entire year earning is 34 cents. But management certainly failed their math in primary and secondary school. They have been promising shareholders that they will make 20% payout for 2010 and 2011 but hey, 5 cents is only 15%!!! It should be 6.8 cents or 7 cents rounded up.

7 cents over 5 cents is 40% more dividend for the shareholder.

Now they will explain to you that they didn’t promise you 20% payout, they are promising “up to” 20% payout, which is very different in meaning. They are playing with words! They think they are very smart and funny.

But this is not the whole point as we are not Karpar Sigh trying to fight in court. We as shareholders are using the 20% as reference point. If management pay 20%, we assume they are honoring their promise, keeping their words. If it is above, we will believe that we have found a great management that love us as much as our father and mother! But if it is below, we may think that we have been cheated by a bunch of duckers (you know what to replace the d with).

The management is correct in interpreting the phase “up to”. But what is the point for management to be “right” in that sense but totally “wrong” when come to fulfilling their responsibility to the shareholders? It is like the law that say it is “wrong” to beat the traffic light. So you are “right” when you try to block the ambulance from sending a man who has been badly hit by a meteor to the hospital. You can argue and “win” but what is the point? Do you feel proud with your winning and will everyone else like you?

What is more upsetting is that they have RM250 million of net cash! They make RM100 million for the year and the refuse to pay RM20 million to the shareholders as promised but choose to pay only RM15 million. They want to save RM5 million for what?!

What the duck! [yes, replace the d]

So what happened to XinQuan stock price? It dropped 13.7% in 3 days after the announcement. Padan Muka!


I hope they have learned a lesson here and do not repeat it in the future.

And for MSports (promised 20% payout) and XDL (30%), I hope they learn a lesson too from XinQuan mistake.

But the bad news is, it is very likely that they won’t learn it! We will see when they make the announcement in the next few days. Why? Because when I attended the XDL AGM a few months ago and even when the shareholders are shouting to them (I am one of them), the management still keep on debating the word “up to” and keep reminding us that they need a lot of capital.

I can forgive them on less dividend payout if they are buying back shares in the market. But they are not doing that!

Reason #5 – Slowing Down?

Ending June 2009

(RMB) Q1-09 Q2-09 Q3-09 Q4-09
Revenue 184,019 221,861 222,780 215,168
COGS (114,336) (136,034) (144,553) (139,846)
Gross Profit 69,683 85,827 78,227 75,322
Other Income 939 348 176 208
S&D (13,760) (22,486) (17,980) (14,695)
Admin Ex (2,753) (7,880) (3,564) (7,911)
Interest (1,050) (1,121) (1,085) (1,076)
PBT 53,059 54,688 55,774 51,848
Tax (8,714) (9,221) (9,034) (9,110)
Net Profit 44,345 45,467 46,740 42,738
EPS * 0.14 0.15 0.15 0.14
EPS (RM) * 0.07 0.07 0.08 0.07
Gross Margin 37.9% 38.7% 35.1% 35.0%
Tax Rate 16.4% 16.9% 16.2% 17.6%
Net Margin 24.1% 20.5% 21.0% 19.9%

Ending June 2010

(RMB) Q1-10 Q2-10 Q3-10 Q4-10
Revenue 262,139 357,889 355,484 299,355
COGS (165,168) (232,470) (236,965) (204,523)
Gross Profit 96,971 125,419 118,519 94,832
Other Income 212 377 408 4,040
S&D (18,058) (37,618) (28,836) (34,644)
Admin Ex (28,683) (18,273) (8,599) (5,199)
Interest (731) (386) (660) (747)
PBT 49,711 69,519 80,832 58,282
Tax (11,952) (12,957) (13,522) (13,744)
Net Profit 37,759 56,562 67,310 44,538
EPS * 0.12 0.18 0.22 0.14
EPS (RM) * 0.06 0.09 0.11 0.07
Gross Margin 37.0% 35.0% 33.3% 31.7%
Tax Rate 24.0% 18.6% 16.7% 23.6%
Net Margin 14.4% 15.8% 18.9% 14.9%

* EPS has been adjusted by assuming company has 307.33 million shares all the time

Again as I said in my MSports article, you don’t compare the results with previous quarter, you don’t compare Q4 with Q3 because of seasonality. You need to compare Q4 with Q4 of previous year.

Quick judgment cannot be done because it didn’t say anything very clearly. There is no dead body found, maybe only some fingerprints. We just got a few hints. These hints are:-

Revenue increased a lot. It increased 39% from last year. But Q3 increase even more at 59%. 39% increase is very very good, but is not better than 59% achieved in Q3.

But the key is that profit is almost flat! Why? There are a few reasons but the most alarming is the drop of gross profit margin. Gross profit margin drop to 31.7% which means they are trying to push for more sales (revenue) by giving a lot of discounts. They are trying to make more sales by making less money per shoe sold.

The other 2 reasons you got to be aware of is the tax rate, they no longer have much tax incentive left and is nearing the 25% tax bracket. You will have to pay this tax rate onwards.

The S&D (Sales and Distribution) expenses is quite high this quarter but I will “assume” that it is used for network expansion and other good purposes.

The only alarming factor out of these 3 reasons is the gross margin. We want to monitor this in the future quarters closely. It can means 2 things in the future, revenue remain high while profit margin improve – good news. Revenue drops while profit margin remain low – bad news.

But Q4 and Q1 are usual slow quarter for XinQuan. Q2 (year end) and Q3 (new year) are important quarters for them. So we need to pay more attention to Q2 and Q3.

  Q4-09 Q1-10 Q2-10 Q3-10 Q4-10
ROA 37.9% 20.0% 26.2% 29.1% 19.3%
ROE 72.9% 26.1% 35.4% 38.9% 24.2%
DSO 59 47 38 41 36
DSI 25 19 14 13 18

XinQuan ROA and ROE still remain very strong, especially if you strip the cash from the assets/equity. They are just amazing.

Based on DSO and DSI, they also don’t have any problem collecting bills and they don’t have inventory problem.

More Cash Debate

The cash XingQuan is holding now is like armies. They can serve their purpose well when we need them. But did Angkatan Tentera Malaysia need to go to war? We invest a lot on them buying them M16 and submarines but all we need of them is when there is flood in Kelantan and when there are buildings falling down in Bukit Antarabangsa.

Cash in a company can be invested to make great returns for the shareholders. If you have a lot of cash, you can make a lot of investments. But the problem is you don’t have good investment hanging around all the time. So the cash will just sleep and do nothing when you are waiting for it. And this is a risk to the investor.

On the other hand, assume opportunity arise and Xing Quan is able to acquire a good business at a good valuation, for a good example the entire MSports which is worth exactly the cash they have right now (RM250 million)! Then that would means a very good use of the cash.

But the problem is, what is the chance of them being able to do that? It is difficult. So as a retail investor, I will prefer to keep that cash to myself so I can buy MSports or other stocks, instead of letting them sleeping in XinQuan bank account and hoping that one day they can find a good investment. I am sure I have more investment ideas and opportunities then them (because I am small and nimble, I only have that much cash).

Even if they start building factories and expanding their retail networks with those cash, it will take a long time before those cash are invested. With the strong cashflow from operation and their kiamsiap dividend policy, there will be a lot of cash sleeping all the time. They are suppose to raise cash from the IPO to invest but end up that they are now having more cash today then after the IPO.

Because XDL and MSports don’t have that ‘much’ cash [They do have a lot of cash, but a lot less when compared with XinQuan], they might not be able to make big acquisition even if opportunity arise. Management might be very upset for that but it is totally OK for shareholders like us!

We as retail investors are not trying to make money from their “once in a millennium” opportunity to acquire another company or their big aggressive growth plan to dominate the earth. We don’t need it to grow to the moon. Our strategy is to buy 1 dollar for 50 cents. We invest on them at very cheap valuation (such as PE 2.5 for MSports) and ‘wait’ for the valuation to increase to PE 5 or PE 8 or even PE 10. You see, we don’t really need them to grow to the moon or make big acquisitions. Because we are already buying them very very cheap, i.e. buying 1 dollar for 50 cents (maybe 25 cents for the shoe companies). We just need them to maintain the business as usual.

Since the cash factor plays an interesting role in XinQuan valuation, if XinQuan stock price drops 50% tomorrow, that would means it is trading at net cash value. You pay RM10 and you get RM10 in their bank account (assume they didn’t steal the money and fake the book) plus all the future cash flow which is 40 cents per year! :)


XinQuan on its own is still a very good investment even with all the reasons I “hate” about them because the valuation is too cheap. But due to the existence of better alternatives, I didn’t “weight” it so heavily when allocating my capital.


Disclosure: Long XinQuan, MSports & XDL. I might buy and sell anytime without SMSing you!

Disclaimer: This is not a recommendation to buy or sell. Information can be wrong. Invest at your own risk.

Updated Warning: I currently have very high doubt on China and Chinese companies due to recent developments. My advice is not to own any Chinese companies especially those listed offshore, including MSports and XDL that I used to own. The “too good to be true” high inventory turnover that I mentioned below should be a big enough red flag to skip this stock. We should stick back to the defensive rule that one should invest in a company that has been listed for at least 5 years so we can look at 5 years listed historical performance.

Multi Sports is a moatless business, with almost no competitive advantage. They make shoe soles that any businessman can do. Anyone can build a factory, buy some machines and start producing.

multi sports holdings ltd

It is based in China JinJiang city, the “shoe production city” that produce 40% of the shoes in the world. It is said that there are 3,000+ shoe companies in JinJiang alone. 3,000 and increasing! Everyone what a piece of the pie.

We have 4 China companies listed in Malaysia and 4 of them are shoe makers! Why do they want to list in Malaysian instead of Shanghai or Hong Kong? Because they are too small. At first, they wanted to be listed in Singapore but due to some S-Chips issues (fraud, etc) and bad sentiment in Singapore, they changed their course and moved to Malaysia.

Multi Sports is definitely not a wonderful business. As a value investor, we “wish” to buy wonderful business at wonderful price (cheap price). But the problem is, wonderful businesses don’t go on sale very often. Even if we manage to buy, most of the time we are only able to buy them at fair price, not cheap price.

No matter how cheap a business look like, if it is a mediocre business that keep losing money and burning cash, we don’t want to buy it. Because the “look like cheap” price will soon become “expensive”.

Now, there is something in between. What if you can buy a fair business at very cheap price? Kekekeke, that is how the early Warren Buffett and the now Mohnish Pabrai makes a lot of money from.

If you say these shoe makers are suckers, their financial performance don’t look so!
msports financial highlights

Most of the MSports numbers above are pre-listing numbers. That means they can cook the books and fake all the numbers.

We have 4 reporting quarters from MSports post-listing in Bursa which I believe are more reliable numbers (2Q-2009 to 1Q-2010). I also managed to dig up 2 more early quarters from the same reports when they do a comparison with “previous quarters”.

(RMB) 4Q-08 1Q-09 2Q-09 3Q-09 4Q-09 1Q-10
Revenue 100,434 81,577 102,068 130,508 160,033 133,720
Cost of Sales (66,228) (54,420) (68,531) (85,799) (104,552) (90,902)
Gross Profit 34,206 27,157 33,537 44,709 55,481 42,818
Other Income 1,321 50 265 343 183 329
S&D (1,676) (1,379) (1,685) (1,739) (2,789) (2,478)
Admin Expenses (1,755) (1,321) (1,745) (14,101) (4,624) (2,993)
Finance Cost 0 (229) (320) (304) (260) (201)
Profit Before Tax 32,096 24,278 30,052 28,908 47,991 37,475
Tax (3,888) (3,036) (3,763) (5,140) (6,248) (5,056)
Net Profit 28,208 21,242 26,289 23,768 41,743 32,419
EPS (RMB)* 7.84 5.90 7.30 6.60 11.60 9.01
EPS (RM)* 3.92 2.95 3.65 3.30 5.80 4.50

* I have adjusted all EPS by assuming we have 360 million shares for all quarters.

Shoes have seasons (you buy more new shoes on Chinese New Year and more ice skating shoes in the winter). So you can’t simply take the last quarter number and multiply it by 4 to project the full year. Some quarters are meant to be strong, some are meant to be weak. Each quarter must be compared with the same quarter last year, i.e. 2Q 2009 with 2Q 2010.

Looking at the 6 quarters, we can compare 4Q and 1Q and notice the significant growth they have. Revenue grow an amazing 60%! Net profit and EPS grow 50%!

EPS in RM is 17 cents for the trailing 4 quarters. The shares are selling at around 42 cents, giving us a PE of only 2.5! There are only 3 possibilities.

1. MSports is a total fraud, they cook the books and fake all the numbers.

2. MSports is a lousy business, the numbers won’t last.

3. This is a killing stock, the next AXREIT/HAIO play.

The reverse or PE is the earning yield. At PE 2.5, earning yield is 40%. That means if you are able to buy the whole company at PE2.5, you can get a return of 40%! PE 2.5 also means you can get all your money back in 2.5 years PLUS the cash machine totally free (factories, employees, management, trade marks…).


PE 2.5? PE 2.5? PE 2.5? PE 2.5?!!!?!?! Sorry for the repetition but PE2.5? Even lousy businesses and those who are accused of fraud are not trading at PE2.5?! Is PE2.5 justify for MSports?

Let’s say today you want to own a franchise business, something like Secret Recipe or Big Apples. You have to take up initial cash investment of 2 to 3 times “forecasted” earnings! (means PE 2 to 3). And you have to manage the store yourself, hire your own staffs, do the payrolls, pay the rentals, electric bills, make the donut and put some cream on it … you also need to do the accounting, file the tax return, etc. Not only you need to invest the money, you also need to invest your time and effort. You invest everything in 1 store and if the forecasted earnings cannot be achieved, you are screwed. You can’t sell a money losing business. Even if the business is profitable, you can’t expect high growth. Sooner or later, your landlord will increase you rental to take away more profits from you.

On the other hand, MSports is a listed company! You don’t need RM500k up front to make 1 investment. It’s OK to just buy 5k. And if something goes wrong with the company, say it lost a lot of money and it tanks 50%, you can still sell it with a few clicks for 2.5k. You can’t do that for a private business like Secret Recipe. Worst, you can’t even terminate it half way because you are locked in with your tenancy agreement. You might even lost more then what you have initial invested because you need to keep paying rents!

You also don’t need to manage a listed companies because the CEO, CFO and COCO are already paid to do the job. The most you need to do is your initial research and your subsequent follow up on each quarter results and other occasional  big events. Most of them are significant shareholders holding large stake in the business means they are on the same boat with you.

But we must ask, why MSports is trading at PE2.5 now? Will it remain at PE2.5 three years later? Can it maintain it’s E for the next 3 years? It helps a lot if we know why it is so cheap today and if we are confident that the “cheapness” won’t last, it can be a very good investment.

Hint: Do you know that if the PE double to 5, you get 100% gain? And PE5 is still “below normal” PE!

The Multi Sports IPO and Shareholdings

IPO 100,100,000 Ordinary Shares @ RM0.85. Listing on 19 Aug 2009.

Public Issue Of 57,600,000 New Ordinary Shares

• 18,000,000 Malaysian Public

• 39,600,000 Private Placement To Selected Investors;

Offer For Sale Of 42,500,000 Ordinary Shares – Private Placement To Selected Investors

It is difficult to explain thing this way, you can forget about the numbers above. Let’s explain it another way.

AFTER the IPO, we will have 360 million shares. Of this 360 million shares, 180 million (50%) will still be owned by the original owner (Mr Fire Stick!). 18 million (5%) shares are owned by individual like you and me and your grandma. 82.1 million (22% of the company) will be owned by rich-ass private investors and always-can’t-make-good-money-sucker funds.

Where does the remaining 23% goes? They are on the hands of 5 early investors – Lim Geok Tin, Fortune United Investments Ltd, Supreme Business Investment Ltd, Houton Ltd and Guoline Group Management which is owned by Malaysian billionaire Quek Leng Chan, the owner of Hong Leong Group. Quek alone holds 54million shares (15%)!

quek leng chan

Uncle Quek. Sorry not your father.

Why The Price Free Fall From Day 1?

msports price chart

Investors who get in from the IPO must felt like parachuting or bungee jumping! The price almost free fall from IPO price of RM0.85 to around RM0.42 today, tanking more than 50%!

All thanks to our beloved Mr Quek.

Mr Quek started to dispose his 15% shares from the first day! He is not getting it at IPO price of RM0.85. He got all his shares on 12 May 2009 for USD $7 million through the “Novation Agreement” which I don’t know what is it. His estimated cost per share is around RM0.43.

In less than a month he has disposed more than 10% of his shares! 1 month! If he is able to unload all his stocks at an average of 50 cents, he will still make a good profit of 16% in 3 months!

It is believed that every other early investors has sell off too in the first few months. That means early investors that hold 23% of the entire company are running for the exit cashing for profits in the first few months!

What do fund managers do when a stock price tank? They sell. They are herds. That’s why mutual funds don’t make money! 23% of early investor sells. 22% of the fund herds follow to sells. What will your grandma do? Sell!

herd - fund manager

Titanic, “You run, I run!”

The price free fall. The good news is, the free fall has nothing to do with the fundamental of the stock. It is very normal for early investor to sell because they got their shares very cheap. It is their investment strategy to invest in a company in the early stage and cash out immediately in the IPO. Quek is not considered an early investor but as a “vendor”. Unfortunately I do not understand what it means so I cannot explain it.

What about the fund managers? Fund manager need to protect their high pay job and to do that they are not interested to beat the market. What they want is to mimic the market. If everyone sells, it is better for them to sell too because they need to be like everyone else, rather then being caught pant off holding the stock and get blame for keeping them.

The IPO is definitely not structured properly. Bursa should not have allowed giant investor like Quek to cash up immediately in the first day. But I am not here to debate right or wrong but to see if we can take advantage of this and make some good money. We might even need to thank Quek because without him, we might not have the opportunity.

Looking at the top 30 shareholders listing of MSports in annual report 2009, NONE of the early investors is still holding the stocks (as of 30 April 2010)! None! 23% of the early investors have fully sold off.

What about the funds and private investors? There are only 2 funds left holding the stock, i.e EPF and Uni Aggressive Fund. Both hold less than 1% shares in total! Almost 22% of the early funds has flee too (assuming no individual private investors)! All who left are the 50% owner Mr Fire Stick and your grandma and grandpa.

The good news, every big guys are out now, there is hardly anyone that can tank the price anymore. (Unless Mr ‘Stick’ sells his ‘stakes’).

I would like to say that for those who see Quek selling as a sign that MSports sucks is an incorrect observation. Quek is making lots of money selling his stake. He is not on the same ‘shoe’ as you, definitely not Multi Sports shoe. Again, his selling has nothing to do with the fundamental of MSports, it is profit taking.

Why Another Rights Issue In Less Than A Year?

They want to issue another 90 million shares in less than a year after the IPO. Many investors again think this sucks because they assume company asking for money a sign of weakness. They are also worried about earning dilution. But if you look at it carefully, it tells another story.

MSports has more than RM78 million net cash after borrowings in their bank account, why the F do they need to raise another RM20 million?! Their operating cashflow is so strong that they can just get the cash from there. So why?

Kekekekekeke. It has to do with Mr Fire Stick.

Lin HuoZhi
What a nice hair style! The most original Hokkien Lang.

Mr Stick has sold 19.8 million shares at RM0.85 in the IPO and cashed in RM16.8 million. He is now holding 50% of the company. Today, his company share is selling at only RM0.42. If he thinks his company is cheap, he can buy it back. Since he sell it at RM0.85 earlier, buying it back at RM0.42 is a very lucrative move (if he is confident with his company).

But buying back from the market will quickly move the price up, reducing the attractiveness at RM0.42. And because he is a significant shareholder holding more than 5% of the company, he needs to publicly disclose his buy and sell. If the public see him buying, herd-funds and individuals will rush in and push the price up very fast, making him difficult to acquire sufficient stocks cheaply.

The best way for him to quickly increase his stakes cheaply is to do a rights issue. With 1 rights for every 4 shares, he can easily increase 25% of his shareholdings effortlessly! What a brilliant idea! He doesn’t need to worry about pushing up the price. The price might even tanks more when uninformed investors start selling just because they hear the word “right issue”. What’s more amazing is that he doesn’t even need to pay for brokerage commissions!

The rights issue is not about raising RM20 million. The right issue is on how Mr Stick can acquire another 45 millions shares at throw away price effortlessly. I like brilliant management. It shows me Mr Fire Stick has brain. :D

Not only Mr Stick has committed to fully convert his rights, he is also committed to take up another 9 million excess shares if available. Brilliant.

I personally believe all 90 millions shares will be fully converted because 54 millions will be supported by Mr Fire Stick and 27.5 million rights changed hand in the last 5 days. These people who buy the rights from the market knows what they are doing and will surely convert all of them. I believe the remaining 8.5 million rights are being hold by original shareholders for conversion as well.

Dividend – The Market Price Catalyst

MSports suggests a dividend payout of 20% for 2010 and 2011. The bad news is that 20% is very little payout. The good news is that because it is very little, it can be done easily and there are also a big room to increase in the future.

Do you know what 20% payout ratio means when it is combined with a PE 2.5 stock? For every 1 ringgit that the company makes, you will receive 20 cents back as dividend. You are paying 2.5 ringgit to buy the company, you can getting a dividend yield of 8%!!!

Even if the stock doesn’t move at all, you will get 8% dividend every year! If the profit keep on increasing, so will your dividend!

MSports is still new (less than 1 year listed). When they start declaring dividends and honoring their dividend policy and when they are able to keep on reporting stronger and stronger earnings, the price has no way to go but UP. Remember my lesson #3 in my AXREIT/HAIO post?

Lesson #3. Some stocks have no other way to go other than UP! These are wonderful stocks selling very very cheap.

More Good News – It is Actually Cheaper Than PE 2.5!

PE2.5 are obtained without looking at the balance sheet, which is unfair to MSports because MSports is having more than RM78 million cash net of borrowings!

The market capitalization of MSports is 360M shares x RM0.42 = RM151 million. That means you can buy the whole company at 151 million. But they have RM78 million cash in their bank account (though most will be capex later), that means you are actually buying the whole company at RM73 million! This company is making RM62 million for the last 12 months and that is after expenses for the IPO! And the profit is expected to keep on growing.

Using the enterprise value (market cap – cash + borrowings), it is selling only at PE 1.x. That means if you run the company for another year with some growth, the company will have 151 million cash, the price you need to buy the whole company today.

Fundamentals, Fundamentals, Fundamentals

In value investing, we need to buy great companies at cheap price. We have done with the valuation and know this company is an extreme bargain selling at throw away price. But is the company great? Or at least good or satisfying? Because if a company is not good, the “cheap” price will soon become “fair” and later become “expensive” when the earnings drops.

2Q-09 3Q-09 4Q-09 1Q-10
ROE 69.4% 35.9% 54.3% 38.2%
ROA 44.2% 26.3% 43.1% 30.5%
Gross Margin 32.9% 34.3% 34.7% 32.0%
Net Margin 25.8% 18.2% 26.1% 24.2%
Tax Rate 12.5% 17.8% 13.0% 13.5%
DSO 36 40 36 40
Net Cash (RMB) 95,835 190,151 142,329 157,645
Inventory Turnover (Days) 15 12 11 12

ROIC (Return on invested capital) is the most important metrics of all. It tells us how well the management is deploying capital. But where is the ROIC in the table? There ain’t ROIC in the table, darling.

Since MSports doesn’t have a lot of borrowings, ROIC will be very similar to ROA (Return on assets). Since investing is not about precise science on how to cut a 0.00005 gram diamond so it can reflect 36 more light photons… ROA will work just fine. We can see MSports can do above 20% all the time, which is very very impressive.

Net margin tell us how much cushioning a business have in case the selling price drops and the expenses increases. With a net margin cushioning of 20%, it needs a harder hit before it can start bleeding (losing money). A competitor that has lower margin, say less than 10% will be slaughtered first in a market downturn which means stronger company can survived even stronger.

The tax rate is too low due to government incentive. But it will end next year and the tax rate will be 25% beginning 2011. This will reduce margin by almost 4%. Not significant but will affect the profits.

DSO (Days sales outstanding) is a measure of how many days they need to collect the money after a sale. At 40 days, this is a very very very fast collection period.

Cash is the most important cushion a business can have in bad times and the most important weapon for growth. At the end, it takes money to make more money. A company that can have high ROA can keep as much cash as they want as long as they can continue to deploy the cash at such high ROA.

Inventory turnover is the most impressive metrics of all. Inventory only need to sit on the MSports factories for 2 weeks and will be sold and turn into cash! That means not much money will be locked into inventory. Although I am quite skeptical about this performance but after comparing it with other companies and look at MSports business model, I think it is achievable. Shoe soles are commodity and they are all pre-ordered. Once you get the material and manufacture it, you can immediately ship it to your customers (which is almost all are in JinJiang city too).

Referring to the income statement table earlier, the drop in profit on Q2 and Q3 are due to the IPO listing expenses.

Although there are 3,000 shoe makers in JinJiang that makes 40% of shoes in the world. There are only 100+ that makes shoe soles (the most important part of the shoe) and MSports is “said” to be one of the biggest 5. And since it is the first sole maker that get listed and expanding fast, we hope it can attain first mover benefit and increase market share.

MSports factories are running at over 90% utilization rate. If they need to take in more orders, they will need more production capacity. That’s why they are very aggressive in expansion so they can increase their production capacity.


MSports growth will be explosive (hopefully). Our beloved Mr Fire Stick wants to triple the annual production from 24.6 million pairs to 74.6 million pairs in three years.

In 2008, Multi Sports had a 1% market share of China’s 2.1 billion pairs of rubber/plastic shoe soles production and 0.2% market share of the 10 billion pairs in the footwear soles sector in China, based on its output of 22 million pairs of sports shoe soles.

They also have an order book of 3 times it’s current production capacity. I don’t understand how come they dare to take up 3 times more order that they can produce but I believe they are confident that their new production line will be online very soon.

The money raised from the IPO has been put into use on increasing the production capacity by building more factories. A new land at Xibin has been bought that come with two 6-storey factories.

There are certainly a lot of room to grow and a lot or market share to take up.

What If The Price Remain Cheap For a Long Time? It Can Be Acquired!

The #1 shoe sellers in the world is Nike. The second? Adidas. But in China, Adidas is not #2! Li Ning, a China home grown sports brand has overtaken Adidas this year. It won’t take long before it beats Nike in China.

What/Who is Li Ning? Li Ning is a well known China gymnast who stunned the world by winning 6 medals in the 1984 summer Olympics. He is the man who “walk on air” around the “bird nest” in Beijing Olympic to torch the Olympic fire! And now he is managing a company that just beats Adidas in China.

li ning

Imagine if MSports remains cheap for the next few years while the fundamental never deteriorate. They continue to churn out cash and pay out dividends but it just remain at PE2.5. What can happen?

Big shoe companies like Nike, Adidas or Li Ning can just buy over the entire company! These stocks are traded at PE over 10 all the time. If they can buy a company at PE3 and merge their E into their parent company, they will increase their profit and market price a lot!

If a company makes 1 million and sell at PE10, it is worth 10 million. If this company buys another company with 100k profit at PE3, it only needs to pay 300k but his new combined company will now make 1.1 million and so worth 11 million (PE10) in the market! It “creates” extra 700k of “value”. This is how big companies like to “grow”.  It would be even fancier if this big companies can just issue shares to acquire the company, issuing a PE10 stock certificate to buy a PE3 stocks.

Multi Sports business and production can easily fit as a subsidiary for the big shoe companies, we have many such big companies out there that are competing with each other, Nike, Adidas, Asics, Li Ning, Anta, DongXiang, XStep, etc. This is not a company that build space ships, we can easily find a buyer for the whole company.

What Else Is Depressing The Price Right Now?

The early investors (QUEKKKKK!) dumped the stock earlier. The fund managers followed like herds. The rights issue scares away even more investors. What else is depressing the stock?

China Hong Xing, another shoe company listed in Singapore saw their profit drops by 90% in a quarter. They have so many cash that their stock is traded below net cash! Surprise! But it is very weird that the company still doesn’t want to pay out dividend. Management is giving a lot of lame excuses. Investor are now questioning if the cash is really there! China Hong Xing does look like a fraud to me.

There are many other China listed stocks in Singapore (known as S-Chips) that is having problem right now. You can easily Google for more information. Even Chinese companies listed in the US are being accused of fraud, i.e. NEP, CSKI, ONP, CMFO, LIWA and FUQI just to name a ‘few’.

Sentiments on these China stocks are very bad all over the world.

What If It Is Really a Fraud? Another Hong Xing?

Yes, it is possible. That’s why you need to do your homework and have your own conviction. If it is selling at a normal PE of 8 or 10, then it is really not worth looking at. But at PE2.5 it deserves a look because by just doubling the PE to 5, we will double our money. And PE5 is still a very conservative PE because most of those fraud companies in US still trade higher than this based on the “fake” E!

So if it is really a fraud and it fake its numbers by 50%, we end up owning a PE5 stock with a 4% dividend yield. Still look great! The PE2.5 itself is already pricing it as a fraud-lousy-dirty-bitch company. So if it is really one, how much more can it drop? BUT, what if it is not a fraud? Use your imagination. :D

A look at the financial numbers doesn’t show any concern. A comparison with other companies in the same industry shows that they are in the same trend. The problem is more on the competition and maybe over supply in the future instead of fraud. But I am not betting on it for 5 or 10 years. A 3 year holding period is sufficient. If after 3 years we get a PE of 6 with some reasonable growth plus the 20% dividend payout ratio, we will be very very fat.

There are 3,000 shoe companies in JinJiang alone. Many of them will be slaughtered. But some will survive and become stronger. Because we will always need shoes! The question is, which one will survive and which one will be slaughtered? How long more can MSports maintain its margin and utilized its production capacity? How will the increase of China labor cost affect the business? These are more serious concerns. But at PE2.5, I am willing to take all the risk and bet big on it.

Padini makes almost the same amount of money as Multi Sports. Padini is selling at PE10. Is Padini 4 times safer and better than Multi Sports? Petronas Dagangan (PetDag) is a stable business that operates all Petronas stations in Malaysia. It is safe but at PE12.5, is the risk and reward 5 times better than MSports? MSports risk is insured by the very low valuation and high dividend yield, but the upside is massive and explosive. Big shoe companies can take it over by a snap of fingers.

Head I win, tail I lose a little.

Credit: A post on China Apeks in Bursa that sparks my interest. A great blog.

Disclosure: No Positions.

Disclaimer: This is not a recommendation to buy or sell. Information may be wrong. Invest at your own risk.

- Multi Sports Homepage
- Multi Sports Annual Report 2009 (PDF)
- Multi Sports IPO Prospectus (Recompiled Searchable PDF)
- Multi Sports Rights Issue Prospectus (Recompiled Searchable PDF)
- Multi Sports News Tracking at PG8.net
Multi Sports Arbitrage Play

Similar to SINOTOP that I wrote in previous post, MSPORTS is also having a rights issue. The symbol is MSPORTS-OR and it will be traded this week from Monday to Friday. [Today is Wednesday]

Initially MSPORTS has 360 million shares. They issue 1 rights shares for every 4 ordinary shares, so you get 1 right share for every 4 shares you have. They are issuing a total of 90 millions rights shares (360 divided by 4).

The 50% owner of MSPORTS (whose Chinese name translated to Mr Fire Stick!) are committed to convert all of their rights shares, so 50% of the rights shares will not be sold in the market. We are left with 45 millions.

Monday we saw 2.5 million right shares traded.
Tuesday 2 million.
Wednesday (today) 7 million!

We think people are logical, but most of them are not. We have 12.5 million rights shares traded in 3 days. Who are the sellers? What is in their mind? Do they know they are throwing money away?

Are there really people who is stupid enough to throw away money? Yes, in the stock market, they do it all the time! That’s why, sometimes money really fall from the sky and you can pick them up in the stock market.

Only people who initially own MSPORTS shares will get MSPORTS-OR (the rights). That means the main sellers of MSPORTS-OR must be the initial shareholders of MSPORTS.

Let’s make some numbers. Please get your calculator ready and keep punching the numbers.

Assume Mr Ice Wood (brother of Mr Fire Stick) has 300,000 shares of MSPORTS, he will receive 75,000 MSPORTS-OR rights shares (300,000 divided by 4).

Each MSPORTS-OR can be converted to MSPORTS by paying RM0.38 per share at the end of the month. The converted MSPORTS is exactly the same as the MSPORTS you can buy in the market today.

Normally, we will think Mr Wood has only 3 choices. He can

#1. Take out additional RM114,000 (75,000 x RM0.38) and convert all rights shares to ordinary shares. He will end up having 375,000 MSPORTS shares. Note that he needs to take out extra cash.

#2. Sell MSPORTS-OR in the market and get some money back. He will still have 300,000 shares. People thought that they should choose this when they don’t have the money to convert. But that’s not correct, we will see why.

#3. Do nothing and let MSPORTS-OR expired. He will convince himself that he has not lost anything because he is still having 300,000 shares.

Choice #3 is obviously a sohai choice because it is the same as throwing money into the sea. But don’t laugh! There are many sohai like this because they don’t know what to do with them and before they figure it out, they are already expired! The only valid reason to choose #3 is that you have too little rights shares that selling them cost you more brokerage fee than what you can get back.

What we are seeing now in the market for the last 3 days is that people picking choice #2. Since it is worth only a few cents, they decided to sell it because they thought it is insignificant. As I said earlier, this is not a smart choice.

Choosing #1 make the most sense because you initially own MSPORTS and now you are allowed to buy more of it at a discount to the market price, it is very logical to top up as long as you have the cash. Because if you don’t like it, you shouldn’t have bought it in the first place. You won’t have MSPORTS and you won’t have MSPORTS-OR and you have nothing to worry about.

Now, even if you don’t have the cash to convert your right shares, you shouldn’t choose #2! You have a 4th choice that most people will miss. Let’s learn from Mr Wood.

Mr Wood is an intelligent investor. Not only he will keep all his MSPORTS-OR, he is also going to take advantage of the people who are selling MSPORTS-OR (i.e. choosing #2) by playing what Warren Buffett calls – the arbitrage.

The volume is very high today for both MSPORTS and MSPORTS-OR. MSPORTS-OR can be converted to MSPORTS for RM0.38. Since a converted MSPORTS is exactly the same as the MSPORTS that you can buy from the market today, they should be worth the same.

MSPORTS-OR “should be” selling as MSPORTS market price minus RM0.38. But as I say, stock market is a monkey forest where sohai will do a lot of monkey stunts and still think they are funny.

For the last 3 days, you can easily get MSPORTS-OR at a discount to MSPORTS in the range of 1 to 2 cents. Please be reminded that 1 to 2 cents for a 40 cents stocks is equaled to 2.5% to 5%!!!

Mr Wood can easily make a profit of 2.5% risk free with a few clicks if he accepts the fact that there are really many people who enjoy throwing money away in the market.

Mr Wood doesn’t even need any cash! All Mr Wood needs to do is to sell all his MSPORTS shares and purchase an equivalent amount of MSPORTS-OR! It doesn’t matter how much he bought his initial MSPORTS (doesn’t matter if it is RM0.20, RM0.40 or RM0.60). He just needs to sell them and immediately pocket some free money.

[Note: I really did what Mr Wood did]

If Mr Wood sell all his 300,000 MSPORTS at RM0.42. Assume he does it with HleBroking.com, his brokerage rate will be 0.21% (0.42% if the traded amount is below RM100,000). The net price received will be RM0.4186 after ALL brokerage fees, stamp duty and clearing fees.

Since MSPORTS-OR is always selling at a discount, Mr Wood can easily buy in 300,000 MSPORTS-OR at RM0.02 to RM0.03. Of course the cheaper he can get, the more free money he can get.

The good news about converting a right share to ordinary shares is that you don’t need to pay any brokerage fee, clearing fee or stamp duty!!! These fees will easily add up to 0.5% in normal trading.

The fee you need to pay to convert right shares to ordinary shares is only RM12 at Maybank2u and RM26 at HleBroking, which is really insignificant.

The following chart shows the % gain Mr Wood can get based on 3 different purchase prices of MSPORTS-OR.


(OR + RM0.38)

Net % Gain
(based on RM0.4186)

(RM0.42 – Cost)




2 cents




1.5 cents




1 cent

Did you see it now? Even if he is buying the right shares at 3 cents and selling the mother share at 42 cents, he can still pocket a 2.1% gain after fee.

It doesn’t matter what exact price Mr Wood is selling his mother shares and what price he is buying the rights shares. What matter is the spread between the selling price and the final conversion price (rights price + RM0.38). To get a 1 cent spread, he can sell mother shares at RM0.43 and buy right shares at RM0.04, or he can sell mother shares at RM0.40 and buy right shares at RM0.01.

There are 68 million MSPORTS shares and 71.5 million MSPORTS-OR shares traded today. Volume are very high on the evening session. Looking at the day charts below, any MSPORTS holder can easily use Mr Wood’s strategy to pocket some free money. And they can even get a 1.5 cents or even 2 cents spread easily!




Now you can see why people who choose #2 earlier, i.e. selling the rights shares to get a few cents back is not intelligent. Because even if he doesn’t have the cash to convert the right shares, he should have sell the mother shares and not the right shares and later buy back sufficient amount of rights shares that he can afford to convert. By doing this he can get free money from the market. It doesn’t make sense to sell the right shares because doing so means you are the one giving out the money (to people like Mr Wood)!

Now, if people who are selling MSPORTS-OR are sohai, did you notice that those who buy MSPORTS in the market are also sohai? Why on earth should you do that?!! That is totally insane.

If you buy at market, you need to pay 43 cents. If you buy the rights shares at 3 cents and convert it into ordinary shares, you only need to pay 38 + 3 = 41 cents! Why on earth you want to pay more for the the same thing?! Some more, converting right shares cost only RM26 but buying at the market is subjected to full brokerage fees!

There are RM2.9million traded on MSPORTS just today. Are you shock with the amount of sohai we have in the stock market?

Back to Mr Wood, he will receive RM125,571.60 selling his 300,000 MSPORTS at RM0.42. He needs to pay RM9,030.60 for buying back 300,000 rights shares at RM0.03. Then he will need RM114,000 to convert them back to MSPORTS. His conversion fee is only RM26.

He just pocket RM2,515 net of all fees with just a few clicks online with no cash required! All he needs is a little understanding. (RM125,571.60 – RM9,030.60 – RM114,000 – RM26) He can easily get more than that by selling MSPORTS at higher price and buying MSPORTS-OR at lower price, i.e. getting a bigger spread.

What is happening this week won’t happen everyday. And even when it happens, you are still not making big money. But the whole point is that, this money is given to you FREE without much effort. If you already own MSPORTS, understand it and want to continue holding it, it is basically FREE MONEY from the market. It needs just a few clicks with no extra cash required. You are taking advantage of market discrepancies, you are doing arbitrage. 

Why choose to do nothing when doing almost nothing give you some FREE money? :)

Disclosure: Long MSPORTS-OR that will be fully converted. Why hold MSPORTS? :)

Related: Multi Sports Holdings Ltd Company Review.

Saw SINOTOP and SINOTOP-OR (the rights share) trading as most active stocks today and wonder what they are. Did a search and realized it is the previous John Master (now a empty shell company). Be Top, a textile company in China is taking up the shell company to get listed in Bursa [geek call this ‘reversed merger’]. Then they try to raise $$$ by issuing 10 rights shares for every 1 share. Exactly like stock options, holder of the rights shares can buy 1 new share at ‘only’ RM0.20.

What is so confusing and interesting is this -

SINOTOP is actually selling for RM0.65 while the right is sold at RM0.12. It means, if you want to own SINOTOP shares, you can either buy directly at the market now at RM0.65, or you can buy the right share (SINOTOP-OR) at RM0.12 and exercise it to get new shares at RM0.20 with a total cost of only RM0.32!!! A discrepancy of RM0.65 to RM0.32, 100% differences!!!

What went wrong? I don’t know yet. But at least what we know is, if you are a holder of SINOTOP shares, the only sane thing to do is to sell every SINOTOP you have and bought an equivalent amount of SINOTOP-OR and fully exercise them. By doing that you will reduce your cost by 50% immediately!

Again, I know nothing about this business. And I don’t like textile company either (Berkshire Hathaway used to be a textile company that failed, a Warren Buffett investment ‘mistake’).

Calculating the pricing or market share price and the right price is not simple mathematics (at least to me). It reminds me of the time where I needed to calculate the amount of electrons in a silicon and the dy/dx… I hate those and doing this right issue calculation now make my head spin again like old time. But still, let me try my best on it and we learn together.


Every time there is a right issue, you need to make 2 formulas (actually 3). The 2 formulas allows you to link the market price BEFORE the right issue with the market price AFTER the right issue. Because after a right issue, the market price will immediately drop. You can only compare the BEFORE and AFTER price if you can either convert the AFTER price to BEFORE equivalent or convert the BEFORE price to AFTER equivalent.

It is like changing from kilograms to pound or kilometers to miles … you can only compare the market price either using the AFTER metrics or BEFORE metrics. Say today the AFTER rights price is RM0.65, what is the equivalent price BEFORE the rights issue? And 1 month ago, the BEFORE rights price is RM0.85, what is the equivalent AFTER rights price today?

The 3rd formula is actually the SINOTOP-OR (the right share) price. This is the most straightforward formula. We will later use this formula to get the other 2 formulas.

Rights Price = Market Price after rights issue – Rights Issue Price

(note: rights price is the rights market price, rights issue price is the strike price, the exercise price)


The right shares, like call options and stock options, allow you to buy the underlying share at a fixed amount, that’s RM0.20 (geeks call this ‘strike price’). So technically, the right price will simply be the market price minus the strike price. Because you either buy directly at market price, or you buy the rights shares first (like paying upfront deposit) and pay the remaining later when you exercise it. No matter which way you do, you are getting the same thing in the end, the SINOTOP shares, the same apples.

If SINOTOP-OR is trading below SINOTOP AFTER – 0.20, we say it is trading at a discount, because by buying this ‘apple’ via the rights issue, you get the apple cheaper by buying it directly in the market.

On the other hand, if SINOTOP is trading above SINOTOP AFTER – 0.20, we say it is trading at a premium, because this apple is now more expensive than the market price.

“Usually”, we seldom see behavior like SINOTOP where there is a significant difference between the rights price and the market price (a big discount in this case). Usually they are almost the same, either slight discount or slight premium.

Uninformed investor who sell SINOTOP-OR is understandable because rights shares have short life, usually a week (geek call it the ‘expiry date’). After this date, your rights is worthless and you can no longer sell it in the market, the only thing you can do is exercise it at the strike price and get new shares. So the only reason you want to hold rights shares is to exercise it. To exercise it, you need to take fresh money out from your wallet. So if an existing shareholders who doesn’t plan to exercise the rights or have no money to exercise the rights, he will have to sell the rights shares before it expires to get some money. Or else, he will get nothing after they expire!

And since SINOTOP is issuing a massive 10 rights share for 1 existing shares, existing investors suddenly have 10 rights share, they either have to come up with the 10 rights share money or they will have no choice but to dump it at the open market. And they can only sell within a week! Lots of supply in a short period of time, but no demand.

That’s why next time if you encounter such scenario where one of your stock holdings is issuing massive rights and you still want to own this stock, sell some of it before you get the rights to raise your cash and then buy back back again through the rights. Do not plan to sell the rights because many people are trying to do the same and you won’t get good price for your rights!

[Many companies issue rights but usually they don’t issue 10 right for 1. They normally issue say 1 right for 4, or 1 right for 8 so that is acceptable and it won’t create too much sell supply to the rights shares, like BSTEAD and AXIATA previously]

What went wrong with SINOTOP is still unknown, and why got sohai buying up at the market is also unknown! Because I have shown you, it didn’t make sense to buy at market price and sell the rights! Instead you should do the other way, sell at market price and buy the rights!

If you do not have the 2 formulas in hand, you can’t compare the differences BEFORE and AFTER and so you won’t be able to know how much the market price of SINOTOP has shot up since the rights issue. Let’s derived the 2 formulas.

Market Price before rights issue = Market Price after rights issue + ( Ratio x  Rights Price )

The Ratio is 10:1 so is 10. The Rights Price has been derived earlier. Replacing the ratio and rights price, we get



SINOTOP BEFORE = 11 SINOTOP AFTER – RM2.00 … formula (1) to convert the AFTER price to BEFORE price equivalent for comparison.

By reversing the formula, we get

SINOTOP AFTER = ( SINOTOP BEFORE + RM2.00 ) / 11 … formula (2) to convert the BEFORE price to AFTER price equivalent for comparison.

Actually they are the same formula, depending on whether you want to convert km to miles or convert miles to km.

Since the right will expire very soon (in a week) and cease to exist, so this 2 formulas are more important than the rights formula earlier. The rights will be RM0 after it expires.

To make sense of SINOTOP, just the day before the right issue, it was traded around RM1.60. Just a day after the right issue, it was around RM0.40. To link this 2 numbers together, you can either convert the BEFORE price to AFTER or the AFTER price to before. You can use either formula.

If it is RM0.40 AFTER, what it is the equivalent BEFORE?


  = 11 x RM0.40 – RM2

  = RM2.40

That means SINOTOP has ‘technically’ shot up from RM1.60 to $2.40 in terms of BEFORE price, a 50% raise in high volume in 1 day!

4 days later, the AFTER price shoot up to RM0.65. Converting it to BEFORE price, it would be RM5.15!!! 220% gain from RM1.60 in 4 days after the rights issue. No wonder BURSA is issuing them questioning letter. But the directors responded in the same way, “we are not aware of anything.”

This is more mysterious when you take into consideration that just 1 month earlier, the BEFORE price is only RM0.85. An increase from RM0.85 to RM5.15 in 1 month is 500%!

And even MORE mysterious is that there are rights shares pending that sell for only RM0.12 with an issue price of RM0.20! Again who is the sohai who buy SINOTOP at the market but refuse to buy the SINOTOP-OR and exercise it to get SINOTOP shares for 50% discount to market price?

It is possible that I did the wrong calculation above, if you spot any mistakes, please let me know as I am eager to find out too.

To make more sense, let’s get back to basic formula that normal investor can understand easier.

A BEFORE investor who buy at BEFORE price will now be holding the same stock at AFTER price + 10 rights shares. This is our basic formula.

Market Price before rights issue = Market Price after rights issue + ( Ratio x  Rights Price )


The investor might be thinking that since BEFORE the rights, it is at RM1.60, and AFTER the right, it is RM0.65, so they estimate that the “right” rights price should be


That way they get the rights price at (RM1.60 – RM0.65)/10 = RM0.095. If they are able to sell their rights shares above RM0.095, they are still much richer than before by holding the “inflated” RM0.65 SINOTOP shares.

But I don’t think they should be too happy because the pricing of SINOTOP after right issue is far way off from logic. As I have shown you, RM0.65 means an equivalent of RM5.15 for the BEFORE price! A jump of 220% in 4 days! Unless you have unloaded everything (both the shares and the rights), you are “richer” because you are relying on the inflated SINOTOP share price.

Problem #1 – SINOTOP price is highly inflated. It jumped 220% in 4 days.

Problem #2 – 50% mispricing between SINOTOP and SINOTOP-OR. Buying SINOTOP-OR to get SINOTOP is 50% cheaper than buying SINOTOP at market. But they are the same apple!

Let’s turn the mirror and use formula (2) to compare in AFTER price.

SINOTOP AFTER= [ SINOTOP BEFORE + RM2.00 ] / 11 … formula (2)

Before the rights issue, SINOTOP is trading at around RM1.60. So technically, SINOTOP AFTER should be worth RM0.33 after the right issue if it is equivalent to RM1.60. But it is RM0.65 now! Almost 100% jump in 4 days.

The pricing of the right is about “right” right now [sorry for using 3 right words in 1 sentence].

Because if you get the right at RM0.12, and exercise to get the stock at RM0.20, your total cost would be RM0.32, almost equivalent to the RM1.60 price before the right issue. So now we know getting the shares through the rights “right” now is almost the same as buying it at RM1.60 before the right issue.

And since one month ago it is traded at only around RM0.85, the equivalent AFTER price would be only (RM0.85 + RM2.00) / 11 = RM0.25!!!

I also think formula (2) is a better metric to use than formula (1) because it can explain in this way – If you have bought the SINOTOP shares before the right issue and you exercise all your rights, what is your average cost for your SINOTOP shares? If you bought it at RM1.60, and exercise all shares at RM2.00, you got 11 shares in return. So averaged cost is RM0.33, which is formula (2). Selling it later at RM0.65 gives you a profit of almost 100% based on your cost.

Formula (2) is also the formula to adjust historical pricing in stocks charts before the rights issue.

So if you are a SINOTOP shareholders or plan to buy SINOTOP, it is your homework to know if SINOTOP is really worth RM1.60 BEFORE the rights issue (which is equivalent to your cost of RM0.32 right now if you buy through rights). If it is not worth RM0.32 right now, it is definitely not worth RM0.65.

The market price now is inflated to RM0.65, if you are buying the rights to get the shares, do you think the stock price will still be RM0.65 after you get the shares (around 1 month)? If yes, you will make a 100% profit! You will be profitable as long as it is above RM0.32. But really got naked woman walking on the street? Some nude beach got but is this the rare nude beach?

I got itchy and bought a little bit of SINOTOP-OR before I do any homework (bad role model). I do so to motivate me to work out the numbers (lame excuse) and now I have to admit that I wish I have not bought any. I either have to sell it at a loss tomorrow or work out the real fundamentals numbers of Be Tops before I decide if I want to go ahead and exercise the rights.

Ahhh, pain in the ass. If you know anything about SINOTOP or saw any mistakes I made in the calculation, please write a comment below. Thank you.

p/s Why using formula (1) gives us 220% gain while formula (2) is only 100%? This is because when we compare in BEFORE price, the new rights shares haven’t exist and we need to deduct the cost out from it ($2). So the % gain is based only on initial cost buying the pre-right shares only (without including the new cost to buy the new shares). On the other hand, formula (2) which is more realistic, averaging the gain with all shares and cost. I have to admit, I am confused myself. :)

If an investor bought RM10,000 of shares before the rights issue at RM1.60, he got 6,250 shares. After the right issue, he will get 62,500 right shares and if he exercised them all at RM0.20, he will need another RM12,500, making his total investment RM22,500 and he will now have a total shares of 68,750. If the stock is selling at RM0.65 today, his whole investment will be worth 68,750 x RM0.65 = RM44,687, which is almost 100% gain. Which is formula (2).

On the other hand, if we use the “unrealistic” formula (1), we need to get back to the time where there is no rights issue. So although the whole investment is worth RM44,687, we need to deduct the investment cost of RM12,500 to it, and get RM32,187. That will be a gain of 220% comparing to the cost of RM10,000. We have assume 0% gain from the shares obtained from the rights shares and attribute all profits to the pre-rights shares. Not an accurate representation.

This blog doesn’t make a single cent and will not make any in the future. Then what is the purpose of setting up this blog? To practice my English writing skill for my triple-one-nine English test? No! It is a blog to show you other ways to look at things. Everything can be seen from at least 2 sides. Everything will have at least 2 stories told by 2 parties involved.

Car A hit Car B, driver A will have different story than driver B. I am here to give you more perspectives. These are not “right” or “wrong” perspectives. They are just “another” perspectives, because I believe if you can see things more ways, you can make better judgments and decisions. And at the end, the more you see, the more you know “you don’t know” and you will be more humble.

Tan Teng Boo responded to the i Capital International Value Fund and i Capital Global Fund performance fee issue that I brought out earlier in his newsletter on 11/06/2010 under “KLSE Conclusion and Recommendation”. Here are the quotes and my respond. All bold are bolded by me for highlight purpose.

To earn the performance fee, Capital Dynamics must surpass the highest and the most difficult hurdle rates and high water mark anywhere in the world. Our unique fee structure is rather complicated (as a result, some investors are confused by it) but it is easily the fairest to clients and the toughest to meet. As our managing director has explained before, if Warren Buffett knew about our performance fee structure, he would immediately pass his funds to us to manage.

So it is now OK for value investor to invest in investments that is complicated and that we don’t understand? Remember the subprime mortgage investments that brought the last financial crisis? They are complicated enough.

If it is complicated, either explain it until we are not confuse, or make it simpler. “Just trust me and I will do the ‘best’ for you” is not an investing method. And the last sentence that quote Warren Buffet (and all other uncountable incidents) is what I mean by his “character” and “ego” that you need to watch carefully. If Ah Beng charges Warren Buffett only 0.0002% performance fee, Warren Buffett will be very happy and send him 30 billion to manage.

As a fund manager, Capital Dynamics must deliver net returns of 6% on (1) a single year and (2) on a compound bases. While many fund managers do not bother to even have a single hurdle rate and still charge performance fee, for Capital Dynamics and i Capital, there are ACTUALLY two hurdle rates to surpass in any single year. And of the 2 hurdle rates, one is actually on a COMPOUNDED basis (any investor who knows how tough it is to compound 6% per annum PERPETUALLY would know how tough this hurdle is).

No one challenge on this. This is true, correct and absolutely right. We are not trying to bring out this issue. We are trying to bring out an issue that most investors would have missed, a loop hole, a flaw, where if the fund NAV goes up and down a lot, the fund manager will be able to charge performance fee on “non performance”. If you invest at $1,000 the first year and it drops to $600 the second year, then rise back up to $1,400 the third year, the fund manager will charge you performance fee based on the profit from $600, not your initial investment of $1,000!

Again the metaphor is, if there is a mechanic and you send your car to repair, he can poke all your 4 tires and charge you for repairing it. And he can do it again and again. Poke it, fix it, charge you, poke it, fix it, charge you … as long as he is able to meet the 2 hurdles mentioned above. A long posts has been written on it and will not be repeated here. Read Tan Teng Boo’s i Capital International Value Fund and Global Fund and ALL comments in that post.

In this Star article, Up Close and Personal with Tan Teng Boo, he is quoted saying, “I’m pretty damn good at what I do. I would say I am one of the top five fund managers in the world. It is a pity that people don’t really recognize that.” If the top 5 fund managers in the world can only compound at 6%, everyone should just put their money in the fixed deposit, or better yet, AXREIT. And I doubt Warren Buffett want to pay 20% performance fee on 6% compounded return.

Again, some supposedly smart investors do not even know that our 6% compound hurdle rate is a high water mark and that it is the toughest high water mark anywhere in the world. Why ? For the simple reason that this high water mark is rising at 6% (net of all expenses) perpetually, even on Sundays and public holidays !! Can you get rich with 6% compounding ? You bet. Even Warren Buffett imposes a 6% hurdle rate. Any investor who scoffs at 6% compounding is either a dangerous gambler or a conman.

Warren Buffet imposed a 6% hurdle rate with his early partnership. He also imposed a high water mark where performance fee will not be charged again on the portion where it has been charged before. On the other hand, Capital Dynamics can double or even triple charge performance fee depending on how volatile the NAV is. So it is not apple to apple comparison.

Scoff = Laugh at, Tease at (I have to Google this word! I am certainly not a “smart” investor.) Again, top 5 fund manager in the world, 6% compounded return? Gurufocus.com has tons of gurus that can do that and certainly all of them cannot be in the top 5 of the world. Even an unmanaged index fund can easily do that. Who is “scoffing”? Who is the gambler? Who is the conman?

A high water mark is supposed to protect investor capital, means locking it, out of touch for performance fee, and yet, this look-real-look-fake illusive “high water mark” is doing 50% of the job. Once it qualify for performance fee, it won’t be used to calculate the profit, instead, last year NAV will be used. If last year NAV sucks a lot, large portion of the fund will be subject to performance fee. Again, read the old post, and look at how 2009 performance fee is calculated. The exact issue is that the “high” water mark is not doing a complete job. It is not protecting the initial capital and the portion that has been charged a fee before. REPEAT! The main issue we are talking all the time is – It is not protecting the initial capital and the portion that has been charged a fee before.

The 2 hurdle rates of 6% on a single year and compound bases are so tough to meet that if our fund’s net asset value mirrored the Dow Jones Industrial Average from 1926 to 2009, Capital Dynamics would have earned a performance fee in only 2 years of out of a total 84 years. In 1926, the Dow Jones Industrial Average was trading at 157.20 points and by 2009, it was trading at 10,067.33 points. The typical fund managers, assuming they have a simple 6% annual hurdle rate to surpass, would have earned a performance fee in 24 years out of the 84 years.

If we need to invest in Dow Jones Industrial Average, we can buy the ETF or similar mutual funds that charge very negligible fees. But I don’t think the “Top 5 Fund Manager” in the world should compare himself to an unmanaged index, especially where investor need to pay performance fee for him to perform. And again, the issue is double charging (or triple charging) of performance fee, investors are very happy to pay performance fee if the fund is really performing. But we are not happy when someone dig a hole himself, climb back up and brag about it.

Also, showing this statistics is a double sided sword. I would like to ask the fund manager this question – For “typical fund managers” who earned 24 years performance fee out of 84 years, how many of them actually beat the market, i.e. the Dow Jones Industrial Average?!!! You will be shock that almost all funds can’t beat the market and so paying them 24 years performance fee is “overvalued”.

The performance fee structure of Capital Dynamics and i Capital is based on achieving long-term investment objectives. As our managing director explained in the recent i Capital Global Fund 2010 Gathering, we would be able to earn a massively huge amount of performance fees if we instead listened to the suggestion of some investors and change our performance fee structure accordingly.

Surprise! Surprise! This paragraph and the next few paragraphs are missing in the online version, it is only in the printed version. Did they regret writing it and remove it later? Because this is the juice of the post!

The new “suggested” performance fee structure is not explained here, so we don’t know what is it, set a real high water mark but change the performance fee from 20% to 50%? We don’t know. But what I don’t understand is, which investor in the world will suggest his fund manager a new performance fee structure so the fund manager can earn massively huge amount of performance fee from him?!! What logical sense is that?

In fact, in the dinner Gathering, he actually offered to amend the current performance fee structure based on the suggestion of some investors. Of course, his suggestion was flatly rejected.

This is the kicker. If “some investors” make a suggestion, how could it be able that the suggestion is “flatly” rejected? Then who suggest at the first place? And what is their suggestions? Who on earth will reject a proposal to increase their investment return, i.e. reducing the performance fee or setting a “real” high water mark? Or is it because only 2 people attended the Gathering? More clarification required.

Any investor whose investment horizon is only 6 or 12 or even 24 months would never understand our very unique and demanding performance fee structure and how fair it is to clients.

The fund is 35 months now, not 6 or 12 or even 24. The truth on what has happened is everything we need here. After a “short term” of 35 months, the Global Fund NAV is $1,019.62. A return of 1.962% for early investor. On the other hand, the fund manager has charged more than 15% fee to the early investor. A profit sharing of 12% (investor) to 88% (fund manager) while the investor bear all the risk since they are the one putting out the capital.

The way our performance fee is structured goes far beyond what is normally understood as putting investors interests as the number one priority. Clients pay $1.00 and get many dollars back in return.

Client pay $1.00 and get 1.9 cent back, not many dollars, not even many cents (in 35 months!). Fund manager get at least 15 cents. This is not a subprime investment, or options or futures. This is supposedly a “can sleep soundly” investment as the fund manager “promised”. And to sleep soundly, investor need to know exactly how performance fee is charged. Chinese saying, “Protect your house day time, protect your house night time, at the end you still can’t protect your house if one of your family member is the ‘thieve’”. [日防夜防,家贼难防] If it cannot be “normally understood” this is not a “can sleep soundly” investment.

As we wrote at the beginning of this article, under our fund management services, we only accept clients that understand and share our Intelligently Eclectic Value Investing philosophy and to Capital Dynamics and i Capital, integrity is of vital importance.

Integrity … lol. “Talk” integrity and “Do” integrity are 2 different thing. At the end, it is what you do that counts, disregard to how well is your speech. To demonstrate the real integrity, let’s see what Mohnish Pabrai is telling his investors.

All three funds are below their historic NAVs and hence no fees were earned by any of the funds for the quarter. My immediate family has a stake of 455,562 units of PIF2; 8417 units of PIF3; 1,224,824 units of PIF4 and about 25,000 units of PIF4 in a retirement account. This stake is worth about $42 Million.

Besides the  previously disclosed  stake  and small investment in Dardashti Capital  (worth about $1.3 Million), my family has no interests in any other mutual funds, hedge funds or private equity funds.  I have a deep vested interest in the future performance of Pabrai Funds.

Pabrai Funds charges no management fee, just performance fees  – which are ¼ of the returns over 6% annualized (subject to high-water marks). I only get paid when you make money. When you win, I win. Our interests are completely aligned. I am very bullish on the long-term future of Pabrai Funds – as demonstrated by my being the single largest investor in the funds. Investors who add funds when we are below the high-water mark (like now), get a free ride (no fees) until we’re back at the high water mark plus 6% annualized from that date. It is a great deal.

i Capital Global Fund and i Capital Value fund charge 1.5% management fee no matter they make money for you or not. Pabrai charges no management fee.  Pabrai charges 25% performance fee instead of 20% but it is subjected to high water marks which means unless it beats previous high, he can’t charge any fee. Maybe in the next iCapital newsletter, Mr Tan will compare himself to Mr Pabrai. :)

International Value Fund 2009 NAV is $1.0112. If it shoot up to $1.50 this year (2010), he will charge fat performance fee ($0.079). Then if it drops back to $1.00 next year (2011). No performance fee. And the 3rd year, if it ends up at $1.30 (2012), significantly below previous high of $1.50, he can still charge you fat performance fee because it is above 6% from $1 (first hurdle) and 6% compounded for 3.5 years which is $1.226 (second hurdle).

How much is the performance fee? 20% of ($1.30 – $1.06) = $0.048! $1.06 (6% above 2011 NAV) is used when calculating how much is charged, not $1.226! The NAV after fee will become $1.252. Remember the ending NAV is all you have got no matter how high it has hit before. Although the fund has hit $1.50 before, it is only “paper” and “historical”. You got your 25 cents profit while the fund manager has charged twice fat performance fee in year 2010 (7.9 cents) and 2011 (4.8 cents). This is how his performance fee is structured.

The more long term you are, the more chance you will encounter it. No underperformance fee is charged when the fund drop from $1.50 to $1.00. No allowance for you to buy sleeping pills on your sleepless night too when you see your “paper profit” evaporate when the fund drop from $1.50 to $1.00 [While the fund manager has pocketed 7.9 cents earlier and sleep soundly].

The missing paragraphs in the online edition ends here. The following appear both online and paper. Probably they will add back the missing part after they read my post. :)

Given the turbulent economic and market conditions, how should subscribers position themselves ? Being a value investor helps. Value investing allows one to turn turbulence and volatility into opportunities. For investors, the i Capital International Value Fund is an obvious choice. The Australian Dollar has dropped against the Ringgit. Its NAV has fallen. Essentially, one gets a double discount.

Being a value investor indeed can turn turbulence and volatility into opportunities, but only with the correct performance fee! If a performance fee can be charged again and again by running around the field (you run 10 loops you are still standing on the same spot), then it is the fund manager that turns the turbulence and volatility into their opportunities. The fund manager wins, you lose.

And why the fund manager choose to promote his International Value Fund instead of ICAP which is more of a bargain? Because ICAP is a closed-end-fund so doesn’t need new customers/investors?  Because ICAP doesn’t charge any performance fee and so they are not interested in promoting “low margin” product?

If you are an investor, Tan Teng Boo is showing half of the picture to you, I am trying to show you the other half. I am not here to debate right or wrong, I just want you to see the whole picture. I didn’t charge you blogging fee and performance fee! :)

p/s I want to thank bullbear for writing the article on i Capital Global Fund and Value Fund Performance Fee.

Some other good reading (surprise!)


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