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Sunday, May 13, 2007

HLG @ 0.39 ( Hotels / Singapore ) 0 comments

Final Poll Results: 16:6

(P.S: Sorry for any disturbances the advertisements above may have caused you)

Main issues

1. Still loss-making ex-non-recurring items

2. Should be worth less compared with last peak cycle

3. A greater fool game

In the current red-hot penny stock-dominated market, anything goes. Cheap sub-10 cent stocks are "potential pickings for RTO plays". If they remain cheap, punters will see them as bargains. If they surge up, it is the market "signalling" that business restructuring/acquisitions are in place and hence these are also punt-worthy. What a win-win situation.

HLG was previously known as LKN-Primefield, with operations running from property development to construction to operations of hotels and restaurants to even computer distribution; it is the hotel operations that is the group's main business nowadays. The group was badly hit by the Asian flu in 1997-98 when they lost over $100M over the two years. It remained in the red all the way up to FY04, losing an average of ~20M every year due to high debt servicing and depreciation, and only stopped bleeding red ink from FY05 onwards on the back of an "asset rationalisation" program ie. asset divestments (not that it had not been selling off assets in earlier years ---- it had been doing so as well, albeit in a considerably weaker market).

From my point of view, the current valuation of HLG is one of the most glaring examples of over-valuation in a bull market. If one looks at the previous two FYs (FY06 and FY05) where HLG/LKN had supposedly turned around, and strip away non-recurring gains (asset disposal gains in both years and substantial exchange gains in FY05) the group was actually still loss-making in its business --- comprising hotel operations in Shanghai, Qingdao, Cameron Highlands, Singapore (since sold off), and service apartments in China.

If the value is not in the future earnings (based on track record), then surely it's in the assets? Judging from the gains made in disposal of LKN Building and Tristar Hotel (both in Singapore) these two years, there is indeed some value to be unlocked. The books indicate negative NTA, but the assets might be worth more on liquidation. How do we value them?

Perhaps we can do a short-cut method and compare current market valuation of the group to the last up-cycle before all the financial trouble set in for LKN. In 1997 LKN was trading at $1.50 with 147M outstanding shares, equating to a market cap of $220M. Fast forward to May 2007, and with 853M shares in issue (due to bank debt and bond conversion to equity) HLG is trading at $0.39 or $330M total market cap. If we take the 1997 pre-crisis market cap as the upper limit of what the market considered LKN's assets to be worth (remember, the sentiment on emerging economies then was equally sanguine), then current value of HLG is definitely overvalued. The present assets held under HLG are but a subset of what LKN had during 1997. Since 1997, HLG has sold, among others, its Equatorial hotel, LKN-Prinsep House and its Jurong East HQ building in Singapore, a 25% stake in Shanghai's Pidemco Tower (probably would have been worth a lot today), its Suzhou property development company, plus the abovementioned recent sales of LKN Building and Tristar Inn. And it is under considerably more financial risk today, even after all the debt-to-equity conversions, given that its capital structure is horrible: it still owes $170M in long-term loans with zero equity backing. Bottomline is: only value subtractions from its 1997 business operations.

So why the charge up from sub-10 cents to nearly 40 cents recently? Rumours swirl around talking of M&A plans. As I said earlier, rationalisations of value abound in a bull market: the stock surges up and everybody assumes there must be an underlying reason and hence the price movement itself justifies its own celestial orbit. Forget about the price movement. Some might remember that Hong Leong Asia's recent attempted takeover of LKN via their vehicle Grace Star, at an opportunistic 2 cents per share, was knocked back; by then they had accummulated 45% of HLG after conversion of their substantial holdings of HLG's convertible bonds. What might they do after failing to take control? Buying up at substantially elevated market prices? Also remember the debt restructuring several years back that left the three local banks --- DBS, UOB, OCBC --- with tens or even hundreds of millions of the company's shares. What all this means is a substantial share overhang with enormous profits marked at today's market prices, for Hong Leong and the three banks.

A saying comes to mind:
"There is a tide in the affairs of men. Which taken at the flood, leads on to fortune; Omitted, all the voyage of their life Is bound in shallows and in miseries"

We are undoubtedly in the midst of a flood of liquidity at the moment. Who will take the fortune, and who will be bound in miseries? It is not wise to play the greater fool game with such stocks now.

I agree that HLG is a hot-stock-not: Agree/Disagree




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