Further Analysis of Malaysia Smelting Corporation Berhad

The author published the analysis report here is for his own reference only. It is not an indication of the author's business interests for companies being analyzed. It is definitely not an investment advice, please see the full disclaimer located at the bottom of the blog post.

Malaysia Smelting Corporation Berhad's (hereafter called "MSC") principal activities including the smelting of tin concentrates and tin bearing materials, the production of various grades of refined tin metal under the MSC brand name and the sales and delivery of refined tin metal and by-products.This analysis report is continuation of previous blog post titled "Malaysia Smelting Corporation vs. Perusahaan Sadur Timah Malaysia (PERSTIMA)". Let's start looking into detail of the company.

Company Events
In 2007, MSC adopted the following diversification plans:

• In March 2007, a wholly-owned subsidiary PT MSC Indonesia, acquired a 60% equity interest in PT Tenaga Anugerah for a total cash consideration of RM411,000 (USD120,000). The intended principal activity of the newly acquired subsidiary is to carry on offshore mining operations in Indonesia. Incurred RM123,000 loss for the year.
• On 18 September 2007, the Company entered into an Underwriting Agreement with its associate, Australia Oriental Minerals NL (AOM) relating to its renounceable rights issue exercise. Upon completion of the exercise in October 2007, the Company had subscribed for a total of 226,863,490 new shares amounting to approximately RM5.5 million (AUD 1.8 million) and the Company's direct shareholding in AOM has increased from 39.45% to 49.11%. Profit for the year RM1,846,000; Loss in 2006 RM2,296,000.
• The Group has a 40% equity interest in Redring Solder (M) Sdn Bhd. Redring Solder's principal activities are the manufacture and sale of both the tin lead and lead free solder products for jointing and semi-conductor applications in the electrical and electronic industries.
• In October 2007, MSC entered into a joint venture agreement with Guangxi Guilin Jinwei Realty Co. Ltd and Vertex Metals incorporation of Taiwan to enable it to own and operate a tin smelting plant in the Guangxi province. The Company's stake in this joint venture is 40%. The smelting plant is located in Linqui, Guangxi and is expected to have a targeted annual production capacity of 10,000 tonnes of refined tin and tin based products, including tin chemicals and is projected to commence operations in the second quarter of 2008.
• In December 2007, MSC acquired a strategic interest in a nickel development project in Vietnam through the subscription of 12.8% shares in the Canadian listed Asian Mineral Resources Limited (AMR) with provision to increase is shareholding further up to 18.96%. AMR's nickel project offers high grade massive sulphide nickel deposit which is being developed to become low cost nickel producer with a short lead time to production and is expected to commence in early 2009.
• In March 2008, MSC chalked up another historic milestone following its strategic entry into the gold sector with the acquisition of 18.9% interest in Beaconsfield Gold NL, a company listed on the Australian Securities Exchange. Beaconsfield is a mid-tier gold producer operating a high grade underground gold mine in Tasmania, Australia.

(All items above are taken from MSC's 2007 Annual Report)

• In April 2008, the Group proposed acquisition of a 30% interest in a high grade polymetallic copper, gold, zinc and silver project in the Philippines at an estimated cost of approximately USD18.9 million pursuant to a strategic alliance agreement with LG International Corp and Korea Resources Corporation.
• In July 2008 the Company, jointly with its 42.7% Australian listed associated
  company, Australia Oriental Minerals NL (AOM) announced the acquisition
  of a strategic 30% interest by the Company and AOM respectively in a coal
  development project in Kalimantan, Indonesia for a cash consideration of
  USD6.75 million for the 30% equity interest each. The capital required for
  this coal project was originally planned to be financed from the proposed
  rights issue. With the deferment of the proposed capital raising the Company
  and AOM will limit the investment at the existing level.
• In July to August 2008, MSC subscribed for 7 million right issue shares and underwrote another 13 million shares to increase its shareholding to 90 million shares, representing 22.48% of the enlarged paid up capital of BCD.
  

(All items above are taken from MSC's 2008 Annual Report)

Let's look at the effect of the diversification plans to the bottom line of the company in recent years:

Oops! The diversification plans drag the company's bottom line down to the bloody red in 2008 and 2010, and barely profitable in 2009. What happened in these years and what's wrong with the diversification strategy? Please see the following items:

• The Group incurred a pre-tax loss of RM28.16 million for the financial year 2008 compared with a pre-tax profit of RM120.99 million in 2007 mainly due to
  the RM55.29 million unusual charges (impairment charge and write-offs of its mining assets and its exploration and development expenses.) and RM28.98 million exchange loss.
  
• Development and construction of high grade nickel sulphide project in Vietnam by the Group's 18.20% Canadian listed associate, Asian Mineral Resources Limited was suspended in October 2008 due to the downturn in nickel prices and consequently certain losses were equity accounted in the Group's results for the year.
  
• At the Group's 22.48% listed gold associate in Australia, Beaconsfield Gold NL, development and turn-around expenses written down in 2008 further affected the Group's overall results for the year. Beaconsfield managed to achieve a successful turnaround and returned positive results in January 2009.

(All items above are taken from MSC's 2008 Annual Report)

• Consequent upon a decision made in 2009 to reposition the Group to focus on its original core business of tin, MSC has initiated a programme to divest some of the Group's non-tin investments and assets.The Group's non-tin investments comprise 22.12% interest in a listed gold and copper associate in Australia, BCD Resources NL; a 18.22% interest in a Canadian listed nickel associate, Asian Mineral Resources Limited; a 30% interest in a polymetallic mine (producing copper, zinc, gold and silver in concentrates) in the Philippines; a 76.91% Australian listed subsidiary, Australia Oriental Minerals NL (AOM); and a 53% effective interest in a coal development project in Indonesia.
• PT MSC Indonesia and the Company's 40% associate, PT Tenaga Anugerah, commenced tin mining operations during the second half of the year, with one gravel pump mine operating in Bangka Island and three cutter-suction dredges for offshore operations. The Group expects to commence generating positive results from these operations in the first half of 2010.
• The Company's joint-venture company named Guilin Hinwei Tin Co. Ltd for smelting and refining of tin, and the production and sale of tin and tin-based products in the People's Republic of China has not made much progress as GGJR has not been able to fulfill certain obligations within the specific time frame.
  

(All items above are taken from MSC's 2009 Annual Report)

• Rationalisation efforts were undertaken in respect of the Group's other tin interests held through its subsidiary, PT MSC, which is developing on-shore tin operations in Indonesia, and its 18.54% interest investment in TMR Ltd/PT Tenaga Anugerah (PT TA) which undertakes off-shore tin mining operations in Indonesia. These investments are expected to generate positive results in 2011.
• The divestment of the Group's interest in BCD was completed and the Group ceased to be a shareholder.
• AMR has been actively pursuing equity and debt funding to complete the nickel mine development project in Vietnam. Pending the conclusion of the proposed fund raising exercise, MSC will continue to evaluate its options on how best to maximize its value by divesting its investment in AMR.
• The agreement for the sale of the coal development project in Indonesia has been executed and the disposal is expected to be completed in the first half of 2011.
• The divestment of the Group's interest in KM Resources Inc may take a bit longer than expected. As a result of rising copper, gold, silver and zinc prices, the valuation of KM Resources Inc has also risen and MSC is seeking to enhance shareholder value by ensuring it sells the project at prices reflecting this increase in value.
  
• After providing for exceptional items totalling RM154.48 million, the Group recorded a loss before tax of RM78.46 million compared with a Group net profit before tax of RM109.84 million in 2009. The exceptional items mainly comprised the loss incurred on the disposal of investments in BCD and impairment provisions on the Group's non-tin assets. The 2009 net profit included a surplus of RM65 million on the valuation of the Group's interest in KM Resources Inc.
• On January 27, 2011, MSC listed in secondary listing on the Singapore Stock Exchange, a total of 25 million new shares was issued, raising the enlarged issued and paid up share capital of MSC to RM100 million, comprising 100 million MSC shares. Total proceeds of approximately SGD43.75 million (equivalent to RM104 million) will be used mainly for development of new mines and the balance for expansion of current operations and general working capital.

(All items above are taken from MSC's 2010 Annual Report)

From all items above, it was clear that the adoption of the diversification plans is a mistake. Fortunately, a decision made by management in 2009 to reposition the Group to focus on its original core business of tin, the Group has initiated a programme to divest the Group's non-tin investments and assets.

It is anticipated that the Group will take at least 5 years from 2009 to complete this divestment plans to unlock the investments and provisions, normalize the level of gearing and better use of capital resources of the company.

Tin Industrial Usages and Applications

Diagram above is taken from London Metal Exchange

For more information, please see Tin's Application and Future Markets for Tin section of MSC's 2010 annual report at page 41 to 44.

Tin Historical and Future Price

Tin price of cash seller and settlement graph above is taken from London Metal Exchange

From the graph above, you can see the current market price of tin is far from the peak of early 2011 and slightly below the peak of mid 2008. In worst time, the tin price can fall down to US$10,000 approximately as it happened in early 2007 and 2009. This indicated fluctuation of tin price is high.

Table above is taken from London Metal Exchange

From the table above, tin futures of 3 months and 15 months traded at price higher than current price (Cash). This is the indication of growth potential of tin's market price.

In conclusion, I think the tin price is in upward trend. Unless the debt crisis of euro zone explode to critical stage in 2012, this trend should be continue.

How Much MSC Worth?
It is challenging to value MSC properly given the Group's bumpy results in recent years. I will attempt to value it using much conservative numbers.

Given the company CAGR of EPS is 12% (approximately 12.09% in the past 5 years) and Dividend Per Share is 10% in the next 10 years, the EPS of the company will be RM$1.118 in 2021 (included adjustment of 2 bad years in 10 which reduce 40% of group's net profit) and the forecast dividends received over the 10 years period totaling RM$2.78 (included adjustment of 2 bad years). Please take note that the 2011 EPS is RM$1.00 (at least 25% discount from expected) and 2011 Dividend is RM$0.30 is used in the calculation.

If the stock price of MSC sell at 5 times earning in 2021, it is RM$5.59 and included total dividends received, it is RM$8.37 per share. Given annual 6% inflation rate in next 10 years, the discounted rate is 0.591898. So, RM$8.37 discounted to today price, it is RM$4.95 per share.

The discounted price is 19% higher than yesterday (27 December 2011) closing price RM$4.01. In my opinion, the stock is in bargain, what do you think?