Business

Monday August 11, 2008

Commodity crunch


Observers believe the prices of oil and other commodities would climb again after this phase of correction

THE “correction” in the prices of commodities continued last week as pension funds and speculators sold off, with some of the agile later turning to short-selling positions.

George Soros short-sold crude oil futures at US$137 a barrel, Forbes magazine reported last month. With oil below US$120 on Friday, he would be deep in profits considering the scale and leverage that he usually deploys.

The wide swathe of commodities, from metals to agricultural, declined to price levels last seen months ago.

The adverse event for Malaysia, however, would be that crude palm oil futures would probably drop further today.

While consumers and manufacturers welcome the drop of oil and other commodities, most experts believe prices would remain at levels higher than those of two or more years ago. Oil, for instance, is not expected to fall far below US$100.

The “peak oil” theory still holds, which retains the view that the supply of oil is not being increased but demand in the emerging economies would continue to increase.

Many observers believe the prices of oil and other commodities would climb again after this phase of correction.

As Jim Rogers, who famously forecast in 1999 a bull market for commodities, put it, this was a secular bull market and that had historically lasted 15 to 23 years. The commodity boom would not end till 2014 or 2022, although there would be corrections along the way, he said.

Jeremy Grantham, well-known in the US as manager of a huge fund, said in a letter to clients, entitled “Entering the Age of Limitations,” that the finite, irreplaceable commodities will rise in prices in the long run due to the increasing population especially in Asia where there is profligacy in consumption.

This is no time, therefore, for countries or companies to expect that volatility or high commodities prices are going to go below the horizon.

It is necessary for Malaysia to implement a policy such that the economy will become more energy-efficient like Europe and Japan.

Specifically, the country needs to invest in a more comprehensive network of public transport. This has been mentioned on several occasions, especially each time when the petrol price was increased. This time, we need to see its implementation.

Companies will find relief in raw material prices that have come off from record levels. This is a break in the clouds but the skies are still grey.

The credit crunch persists, with Daewoo Shipbuilding reporting early this month that a German customer cancelled an order for eight ships while a European customer of Hyundai Mipo cancelled an order for eight bulk carriers. Industry analysts said shipping companies found difficulty in obtaining financing for their new orders.

In addition, the financial systems in the US and Europe are still grappling with the housing slump.

Companies and economists here are closely watching the economic slowdown in the developed countries to gauge the degree of deceleration, and its impact on their imports.

Biggest car company

Government-owned Perusahaan Otomobil Kedua Sdn Bhd (Perodua) and Proton Holdings Bhd led the industry again in the latest data of motor vehicle sales for the first half of the year when sales rallied.

A ranking by number of units sold is still the norm for the industry. It would also be appropriate to rank them by revenue, which would make sweeping changes in the rankings.

UMW Toyota Motor Sdn Bhd would be the biggest and most profitable motor group. The company is 51%-owned by UMW Holdings Bhd which reported that its Toyota division registered revenue of over RM2.4bil in the first quarter (Q1) this year.

Toyota reported sales of 24,187 vehicles in Q1 which works out to an average price of about RM100,000 per car. That explains why it's the biggest car company by revenue – it has a relatively high average car price.

In contrast, the average car price of Perodua and Proton is much lower.

Hence, Proton reported sales of 34,534 units in Q1 – more than Toyota – but its revenue was less, at RM1.7bil. That works out to an average car price of about RM49,000 each.

In sharper contrast, UMW reported an operating profit of RM208mil in Q1 from its Toyota division while Proton registered an operating profit of RM189mil which included an R&D grant of RM194mil from the Government; excluding that grant, Proton incurred a loss of RM4.8mil. Proton could be back in the black in the June quarter.

Perodua has been profitable. The latest indication of this was MBM Resources Bhd's report last week that its 23.6% stake in Perodua contributed a pre-tax profit of RM18.5mil.

The earnings of Tan Chong Motor Holdings Bhd were around the same level as Perodua's. Tan Chong, the Nissan distributor, made an operating profit of RM69mil in Q1.

Toyota is expected to remain the biggest car company by revenue and earnings in Malaysia, given the continuing popularity of its models such as the Camry, Altis, Vios, Rush, Innova and Avanza, and their premium prices.

Successful buy-back

In a stock market of depressed valuations, privately owned businesses receive higher valuations than public listed companies (PLCs).

This has turned the tables on PLCs that historically commanded a premium over that of unlisted companies.

This state of affairs may have led the Wong family, who sold their company, Seremban Engineering Sdn Bhd at a price/earnings ratio of seven times to Success Transformer Corp Bhd, to buy into the latter that is valued at a PE of about five times.

WTech Holdings Sdn Bhd, which is understood to be the Wong family's company, recently bought 6.0 million shares, a stake of 5.01% in Success.

On Friday, WTech told Bursa Malaysia it bought an additional 115,500 Success shares last week.

The Wong family had sold 60% of Seremban Engineering to Success for RM14.6mil cash, which valued the company at a PE of 4.5 times its guaranteed profit of RM5.4mil last year.

The family sold the rest of 40% of Seremban Engineering to Success for RM21.8mil cash, a PE of 7.2 times of the higher guaranteed profit of RM7.5mil for this year. With Success trading below that valuation, it made sense for the family to buy back an interest in their business in the enlarged Success.

In time, when confidence and investors flock back to the stock market, relative valuations would return to the norm for a premium in listed companies.


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