[Investing] 3 Lessons To Learn from the Hyflux Saga

I first heard of Hyflux in 2006 while still doing my internship in a SME in a similar industry - water treatment, when Hyflux IPO-ed, if my memory does not fail me. It was a reputable company with much potential. Apparently, the MD of the SME was from the same batch/company as Olivia Lum, the CEO of Hyflux, and he was pretty envious of the latter. I suppose it is a thing with bussinessmen,  to bring their businesses to public, or IPO.

I was not too sure about that. I just started to learn to invest then. I knew water was (and still is) an important resource in Singapore, so I reckon anything to do with water treatment should not be too bad a deal. I could not read the financial statement then.

Hyflux opened at S$1.50 on the day its stock debut, if I remember correctly. I could not participate in any of those actions because of the lack of capital and knowledge then, since I was just a student. Even when I started investing in 2009, I never quite considered Hyflux because I thought it was too expensive but I still watch stock once in a while for my interest in water-related stocks.

Fast forward 7 years to 2016, Hyflux introduced a 6% perpertual securities. A friend asked if it was a good deal. 6% is really a good deal, but I think it was too good to be true and did a quick check on the financials. I concluded that Hyflux could not sustain the 6% pay out; it was probably a "stunt" to raise capital. I hoped the friend heeded my suggestion and stayed far far away from the perps.

There are some interesting articles on Hyflux and its recent financial troubles. I shall list some here:

1. Once a star company, Singapore's Hyflux faces major challenges (CNA, May 2018)
2. Hyflux offers up to $300m perpertuals at 6% a year (ST, May 2016)

But what happened? I think it can be summarised as such: Tuaspring, loss, loss, loss and loss. Tuaspring is the second and largest desalination project which Hyflux won the bid in 2011. Today, Hyflux is trying to sell that plant because it is the cause of all the troubles, or so it claimed. I would also attribute it to bad management (I could hear Buffett screaming that too).

What has happened may or may not be important - I am not affected anyway, since I did not buy their stocks, but the lessons we can learn from are valuable. (I am writing this also as an application of what I know and also hope to serve as a reminder to those who are risking their money for a better retirement, etc. Imagine buying Hyflux at $1.20 a piece and see it down to S$0.20 a piece over 4 years.)

Lesson 1 - Profitability is always the First, with Consistency as its Prefix 

As a stock investor, profitability of a company is a must, and it must be consistent. By consistent, I mean that revenues and profitability must grow in most years over a long period (at leat 5 years). It is ok to have a small dip in one of the years, as long as the company is profitable (not making a loss). I do not consider any company further if I see more red or bracketed numbers in the net income. 

For the case of Hyflux, profitability has always been a challenge it has yet to overcome. Referring to the Income Statement from SGX for 2014 to March 2018, Hyflux profit has been flat, except for 2016 there was a 100% increase, then it started to go negative in Year 2017. EBITDA is negative for 3 out of the 5 periods. EPS too. 

Lesson 2 - Costs will erode any good performance

Costs thin profit margins, and hence minimize profitability. Controlling costs is probably the easiest way to improve profitability. It is also a measure of the management's competency and efficiency. Read the annual report and see if anything is being done to keep costs in check at least. High costs is always a red flag that should be scrutnised. 

Hyflux is considered a high tech company and there I will not be surprise if its operating costs was high. The next question is: did the management do anything about it? I did not investigate further because I think I made my point for Lesson 2.

Lesson 3 - Debt is like a cancer 

As long as cash is not generated from the business operations, I would consider a debt. Money borrowed from banks = debt. Money raised from IPO, stock issuance and whatever = debt. Accounts Receivable = debt, since money is not "generated" into the companies account yet. It is a gross over generalisation from the conventional debt = banks, equity = shares, and the definition of liability. But I personally find defining debt my way is easier to assess the financial health of the company. 

Some extent of debt is healthy. It helps with business operations and also cashflow. But when the company's operation is nto earning enough to service the debt, that is where it runs into trouble. It means the business model has a problem, it could be a cost or efficiency issue, or it could be that the business is not profitable to begin with (quite true for all the start-ups scene that pop up recently). It may also have issues with claiming money, or the companies that they have receivables with also run into financial problems (remember Keppel?). Or if they overextend their dividend payout (consider a company with a dividend payout ratio of more than 100% every year; it will run out of juice really fast). 

As long as a company issues bond or new shares or the like, it is important to scrutinise the intent of it. Hyflux did the 6% perps, which I found that they probably wont have the ability to fulfill that commitment. True enough.

'A big shock': Retail investors in Singapore caught out by Hyflux woes (CNA, Jun 2018) 

I think it is safe to assume that no company will want to give out money freely. Afterall, stocks is a way to raise money. Financial statements are marketing tools to do that.

While picking stocks, I look for three things in the financial statements - Profitability, Financial Strength and Sustainability, before diving further into analysis.

I find that Sustainability is very important. If companies overeextend payouts (be it executives' salary, dividends, etc) or the business operation is too costly, I do not foresee they will remain profitable, for long.

I think it helps to always asks:"Where is the money coming from?" when analysing companies.

If it interests you, you can also read about my thoughts on the Netlink Trusts (CJLU) here. The stock is now at S$0.78 (was S$0.815 at IPO), down as I would have expected it.


~ZF