Datronix Holdings: a cash-rich net-net

Datronix Holdings (company website) designs and manufactures magnetics. These magnetics are used in consumer electronics, data processing appliances, military components and healthcare devices. The magnetics are sold under the brand name “Datatronics”. Most of the products are customized and tailor-made to the customer requirements.

The investment case for Datronix (ticker: 0889.HK) can be summarized as: a pile of cash with a profitable business attached.

Share price: 1.28 Hong Kong Dollar (HK$)
Shares outstanding: 320 million
Market cap: HK$409.6m HKD (~$53m USD)
Cash & cash equivalents, Dec. 31, 2013: HK$429.5m
Total liabilities, Dec. 31, 2013: HK$63.7m
NCAV: HK$493.6m
Net income 2013: HK$33.3m

The company has shown solid profits in the last decade and has generated a lot of cash over this period. A small portion of the earnings has been paid out every year as a dividend. During 2013 only HK$7.7m was paid out to shareholders and just HK$10.9m in 2012. For 2013 that meant a yield of just 1.9%.

Insider ownership

The CEO and founder of the company is Paul Y. Siu. His wife and daughter are also on the Board. On Dec. 31, 2013 Paul Y. Siu owned 229,876,000 shares indirectly through a company called “Onboard Technology Limited”. He has made a few small insider buys since then and currently owns 72.07% of the outstanding shares.

Suspension of trading

Trading in Datronix shares was suspended in 2002 when the company announced it thought is was in violation of the “minimum float rule” in Hong Kong. According to the listing rules of the Hong Kong Exchange companies must have a minimum public float of 25% of the issued shares. Apparently Mr. Siu had loaned money to certain individuals after the company’s IPO in 2001 to enable them to buy Datronix shares with these funds. The Board of Directors was of the opinion that the shares purchased by those people did not belong to the public float because Mr. Siu loaned them the money. Mr. Siu already held 75% of the shares at that time through Onboard Technology Limited.

Since Datronix now fell below the 25% minimum public float limit, the shares were suspended from trading. It took quite a bit of time to resolve the issue. Eventually the disputed shares were placed to other investors, the Hong Kong Exchange was satisfied and the shares resumed trading in 2006.

Why is this company public?

I asked myself after reading this why the company is public in the first place? If Mr. Siu was so reluctant to give up a portion of his ownership in the company, why not remain a private business? I can’t answer the question, but perhaps it has to do with the nature of Datronix’ business and customers.

Datronix has a large customer in the US called Datatronics Romoland. In 2013, 23% of the sales were from Datatronics Romoland. Datatronics Romoland is 100% owned by Paul Siu. There are other large US customers as well, because in total 85% of the revenue came from the US in 2013.

Romoland describes on their website that their components are used in “mission critical applications for space, military and medical life support industries”. Perhaps some of Romoland’s customers and some of the other Datronix customers will only deal with the company and allow outsourcing of certain components when there is sufficient disclosure about the operations in Hong Kong and China. I can imagine that a US customer would like to know that the operations are running smoothly so that deliveries can be made in time and that the financial position of the Hong Kong company is very secure. If a well known auditor is looking at the financials every quarter and the Hong Kong Exchange is watching the company then you would perhaps feel safer to deal with a company in Hong Kong. If that is the case and you’re in Paul Siu’s position, you would be more or less forced to take the company public, even though you would perhaps rather hold on to every share you’ve got.

Anyway, that’s just a theory. I have no idea if customers really do think like that and if that is a major consideration for some companies in Asia in taking their companies public with a minimal public float. With a company like Datronix I do think you need to ask yourself why the company went public and why it is still public. If a company can be taken private at a bargain price, usually it will be taken private. Since that has not happened here yet, perhaps there are other reasons why the company must remain publicly traded.

Cash balances in Renminbi

At the end of 2013 Datronix held HK$325m of cash denominated in Renminbi. In 2012 this was just HK$34m, in 2011 and 2010 these amounts were HK$207m and HK$165m respectively. I don’t know why the company holds so much cash in Renminbi since they are dealing mainly with US based customers.

Why is it cheap?

The company is not run with the idea of maximizing value for all shareholders. If it had been, it would not have more than HK$400m in cash right now. That’s clearly excessive and the company deserves to trade at a discount for this. However, there’s always some chance that the company does improve capital allocation in the future.

Investors often complain about poor returns on equity for companies like this, but if you adjust for the large cash balance you’ll see that this has been quite a good business with very low capital requirements.

Datronix is also not a growing company. Revenues have been relatively stable over the years, but there has been no real revenue growth. Meanwhile profitability has decreased in the last couple of years, I think mainly caused by increasing labor costs in China. If they can improve earnings again and are able to pass on their increased costs to their customers than that could appeal to investors looking for earnings growth. Datronix did trade north of HK$5 in 2010 and around HK$3 for much of 2011 when their earnings were higher. The CEO used this time span to sell down his stake a little.

I also think the low dividend yield is one of the main reasons why Datronix is so cheap. I’ve noticed that stock prices in Asia are strongly influenced by dividend yields. Companies that pay out just a small dividend or no dividend at all can get very cheap, because they get no credit for cash that just sits on the balance sheet. Of course a company with relatively poor capital allocation deserves a discount, but investors can also become overly negative and disregard the cash entirely. That seems to be the case with Datronix.

And of course there is no catalyst. Even if Datronix improves capital allocation and increases the dividend or makes a good acquisition, there is no telling when this is going to happen. It could take years for something to happen.

My take is that it usually pays off to invest in cash-rich stocks like this. Yes, capital allocation is poor and you don’t know if and when things improve, but often these negative factors are already priced in. My experience is that buying a group of these stocks works out well. A nice recent example was PNE Industries in Singapore which moved up substantially after reporting improved results and a dividend increase.

Disclosure: long Datronix Holdings Limited

Posted in Hong Kong stocks and tagged .

NeverLoseMoney

Author of ValueInvestingBlog.net. Private investor.

7 Comments

  1. Very interesting. Thanks for the write-up.
    At a 20% discount to NCAV and 12x earnings, it’s cheap, but not super cheap like PNE was (I really liked your PNE write-up).
    I would buy it at a bigger discount. Maybe at 2/3 of NCAV and 10x earnings – I hope it falls to that price!

  2. Sometimes I wonder if you are some fund manager writing blog before/after your huge purchase. Just few days after you wrote about Datronix, the price went up 5%! I was waiting for a lower price (similarly for LantroVision) but I guess I miss it again! I don’t think it was mistake to wait probably just not so lucky. Well done! Will be keeping my eyes on you!

    • Well, I can assure you I’m not a fund manager. πŸ™‚ Just a small private investor.

      I did notice Datronix moved up a few days after the post, but it wasn’t too dramatic. It’s possible that some readers like an idea and end up buying the stock, but I haven’t really noticed effects on stock prices from this blog. LantroVision reported good results shortly after I posted and that moved the stock price I think.

      Also: lower prices are always better, but when you find something really cheap, paying 5% more shouldn’t matter all that much. I made a big blunder last year when I tried to buy French stock Gevelot, I just searched my order history to remind me of the painful details. I tried to buy it at ~€40, but wasn’t able to pick up shares. If I had settled for paying ~€42-43 I could have bought my position. Gevelot is currently trading above €120. Holding out really cost me in that instance. It becomes very hard to buy at say €60, because you’re now “anchoring” to the €40 price and you’ll be so frustrated about your earlier mistake that you will want to forget about the stock entirely, even though it could still be a good buy at €60.

      I’m not saying you’re wrong by not buying Datronix/LantroVision, only that trying to time the absolute bottom for any stock is impossible and can really cost you as it cost me with Gevelot.

  3. Fantastic. 1.80 today. Are you still holding on to it?

    If you don’t mind me asking, how many stocks do you hold at any point in time in your portfolio?

    • – Yes, I’m still holding Datronix. It’s trading a little above NCAV, but still well below book value and the business continues to generate cash.

      I think there is some speculative upside here as well, because Chinese investors have been flocking to the Hong-Kong market recently and many stocks have gone up enormously. Datronix probably benefited as well, but I’ve seen much crazier things in the H-K market recently. So, I’m hoping for some speculative buying in Datronix by Chinese investors/speculators as well. I admit this does not qualify as value investing and falls under the heading of speculation. I don’t mind holding Datronix at this price though and will just see what happens for a while longer.

      – Currently I have 50 positions in my portfolio. I’m more of a diversified type investor. πŸ™‚ I do bet bigger on the companies I like best though. The biggest position is currently about 8% of the portfolio and I have had around 15% in my best idea in the past. My smallest positions are usually around 1% of the portfolio and are often part of a basket bet. Community banks are a recent example.

      • Thank you for your detailed and swift reply.

        -I do agree with your speculative thoughts, billions have been pouring into the Hang Seng Index ETF as of last month; if i’m not wrong the biggest monthly inflow since 2010.

        -I am always in a dilemma when it comes to holding many stocks for diversification vs Buffett-advocated concentration. Of course, with your Schloss-esque investment style, broad diversification is absolutely necessary. But how do you keep track of every single stock, with regards to latest developments, news etc? It has to take up many hours of your time every day, which might not be very productive if you’re not a full time investor.

        I thoroughly enjoy every single one of your posts. Thank you again.

        • Keeping track of companies has not been problematic for me so far. Many of them are “low maintenance”. A couple even report just once a year (dark pink sheet stocks). Others report normally, but they take little time to keep up. For example: I just read a quarterly report from a company in Singapore that I follow and it took me perhaps 10 minutes to read the report. Many of them are like that. Once the initial work is done (mainly reading annual reports) it doesn’t take much time to keep up. Of course getting to know a new company and reading those first annual reports does take time.

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