AVARGA: Trading at an implied FY2020 PE of 4.1x

Excerpts from Golden Apple's blog. 

Source: Avarga, Golden AppleThe impact of COVID showed up in Avarga’s performance through a battered paper manufacturing business, a resilient power plant business and an unexpected windfall for the building products business.

Taiga experienced higher selling prices for its commodity products during 1H 2020.

Despite the significant decline in revenue (sales decline of over 30%) during April, Taiga still brought in ~S$40MM of revenue and also enjoyed gross profit margin expansion!

It appears the impact of COVID-19 was felt more keenly in the Canadian market which posted a ~C$10MM decline in revenue.

Diving deeper to uncover the actual revenue growth of Taiga in 2Q 2020. I assume revenue for Taiga in 2Q 2019 is evenly spread out and divided it by three to obtain sales on a typical April.

Following which I applied a 30% discount to the April revenue and deduct it from 2Q 2020 revenue. This will be the implied revenue for May and June 2020.

The implied yoy revenue growth is an astounding 16%!

A boom in home renovations amidst the pandemic had caused a jump in in-store and online spending for home improvement products. The spending boom had in part been driven by COVID-19, as people looked to improve their living spaces which they had to spend more time working or learning in. This had led an increase in revenue and gross profits.

Examples of Taiga's products whose inventory has gone up in value with market prices. Photo: Company


Where is the meat?

The performance of Home Depot’s 2Q 2020 results are indicative of Taiga’s 3Q 2020 performance in North America.

The robust demand in US is also evident in Canada. In Home Depot’s 2Q 2020 earnings call, Home Depot described a broad-based strong demand with a high degree of performance uniformity amongst their three US divisions and Canada. 

The market upswing for home building products in Canada is further corroborated with Lowe’s 2Q 2020 earnings call where Lowe’s shared that they posted positive comps that exceeded 20%, driven by similar consumer focus on the home.

Significantly, lumber prices experienced its own “Tesla” moment. The following charts are historical one-year and five-years lumber prices.

Prices of building materials typically fluctuate in similar direction to lumber prices. But as Taiga accumulate inventory, it continues to roll in significant inventory gains. Between 1 July 2020 to 16 September 2020, lumber prices jumped a whooping 114%. This meant that Taiga is set to book significant inventory gains in the coming quarter.

However, building products is a seasonal business. As winter sets in, home improvement and home building activities tend to dial down. This will spell a decline in demand for building products and this decline will be reflected in lumber prices. Already, lumber futures expiring in November 2020 traded at $640 while those expiring in January 2021 traded at $590.

A breakdown of Taiga’s quarterly revenue shows a seasonal impact of its business during the winter months.

In 4Q 2020, we should expect yoy increase in revenue albeit a lower one. Sales in value should come down along with sales in volume but we should bear in mind (if futures prices are a good proxy for spot prices) that the expected lumber prices in end-2020 is still higher than when 2020 started which can mean higher sale in value in end-2020 than in end-2019.

However, management should exercise caution to prevent excessive inventory pile-up which can lead to significant inventory losses as lumber prices start to decline in the winter season.

Below is my back-of-envelope forecast for Taiga’s revenue and gross profit in FY2020.

Forecasts for Avarga group: 

Avarga has excellent disclosures which provides many useful information for investors. Management have also made efforts to educate investors on their various businesses and how to look at them. These can be accessed through their corporate website and annual reports. Detailed disclosures are a real help for an under-covered stock like Avarga. In my opinion, this should be encouraged by the exchange and emulated by other companies which feel that they are similarly unnoticed by analysts.   I think this willingness to disclosure and educate investors is in no small part influenced by Mr Tong Kooi Ong, the Executive Chairman of Avarga.   Tong Kooi Ong, Owner of The Edge. Photo: CompanyMr. Tong is an entrepreneur and an analyst.    He has business interests in media, property development, digital technologies and other businesses in Singapore, Malaysia and Canada. He is on the board of M+S Pte Ltd, a joint venture between Khazanah Nasional Berhad and Temasek Holdings (Private) Ltd.    He is a director of Taiga Building Products Ltd., a wholesale distributor of building products, listed on the Toronto Stock Exchange and Non-Executive Chairman of 3Cnergy Limited, listed on the Singapore Exchange.    He has interests in the media companies that publish The Edge Singapore, The Edge Malaysia, The Edge Financial Daily, TheEdgeSingapore.com and TheEdgeMarkets.com. He also has interests in the property portals EdgeProp.sg and EdgeProp.my.

 
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