Sunday 23 August 2015

Does Aspial's 5.25% Bond Have Sufficient Margin of Safety?

It is easy to be attracted to the high coupon rate of Aspial's 5-year, 5.25% bond, especially when the offering is splashed over the front page of newspapers. I too have made the mistake of not checking whether a bond is safe to buy when I applied for Frasers Centrepoint's (FCL) 3.65% bond 3 months ago, despite having written about how Benjamin Graham would analyse the safety of a bond in The Lost Art of Bond Investment.

So, this time round, I got smarter and analysed Aspial's bond before deciding whether to apply for the bond. There are 2 criteria that Benjamin Graham used, namely, the minimum average earnings coverage and the minimum current stock value ratio. Using Aspial's latest Financial Year's results, the computation of the 2 ratios are as follow.

Earnings Coverage

Profit before tax = $61.7M
Adjusted for:
- Deduct: Non-recurring fair value gain on investment properties = $30.0M
- Deduct: Share of results of associates = $4.9M
- Add: Non-recurring forex loss = $8.7M
- Add: Finance cost = $17.1M
Total earnings available for covering fixed charges = $52.6M

Current finance cost = $17.1M
Add: Interest of proposed bond = 5.25% x $75.0M

= $3.9M
Total finance cost = $21.0M

Earnings Coverage = $52.6M / $21.0M

= 2.50

The earnings coverage of 2.50 times is below the minimum average earnings coverage of 3 times for industrial companies.

Stock Value Ratio

No. of shares = 1,862.7M
Share price = $0.35
Market value of shares = $651.9M

Current amount of borrowings = $1,115.4M
- Add: Proposed bond size = $75.0M
Total bond value = $1,190.4M

Stock value ratio = $651.9M / $1,190.4M

= 0.548

The stock value ratio of 0.548 is lower than the minimum stock value ratio of 1 for industrial companies.

Quantitative Assessment

Based on the above figures, the proposed Aspial bond does not pass both the earnings coverage and stock value ratio criteria. Hence, based on Benjamin Graham's criteria, the bond does not have sufficient margin of safety.

Other Considerations

There could be other qualitative considerations that might tilt the decision to be in favour of the bond. For example, the same analysis of Olam's 6.75% bond (now redeemed) showed that it too did not meet the earnings coverage criterion. However, when Temasek launched a takeover offer for Olam in Mar 2014, I did not hesitate to buy into the bond, reasoning that even if Olam were to have difficulty repaying the coupon / principal for this bond, Temasek would step in and lend a helping hand. Likewise, one key consideration for buying FCL's 3.65% bond without first checking the margin of safety was the fact that it is the subsidiary of F&N, which is in turn a subsidiary of TCC Assets. But for Aspial, it does not have the same strong backing as either Olam or FCL.

Hence, Aspial's 5.25% bond does not have sufficient margin of safety according to Benjamin Graham's criteria. To be fair, it does not mean that Aspial will definitely default on this bond, it just means that the risk is higher.

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