How to avoid Hyflux disasters? - Seedly
 

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Asked by Kelly Trinh

Asked on 25 Nov 2019

How to avoid Hyflux disasters?

Was there particular analysts who warned about the shaky business model of the company before the wheels started falling off? Where/who were the pros who saw it first (and presumably worth following for future)

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Hi Kelly!

I'm not a pro, nor will I wish anyone to follow my my investing thoughts blindly. But used to write for The Motley Fool Singapore, and I wrote a piece on Hyflux in May 2016 when the company issued its S$300 million, 6% perpetual securities. The Fool SG website is no longer available, but there's an online article from The Online Citizen published in June 2018 that referenced my piece.

Back then, I concluded that Hyflux's perpetual securities were risky after looking through the company's financials. That was because the company had a chronic inability to generate cash flow and its balance sheet was really weak. Those risks sadly flared up in 2018 and caused pain for so many of the company’s investors. What I wrote was this: “According to data from S&P Global Market Intelligence, Hyflux has been generating negative cash flow from operations in each year from 2010 to 2015. Meanwhile, the company currently has a net-gearing ratio (net debt to equity ratio) of 0.98, which isn’t low."

There are many things about a company to look at when investing. But I believe there are some simple rules that can help us avoid trouble. The rules are not fool-proof (there's no such thing as fool-proof in investing), but they do work in general. The rules are: (1) Be careful when a company is unable to produce cash flow from its business consistently; and (2) be careful when the company's balance is burden heavily by debt.

2 comments

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Kelly Trinh
Kelly Trinh

26 Nov 2019

Hi Ser Jing, Yes this is what I am looking for! Even with a diversified portfolio I don't want counters that drop off a cliff to (essentially) zero and so research/analysis that can spot ahead bad eggs is what I am looking for (I am not a stock analyst so my own due diligence can only go so far!) I guess it only came across Motley Fool / your radar coz of the perpetuals offering; which fair enough - after all if there was some broad research approach that generated leads on which companies would be getting into trouble - you should go work for some short/activist hedge fund :)
Chong Ser Jing
Chong Ser Jing

26 Nov 2019

Thank you for all your kind words Kelly. Yes, Hyflux came across my radar because of the attention that its perpetuals offering generated - sadly, that issuance I wrote about was oversubscribed, and the offering increased from S$300 million to S$500 million. I managed to save a copy of my Hyflux article. If you write to me at my blog (thegoodinvestors.sg) I'll be happy to send it to you. On your point about joining a short/activist hedge fund, I think it's a lot easier to *avoid* companies with questionable prospects than it is to short their shares. My 2 cents is that shorting has an asymmetric risk-to-reward ratio that is not in my fair. I can only earn 100% at the most when shorting, whereas the downside is theoretically unlimited. There are also borrowing costs involved when shorting. John Maynard Keynes once said that "The market can stay irrational longer than you can stay solvent."

HI Kelly,

I don't know of anyone who saw it coming very early on, but one warning sign would be the issuance of perpetual securities, and furthermore with a 6% coupon.Perpetual securities are debt, and Hyflux was taking on a tremendous amount of debt (I think they raise close to a billion over 2 rounds), paying a cumulative coupon of 6%.

From the traditional investor's perspective, that is a 6% yield. So very attractive.

From a contrarian approach, you might to look at it as such: No bank was willing to lend Hyflux money, so they had to borrow from the public at a 6% interest rate. Now, to fund expansion of businesses, taking on debt is sometimes necessary, but at a time of low interest rates, paying 6% is suicide when banks could offer SMEs and other companies rates lower than that. So why then did the banks refuse to lend Hyflux? That is in itself, a warning sign.

Just my two cents.

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Kelvin Seetoh
Kelvin Seetoh, Founder at Kelvestor.com
Level 6. Master
Answered on 03 Dec 2019

A lot of great answers here.

Here's my three pointers which are simple but powerful indicators:

  1. Cash flow from operations - rising, declining, or stagnant?

  2. Total debt to equity - more than 60% is considered risky.

  3. Razor thin margins - could swing to losses very quickly.

All these are critical tell-tale signs for you to know in advance whether a business model is sustainable.​​​

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Bibiana
Bibiana
Level 7. Grand Master
Answered on 06 Dec 2019

I was taught to look at companies with minimal debt.

If you're strong and highly profitable. the need for debet is very low.

Hyflux had a monsterous amount of debt.

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Sudhan
Sudhan
Level 5. Genius
Updated on 26 Nov 2019

Hello Kelly Trinh,

Interesting question on avoiding a disaster stock from wrecking one's portfolio. Like Ser Jing mentioned, Hyflux wasn't able to generate cash flow from operations. From 2010 to 2016, the company had negative cash flow and its peak, it had an operating cash outflow of S$422 million.

To add on to its woes, Hyflux's balance sheet was shaky. It had a total-debt-to-equity ratio of over 80% since 2010. For example, in 2016, its total-debt-to-equity ratio was over 110% and its net-debt-to-equity ratio stood at 89%. Those figures are high.

Companies with highly leveraged balance sheets and the inability to produce any cash flows for a long time are very likely to go bankrupt.

So, how can investors, in general, prevent a similar case from hitting their stock portfolio? Investing only in firms with healthy balance sheets, strong cash flows and solid long-term growth potential would help.

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Paridhi Jhunjhunwala
Paridhi Jhunjhunwala, Associate at Kristal.AI
Level 7. Grand Master
Answered on 25 Nov 2019

Hi!

The way to avoid a 'Hyflux' disaster is to avoid concentration risk. A good amount of diversification in your investments will ensure that one particular disaster does not have a really big impact on your investments. It is not possible to ensure that the due diligence process is full proof, and so having some diversification will definitely reduce the exposure to risk.

I work at Kristal.AI, and it's my passion to evaluate various upcoming investment opportunities.

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Jonathan Ang
Jonathan Ang
Level 7. Grand Master
Answered on 06 Dec 2019

1) Cashflow

2) Debt

3) Working Capital

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Wallace Chai
Wallace Chai
Level 9. God of Wisdom
Answered on 05 Dec 2019

Hi.! In order to avoid this kind of companies in the future is to have at least some knowledge in accounting. You do not have to be expert in accounting. Just with some basic understanding, you would have find out it is not a good company to invest in. One thing is when you can look at the company debt. Company with huge debt often put themself at the tip of the iceberg. When the debtors asking to payback and the company unable to do so, they will be in a trouble.

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Takingstock @
Takingstock @
Level 6. Master
Answered on 03 Dec 2019

Hi Kelly

Adding on my own perspective, which is largely a simpler version of what Ser Jing said.

you treat an investment as though you are picking a future husband / son-in-law (well I assume most people would)

What do you look out for?

  • financial security: can he support the family?

This comes in two ways, good operating cashflow, and making more money than you spend which will look at overall cashflow

Cashflows are the set of numbers that paint the most realistic picture, and it really ties in to common sense.

The net operating cashflow is similar to the amount of money the potential husband saves after paying all the bills. Then where else is it spent?

You can treat investing cashflow as capex, whether you want to think of it as buying a new house, a vacuum cleaner, or maybe a car. Some investments increase your earning potential (eg enhancing your kitchen in a f&b setting), and some are just fancy (like cars).

And financing cashflow is how he manages his debt and money. In the large scheme of things, the key things to note is whether he is paying down the loan, borrowing more, or sometimes giving angpow / dividends to family / shareholders.

Then you can visualize the investment / future husband

  • does he earn more than he spends

  • is he buying the right things with his "investments"

  • can he manage his debt?

The obvious red flags:

  • spend more than you make (negative operating cashflow)

  • borrow to finance his lifestyle and ending up with more debt.

This kind of husband u want meh? What if he run away and leave you with the debts?

The other stuff sometimes you frown upon and worry, and its really test your faith

  • declining net operating cashflow (which is similar to his pay raise is less than inflation... Dear you need to make more money to buy food)

  • impairments / write-offs / disposal losses (which is similar to I told you so that was a lousy investment and waste of cash)

End of day, it can be really simple. You just need to be looking at the right stuff...

2 comments

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Chong Ser Jing
Chong Ser Jing

04 Dec 2019

Wow, comparing picking a husband to picking stocks is a wonderful and very relatable analogy! This is great, Talkingstock!
Takingstock @
Takingstock @

04 Dec 2019

=)
Bjorn Ng
Bjorn Ng
Top Contributor

Top Contributor (Jan)

Level 9. God of Wisdom
Answered on 03 Dec 2019

I wasn't into the investing scene back then, but here are some of the key things I've taken away after reading.

Hyflux is a water treatment company, and during the bidding phase, they literally undercut their pricing as compared to other competitors, and they got the project/contract. But how can they undercut so much? So therefore, they were looking to other methods to "cover up" for the difference, which is their power generation business. This is a first red flag for me as the power generation is something new which they are going into - and they HAVE TO make it work, otherwise the whole business will fall, which essentially is what happened.

Because of above, they have too much debt which is shown in the balance sheet. But the reasons why people saw and bought into it the first place, sadly it's because the word "Temasek" is in there somehow. "Oh, backed by government, should be okay one lah." But we all know what happened after.

And 6% sounds prestigious, but no one focused on the "perpetual securities". Perpetual means that if times are not good, they can choose NOT TO give you anything. Basically meaning the 6% is NOT guaranteed.​​​

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Ernest Yeam Wee Leong
Ernest Yeam Wee Leong
Level 6. Master
Answered on 28 Nov 2019

To avoid Hyflux disasters, simply do not investment any money........just kidding

You can invest but invest in the right company with good financials.

Avoid companies with negative cashflows, high debts, decreasing revenue and profits, huge losses, sunset industry, and lack of directions.

I write cool stuff about personal finance and money-saving hacks here.

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Khuan Yew Cheah
Khuan Yew Cheah
Level 3. Wonderkid
Answered on 26 Nov 2019

Do your homework before investing in stocks or bonds. Look at the income statement, balance sheet and cash flow statement. Hyflux had the problem of growing revenue but not profits which meant that the new contracts were eroding its profits. The balance sheet was also being leveraged up over the years. And perversely, the perpetual notes were accounted for in the balance sheet as equity thereby IMPROVING the debt to equity ratio instead of making it worse.

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Lim Chun Long Jimmy
Lim Chun Long Jimmy, Co-founder at PolicyWoke Pte Ltd
Level 6. Master
Answered on 26 Nov 2019

Never go all-in on one stock.

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Choon Yuan Chan
Choon Yuan Chan
Top Contributor

Top Contributor (Jan)

Level 9. God of Wisdom
Updated on 25 Nov 2019

1) Don't believe baalnce sheet even if they are audited by well known audit companies- the vaulations of PPE on balance sheet are just inputs given by companies and can be written off anytime- KPMG (Hyflux, Ezion) and EY (Noble group) are companies audied by the bug 4 but eventually the company wrote off billions off their asset value despite unqualified opinions from auditors in the prior years. ALWAYS DO YOUR OWN THINKING AND DUE DILLIGENCE INTO THE VALUE OF ASSETS IN BALANCE SHEET

2) As many here have said, don't put all your eggs into the same basket, this is because doing your own due dilligence, there will also be mistakes

3) Read Cashflow statments, it is one of the hardest to fake unless they openly declare their cash by faking it. One way is to judge if the increase in profits result in a more than proportional increase in PPE or trade receivables. One example of company is Sino Grandness where increasing profits always concided with an ever increasing receviable and PPE. It is a red flag correlation I am looking at

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Samuel Lee
Samuel Lee

26 Nov 2019

Haha but as we can see that the auditors have been given unqualified opinions already. This should already raise a red flag
Choon Yuan Chan
Choon Yuan Chan

26 Nov 2019

An unqualified audit reflects business financial statements that are transparent and compliant with generally accepted accounting principles. Unqualified Opinions means the auditor has okayed that year financial statments
Billy Ko
Billy Ko
Top Contributor

Top Contributor (Jan)

Level 7. Grand Master
Answered on 25 Nov 2019

The answer lies in really doing one's homework. Buy on balance sheet, sell on cashflow statement. If you take a look at the CF statement, one can see erosion of cash reserves to pay out interest. This coupled with the issuing of the 2nd debt to raise capital in order to redeem the first, that's the biggest tell-tale sign that Hyflux is facing financial issues.

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Wilson Nid A Break
Wilson Nid A Break
Level 8. Wizard
Answered on 25 Nov 2019

Dont put all your eggs (esp your retirement eggs) in one basket

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Short answer: DO YOUR OWN DUE DILLIGENCE

Many people assumed that since Hyflux had connections to the government, the company would not go down. AKA THEY INVESTED BLINDLY.

Had people did their own due dillgence and noticed the amount of debt taken on to fund their recent capital expenditure (electricity plant) and the drop in electricity prices...

You may have doubted the fundamentals of the company and prevented yoursef from the Hyflux disaster.

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