Investing Lessons to be gleamed from Eratat -- Avoiding a potential value trap

*This is a blog post written with hindsight, but I'm pretty sure it would have been dissed off and thrown aside had it been written earlier.*

Recently, just before Chinese New Year holidays, Eratat requested for a trading halt and subsequently suspension. It was a company I have been suspicious about since March 2011. Much of my analysis (with some calculations probably off) can be found here.
China Eratat

Note that this isn't an exercise or pure blog post done specially to ride on a S-chip suspension bandwagon, but to consolidate the lessons and what has been posted before since 2011.

The question is, is it possible to detect such fraud before it happens? Apparently, there were lots of clues to this, and this was posted in a few forums. Apart from that, from my recent read ups of marketing materials, I realise there are more things to investing in a business from a fundamental analysis viewpoint that is not often discussed about.

I might well be wrong, and everything turns out fine eventually. But I highly doubt so.

Let us first recap the pretty obvious red flags that were brought up over the course of time in different forums.

1) High percentage of receivables as part of assets.
2) The receivables would have been even higher had some of it not be written off as sales incentive and renovation subsidies.
3) Despite high cash levels, Eratat had "no choice" but to borrow at an effective interest rate of 32%.
4) As Greenrookie has pointed out in NextInsight forum, Eratat's subsidiary did not appear in the tax reports of top 100 corporate tax payers, which means it paid less than 3 mil RMB in taxes. The maths does not work out.
5) The director sold all his shares at a "deep discount" in Aug 2013 due to personal reasons that were never revealed. Now we know his "personal reasons".

I have also pointed out earlier that the NAV after netting off receivables looks constant after 2 years of being listed.

Investing in Eratat?

I realised that recently, there are more people my age group into investing. This wasn't the case back in 2008 and 2009 when I first graduated. An interesting event.

Over the years, I realised investing in equities does not merely mean digging through the financial reports. It also mean doing the necessary homework on competition, as well as potential business growth.

In addition to all the pure FA data, I looked too at charts for confirmation at times.

In investing, objectivity is of utmost importance. Of course, this is easier said than done, and I do not profess to be able to do that 100% of the time. And this is made worse when we own shares in the company too; typically there is a tendency to be more optimistic about the shares we own, because we bought it, and we don't want to be wrong in our judgment! Who want to buy shares to lose money?

Recently I had some spare time since tuition winds down during the end of year, I took another look in a company I once studied a little again to see if it has improved in any sense, and why certain forumers are still very bullish about it. The company is Eratat.

Some interesting details about Eratat

Eratat is a counter listed on SGX. Previously, I have expressed concerns over its business model and its obscene amount of trade receivables.

Subsequently, Eratat reduced its trade receivables, not by collecting back the cash, but by providing something called a renovation subsidy. Which sounds nice, but still means ultimately, the cash didn't get to them.

It has been quite a while since I studied their statements. There were some people who were pointing to the SIAS research as the "authority", and expressed their confidence in this counter because SIAS said so, especially after I have expressed concerns over it. Certain things that are red herrings in my opinion are then brushed away. :(

I dug out the past reports of SIAS research on Eratat. Each and every one of the reports mentioned Increased Exposure, even though the estimated Intrinsic Value calculated by the analyst went to S$0.27.

Interestingly, the highest price the counter has ever went to was S$0.28.


Checking the history reports by SIAS (no offence meant to any organisation),


23rd Sep 2010  Intrinsic Value S$0.320  Title: New Business Shows Great Promise
06th Oct 2010  Intrinsic Value S$0.320  Title: Running a Tight Ship
04th Nov 2010  Intrinsic Value S$0.450  Title: An Exciting Set of Results - 108% Growth
01st Mar 2011  Intrinsic Value S$0.480  Title: Time for value to be recognized.
05th Apr 2011  Intrinsic Value S$0.480  Title: Do you want to miss this ride?
07th Apr 2011  Intrinsic Value S$0.420  Title: Fast and Furious
11th May 2011  Intrinsic Value S$0.430  Title: Yet Another Exciting Set of Results
05th Aug 2011  Intrinsic Value S$0.325  Title: Strong Growth Revisited
06th Sep 2011  Intrinsic Value S$0.325  Title: China’s Gateway to European Fashion
08th Nov 2011  Intrinsic Value S$0.325  Title: Climbing the Brand Value Ladder
23rd Feb 2012  Intrinsic Value S$0.325  Title: Accumulate on Overreaction to Results
12th Apr 2012  Intrinsic Value S$0.325  Title: Treading New Ground in Trade Show
14th Aug 2012  Intrinsic Value S$0.240  Title: Focus Shifting to Distribution Expansion
05th Nov 2012  Intrinsic Value S$0.240  Title: 3Q Results Showed Improvement Over 1H
26th Feb 2013  Intrinsic Value S$0.270  Title: 4Q Results Back to Par
02th May 2013  Intrinsic Value S$0.270  Title: Higher Volume, Higher Prices for Apparel
13th May 2013  Intrinsic Value S$0.270  Title: Preparing for the Next Lap of Growth

In all reports, the analyst maintained increase exposure. And in all the reports, the intrinsic value is higher than the share price.

Clearly, it can be seen that unless an investor bought in at the ultimate low, he/she will most likely be facing a big paper loss following the research reports. Well... The "investor" may make a profit another few years down the road. The question is then, how many years does that few years mean?


Research reports protect themselves by
"As of the date of this report, the analyst and his immediate family may own or have positions in any securities mentioned herein or any securities related thereto and may from time to time add or dispose of or may be materially interested in any such securities.
...
...
The use of this material does not absolve you of your responsibility for your own investment decisions. We accept no liability for any direct or indirect loss arising from the use of this research material. We, our associates, directors and/or employees may have an interest in the securities and/or companies mentioned herein."


The analyst and organisation are protected by their disclaimers, but your money isn't.
Neither does any of my blog posts constitute any solicitation of an offer to buy or sell any securities. ")


Moral of the story: Do your own thorough homework.

Follow Up Quick Views on Eratat

In my earlier post on Eratat, I stated my views of the business and the events happening without taking a good look into the balance sheet. I got interested to pour through Eratat's business, etc, because it appears that quite a number of people are interested in it.

In this post, I will share some quick calculations on Eratat.
Also in this post, let's assume that the financial figures presented by them is correct and all cash is indeed there, else all calculations would be wrong anyway, which sorts of defeats the purpose.

Finally, I take all calculations rounded off, and an exchange rate of 1SGD to 5RMB for simplicity of calculations. Some of my calculations will be in SGD and charts are in RMB.

My views on China Eratat

Recently, I noticed quite a bit of interest in this S-Chip counter called China Eratat. Upon doing some really basic research (note: just basic one), I came upon the conclusion that it isn't worth a punt. While it may eventually turn out to be a multi-bagger, I wouldn't place my bets on it.


I posted some of these in http://www.sgforums.com/forums/2092/topics/423944. I rather not share this over at CNA forum because I know, once people gets extremely bullish about a stock, some would snare, insult, or exhibit some form of mentally incapacitated animalistic behaviour. Might as well share it at places where people are more willing to take note or share with. As CW88 puts it, analysts like to give bullish views because that is what most people like to hear.

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My initial views
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China Eratat is a sportswear company operating in China. To me, China Textile companies aren't a good fundamental buy at all.

1) Low barrier to entry.
2) Highly competitive.
3) Traditionally low margins. It would be very suspicious if the margins are high.