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Can This Small Cap Company Continue To Grow?

The share price for Tai Sin Electric Ltd. (SGX:500) has been an above average performer over the last five years. The share price has recorded returns of about 81% from 1 July 2009 to the closing price on 8 October 2014. By comparison, the capital gain returns of the SPDR STI ETF (SGX:ES3), a proxy for the Straits Times Index (SGX:^STI), was 34.7% for the same duration. Over the past five years, the cable manufacturer paid out a total of slightly below $0.09 per share in dividends.

While the returns from Tai Sin Electric has been extending in the right direction — as Foolish investors, we should take a closer look to understand the business drivers for this move in the share price.

A closer look

Tai Sin Electric is in the business of manufacturing and distributing cables. Sales for its cables are derived from the commercial, residential, and industrial sectors. It also has an Electrical Material Distribution business segment which supports the oil and gas, chemical, and industrial sectors. In the financial year ended 30 June 2012 (FY2012), it acquired a Cast Laboratories which was parked under a new test and inspection business segment. This segment covered building diagnostics, calibration and measurement, chemical, mechanical and non-destructive testing, and product certification. For the year ended 30 June 2013 (FY2013), the lamp and lighting segment was wound down due to the crowded competitive space.

tai sin graph 1

Source: Company Annual Report

Cable and Wire is the biggest business segment which makes up 55.44% of the company’s sales for FY 2013. Due to the segment’s size, it also drove majority of the revenue growth in the past five financial years. The Electrical Material Distribution segment made up 31.5% of its FY2013 revenue, and is the second largest sales contributor. The segment also experienced good sales growth in the past five financial years. The Test and Inspection segment is relatively new, but has already contributed 9.1% of its FY2013 revenue.

We would ideally like to see the revenue dollars reach the bottom line. For that, we look into the profitability of the business segments.

tai sin graph 2

Source: Company Annual Report

The segment results shows profit before non-controlling interest, taxes and share of associate profits. The segment results for Cable and Wire highlight the importance of the business segment as it made up 81.7% of its FY2013 segment results. The Electric Material distribution only made up 14% of FY2013 segment results. Unfortunately, the newly acquired test and inspection business segment had negative segment results.

Finally, Foolish investors would look for the accumulated profits have to end up on the balance sheet. We look at development of its cash and borrowings.

tai sin graph 3

Source: Company Annual Report

Tai Sin Electric has been in a net debt position since FY2009. Borrowings spiked up at the financial year ended 30 June 2010 (FY2010) to finance higher inventory levels. The elevated inventory levels were needed due to higher copper prices, and higher business volume. The company had $66 million in inventories as of the end of FY2013 which is substantial compared to its sales.

It should also be noted that there has been a fair amount of share dilution from FY2011 to FY2013 where 35.9 million ordinary shares were issued. The share count at the end of FY2013 was 438.2 million.

Foolish Take away

As lifelong students of Foolish long term investing, it pays to look under the hood to understand whether a rise in the company’s share price is supported by the quality of growth that we are looking for.

Individual investors might want to look for signs of profitability in its new acquisition, the Test and Inspection segment. Part of its revenue growth in FY2012 and FY2013 was funded up acquisitions, as such cautious investors might want to consider what constitutes reasonable growth expectations going forward. Copper is a main raw material for Tai Sin Electric, and the company will occasionally make strategic bulk purchases to mitigate the impact on cost. This also means that inventory levels should be watched carefully.

For a small cap company, Foolish investors who are interested might want to figure out what level of margin of safety is sufficient on their own individual taste, or if it is outside their circle of competence. Tai Sin’s market cap was approximately $167 million on 8 October 2014.

As of the closing price on 8 October 2014 $0.38, Tai Sin Electric traded at a price-to-earnings ratio of about 7.7 and has a dividend yield of around 5.9%.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong doesn’t own shares in any companies mentioned.