Noble Group Limited’s Selling At A Crisis-Level Valuation Now: Is It A Real Bargain?

The Great Financial Crisis of 2007-09 was a great time to be an investor. From its trough at S$1.50 that was reached on 9 March 2009, the SPDR STI ETF (SGX: ES3) – a tracker for Singapore’s market barometer the Straits Times Index (SGX: ^STI) – has more than doubled to S$3.35 currently.

While the magnitude and severity of the crisis is likely to be a once-in-a-lifetime event, investors who are craving for crisis-level bargains right now may just find it in commodities trader Noble Group Limited (SGX: N21).

As you can see in the chart below, Noble’s current price-to-tangible-book (PTB) ratio of 0.70 is more or less the lowest valuation it has had over the past 10 years. This also means that Noble’s currently as cheap as it was during the financial crisis period.

Chart 1 - Noble's price-to-tangible-book (PTB) ratio since June 2005

Source: S&P Capital IQ

But, shares with cheap valuations can still turn out to be expensive mistakes if their business fundamentals end up deteriorating yet further. So, is Noble a legitimate bargain or a pricey-nightmare-in-disguise?

A legitimate cause for decline

Investors who have followed Noble for a while now would likely be familiar with its sorry plight. On 15 February 2015, little-known research outfit Iceberg Research released the first of its three research reports criticizing various aspects of Noble’s business and accounting practices.

Since then, Noble’s shares have fallen by 43% in price to S$0.685 currently and other parties – most notably the short-seller Muddy Waters and ex-senior investment banker Michael Dee – have also publicly tore into the company’s business through research reports and open letters.

On Noble’s part, it has vehemently denied most of the accusations levelled against it and the company has even initiated legal action against one of its ex-employees (who the company believes is behind Iceberg Research) and Iceberg Research itself.

Although the actions of the research firms as well as people like Dee may have been a catalyst in hastening Noble’s share price decline, it’s worth noting too that Noble’s shares had fallen by 44% from S$2.17 at the start of 2011 to S$1.205 on 14 February 2015, the day prior to Iceberg’s first salvo.

Share price declines in a company can have many causes and investors should be very careful in attributing causal relationships. But, it’s hard to not draw some links between Noble’s dismal corporate performance and the fall in its shares.

Chart 2 - Noble's net income and return on assets

Chart 3 - Noble's returns on equity and total debt to equity ratio

Source: S&P Capital IQ

As you can see in Charts 2 and 3 above, Noble’s profits, returns on assets, and returns on equity have declined steadily – and severely – over the past five years since 2010. To top that off, Noble’s leverage (as measured by the total debt to equity ratio) have also remained high throughout the period under study; that’s important to note because the use of high leverage is supposed to help juice up a firm’s returns on equity, all things being equal.

These are signs that the economics of Noble’s business may be in decline, perhaps for a prolonged period of time. Billionaire investor Warren Buffett once said that “If the business does well, the stock eventually follows.” The reverse is also true – a company with a sinking business will also see its share price tag along eventually.

A Fool’s take

It’s hard to say if Noble’s business can recover as management may already be hard at work improving the company’s operations as I write. But despite Noble having an enticing valuation now – the company’s near the cheapest it’s ever been over the past decade – bargain hunters who are attracted to the company need to be cognizant of the risks involved. And that is, the possibility that the economics of the firm’s business have collapsed.

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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 writer Chong Ser Jing doesn't own shares in any companies mentioned.