Understanding The Cost Structure Of Straco Corporation Ltd, A Big Long-Term Winner

Straco Corporation Ltd (SGX: S85) is a company with an enviable long-term track record of both business as well as stock price growth.

From 2011 to 2015, the company’s revenue and profit have increased by a total of 177% and 197%, respectively. Meanwhile, its share price has climbed by 417% since the start of 2011.

Last week, I took a look at the different business segments of Straco to figure out how it makes money. I thought it’d be a good idea to follow up with a breakdown of the company’s cost structure.

As a quick background, Straco owns and runs tourism assets in China and Singapore. Its major assets include the Shanghai Ocean Aquarium and Underwater World Xiamen in China, and the Singapore Flyer in Singapore.

The table below shows Straco’s profit and loss statement in 2015, which details all its expenses:

Source: Straco 2015 annual report

We can make a few quick observations with the information provided in the table.

First, of the total operating expenses of S$58.2 million (revenue and other income of S$133 million minus operating profit of S$74.8 million), the bulk of those are fixed in nature, meaning to say they don’t fluctuate much with the amount of revenue Straco earns.

Straco’s fixed expenses include depreciation and amortisation, operating leases, repair and maintenance, property taxes, utilities, and staff costs (though it’s likely that part of staff costs are variable in nature). In all, we can estimate Straco’s fixed costs to be north of 70% of its total operating expenses.

Why is this important? Well, that’s because any increase in revenue for Straco will flow down straight to the bottom-line after accounting for variable costs. But this is a double-edged sword – having a high proportion of total operating expenses as fixed costs will also mean that any decrease in Straco’s revenue will have a larger impact on the bottom-line.

Second, Straco’s depreciation and amortisation expense of S$12.8 million in 2015 is due to the capital investments the company has made in various assets and equipment. This expense is not a cash charge and so will not have an impact on the cash generating ability of Straco.

That said, the depreciation and amortisation of assets also means that the assets in question are ‘used up’ over time – they could need replacing in time to come and that would require cash from Straco to do so.

Third, when we put Straco’s total revenue and operating expenses together, we can calculate the operating profit margin of Straco to be 56%. That’s a high operating profit margin when compared to many businesses in Singapore’s stock market.

For example, we can compare the operating profit margin of Straco to Genting Singapore PLC (SGX: G13). Genting Singapore’s main business comes from the ownership and operation of Resorts World Sentosa, which is one of the landmark tourism destinations in Singapore. In 2015 and 2014, Genting Singapore had operating margins of just 14.1% and 29.2%, respectively.

A Foolish takeaway

One way for a company to build value for its shareholders is to grow its profits steadily over time. As such, it is important that we understand both variables that impact a company’s profit – its revenue and cost.

By understanding the cost breakdown of Straco, an exercise that we focused on in this article, we can use the knowledge to form a better opinion on how Straco’s profit picture will look like over the next few years.

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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 Lawrence Nga doesn’t own shares in any companies mentioned.