Snowball Special Issue No. 028: A Guide to Preventing Fools in the Stock Market

Chapter 5 How not to be fooled by listed companies
The company has problems because of false accounting.Common mines include the following:

1. The major shareholder of the company secretly "subsidizes" the listed company, pushing up the company's sales, profit margin and net profit, thereby pushing up the stock price and benefiting from the stock price (multiplier effect).

2. On the closing date (for example, June 6 and December 30), through clever arrangements with banks and affiliates, reduce the actual debt ratio figure.After the checkout date, reverse operation.

3. On the checkout day, push the company's products to the sales channel to reduce the inventory figure.

4. Concealing negative news and "possible risks".

5. Stealing business assets, such as stealing money from the company through capital expenditures (infrastructure, maintenance, expansion projects).

6. Fake accounts outright.

A friend asked me how to find problems from the enterprise's reports.I replied that it was impossible.The reports are all made by professionals, so why is there a problem?In order to find the problem, you must go to the enterprise, talk to the upstream and downstream, talk to the competitors, talk to the regulatory authorities, use some common sense and maintain a skeptical attitude (it is better to believe the bad than the good).

The proportion of Chinese companies making false accounts is very high.So any of us may encounter the above mines.And, believe it or not: the vast majority of fake accounts will never come to light.In other words, we stockholders have been deceived for a long time, and we are still praising the company's management.They blushed quietly when they heard the compliment.So, how will the fake accounts be digested in the end?I have found that some of them are digested by artificially lowering future performance (such as write-offs, impairments, restructurings, restatements, sales, acquisitions).In some years, business was good (profits increased by 40%), but the company reported mediocre results (profits increased by only 10%), which surprised shareholders.Many respected companies have also made false accounts at some stage.unbelievable?But it's true.Companies that make false accounts include private enterprises and state-owned enterprises.

How to avoid landmines?For a long time, I have believed too much in the figures reported by the company. Now my stupid way is to cut the official figures in half first, and then analyze.If a company says that last year's profit increased by 30% compared to the previous year, I take it as almost no growth.Perhaps last year was not as good as the year before.

The dangers of being in too much debt
Those of us who study economics or finance generally have a belief: debt is relatively cheap, and equity is too expensive. To grow the business, we must increase the leverage ratio.In "normal circumstances" this is true because the interest rate on debt is substantially lower than the return on equity should be.Moreover, financial costs can be deducted before tax.However, when your loan interest rate or bond issuance interest rate exceeds 10% or even 15%, the traditional theory starts to have a problem.

When you think about it, your debt reduces a lot of your business's freedom (the terms of the debt).There are also fees when borrowing and issuing bonds.The money raised may not be used immediately (idle), and the money raised overseas has the trouble of remittance to the country. Six months before the repayment, you have to find a way to raise new money to repay the old debt.When you quantify the expense, anxiety and loss of freedom, borrowing and issuing debt is not worth it.

Let me be an afterthought: the debt ratio of our domestic real estate companies is too high.The cost of domestic trust funding (15%+) is too high.The cost of issuing bonds overseas is also too high (generally more than 10%).If land prices and housing prices cannot rise sharply, this kind of debt will hurt the intrinsic value of the company.Although it will not bring down the company, it can easily turn a company with a market value of [-] billion into a company with a market value of [-] billion.

Based on this idea, I have been holding a real estate company with net cash (more cash than bank liabilities) in recent years: Baoye (2355.HK).It is a real estate and construction company in Shaoxing, which I have always admired. Since its listing in 2003, its stock price has risen by 210%. With dividends, the shareholder return rate is as high as 3 times.The current interest rate is still about 5.5%, and the price-earnings ratio is 3.5 times.Although there are two other mainland real estate companies listed in Hong Kong with a price-earnings ratio of about 3 times, they have a lot of debt, which is not only dangerous, but also, when you add the net debt to the market value, you find that their "enterprise value" (Enterprise Value) Value, EV) is very large.That said, their shares are expensive: more than 10x.

Although the situation in the real estate industry is not good, if Baoye Real Estate suddenly decides to delist at the current stock price, I am still very happy to be a minority shareholder.I trust the character and ability of the management.If a company suddenly decides to delist with the current stock price, I am still happy to be a minority shareholder. That is the real investment without anxiety.

Overweight stocks in monopoly industries

On New Year's Day in 2012, I said that I would increase my holdings in ENN Energy (2688.HK).I did.I also bought China Resources Gas (1193.HK).Until it announced its 2011 results, I didn't believe in China Resources Gas. The reason is that they have been in the gas business for a relatively short period of time. Second, they paid a higher price when they acquired the city gas franchise.The third is that I think state-owned enterprises should not do fine work.Now, I've changed my mind.I feel that some of its costs were digested during the incubation period of the parent company.Moreover, if this kind of monopoly industry has an annual growth rate of 30% or even 50%, you have to surrender obediently: where in the world can you find such a good business? !

Based on similar reasoning, I overweight China Oil Gas (0603.HK).Monopoly industry plus high growth.If you run into a very good management again, what do you expect?

Minsheng Bank (1988.HK) is my favorite!The stock price hasn't risen much in recent months, but its 2011 performance has been fantastic.I understand that such high growth (59%) is unsustainable, but such a low valuation is also unsustainable.Otherwise, in a few years, its price-earnings ratio will be around 1 times.The interest rate is also ok.I'm not afraid of allotment of funds: as long as the funds raised can come in handy, isn't that great?I have the patience to wait.

Maoye Department Store (0848.HK): The current share price is 30% lower than the IPO price four years ago.Of course, this doesn't explain anything.Maybe the original IPO price was too expensive?Maybe its prospects are bleak now?But my answer to both questions is no. In the past 4 years, its business has improved a lot and grown a lot.While it may not be the best company in the industry, it's pretty good.It spends money to buy land and build shopping malls. This asset-heavy business model must sacrifice short-term profits, but I am a long-term investor.Maoye is like a real estate company, the difference is that the houses of ordinary real estate companies are most afraid that they will not be sold, while the houses of Maoye have a definite buyer (or user).In addition, Maoye's land is generally in a good location.The many small stakes Maoye acquired will turn out to be valuable.If you use the method of "through calculation" to evaluate Maoye, you will find that it is extremely valuable.

(End of this chapter)