Edit: Someone later pointed out to me that the market cap I had used for this report is incorrect (because of the ownership structure some places have the wrong market cap). While the company is still probably decent value at an $800m market cap, the value probably doesn’t outweigh the risk from liquidity, geography and ownership. I’m leaving this report up for accountability purposes.
I believe Malaysian construction company United Overseas Australia (UOS) to be one of the most compelling stocks available on the market currently. In UOS you have a company with an incredible track record of shareholder returns, high quality management and significant macroeconomic tailwinds trading at an incredibly cheap multiple and a high margin of safety. With a huge discount to tangible book value it’s a classic case of heads you win big, tails you don’t lose much as management’s track record of capital allocation ensures that shareholders will continue to be paid, and provide tangible returns even if the price doesn’t rerate. I believe UOS is the rare example of a high quality long term compounder trading at a trough multiple due to illiquidity and geography.
Business
UOS is a Malaysian based property development company that IPO’d on the ASX in 1999. Since then the share price has returned a 12% cagr (excluding dividends) while effectively utilising buybacks and dividends consistently to maximise shareholder returns. The company owns an office and apartment block in Perth and a commercial development in Ho Chi Min, however the majority of their assets are based in Malaysia with an assortment of hospitality, residential and commercial properties. These properties are owned and developed through 70% ownership in their Malaysian listed subsidiary UOA Development BHD and a 30% ownership over their UOA REIT vehicle.
Part of where this opportunity lies is around the impact of Covid on the Malaysian construction industry. The construction industry in Malaysia has been smashed by strict Covid regulations, high inflation and staff shortages which have in total led to almost 50000 contractors to shut down their businesses. The level of input price inflation meant that many projects ended up costing more than initially projected, while a lack of projects made it difficult to add clauses for inflation into contracts to protect from that. Strict covid restrictions have caused significant delays to projects and revenue recognition, while skilled worker shortages due to closed borders and illness have added to that. UOS earnings are currently considerably lower than historically, partially due to making the decision to pause any new projects throughout Covid due to the uncertainty. During this time they’ve continued to just build up cash on their balance sheet, which has left them now highly capitalised and able to take advantage of opportunities that may come their way. Especially with interest rates rising and property prices falling, UOS will be in a very strong position, being able to finance new purchases through their balance sheet as opposed to needing to take out expensive debt like most of their heavily leveraged counterparts.
While this seems like a tough macro environment, many of the aforementioned headwinds are likely abating for 2023. Malaysia is in the process of letting in over 500000 migrant workers to ease labour demands, which will help quell staff shortages. Furthermore, the strict Covid restrictions that plagued the past 2 years have been eased, with Malaysia entering the endemic phase of Covid. Significant segments of revenue were forced to be deferred this year, which is revenue that will return next year without the heavy restrictions. Additionally, new construction projects were paused for the entirety of Covid, being pushed back with the aim of commencing production in the second half of this year and beyond. The rampant input price inflation seen over the past 2 years has also likely stopped, or at least significantly reduced with many raw goods topping out mid 2022. At the very least, prices shouldn’t see the drastic moves that priced many construction firms out earlier this year. With the economy coming back online and demand for commercial and hospitality spaces resuming I don’t believe there to be significant downside to current earnings, with significant upside if earnings normalise.
The Financials
UOS is a classic net/net. With a market cap of $283m they have a $400m net cash (cash + accounts receivable - all liabilities) position along with land and investment properties worth $1.45b. Normalised trailing net income is approximately $40m (removing fair value adjustments) giving them a trailing P/E ratio of 7. This is way down on their historical net income (which has been fairly consistent at around $100m) due to the aforementioned freeze on new projects combined with a significant drop in demand for their commercial and hospitality segments due to covid. While I’m not forecasting a return to pre-covid levels long term for either segment, these will continue to normalise having already increased from $45-55m in the last half yearly report (down from $60m in the same period 2019 with less assets). With such a huge amount of cash on their balance sheet they can act opportunistically as opportunities come up. I’m not going to bother doing a precise valuation as I don’t think one can be done for a situation like this. Taking net cash value, putting a PE of 8 on current earnings (which I believe is conservative considering recent business conditions) and then adding a 30% discount for geography+illiquidity gives me a valuation of $504m, 78% above the current market cap. I believe this to be pretty conservative, and unlike a lot of other undervalued illiquid shitcos they have a history of returning capital and have means to close that value gap. Removing the conservatism from the valuation we could give an 8 earnings multiple on more normalised 2019 earnings (approx $85m) plus cash to get a market cap of $1B, over 3x the current market cap. While I’m not sure it deserves to trade at that kind of valuation, it puts into perspective just how deeply under intrinsic value this company trades.
Risks and Why It’s Cheap
The first thing to note is that this stock is highly illiquid, with 20000 average volume. The majority of the shares are held by majority owner Kong family, so it would be difficult to get in and out in size. To add, the shares have a majority owner, so minority shareholders have very little control over the company. This is somewhat mitigated by the historical shareholder friendliness displayed by the owners, with a willingness to both return capital and allocate capital opportunistically. One risk is that the last few years' decline in earnings is terminal. While it’s true that earnings started declining before covid in 2019, the company has been consistently profitable going back a decade (including last year in the worst operating conditions) which means there's a low chance of that cash balance being used up for operations. The valuation is cheap enough that the downside is very protected, and earnings could continue their decline (after assuming some mean reversion to the upside next year) and the company would still look cheap, even not including cash. In reality, I don’t believe there’s any reason to suspect that the company is particularly impaired for the long term.
Finally, capital allocation / management is the major risk in this idea. There are many small, tightly held net/net shitcos trading incredibly undervalued that will never realise that value due to shareholder unfriendly capital allocation from management. It doesn’t matter how much cash a company produces if shareholders never see it. In their most recent half yearly report UOS cut their half yearly dividend without comment, which is the only thing that has kept me from backing up the truck and making this my largest position (currently I have a modest holding). This is obviously concerning, but based on their commentary there’s no reason to believe that the next few half years won’t improve. It’s likely just highly conservative capital management from a management that has historically been very conservative. Management has a good track record of returning capital to shareholders and I believe deserve the benefit of the doubt in this regard in the long term.
With UOS we are presented with the unique opportunity to invest in a company with high quality management and a fantastic track record trading at a dirt cheap price on artificially low earnings. While there is uncertainty in the future, the earnings power of the company can only go up in the short term as the Malaysian economy continues to recover from covid and management’s historical propensity for shareholder returns removes some of the classic net/net risk. Worst case scenario the stock remains cheap and shareholders likely make a below market return from dividends (while probably not losing significant capital), while best case scenario the company could be worth significantly more than it is currently. Some catalysts to watch include the resumption of new construction projects and utilisation of their cash for either capital returns or new investments.