Manila Trip Report – An emerging Pacific tiger? (Part 1)
Exploring the ground truths Southeast Asia’s fastest growing economy and unearthing investment gems amid Manila’s madness
Initially planned around meeting a Chairman of an exciting listed company (to be covered separately), Altraman’s recent trip to Manila quickly morphed into a slew of meetings with other enterprises. His first stop was the Philippines Stock Exchange (PSE.PS) – the holding company itself being a potential play on the market as a whole, where he learned of catalysts such as soaring fintech-driven retail investor participation and government reforms to slash transaction costs. Further afield in Quezon, Altraman met with D&L Industries (DNL.PS), a raw materials manufacturer serving many of the country’s blue chips and multinationals. The ramping up of a major new production facility should allow it to move up the value chain and double revenues.
We will be releasing a two-part Series covering Altraman’s recent trip to Manila, sharing economic insights and highlights of meetings with three locally-listed companies. The first piece provides a glimpse of the country’s past, present, and future amidst enduring inequalities and details two of the investor meetings.
Navigating the juxtaposition of progress and poverty in Manila’s uneven landscape
This was not my first time in the Philippines – over 10 years ago, I had spent some time in Clark, Angeles and Tarlac to visit family friends based there. At that time, my recollection of Manila was miniscule, but the city now certainly feels much more densely packed, with malls multiplying and the skyline growing at an impressive clip.
Until recently, the Philippines was referred to as the ‘sick man of Asia.’ Despite being one of the region’s wealthiest economies post WW2, it was quickly leapfrogged by Japan and South Korea due to decades of mismanagement and corruption. However, this century, growth driven by remittances, business process outsourcing, and light industry have improved the situation somewhat. Today it is Southeast Asia’s fastest growing economy. The Philippines macro situation was well covered by Michael Fritzell from
in his own travel diary last year, so we will avoid repetition. However, it must be said that despite impressive growth figures, there are still deep-seated societal and infrastructural bottlenecks that are holding the country back.The stark disparity between Manila’s luxurious developments and impoverished areas underscores the Philippines’ wealth inequality. Despite growth in Makati CBD and Bonifacio Global City, poverty persists and inflation is chipping away at already-precarious livelihoods. Long-standing political dynasties continue to feature prominently on the political scene. The education system, failing to offer social mobility, further exacerbates this issue.
My anecdotal experiences on the ground reinforce the notion that meaningful progress remains elusive. Significant reforms and a shift away from the interests of the political elite will be necessary to truly transform the Philippines and address the stark inequalities witnessed. The work ahead remains daunting, but awareness of the realities on the ground is an important first step.
Exploring the pulse of Manila’s financial hub and a visit to the Exchange
With its notorious traffic jams, haphazard driving and ramshackle side roads, renting a car in Manila is no small feat for the uninitiated, but seeing this all first-hand and having (some) freedom of movement allows one to see the country’s reality up close.
My first stop was at Bonifacio Global City, the heart of Manila’s bustling commercial centre. A meeting with the senior corporate team at the Philippines Stock Exchange (PSE.PS, “PSE”; market cap of USD 274 million) provided valuable insights into the transformation underway at one of the oldest, but smallest exchanges in the region (282-listed companies).
Despite its history, the PSE’s growth has been hindered by regulatory speed and low liquidity. A significant shift has been the diversification of its ownership. Once broker-owned, it now includes institutional investors like retirement and government pension funds, bringing new expertise and capital to aid PSE’s growth. Another positive development is that the Marcos administration appears to be more focused on capital market developments than predecessors, which historically oriented towards more populist social welfare policies.
The PSE faces low liquidity, with 80% of trading from institutional investors (split evenly between local and foreign). They’re working with the authorities on a tax reform to cut transaction costs from 60 bps to 10 bps, but its status is unclear as it moves through Congress and the Senate. To boost retail participation, they’re introducing robo-trading services, leveraging GCash (payment app with 88 million local users) for stock trading, helping to boost trading accounts by 21.2% in 2023 alone. As with other developing markets, we like when we see retail investors starting to pile in, as it provides a general uplift for valuations and liquidity. The PSE is also reducing board lot ranges and removing minimum funding requirements. New indices, derivatives, and index futures are being explored to diversify offerings.
The PSE’s revenue growth may be limited this year due to a modest pipeline of 6 IPOs and FPOs (follow-on public offering), which is a major source of income. The PSE is working to incentivize public listings by reducing costs and requirements, even for unprofitable companies. To enhance engagement with smaller and mid-cap companies, the PSE is partnering with platforms like Bloomberg for quarterly briefings and exploring support for overseas roadshows and investor outreach.
An area to watch closely is the PSE's depositary revenue, which accounts for roughly 25-30% of its total revenues PHP 1.4 billion (USD 23.9 million) in FY23A. The exchange is currently operating at a daily average turnover floor of PHP 5-6 billion (USD 85-100 million), with its prior peak being PHP 10 billion (USD 170 million). In the near term, the PSE is targeting a return to this prior peak. However, the exchange believes that once the friction costs are reduced, it is possible to generate 3 times the current trading volume. This could be a decent catalyst for the PSE and position its depositary revenue segment to become an even bigger recurring revenue piece for the PSE.
PSE’s main capex is for maintaining and upgrading its core trading, clearing and settlement systems. It plans to remove older systems and invest PHP 500-700 million (USD 8.6-12 million) over three years for derivatives business infrastructure. Annual trading engine maintenance is budgeted at PHP 50-60 million (USD 850,000-1 million). PSE is exploring acquisitions to expand services and drive efficiencies. It expects a PHP 1.69 billion (USD 28 million) windfall from a subsidiary sale, which could fund these initiatives. Nevertheless, PSE is not short of funds, with a net cash position of PHP 3.9 billion (USD 68 million). It employs around 130 staff and recognizes the need for more to support growth.
In terms of shareholder returns, the PSE has historically maintained a dividend payout ratio in the 80-90% range, despite a stated policy of 50%, reflecting a yield of 4-5% at current levels. The stock trades in-line with the Singapore Stock Exchange (SGXL.SI) at an estimated forward P/E of 20x, and 23% and 27% discounts to Bursa Malaysia Berhad (BMYS.KL) and the Hong Kong Stock Exchange (0388.HK).
We will keep an eye on PSE’s growth story. While their initiatives are promising, the timing of these catalysts appears to be more medium-term. Should the stock experience further downside and there is tangible progress on developments, it could become a more compelling investment opportunity.
Industrial zone of Quezon City lies a 60-year old Filipino family business scaling up specialty chemicals
My next stop took me to an industrial zone in Quezon City, where I met with the Head of IR of D&L Industries (DNL.PS, “D&L”; market cap of USD 761 million), a 60-year-old family-owned business making waves in the specialty chemicals industry. The Company has built a reputation as an R&D-led producer of food ingredients, personal and home care products, and raw materials for plastic and aerosol products. With a diverse customer base that includes well-known brands such as Boysen Paint, Nestle (NESN.S), Jollibee (JFC.PS), and McDonald's (MCD.N), D&L has established long-standing relationships spanning decades. Over 70% of the Company's sales are to consumer-facing companies, with competing customers also sourcing from D&L.
Guided by a strict policy of no in-laws and a requirement for family members to have a bachelor's degree and work experience starting from the bottom, D&L is now run by the second generation of the founding Lao family. 62% of the Company is held in a family trust, with individual family members owning an additional 10.4% through open market purchases. This ownership structure ensures that the family maintains control over the business.
D&L runs an “asset-light” model, where it rents its facilities from a property management company operated by other members of the Lao family, which does raise some questions around related-party transactions. However, this approach allows the Company to focus on its core operations, with D&L providing management and shared services to its subsidiaries and affiliates.
D&L’s moat lies in its cost+ model which enables it to maintain fixed and strong (subject to commodity price volatility) margins regardless of top-line performance. Its in-house R&D capabilities also allow the Company to develop innovative specialty chemicals tailored to specific customer needs without sharing them to maintain competitive edge.
The key catalyst for D&L's growth is the scaling up of its Batangas plant. This facility allows the Company to move beyond its traditional role as a raw materials supplier and instead pack and compound products for end-consumers. D&L’s four business segments – food ingredients, oleochemicals and specialty chemicals, specialty plastics, and consumer products ODM – leverage the IP of the Company’s biochemist founders.
The full scale of commercial operations of the Batangas plant will allow for the opportunistic scaling of high-margin specialty products (HMSP), which currently account for 57% of the business, with the long-term target being a 70/30 mix of HMSP to commodities. As the Batangas plant reaches 60% utilization, which is expected to take a couple of years and more than double the Company's peak revenue, the margins are expected to be on par with the existing facilities. The plant is currently running at a loss, but as of Q124A, this is starting to narrow (loss of PHP 16 million (USD 270,000) compared to losses of PHP 157 million (USD 2.7 million) over the past 6 quarters consisting of pre-operating rental expenses and starting of commercial operations in Q323A).
On the capex front, D&L has about PHP 1-2 billion (USD 17.1-3.4 million) in backlog from the ongoing expansion of its Batangas plant, along with an expected PHP 800-900 million (USD 13.7-15.4 million) in annual maintenance capex going forward.
The company's working capital metrics show much room for improvement – the cash conversion cycle stands at 133 days, with inventory days at 101, receivables at 56 days, and payables at 24 days. Optimizing these components could unlock further efficiency and cash flow. Notably, D&L's target net debt level is 1.5-2x, but it is currently sitting at 3.1x as of Q124A. De-leveraging the balance sheet is also a key priority for management.
While D&L's management was cautious on providing specific revenue guidance for FY24e, sell-side consensus estimates call for revenues to grow 19% yoy to PHP 39.7 billion (USD 680 million), with earnings expected to increase by 35% yoy to PHP 3.1 billion (USD 53 million). The indicative forward dividend yield is around 3.5% assuming a 50% payout ratio. The stock currently trades at a forward P/E and EV/EBITDA multiples of 14.4x and 10.2x respectively, well below its 5-year average of 21x for the former, suggesting that the market remains somewhat muted on D&L’s prospects despite bullish street estimates. D&L will need to demonstrate consistent execution in the coming quarters for market confidence around its turnaround margin and capacity expansion narrative, which warrants close monitoring from us.
That’s all for now folks. Stay tuned for part 2 in our series, where we delve into an impressive local casino operator gaining market share in the Philippines’ rapidly growing gambling industry.
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I first visited Manila in the late 1990s. It was a scary place, gangs of kids tapping at the taxi window when they saw a foreigner in the backseat. Went again in 2015 or so and was really impressed. Still poor people but a sense that things were getting better. Market is very illiquid. I agree PSE looks interesting. I own Ginebra Sam Miguel and Asian Terminals. Have done well - still very cheap stocks posting good numbers.
I linked to your piece for my post today ( https://emergingmarketskeptic.substack.com/p/emerging-markets-week-june-17-2024 ) - I had lived and worked in Makati for several years up until maybe 2010 and wrote this piece some years ago for SA (I guess no longer paywalled): https://seekingalpha.com/article/959411-a-damaged-culture-no-more-an-investing-in-the-philippines-reality-check - As I replied to Leahi Capital, the mentality there really holds the country back...