The old thread turned into a discussion on other things, but I still want to ask people for their opinions on the right way to "per capita-ize" XIN vs its peers for cash balances, so I'm rebuilding it here. My initial post was:
I can't figure out if XIN has "too much" cash because I don't know the right ratio to use to validly compare different Chinese RE development companies on a "per capita" type basis. My best guess is CASH/EQUIVALENTS TO ANNUAL REVENUES, but that's just a guess. If you know a better metric, please post it.
Texas Trader replied: I think you are headed in the right direction. Thinking about it, I would think Working Capital as a % of Sales might be better than just cash/equivalents by itself. If that % is truly an outlier to the industry, might be worth asking the question "why?".
Then I asked a couple follow up questions I'm hoping TT will answer: Thanks. I don't quite have my brain around the working capital approach yet, but I'll think more about it.
In the meantime, is the following two step equation how I'd arrive at the comparable numbers?
1. Current Assets - Current Liabilities = Working Capital.
2. Then, Working Capital / Annual Sales = the percentage to compare between companies?
In this situation, would Annual Sales be equal to annual revenues under the contract accounting method?
Our numbers are practically identical.
My first 5 years, using 5% earnings growth, then discounting for 2% time value of money and 10% RE bubble risk total about $6.10, same as yours.
The only question I have is have we accounted for identical factors in our $6.10 numbers?
I think the answer to that is yes, but I just want to make sure.
Alright, I gave a first draft a shot here: https://docs.google.com/document/d/1QCeO1indASaF7qfE78fbquqiY2v-CTN7PraAMi-NgtQ/edit
That chart (is supposed) to give, by column, left to right:
2. Xin's gross earnings, calc'd 5% annual growth
3. Discount for time value of money only, calc'd at 2% (T-bills or something)
4. Untitled Column starting with .909 -- this is the remaining value left after one year's discounting at 10%. Each number below .909 is .909 raised to one more power, for each additional yr. I drew this from the wiki pg that you can link to from the document; I also try to explain it a little on the Google doc, below the columns. I think it's sound.
5. "RE Bubble 10%" column is just column 3 times column 4 and gives the present value of XIN's earnings that year after having been reduced by time value of money and RE bubble risk, but not yet by the "normal" risks, that you ably listed in that post which you can link to from the Google doc.
6. Column that begins ".833" -- this is the percentage of the remaining value left after one year's discounting at 20%. Each number below the .833 is .833 times itself again (raised to one more power, to indicate one more yr, as per wiki thing)
7. "Case # 1" Column -- This is RE Bubble Column times ".833" column and represents that year's XIN earnings after discounting for time value of money AND 10% RE bubble risk AND 20% "normal" risks.
This last column gives a total for Discounted Present Value of $5.77, which would imply the market must be pricing in about a 50% fraud discount.
I want to do more cases for that last column. What do you think of the 20% I used for the "normal" risk of missing the number in Case 1? Too high? Too low?
What would you think of a 'sliding' risk of missing the earnings number, getting bigger as it gets further out? Maybe make make the normal risk slide up by 5% per yr: 5%, 10%, 15%, etc.?
I will try to address both of your recent posts.
First...I am happy to see that our discounted numbers came up basically the same. I didn't discount the 1st two quarters of this year (and assumed they made this qtr's numbers), so I am happy with how that ended up.
Second...Couple of things. I'm with you until you get to the 20%. In my opinion, that is a bit high. We are already building in a 10% possibility for a bubble, and I wonder what other "normal" issues could arise that would cause them to miss by an additional 20%, when historically they have positive surprises (remember the 30% avg. positive surprise since 2009). I like your idea of a sliding scale, and think it should apply to the positive side as well. In other words, a dead-on hit has the expected impact long term. A 5% miss may carry with it more damage than a 5% surprise, given the current sentiment, but think that a sliding scale could be developed that (maybe) weighted a miss more impactful than a positive surprise. May a factor of 1.0 for a miss and .75 for a beat. And then determine the expected impact for specific ranges, say 0-5%, 5-15%, 15-25%, >25%, or something like that. I would certainly say that a .01 miss or beat is not nearly as impactful as a .15 miss or beat.
Here is what I get...using 5% growth, and a 10% probability of a bubble (and assume 0 earnings)...
Base EPS 90% 10% Adj EPS
1 1.41 1.34 0 1.34
2 1.48 1.33 0 1.23
3 1.55 1.4 0 1.2
4 1.63 1.47 0 1.17
5 1.71 1.54 0 1.13
Basically says the NPV of future earnings is still $6.07 by using these assumptions
That's a good question about why XIN doesn't have guidance beyond this year, whether it's a basic conservatism in the approach, or what.
Certainly the Chinese market's less transparent than our own, and its government's actions are way harder to predict, but I think investors would understand that and consider numbers forward of this year as 'early' estimates, subject to refinement as we got closer.
By this point, XIN must surely have some numbers for itself internally, right? I can't see how letting the investment community in on those numbers could be a bad thing.
I'm going to poll the board on the the real estate bubble thing; I'm not sure it'll prove helpful, but we don't lose anything for trying. Then I might try out the discounted cash model under a few different assumptions for the 2nd step of the discount rate.
My latest thinking on the bubble thing is that my earlier number was probably too high. Does a 10% chance of a Chinese RE bubble seem reasonable?
Would certainly like to see what they are thinking in the out years, no doubt about it. Which leads me to a couple of questions about what drives that..is it a conservative approach from the XIN leadership?...or is it due to the uncertainty of the Chinese real estate market (which kind of leads back to the coservatism).