SEEK and you shall find

Was surprised to see the announcement yesterday that SEEK was "seeking"  to issue debt in the form of subordinated notes. Reasons?

1. I.T companies are usually high risk so demand for debt issues would be pretty low. These sort of companies are usually funded by equity rather than debt

2. The price (5-5.5%+Swap rate) is pretty generous for debt. You are looking at potential yields of 9% or so (which is more that equity at the moment)

So I decided to put my financial analyst hat on and go looking into the Annual report of SEEK for 2011. A few things found

1. Not a big fan of how SEEK put "Share of profits of associates and jointly controlled entities accounted for using the equity method" straight into the front part of the Consolidated income statement. Under IFRS, I thought that this should go into the "Other Comprehensive Income" section. I believe this addition over inflates the Net Profit after tax figure. If you adjust it, you have Common size NPAT dropping by 7% over the year 2011.

2. Debt to Equity is already slightly high at 0.63. Current Ratio is low at 0.68

3. Financial Leverage is over 2.2

4. Book Value per share (if you remove intangibles) is negative.

5. The sale of Put option to buy another 20% of JobsDB (capped at around AUD 83,000,000 in 2023/2014) not great. Hmmmmmmmm. Not sure myself. But I would suggest a fair bit of due diligence/financial advice before deciding to invest.

Disclaimer: This is a personal opinion based on certain assumptions/calculations that may or may not be true/correct. It is not financial advice and should not be taken as a recommendation to invest/not invest in the SEEK notes issue

GDP for March '12 - + 0.9 for the quarter, + 3.6 year on year

Impressive figures for GDP. So why are people complaining that times are tough? Well when you look at the state final demand since 1985, you can see that the two most populous states aren't going the best. Pretty much illustrates the "two speed economy"

Its all WA and QLD baby!

Revenue Recognition - CO2 Group

Having a bit of interest in the sustainability business world, I've been looking at the Annual Report of Co2 Group, Australia's largest Carbon Offset provider (and one of the few that are listed).
One thing I have been curious about is how they have been recording increased revenues in their Statement of Financial Performance but the cash flows from the cash flow statement haven't quite been meeting up. Specifically, how in the last year, their operating cash flow/Net income ratio was below 1.
Based on my CFA Level 1 studies, this is usually a sign of aggressive accounting policies and/or earnings manipulation. Now, I am not about to accuse CO2 of that, but I delved a little deeper into the 2011 annual report and found these two items in the notes

(ii) Project revenue

Carbon sink project revenue is recognised in proportion to
the work performed in relation to the product development
and the various stages of completion of the carbon sinks.
Work performed that has not been invoiced is recognised
as revenue and the balance is held as accrued income.
If payment has been received in excess of the stage of
completion of the project, the liability is recognised in
deferred income.

Now I read this as all project revenue (actual, accrued and received in advance) is fed straight into Revenue and that which is accured/recieved in advance is also added to the Balance sheet accounts. This seems to match up with the Indirect Method of the Cash Flow statement (which is also included in the annual report), which adds the increase in "Other Liabilities" to Net Income to come up with the operating cash flow.

Also, the proportion of the amount that is defined as deferred/accrued seems to be based (in part) on Management discretion. As shown by the next note :-

"Estimates and judgements are continually evaluated and are based on historical experience and other factors, including expectations of future events that may have a financial impact on the entity and that are believed to be reasonable under the circumstances.
The Group makes estimates and assumptions concerning the future. The resulting accounting estimates will, by definition,
seldom equal the related actual results. The estimates and assumptions that have a significant risk of causing a material
adjustment to the carrying amounts of assets and liabilities within the next financial year are discussed below.
i) Revenue recognition
The Group’s policy for recognising revenue from Carbon Sequestration Plantation Services is based on management’s estimation of the stage of completion for these projects by reference to costs incurred compared to total estimated costs at completion. As at 30 September 2011, the Group has recognised $606,258 (2010: $479,849) as accrued income and
$14,270,346 (2010: $12,256,820) as deferred income as a result of the application of this policy."

Now when Project Revenues make up approx 59% of Revenues and 71% of Gross Profits, this is a fairly important factor governing profitability and could explain why the cash flows are marketly different to Net Income. It would be good if there was a little more visibility regarding this, as a more conservative interpretation of this (Revenue only recognised when % completed, rather than immediately) would give Co2 Group a very different outlook.

WACC of Average Australian Household - 6.15%

I was reading an article the other day about solar power and how a lobby group for this power industry was saying that PV power had obtained grid parity in Australia (i.e it was now the same price to add Solar Power to the grid as it was for Coal power).
This was obviously a ridiculous statement in my opinion (coal power in Australia is the cheapest there is at the wholesale level), but there was another question when it is put as "socket parity". i.e is it as cheap for the consumer to put solar cells on their roof and have a reduction in their power bills as it is to just keep on buying power from the major suppliers.
It's obviously an interesting question, but impossible to answer without knowing what the Weighted Average Cost of Capital (WACC) is for the average household in Australia. The reason we need to know this value is so we can discount the future cash flows of the savings in power to see if these cash flows in the future do in fact exceed the Present value of the expense of adding these cells (quite a large investment).

Anyway, another way to look at the WACC is the opportunity cost of capital..i.e the alternatives to put your money. And the two main places the average household in Australia would put their money is in their superannuation or into their mortgage (through an offset account, or making extra payments).

So using some ABS info (Household Wealth 2009-2010), we see that the average super balance of the average household is $116,000. The average Mortgage debt is $188,000. Thus if we look at total capital, we are looking at ($304,000) per household, where 38% (116,000/304,000) is Superannuation and 62% is Debt. For the purposes of this calculation, we are assuming this capital position is unchanged going forward.
Now what are the rates of return on both Super and the Mortgage Debt. Super is easy. Using APRA data, we see that the average 8 year (2004-2011) rate of return on the top 200 superfunds is 5.5%. We also assume contributions are taxed at 15%
For Mortgage debt, the rate of return is the interest saved when money is placed in an offset account or taken off the loan. Thus it is the average mortgage rate from the banks. Using RBA data, we find that the 8 year average (2004-2011) is 7.05%. Another assumption being made here is that the mortgage is for an owner-occupier and so is tax-free.

Using this information, we can now calculate the WACC. The formula is :-
(%Debt)*(Rate of Return on Debt)*(1-Tax on Debt)+(%Super)*(Rate of Return on Super)*(1-Tax on Super)
Throwing in our figures, we get
0.62*0.0705*(1-0)+0.38*0.055*(1-0.15)

= 0.04371+0.01777
= 0.06148
= 6.15%

What this effectively means is that Households need to make a 6.15% return on any investment for it to add more value to the Household that just throwing excess cash in the Mortgage account and Super.I just don't see how Solar Cells can do this, but with the price of electricity rising, who knows? In a future blog post I will check to see whether this is true.

Reserve Bank Decision - Cut rates 0.25%!

Not bad...Goatameter is 3 for 4 since March! (though I missed the really good one)
Sensible decision by the Reserve in my opinion.

Prediction for Reserve Bank - Decrease interest rates by 0.25%

It's that time again. The Goat-a-meter is still leaning towards the negatives...if anything, negative sentiment has increased since last month. Inflation expectations are not high, and while employment is holding up, the financial markets and the world economy are not not looking good.

However, I do believe it will be only a 0.25% decrease, rather than the 0.50% being bandied about by the punters.One would hope the reserve has learned it's lesson after last month. We will see.