Brief Value Investing: When Job ‘Quality’ Prevailed over ‘Headcount’ and more

In this briefing:

1. When Job ‘Quality’ Prevailed over ‘Headcount’
2. Eurobank: Battle-Hardened and Transformation Bound
3. Krung Thai Bank: Not as Cheap as It Looks
4. Chiyoda: Minor Updates About the Major Capital Infusion, Cost Overruns and Upcoming Orders

1. When Job ‘Quality’ Prevailed over ‘Headcount’

• A 387k decline in employment didn’t weigh on the jobless rate of 5.2% according to the latest labor survey data. As the labor participation rate declined in 4Q18, roughly 2.1mn of those in the labor pool voluntarily passed up the job search, to ease any employment demand-supply mismatch.

• For those employed particularly in the non-farm, production sectors led by manufacturing and construction, the quality of jobs generated dominated the lack of headcount gains in determining incomes, if not, uplifting purchasing power. If we exclude direct government job creation from the labor stats, we obtain a non-farm, private job creation of 1.1mn (vs 3Q18: -8.6k) up 3.8%YoY. Average weekly work hours were 43.2 versus 40.6 a year-ago suggesting more overtime work. Salaried workers grew by 1.4mn (+5.6%YoY) employed mainly from private establishments. Underemployment fell to 15.6% in the latest job survey vs 18% a year-ago.

• As inflation recedes, the robust non-farm employment and better job quality won’t be compelling for policymakers to rush any form of monetary accommodation. Since the jobs data or GDP prospects are not as vulnerable to sharp downswings due to onshore catalysts, e.g., upbeat public investments, consumption recovery, despite a less-than-encouraging global backdrop, the Central Bank may focus on possible risk of a liquidity crunch and emergence of positive, real interest rates in determining the policy options for monetary accommodation this year.

2. Eurobank: Battle-Hardened and Transformation Bound

Eurobank Ergasias Sa (EUROB GA) FY18 results were satisfactory. The bank is now weaned off ELA, pays a tax rate of 33% for the first time in many years, generates robust deposit inflows, enhancing the liquidity position, and is actively reducing NPEs. Management foresees the current problem loan ratio at 37.1% easing to 16% in 2019 and 9% by 2021. Problem exposures will be slashed by €10bn in 2019 through securitizations, collateral liquidations, sales, recoveries and charge-offs. Recent data show a much more benign situation regarding negative NPE formation. The worst seems to be behind the Greek Banking System, barring some external global or regional event or domestic policy misstep.

The legal framework for banks has improved with the Katseli Law providing lenders with greater protection for recovering mortgage NPE foreclosures in the event of default on restructured loans. The real estate auction system has also been gaining much greater traction.

Eurobank is engaged in a corporate transformation plan in order to unlock value, improve capitalisation, and manage NPEs. The plan revolves around a merger with Grivalia, “Pillar” (€2bn mortgage NPE securitization), “Cairo” (€7.5bn multi-asset securitization), the creation of a loan servicer, and a hive down. The bank will focus on core banking rather than functioning as a distressed real estate asset manager.

The outlook for the Greek economy has improved somewhat. The 2019 Budget is based on a primary surplus target of 3.5% of GDP. Exports and private consumption are drivers for solid growth of around 2%. The cash buffer of at least EUR26.5 bn is equivalent to 2 years of gross financing needs. Moody’s raised Greece’s issuer rating to B1 from B3 and its outlook to stable from positive (Feb19). The sovereign gained market access with recent 5year €2.5bn and 10year €2.5bn issues. A tailwind will be the resurgence of “animal spirits” under a New Democracy administration after elections later this year.

3. Krung Thai Bank: Not as Cheap as It Looks

Originally, Krung Thai Bank Pub (KTB TB) struck us as interesting. A solid PH Score™, reasonable franchise valuation and P/Book, and a low RSI.

However, further due-diligence shows a somewhat stagnant and eroding operation.

• Headline profitability improvement is unrelated to efficiency or to operational advances.
• Cost growth is fast outpacing a declining top-line.
• Interest income has actually fallen for each of the last 3 years.
• The bank is being squeezed on margin despite keeping interest expenses unchanged.
• Non-interest expenses soared by 26% YoY.
• The bottom line (and profitability) was flattered by varied low quality items as well as much lower loan loss provisions, but still remained well above comprehensive income.
• Asset Quality is also concerning (despite lower loan loss provisions) given the sharp rise in loss (especially) and substandard loans as well as the amount of Special Mention Loans on the Balance Sheet. This means provisioning of problem loans may not be sufficient.
• Liquidity: Deposits are also declining, pushing up the LDR.

4. Chiyoda: Minor Updates About the Major Capital Infusion, Cost Overruns and Upcoming Orders

The key point of interest for investors regarding Chiyoda Corp (6366 JP) continues to be details surrounding its upcoming capital raise. The company has, since early November when it incurred these losses, offered scant details regarding the structure of the capital raise, except to note that the components would include additional loans and equity from industrial partners and most likely, main shareholder Mitsubishi Corp (8058 JP).

We visited the company to gather as much information as possible on the potential structure of the capital increase and to update the order outlook and reasons for further cost overruns.