What are some of the qualities in a company that Warren Buffet is known to seek? Well, there is durable competitive advantange, positive free cash flow, high return on equity and of course, he like companies with high enough earnings yield that appear to be trading at a good price.
Listed on SGX, we have Vicom (SGX:V01), Singapore’s leading testing and inspection company. This company is a long time favourite for dividend investors, a well known cash cow and is very well-positioned in the Singapore’s vehicle inspection industry.
Highly Regulated Industry
Just like how I dread going for Individual Physical Proficiency Test (IPPT) every year but have no choice unless I want to be charged by the SAF, car drivers hate to go for these annual checks at Vicom’s inspection centres. You just have no choice but to go. This landscape provides “forced” demand for Vicom’s services and it is recurring.
Most would have probably known by now that our government is pushing for 0% vehicle growth rate as we are being steered towards becoming a car-lite society.
https://www.channelnewsasia.com/news/singapore/lta-cuts-vehicle-growth-rate-to-zero-9335560
Yes, this would have some impact on Vicom’s growth prospects as more cars equals more inspections. However, I would not worry too much about it. As the cars get more sophisticated and carbon emission laws become tighter, I am pretty sure that the type of inspections done will be more thorough and prices will grow in tandem with the quality of these checks. Look at the excerpt from their 2018 report below.
VICOM inspected 461,088 vehicles in 2018 across our seven centres, about 7,700 fewer compared to 2017. Though there was a drop in inspection volume, this was made up for by the successful implementation of the new High/Low Idle test in April 2018. This new test was part of the wider regulatory plan to tighten the exhaust emission standards for in-use petrol vehicles and motorcycles. Under this test, carbon monoxide limits were lowered for newer petrol vehicles and motorcycles, and hydrocarbon limits were introduced for all in-use petrol vehicles and most motorcycles.
Vicom Annual Report 2018
From these we can see that new emission laws has brought additional business to them.
We can say the same for their non-vehicle inspection business, SETSCO. With more stringent standards, especially in O&G and construction, the frequency and types of testing required by different industry standards will increase in the near future. New material types or construction methods will require innovative ways to conduct their quality checks. All this will bring in new business opportunities for VICOM. The more their non-vehicle testing segment expands their scope, the better for their business.
Speaking of innovation, as technology disrupts the transportation industry, the government are constantly thinking of ways to try and regulate and control it. How does it benefit Vicom? Well, currently all Power-Assisted Bicycles (PAB) must be registered at any LTA-Authorised Inspection Centre (for $50). Private Hires like Grab and Go-Jek also have to purchase a decal from these inspection centres ($20) these decals and will be inspected (additional $10.70) during their regular vehicle checks. You don’t even have to look for new business, the business comes to you.
Moat?
There are a total of 9 inspection centres in Singapore which is authorized by Land Transport Authority(LTA) , out of which 7 are owned by Vicom. You could say that there are currently operating in a duopoly. Furthermore, because this business is highly regulated by LTA, it provides a high barrier of entry for new competition to enter the market. Their inspection fees are also controlled and consistent across all inspection centres, which means you can do a pretty accurate estimate of their earnings for the next few years.
Strong Free Cash Flow
VICOM has a dividend policy of declaring 90% of its yearly net profit as dividends. However, their dividend payout ratio in 2018 is close to 120%. This may seem unhealthy but if you look at their cash flow statement, the company actually paid out less than their FCF for the past few years. Taking from their 2018 annual report, their chairman Mr Lim Jit Poh has said,
This dividend payout reflects my earlier remarks in the past AGMs that so long as we do not need the extra cash, we shall return it to the Shareholders.
2018 Annual Report
May I also add that they are currently debt free and cash-rich with net cash at $1.27 per share. I feel that their dividend is sustainable and given their track record, we may even see an increase in dividend per share as they return value to their shareholders.
Valuation
Looking at their numbers, what stood out the most is their ROE and Net profit margin. A high ROE and profit margin reinforces my view that they have a strong moat and that their industry is not very competitive.
At their current share price of $6.70, Vicom has a PE ratio of 17, or 13.9 ex-cash. The 5 year average PE ratio is about 17.5 so I would say that it is in fair value range now.
Conclusion
As the industry leader in the vehicle inspection business in Singapore, VICOM enjoys a stable, recurring income from the mandatory vehicle inspections performed annually. Beyond that, SETSCO, their non vehicle testing unit, has opportunities of growth as it continually expands its presence in the market. I also feel that Vicom should have no problem dishing out their dividend.
Hence, I would dare say that it is the type of company that Buffet would be interested in.
The Moss Piglet is currently vested in Vicom at an average price of $6.02.
Cheers