Philippine Estates Corporation (PHES) – Current Ratio

Philippine Estates Corporation (PHES) – Current Ratio

PHES, a publicly listed company in the Philippines engaged in the real estate business. It is controlled by the Gatchalian family. Let us take a closer look on the audited financials of the company as of December 31, 2011 taken from PSE.

Current Ratio: measures the capability of a company to pay its current liabilities. These current liabilities are to be settled in cash or in kind within the fiscal year or the operating cycle of a given firm, whichever period is longer. Normally, an operating cycle is equal to 12 months. This ratio is used to test the company’s liquidity.

Current ratio of PHES is 3.83:1 (652.7M÷170.4M). The company has the capability to pay its current obligations 3.83 times. Meaning, if PHES needs to pay 1,000 pesos of current liabilities, it has 3,830 pesos at its disposal to pay the 1,000 pesos current liabilities.

Current Assets ( in million pesos)	Y2011	Y2010	Diff	%
Cash and cash equivalents	19.2	2.4	16.8	696%
Trade and Other Receivables	123.5	57.5	66.0	115%
Real estate inventories	494.7	480.3	14.4	3%
Prepayments and other current assets	15.4	9.7	5.6	58%
Current Assets	652.7	549.9	102.8	19%
Current Liabilities ( in million pesos)	Y2011	Y2010	Diff	%
Accounts payable and accrued expenses	109.9	68.1	41.9	62%
Borrowings	26.3	0.7	25.6	3901%
Advances from related parties	9.3	7.0	2.3	33%
Retention payable and guarantee bonds	24.9	28.9	(3.9)	-14%
Current Liabilities	170.4	104.6	65.8	63%

However, a good current ratio doesn’t always translate to a better payment condition. We’ve got to check the cash conversion cycle of the company also. This is the time it takes to convert the current assets into cash. Cash is of course cash. In the table above, Trade and Other Receivables and Real Estate Inventories comprises 95% (76%+19%) of the total current assets. We would like to know how quick these Trade and Other Receivables and Real Estate Inventories can be converted into cash within 12 months in order to pay the current liabilities. We are treating the company as a going concern entity and not a company in dissolution, hence the need to take a further look on its current ratio components.

Cash conversion cycle is more aptly for retail business. The accounts receivable turnover ratio is great gauge of knowing how many times an accounts receivable is collected within a year. In real estate business however, there are different payment schemes to collect the receivables. Most of the credit terms last for more than a year because it involves a large amount of money on the part of the buyer. Schemes like 20% downpayment payable in three years or upon turnover of the project and the 80% balance is payable upon turnover. Sometimes in house financing is available and the company charge interest for 10 to 15 years with the principal and interest payable every month. What I am trying to point out is that computing the accounts receivable turnover ratio will likely not produce an accurate perspective of the company’s collection efficiency because terms are spread for more than a year and sales normally have cash involved upon signing of the Deed of Sale.

Trade and Other Receivables

Let us see the Aging of Trade and Other Receivables of PHES. Based on the table below, it has 151.9 million which is more than 121 days overdue and this account for more than 50% of the Trade and Other Receivables. The overdue receivables above 121 days are disconcerting to me although 234.9 million are secured by mortgage.

Current/Noncurrent Trade and other receivables, gross (in million pesos)	Y2011	%
Neither Past due nor impaired	108.4	40%
Past due 1 – 30 days	2.6	1%
Past due 31 – 60 days	3.9	1%
Past due 61 – 120 days	5.3	2%
Past due Over 121 days	151.9	56%
Past due Impaired	0.6	0%
Total	272.6	100%

Out of the 272.6M receivables, 234.9 million are Installment contracts receivables which are collectible within a period of one (1) of five (5) years, and are secured by mortgage on the property purchased by the buyer. These receivables bear interest at annual rates of 18% to 21% in 2011 and 2010 and the fair value of the mortgaged properties is 229.4 million.

While the company manages the credit risk from installments contract receivables through credit reviews, analysis of receivables, stringent customer requirements, advance payments for a significant proportion of sales, and various collection modes including the use of post dated checks and direct bank deposit it doesn’t negate the fact that past due receivables need to be reduced tremendously.

Current Assets

Trade and Other Receivables and Real Estate inventories comprise 95% of the total current assets. Thus, we will take a closer look on these two accounts.

Installment contract receivables increased by 368%, or 67.9 million pesos. The revenue is only 34 million pesos so how come the Installment contract receivables increased by 67.9 million pesos? The answer lies in the noncurrent Installment contract receivables. In Y2011, non Installment contract receivables decreased by 117 million because portion of it became collectible in Y2011.

Trade and Other Receivables  ( in million pesos)	Y2011	Y2010	Diff	%
Installment contract receivables	86.3	18.4	67.9	368%
Receivable from contractors	13.8	14.3	(0.5)	-4%
Advances to employees	2.5	2.1	0.4	21%
Accrued interest receivable	0.2	0.2	(0.0)	-9%
Other receivables	20.7	22.5	(1.8)	-8%
Trade and Other Receivables	123.5	57.5	65.9	115%

Real estate inventories comprise properties that are held for sale in the ordinary course of business.

Real Estate Inventories	Y2011	Y2010	Diff	%
Raw land inventory	324.0	324.0	-	0%
Project development costs	69.0	68.8	0.2	0%
Real estate held for development and sale	101.7	87.5	14.2	16%
Trade and Other Receivables	494.7	480.3	14.4	3%

Inventories for raw land did not move in Y2011 which signifies that no sale has been made in Y2011 with respect to raw land inventory. Overall, there is no significant change in inventories because the increase is only 3%.

The following are the real estate properties listed by PHES in its Annual FS.

PROJECTS	LOCATION	Hectares	Status
Pearl of the Orient Tower	Manila	7600 sqm	Completed
MetroTech Industrial Park	Valenzuela	30 has	Completed
Pacific Grand Villas	Lapu lapu City	40 has	Phase 1,2 completed. Phase 3-98%, Phase 4 -for awarding
Pacific Grand Townhomes	Lapu lapu City	7359 sqm	Phase 1 completed,Phase 2 initital fencing/woodworks
Jaro Grand Estates	Iloilo City	18.9 has	Chateaux Geneva-completed,Coastal Villa-intital site devt
Pacific Grand Residences Valenzuela	Valenzuela	2.7 has	Gate/Guardhouse completed
Tagaytay Project	Tagaytay	23.19 has	Planning
Pacific Grand Townhomes, Marilao	Bulacan	2.2 has	Planning
Pacific Grand Residences,Dasmarinas	Cavite	2.6 has	Planning

The real estate mentioned above were accounted on cost or NRV whichever is lower, a conservative approach in valuing the inventories of the company. Valenzuela properties total 32.2 hectares and based on the price/square meter provided in the advance to affiliates section of the company which is 6,450/sq.m price; it can easily translate to 884 million in profits at a gross profit rate of 40%. According to the disclosure made to PSE via http://www.pse.com.ph/resource/disclosures/2012/pdf/dc2012-3698_ALI.pdf , Ayala Land is in discussions with the Gatchalian Group with regards to the Plastic City and probably a joint venture will be formed. If we can get the market value of all the properties listed above, then we can have a fair estimate on the expected sales of PHES in the coming years.

I think there is so much value in store for the inventories above and the company is taking advantage of the improving real estate outlook by unlocking its potential through JV or other means of business.

Current liabilities

Current liabilities of PHES are reported at amortized cost. Accounts payable and accrued expenses are 65% of total current liabilities. This is where the major portion of current liabilities that needs to be paid.

Current Liabilities ( in million pesos)	Y2011	Y2010	Diff	%
Accounts payable and accrued expenses	109.9	68.1	41.9	62%
Borrowings	26.3	0.7	25.6	3901%
Advances from related parties	9.3	7.0	2.3	33%
Retention payable and guarantee bonds	24.9	28.9	(3.9)	-14%
Current Liabilities	170.4	104.6	65.8	63%

Accounts payable increased by 220% (42.3 million) in Y2011 mainly because of the purchased of office units at Ortigas, Pasig City. The cost is 54 million pesos including incidental charges. As of Dec. 31, 2011 the balance to be paid is 41.4 million pesos. Since the payment is monthly, PHES spread out the payment for the Year 2012.

Accounts payable and accrued expenses ( in million pesos)	Y2011	Y2010	Diff	%
Accounts payable	61.4	19.2	42.3	220%
Deferred output VAT and other taxes payable	23.2	25.8	(2.7)	-10%
Accrued expenses	6.3	4.0	2.3	57%
Other payables	19.0	19.0	(0.0)	0%
Accounts payable and accrued expenses	109.9	68.1	41.9	62%

PHES operating expenses is 30.4 million only in Y2011. Its components are the usual OPEX items like salaries, professional fees, Representation & entertainment, rent expense and others. In fact the company’s OPEX has been going down every year since Y2009 from 42.2 million to 30.4 million in Y2011. That is a sign of improving the company’s bottomline by eliminating expenses which the company deemed unnecessary.

Borrowings increased by 26 million pesos because of the 20 million bank loan and 6 million loans.

Retention payable and guarantee bonds decreased actually by 3.9 million but is still comprises 15% of the total current liabilities. PHES will pay the contractor upon completion of the project together with the necessary documents. Based on my experience, payments of retention are not being paid immediately upon completion of the project. It takes months to fully provide the necessary documents to the client and the inspection of the client also must be taken into account. Warranties will be there as additional expenses.

Summary:

PHES is more than capable of meeting its current obligations as indicated by its 3.83:1 current ratio. Although sales is 34 million only for Y2011, the current installment contract receivables increased to 86 million in Y2011 because part of the noncurrent installment contract receivables became current. Operating expenses is manageable at 30 million pesos and can easily cover by the installment contract receivables. There is a big value in the real estate inventories that can be unlocked into its maximum potential given the strategic locations of the raw land and real estate held for development and sale. The company has 32.7 hectares in Valenzuela and based on the 6,450/sq.m price, it can easily translate to 884 million in profits at a gross profit rate of 40%. Not to mention that PHES has land bank in Iloilo and Cebu prime locations as well. According to the disclosure made to PSE via http://www.pse.com.ph/resource/disclosures/2012/pdf/dc2012-3698_ALI.pdf , Ayala Land is in discussions with the Gatchalian Group with regards to the Plastic City and probably a joint venture will be formed. Accounts payable increased because of purchase of office units which is a non recurring item.