Hi TBE,While there are almost an infinite number of variables...

Hi TBE,

While there are almost an infinite number of variables that can come into play during price discovery, a company's PE multiple is primarily a function of market expectations regarding (i) earnings growth, and (ii) earnings certainty.

Now in the case of NBS, the sp was pushed down dramatically early this year by undisciplined selling during the financial crisis from QIC (who were exiting in hurry nearly all their small-cap and biotech holdings). In other words, earnings growth and earnings certainty didn't come into the equation. QIC sold for non-company specific reasons. (Personally, I was very pleased with QIC selling because it allowed me to buy a good chunk of ETC at 22c). There was a second wave of selling mid year from SK, who also sold down for non-company specific reasons. (I was also happy with the QV selling because it allowed me to double my holding at 36c).

Nevertheless, the insto selling made everybody look for 'what is wrong with the NBS story'. I.e., many folks thought that there must be a good reason why NBS' is trading on such a tiny earnings multiple. The rationale that the market seems to have invented for itself to justify NBS's low earnings multiple is that one of its key contracts is with a Chinese govt agency, and this agency is not going to 'pay up'. In fact, some folks had similar fears with NBS contract with the Malaysian govt early this year, until, surprise surprise, the Malaysian govt in fact paid its invoices (and continues to do so) right on time.

We will find out soon enough if the Chinese govt agency is in fact intending to pay for the critical and potentially life-saving service that NBS is providing. I believe it will. Indeed, I can find not a shred of credible evidence to indicate that NBS shareholders have anything to worry about in this regard.

Now, on the sound assumption that both the Malaysian and Chinese govt's will honor NBS invoices, let us examine if NBS has the earnings growth profile and earnings certainty to justify a double digit PE.
Regarding growth, NBS is looking very solid. Depending on currency fluctuations, FY09 NPAT is likely to come in between $41-48mill (up from $11.65mill in FY08), FY10 between $80-100mill, FY11 between $100-$120mill. (I can confirm that NBS management think that these numbers are realistic).

Regarding earnings certainty, NBS also looks very solid. The company is debt free and is not in need of any capital. Its debtors are cashed up Asian governments who, IMO, should be regarded as a more reliable than most non-govt counterparts. Furthermore, even if NBS doesn't win another contract, NBS has presently has earnings certainty for 5 years. I.e., the initial Malaysian and Chinese contract terms are for 5 years (in fact the Chinese contract is 5+5). How many high PE companies have this kind of earnings visibility? COH? no RDF? no.

I'm hoping that the commentary attached to the FY09 results will kill once and for all this persistent rumor that the Chinese aren't going to be reliable debtors. Once this rumor has been disproved, there really is nothing else stopping the market from believing the NBS story and re-rating the stock accordingly.

With regard to this re-rating, I see the stock trading at around $1 prior to the FY10 dec half results. If the FY10 half year results show that the company is on track for an $80-100mill FY10 NPAT, then I see the stock trading at around $2 this time next year. And if FY11 looks like it is going to conform to expectations, then $2.50 within 18 months is certainly realistic.

Further contract wins in the interim will accelerate this price rise, but the price rise is not dependent up further contract wins (at least over the medium term).

If we choose to believe what management has been telling us, then it is hard to see that NBS is anything less than a well-managed, debt-free cash cow.