Looking for spooks, page-44

Brenomullo

I had not forgotten that I wrote that I would respond to your post of 26/11/2015 – it's just that I have found it more difficult to understand the issues required to build a reasonable model to allow me to respond intelligently. Hopefully, I'll resolve matters sufficiently to build a model that puts me in a position to comment on your approach. However, I provide limited comment below.

Guesstimating Settlements
The pipeline information in the FY2015 presentation uses the vague term “completions”, which seems to be a mixture of construction completions and some settlements of FY2014-completed projects. The annual presentation for FY2014 provided, in effect, only metrics for scheduled construction completions. In the past, high levels of presales and smaller projects would have meant that construction completions approximated settlements, because overflows from each previous year would have compensated for non-settlements of the then current year. Larger and longer-term projects suggest that guesstimating future settlements requires one to downward factor the numbers provided in the FY2015 presentation, especially the later years.

Guesstimating Profit before Tax
I have not understood enough of the accounts to have an opinion how one might convert settlements into Profit Before Tax, but I think one should split projects into those that are 100% FRI and those that are joint ventures, because different arithmetic seems to be needed to extrapolate their settlements to Profit Before Tax. I'll not detail the things that I do not fully understand, because I may understand them on further investigation and consideration.

Taxation
FRI's history shows that on average it pays about 30% tax. However, as FY2014 and FY2015 demonstrate, deferred tax assets and liabilities can be significant in any one year. I suspect that the waxing and waning of the tax deferral value springs from FRI expensing some development costs that the ATO disallows until settlement occurs, so some years have more tax than 30% of the reported NPAT would occasion, and other years less than 30% when deferrals are reversed. HC posters familiar with taxation in the construction industry may be able to proffer reasonable guesstimates of tax-deferral movements.

Share Price vs Valuation
If Mr Market were rational, he would see through the lumpiness of FRI's reported NPAT, and hence reported EPS. However, he is irrational, and so trying to guesstimate what reported EPS may be year-on-year makes sense if one wants to guesstimate what the SP might be at different points in time using a PER-based approach that accommodates the negative WA-property-market factor. If one wanted to evaluate what FRI shares are worth to oneself as a long-term investment, one should look at the underlying performance , factored by risks. Without justifying calculations, I would suggest a valuation would be above $1.50, because John Chan has being accumulating since the SP was $1.40, and as a rule of thumb one could add 20% to that – $1.40 x 1.2 = $1.68. The Euroz analysis of 22/09/2015 on FRI's webpage moots a Target SP of $1.49, and a DCF-based valuation of $1.70 – numbers that my intuition suggests are reasonable.

I do not have the funds to buy more FRI shares, and what I already understand disinclines me to sell what I hold, so building a bottom-up model is more an intellectual challenge than something useful.