SI Research: 3 Things To Like About HRnetGroup

In this time and age, the internet has become a main tool for finding information. If you needed a hotel to stay, you would probably have used sites like “Booking.com” or “Hotels.com”; a long list of brands that belong to the duopoly of the hotel industry – Expedia and The Priceline Group.

Drawing a similar parallel, lining up in career fairs or scouring through the newspaper for job advertisements have also become a thing of the past. Now, both the millennials and past generations of workers just look for jobs behind their computer screens. For the locals, chances are that we have made use of recently-listed HRnetGroup’s (HRG) services at some point in time.

HRG made its debut on the Mainboard of the Singapore Exchange (SGX) in June this year and the homegrown company is the first recruitment agency to be listed on the local stock market. Retail investors that are unfamiliar with HRG may be unaware, but its brands like “Recruit Express” and “RecruitFirst” may resonate well with the public in Singapore.

But despite its dominance and brand proliferation in the local recruitment market, HRG’s initial public offering (IPO) was considerably somewhat muted compared to coffeeshop master leaseholder Kimly. Yet, unbeknownst to many, our local sovereign wealth fund Temasek Holdings (Temasek) actually committed pre-IPO investment in HRG as well.

Equipped with the knowledge that Temasek has an interest in HRG, we dig into the company to discover its investment merits and see if there is any deep value to be harnessed.

More About HRG

Whilst the group is headquartered in Singapore, HRG’s operations are not limited to the local market but instead span across nine other major Asian cities including Seoul, Tokyo, Hong Kong and Shanghai.

The group’s businesses involve around driving employee mobility for professional recruitment as well as flexible staffing (simply understood as part-time recruitment). Complementing its primary operations, HRG also provides payroll processing, human resource consulting and corporate service trainings.

Source Of Revenue (FY16)

Source: IPO Prospectus

Highly Profitable And Cash-Generating

Plowing through HRG’s IPO prospectus and investors can quickly find the reason as to why HRG should be included in their radar.

From FY93 to FY16, the group’s revenue grew at a compounded annual growth rate (CAGR) of 31.6 percent to $365 million. On a shorter historical horizon from FY14 to FY16, the group also posted rather respectable CAGR of 6.1 percent. Similarly, HRG’s net profit also trended upwards, growing at CAGR of 39.5 percent to $41.1m from FY93 to FY16.

Further testament to its strong management, the group has never landed in the red since its incorporation, even though it had gone through two global financial crisis. In its latest 1H17 results, HRG grew revenue by 6.5 percent to $192.8m while adjusted net profit (excluding IPO expenses) jumped 22.5 percent to $21 million.

Typical of a recruitment agency, HRG’s business model is asset-light and hence no incurrence of major capital expenditure (capex) allowed the group to accrete a big chunk of its revenue to its bottom line. For the past three financial years of FY14 to FY16, gross margin held steady between 36 to 39 percent while net margin was a solid 10.8 percent on average.

Owing to its high profitability and low capex requirement, the group is also highly cash-generative and could utilise its own cash to fund acquisitions. So why did HRG choose to raise capital through an IPO instead of debt since the latter is generally a cheaper form of financing? Our guess is that for HRG’s case, not many assets can be collaterised given its asset-light model. As such, banks could ask for higher interest rates to compensate for the risks and hence make debt-financing an “expensive” option for HRG. That said, this is apart from the fact that an IPO opens other avenues to raise funds such as from bond offerings or rights issuance.

Robust Balance Sheet And Decent Yield

As of 1H17, HRG still remains with zero debt and its net cash position rose to $279.2 million after including the net IPO proceeds. This would amount to about 35.9 percent of its market capitalisation of $778.8 million (based on its trading price of $0.77 per share). Effectively, with 1009.4 million outstanding shares, cash portion per share would amount to about $0.28.

Sitting comfortably with its mountain of cash, HRG’s balance sheet is highly liquid with quick ratio at a whopping six times. Of course, we expect that HRG would probably utilise some its cash for acquisition purposes in the near-term but earnings accretion can be a stronger catalyst for the stock price.

At the meantime, the group also proposed dividends of about 50 percent of its net profit for FY17 and FY18. Using the back-of-the-envelope calculation, assuming revenue growth of 6.5 percent and net margin of 7.5 percent (due to IPO expense) for FY17, revenue would be about $388.7 million while net profit would be $29.2 million. If 50 percent of net profit is set aside for dividends, investors stand to earn about $0.0144 per share for FY17, representing a decent yield of 1.8 percent.

That said, our estimation is a conservative one and HRG will more than likely outperform our assumptions. Based on its 1H17 results, revenue and net profit is about 50 percent and 63.4 percent of our full year estimates respectively.

Long-Term Fundamentals

Ironically, with the world growing more dependent on technology and automation, the role of recruitment agencies to drive employee mobility is also becoming increasingly relevant.

In addition, the recruitment industry is also highly resilient since people seek jobs whether in an upcycle or downcycle. In growth periods, more jobs are created and thus more recruitment services are demanded. Whereas in a recessionary periods, an increase in unemployed workers would also raise the demand for job-seeking.

Interestingly, the group runs on co-ownership business model and has many of both leaders and business pioneers vested in the group to align management interest with the shareholders. Furthermore, HRG also has a low public float of just 23.8 percent while Simco Trust – an investment vehicle of the founding Sim family – owns a good 74.2 percent of the group. With such huge self-interest at stake, we believe that that the management would act well in the interest of the shareholders and hence create shareholder value in the long term.

Valuation

Given its asset-light model, valuing the company based on book value might not be comprehensive. As such, we should focus more on its earnings to value the group.

On a trailing 12-months basis, HRG is trading at a price-to-earnings (P/E) multiple of about 15.8 times at about $0.77 per share. The current valuation seems fair for HRG, considering the fact that both top line and bottom line are showing solid growth rates.

But if we were to account for the cash portion of $0.28, investors are effectively paying about $0.55 per share for its earnings, translating to a lower P/E of just 11.2 times. This boils down to the point that the market may not be pricing in the growth potential of HRG from the utilisation of its cash.

That said, investing in HRG is not completely without risk. Growth might not materialise and the low capex requirement means that barriers of entry are extremely low. This means that competition can be intense, especially for smaller scale recruitment agencies. But by being the first recruitment agency to list on SGX, HRG’s move would have already cemented its dominance in Singapore.

Dominance In Singapore

Source: Frost & Sullivan; IPO Prospectus