San Miguel Corp’s Fabulous Trillions!

Should the American economy ever achieve permanent full employment and prosperity, firms should look well to their auditors. One of the uses of depression is the exposure of what auditors fail to find. Bagehot once observed: ‘Every great crisis reveals the excessive speculations of many houses which no one before suspected’— JK Galbraith, The Great Crash, 1929

In this Issue

San Miguel Corp’s Fabulous Trillions!

-The First Trillion: Revenues

-The Next Trillion in the Making: Debt Hits Php 802 Billion in 2018!

-As the Poster Child of the Bubble Economy, SMC’s Share Prices Nearly Reaches Record Heights

San Miguel Corp’s Fabulous Trillions!

The low interest rate environment greatly encouraged the search for yield as greater risks were taken in exchange for higher returns—Financial Stability Coordinating Council, Financial Stability Report 2017

The First Trillion: Revenues

Mesmerized by a milestone, the CNN Philippines reported: “San Miguel Corporation (SMC) exceeded the ₱1-trillion mark in its 2018 revenues. Consolidated revenues form all its businesses, which include San Miguel Food and Beverage, Inc. (SMFB), SMC Global Power Holdings Corp., Petron Corporation, and SMC Infrastructure, reached ₱1.02 trillion last year, up by 24 percent from 2017. Factoring in expenses such as operating costs and taxes, resulted in a net income of ₱55.2 billion, up by one percent from 2017. "Income growth for the conglomerate was tempered by the sharp decline in crude prices resulting in inventory losses for its fuels and petrochemical business during the 4th quarter of 2018. This was compounded by forex translation losses for the year," SMC said in a statement. SMFB, which has subsidiaries San Miguel Brewery Inc., Ginebra San Miguel Inc. and San Miguel Pure Foods, had a net income of ₱30.5 billion. SMC also said that its big-ticket construction projects, which fall under SMC Infrastructure, remain on track, including the construction of Skyway Stage 3 and MRT-7.”

Sure, San Miguel’s (PSE: SMC) 24.07% or Php 198.9 billion revenue spike lifted 2018’s total to Php 1.025 trillion, doubling its 7-year CAGR to 5.6% from 2017’s 6-year CAGR revenue of 2.8%.

And despite such a marvelous headline number, the firm’s net income dropped 11.25% to Php 48.65 billion from 2017’s Php 54.814 billion and was 6.9% lower than 2016’s Php 52.24 billion.

Income growth was “tempered”, supposedly, from the sharp decline in crude prices, as well as, forex transaction losses.

However, as part of other income (charges), gains from dividend income and PSALM monthly fees reduction partially covered the forex losses of Php 9.714 billion. As such, including construction profits (revenues-costs) and gains on derivatives, other charges accounted for Php 5.628 billion reversing last year’s gains of Php 154 million. 

It was big, but not considerable enough to "temper" SMC's income growth. 

Figure 1

The spike in other charges (Php 5.474 billion) pales in comparison to the 27.39% surge in interest expense from Php 35.714 billion in 2017 to Php 45.5 billion or an increase of Php 9.8 billion last year. (see figure 1)

So what brought about the surge in interest rates?

The simple answer: SMC’s debt growth exploded in 2018!

The Next Trillion in the Making: Debt Hits Php 802 Billion in 2018!

Figure 2

As one can see in SMC’s Investor’s Briefing, Interest-bearing debt skyrocketed 45.92% to Php 802 billion last year from Php 549 billion! (figure 2 upper window)

Last year’s increase of Php 252 billion in marginal debt was 419% of published net income Php 48.65 billion! With net income lower by Php 6.16 billion last year, the corrosive effects of SMC’s soaring debt levels have become apparent in its bottom line.

It has been years since SMC has been borrowing far more than it earns. Since 2012, debt grew faster than published net income. Only in 2016 and 2017 did the debt-to-net income ratio fall below 100%. (figure 2, lower window)

Even without this year’s data, from 2012 to 2017 aggregate debt expanded Php 255 billion compared with an aggregate income of Php 253.5 billion.

That said, in my opinion, SMC may have been UNDERSTATING its debt servicing cost or interest expenses, thereby, OVERSTATING its bottom line.

With the incredible gorging of Php 252 billion of debt, it would be a complex and an extraordinary challenge for SMC to camouflage it on their Financial Statements.

Think about it, even without interest, the sheer scale of such debt acquisition should spur a proportional increase in amortizations of the principal unless offset by significant gains of revenues or margins. That’s not about to happen. It takes time for grand infrastructure projects to go online.

So the dramatic rocketing of debt has yet to reveal itself on SMC's interest expenses.

Furthermore, with the published capex doubling in 2018 to Php 109.07 billion from Php 51.925 billion a year ago, much of SMC’s massive debt expansion could be deduced as having been channeled to debt refinancing.

Like the banking system, not only will SMC’s insatiable desire for debt continue, it is likely to accelerate. Example, SMC’s Global Power launched a Php 30 billion offering this April.

To that end, the spectacular debt growth of 2018 means that SMC's forthcoming trillion peso debt would likely EXCEED its trillion peso revenue soon!

As the Poster Child of the Bubble Economy, SMC’s Share Prices Nearly Reaches Record Heights

Of course, SMC’s phenomenal debt expansion has been justified or rationalized on the populist political-economic theme of “build, build and build” to “connect, connect and connect” which has all been about “spend, spend and spend”.

Even if we assume that SMC’s massive infrastructure spending will deliver the expected revenue streams in the future, it won’t likely be sufficient to cover the carrying cost of debt servicing. 

And if such Panglossian expectations wouldn’t be met, what would happen next?

When a firm becomes entirely dependent on debt rollovers or asset sales because operating income has been insufficient to cover debt servicing, such is known as Ponzi Finance as conceptualized by neo-Keynesian economist Hyman Minsky.

If easy money has radically debased Jollibee's formerly solid business model, then SMC would qualify as the poster child of the nation’s credit bubble! See Jollibee’s Fantastic Paradigm Shift: From Consumer Value to Aggressive Debt-Financed Pacman Strategy, March 3, 2019

The maladjusted economy, embodied by SMC, has been stoked mainly by the easy money policies of the Bangko Sentral ng Pilipinas, and secondarily, the passionate embrace of the perverted interpretation of Say’s Law of "Supply Creates its Own Demand" as the nation's economic development model by the political leadership.

Before closing, a noteworthy development has been that share prices of SMC have almost hit an all-time high to close at Php 181.4 last April 12 on the same rationalizations of build, build and build. SMC’s record high was set on January 13, 2011 at Php 182.5.

Figure 3

Declining net income, rocketing debt and debt servicing have been all forgotten in the frantic chase for yields on San Miguel’s share prices. 

In their Financial Stability Report, the Financial Stability Coordinating Council admonished,

Stock market price-to-earnings ratios, on the other hand, have been persistently well past their textbook warning thresholds but there seems no evidence that investors believe the stock market to be overvalued. Whether this is a Minsky moment waiting to happen is certainly an important thought but the absence of clear-cut valuation measures for the market as a whole leaves the issue without an empirical resolution.

Has part of the Php 252 billion of the 2018’s debt hoard been diverted to pump SMC’s share prices?

SMC’s soaring share prices have exemplified the striking misperception, the grotesque deformities in the pricing system, excessive and rampant speculation, possible price manipulations, and massive malinvestments.

The Lehman and Bear Stearns episodes show how wrong assumptions that sky-high share prices represent evidence of stability, soundness, and prosperity. (see figure 3, lower window)

The obverse side of every mania is a crash.