Rearch Challenge Report FTU Team 2013-14 3

CFA Research Challenge Hosted in Vietnam

Foreign Trade University

1

INVESTMENT HIGHLIGHTS We initiate a BUY recommendation for The Southern Rubber Industry Joint Stock Company

(CSM) with a target price of VND43,966 (USD2.08) per share. This offers a 26.7% upside from current

market price, inclusive of dividend. CSM is the largest tire company in Vietnam with 17.4% of total market

share. In a larger context, the company has convincingly achieved the 5th place among South-East Asia tire

companies and 70th place globally.

Main price growth drivers:

1) Dominance in traditional segments: CSM currently reaches 35% share in motorcycle tire and 25% share in

bias automotive tire segment. This strong position is supported by the nationwide distribution network, diverse

product portfolio, and supportive market condition. Regardless of moderate sales growth, these segments

enjoy earnings growth at 10% CAGR in 2013-2020 period as a result of increasing margin.

2) Expansion in radial automotive segment: To catch up with the trend of substituting bias tires with radial

tires, the company has initiated a radial project since 2012 with total investment of VND3,450bn

(USD164.2mn). As traditional segments are maturing, the radial automotive segment becomes the key driver

for CSM’s long-term growth, contributing 57% of total sales in 2020.

Strong financial position: As a result of robust revenue growth of radial automotive segment and margin

expansion in traditional segments, CSM is expected to exhibit a healthy financial position. CFO increases

significantly with CAGR of 29.4% in 2013-2020 period. Solvency is improved thanks to decreasing long-term

debt. Meanwhile, ROE consistently stands at high level of 32% in 2012 and 41% in 2020.

Main risks to our target price: Significant risk derives from the fluctuations of raw material price which

account for 67% of total cost. This factor accompanied with the possible failure of launching new radial

products, management transition and changes in government policy can affect the long-term development of

the company.

Forecast Summary 2011A 2012A 2013F 2014F 2015F 2016F

Net Sales (VND M) 2,923.8 3,043.8 3,193.6 4,443.2 5,039.6 5,757.1

Gross profit (VND M) 262.6 707.1 798.4 948.8 1,069.6 1,220.2

Net Income (VND M) 39.3 253.9 364.3 408.9 465.2 541.7

Earnings per Share (VND) 929 4,339 5,414 6,077 6,913 8,050

Dividend per Share (VND) 2,000 1,071 2,609 2,603 2,659 3,020

Book Value per share (VND) 14,649 16,521 17,601 16,932 17,635 19,249

Source: Company’s annual reports, team estimates

Price chart of CSM stock

Source: Bloomberg and team estimate

Rating Buy

Price Target VND43,966

(USD2.08) Price, 1 November 2013

VND34,700 (USD1.64)

Upside 26.70%

Source: Team estimates

Key Financial Data

Book value per share VND17,601

Earnings per share VND5,414

Dividend per share VND 2,609

FCFF VND43,767

Debt/Equity 110.61%

ROA 15.20%

ROE 33.90%

ROIC 22.15%

Trailing P/E 7.52

Forward P/E 7.55

EV/EBITDA 12M 3.76

EV/EBITDA next year 4.7

Sources: Bloomberg, team estimates

Market data

52 week price range

(VND/share)

VND17,000 –

VND38,200

Average month

volume (shares) 592.461

Raw beta 1.33

Share outstanding

(million shares) 67.3

Free float 8.53%

Main Shareholders

Vinachem 51.00%

Insider Holdings 0.56%

Others 48.44%

Sources: Bloomberg, CSM’s annual report

Ticker: Bloomberg - CSM: VN

Tire industry

This report is published for educational

purposes only by students competing in

the CFA Global Investment Research

Challenge

2

BUSINESS DESCRIPTION

1. Overview

The Southern Rubber Industry JSC was established in 1976 and was transformed into a joint stock company in 2005. The

company was listed on HCM Stock Exchange in August 2009 with the ticker CSM. CSM is a subsidiary of Vinachem, one

of the largest state-owned conglomerates in Vietnam. Under its management, CSM has strongly expanded over the past

decade.

CSM is currently the leading tire manufacturer in Vietnam with VND3,043bn revenue in 2012, reaching the market

share of 17.4%. The company possesses a diverse product portfolio of tires for passenger car, light truck, medium truck,

motorcycle and bicycle. According to CSM’s annual report, the company has total capacity of 44 million of tires and

tubes, including 13mn units for bicycle, 28mn units for motorcycle and 3mn units for automobile. The main strengths of

the company are strong distribution network, competitive pricing and extensive export experience.

2. Product distribution channels

Domestic replacement market: Constituting 73% of total revenue in 2012 (Figure 2). The replacement demand is less

sensitive to economic fluctuations and customers’ income, which guarantees a stable source of revenue for the

company. Furthermore, thanks to the largest distribution network in the industry, CSM can secure its product presence

in the market and competitive position.

Domestic original equipment manufacturing (OEM): CSM also provides tires directly to some vehicle manufacturers

such as Hyundai and Suzuki. However, revenue contribution from this channel was only 2% in 2012.

Export market: CSM’s targeted market, making up 25% of total sales. CSM exports products to 36 countries all over the

world, gaining VND761bn of revenue in 2012. ASEAN is currently the largest export destination with 65% of exporting

value, followed by the US, EU, Japan and Africa. At present, the majority of exported products come from traditional

segments such as motorcycle tires and bias automotive tires. Nevertheless, radial automotive tires will become the main

driver in the future as the company plans to export 50% production volume from the new radial project to developed

markets, especially the US.

3. Value chain

CSM currently focuses on 2 main phases in tire industry: manufacturing and wholesale distribution. This strategy

enables the company to concentrate on its core operation and shorten cash conversion cycle. In the future, the

company plans to expand in raw material control and R&D activities to support sustainable growth in the long-term.

Raw material: In 2012, CSM has upgraded its inventory management system and moved manufacturing plants to near

rubber farms in order to secure a stable source of material. This is essential to the performance of the company as raw

material cost is one of the key earnings drivers for any tire manufacturer, accounting for 67% CSM’s total cost. In

addition, its parent company – Vinachem has strong connection with Vietnam Rubber Group, who supplies natural

rubber directly to CSM. This allows the company to actively manage raw materials without planting its own rubber

farms like other tire companies in the world.

R&D activities: In 2014, CSM will start operation of a new research and development center to enhance product quality

and increase profit margin. This R&D center also enables the company to better test new products, consequently

reducing risk of technical barriers when exporting to developed markets. Moreover, by researching to change material

bills, the company can reduce raw material cost, effectively boosting gross margin.

4. Business segments

CSM’s business is segmented into three main parts:

Bias automotive tire: CSM’s largest segment, accounting for 47% of total revenue (Figure 4). Thanks to the strength of

supplying tires for commercial vehicles and light trucks, the company sold 1.4mn tires in 2012 with revenue of

VND1,435bn, constituting 25% of total market share. As the segment is maturing, CSM intends to improve efficiency to

enhance earnings. In 2014, CSM will start operating the new research center, which is expected to increase product

quality and reduce operational costs.

Motorcycle tire: CSM’s second largest segment, contributing to 42% of company’s revenue. CSM has a dominant

position in motorcycle segment with 35% of total market share. In terms of units sold, the company also reached the

largest number with 3.9mn tires and 19.5mn tubes. This dominance is supported by the nationwide distribution network

and tight connection with retail stores. In the future, CSM will focus on scooter and tubeless tires, which offers higher

margins than traditional products.

Radial automotive tire: CSM’s targeted segment in the future. Since 2012, the company has constructed a radial plant

with total investment of VND3,450bn. The segment is forecasted to experience demand surplus due to the substitution

trend of bias automotive tires with radial tires. This offers favorable condition for the first production as scheduled in

2014. In this project, CSM mainly concentrates on radial tires for light and heavy trucks to meet strong demand. This

segment is considered as the key driver for CSM’s future growth with expected 57% contribution to total revenue in

2020 (Figure 5).

Figure 3: Tire industry value chain


Raw material

R&D

Manufacturing

Figure 2: Revenue breakdown by channels 2012

Source: CSM’s annual report and team estimates

CSM

Domestic market

(75%)

Export market

(25%)

Original Equipment

(2%)

Replacement

(73%)

Figure 4: Revenue by segments 2012

Source: CSM’s annual report

Figure 5: Revenue by segments 2020


47.2%

41.8%

11.1%

Bias tire Motorcycle tire Bicycle tire

57.1% 18.1%

21.0%

3.8%

Radial tire Bias tire Motorcycle tire Bicycle tire

Figure 1: Distribution network

Source: CSM’s website

Wholesale

Retail


3

INDUSTRY OVERVIEW

In this section we analyze two main markets in which CSM operates: domestic market and export market.

Domestic market: The advance of radial tires changing the scenario

According to Vinachem and team estimate, the market value of Vietnam’s tire consumption in 2012 was approximately

USD800mn, increasing 5% compared with the previous year. Three main segments in the industry are radial

automotive tire, bias automotive tire and motorcycle tire.

Radial automotive segment experiences intense and consistent growth

Based on our estimate, radial demand in Vietnam is expected to enjoy robust growth with 17.3% CAGR from 2013 to

2020, switching market into demand surplus (Table 8 – Appendix 7B). This effectively increases the market value to

USD514mn in 2020 with 36.5% of total market share (Figure 6, 7). The intense growth momentum is mainly driven by:

1) Substitution of bias tires with radial tires: Radial tires offer many advantages compared to bias tires such as

significantly higher mileage and lower rolling resistance. This in turn lowers fuel consumption and offers greater return

on investment for transporters. Additionally, increasing concern of consumers about safety and fuel efficiency will

support the increasing radial tire consumption. (For detailed comparisons, please refer to Table 11, Appendix 7B)

2) Radial utilization rate has strong potential growth: Radial utilization rate is calculated as the number of radial tires

divided by total number of automotive tires. In Vietnam, the estimated radial utilization rate is only 10% in 2012- a very

low level compared to 52% in Asia-Pacific region (Figure 8). As opposed to other similar countries in the region, we

expect the rate may reach 25% in 2020.

Bias automotive segment is maturing

This segment is forecasted to experience sluggish CAGR of 2.1% during 2013-2020, which is lower than 5.5% in 2012.

5.2mn units were consumed in 2012 with total value of USD246mn, making this the second largest segment in Vietnam

tire industry. However, the market share of bias automotive tire is predicted to compress from 31% in 2012 to 20.8% in

2020 due to the trend of substitution with radial tires.

Motorcycle segment remains as an important market

In 2012, the market value of the segment reached USD336mn, increasing 8.4% as compared with 2011. Motorcycle tire

is currently the largest segment in Vietnam, constituting 42% of total industry value. The revenue of this segment is

derived from two sources: Original Equipment Manufacturing (OEM) and replacement demand. From 2013 to 2015,

the market is expected to maintain momentum at CAGR of 9.2% thanks to strong OEM demand from local motorcycle

producers. However, the growth rate then declines gradually to 2.7% in 2020 as sales is mainly driven by replacement

demand. Regardless of moderate sales growth in the future, earnings of motorcycle tire manufacturers is expected to

improve thanks to the rising demand for scooter and tubeless tires, which offer higher margins than general

motorcycle tires.

For more details about our industry forecast method and results, please refer to Appendix 8.

Key players in tire industry

In domestic market, large firms have strengths in distinguished segments. For motorcycle tire, CSM dominates the

market with 35% share. In bias automotive segment, DRC and CSM take a strong position with 60% of total market

share. Meanwhile, radial market is monopolized by foreign players as domestic companies - DRC and CSM will only join

this segment in late 2013 and early 2014.

Export market: A huge growth potential

Low-cost strategy supports radial tire export into developed markets

According to Vinachem, with similar quality of products, CSM offers 20-30% lower price than competitors which are

based on developed markets. This can be explained by: 1) Effective raw material management reduces cost; 2) Cheap

labor and administration costs lower price; 3) Being free of tariff barriers further enhances price competitiveness. We

expect that CSM will benefit enormously from these advantages as it plans to export 50% of radial tires into developed

markets, especially the US.

Decreasing trade barriers enhances export in ASEAN and reduces imported material price

In 2015, ASEAN Economic Community - AEC will be officially formed and consequently, virtually all tariffs for regional

trade will be lifted. The export tax into countries like Laos, Cambodia and Myanmar will be cut from 5% down to zero.

This is particularly beneficial to CSM as ASEAN is currently the largest export market of the company, constituting 65%

of export value in 2012. Furthermore, as a member of AEC, CSM will gain competitive advantages over Chinese

products while tire producers in China still bear 10% of import taxes in the future.

Apart from creating export opportunity, reduced tariffs will also decrease imported material price. Among main raw

material for tire production (Figure 10), only natural rubber is provided by domestic firms while almost all others are

imported with tax rates ranging from 5% to 10%. As Vietnam plans to sign Transpacific Partnership in 2014 and join AEC

in 2015, raw material import taxes are expected to decrease significantly. This trend will boost earnings of CSM as raw

materials currently account for 50-60% of selling price.

Figure 6: Vietnam tire industry 2012 by segments

Source: Vinachem and team estimates

Figure 7: Vietnam tire industry in 2020 by segments


Figure 8: Radial utilization rate by regions

Source: Xerfi Global and Vinachem

Figure 9: Target export and domestic sales


Figure 10: Raw material breakdown 2012


18%

31% 42%

9%


36.5%

20.8%

37.4%

5.2%


10%

52% 72% 79%

96% 90%

48% 28% 21%

4%

0%

20%

40%

60%

80%

100%

Vietnam Asia Africa Europe NorthAmerica

Bias Radial

25% 35%

50%

75% 65%

50%

0%

20%

40%

60%

80%

100%

2012A 2015F 2020F

Domestic Export

34%

23%

14%

13%

16%

Natural Rubber Synthetic Rubber Cord Fabric

Carbon Black Other

4

COMPETITIVE POSITIONING

Domestic market

Radial automotive segment: Low price strategy is suitable in Vietnam. According to our estimate, the demand for

radial tire in Vietnam will intensely increase with CAGR of 17.3% in the next 7 years, switching market into demand

surplus. However, this market is currently dominated by foreign companies and imported products, of which price is

still high. Therefore, domestic radial tires with lower price are expected to meet the demand of customers. According

to Vinachem, CSM can offer price with 20-30% discount to imported product of similar quality, which ensures the

consumption for the new radial project. Even though DRC has made the debut in the market in June 2013, CSM can still

quickly release its product thanks to the nationwide distribution network.

Motorcycle segment: Strong distribution network plays the key role. CSM currently has an extensive distribution

network and maintains tight connection with retail stores across Vietnam. This allows the company to get easier access

to customers than any other competitors, namely DRC, SRC, Yokohama, or Cheng Shin. In addition, CSM’s product is

highly rated by consumers thanks to its suitability in Vietnam road condition, which gives CSM higher pricing power

than other companies. The five-force model further emphasizes the dominance of CSM as can be seen by no substitute

product and high barriers to entrance (Figure 11). Therefore, we expect that CSM will continue to dominate the market

in the future.

Bias automotive segment: CSM’s diverse portfolio and high product quality ensure a strong market position. CSM

currently offers 60 different types of product, serving a wide range of demand. This enables the company to

differentiate its product mix from other competitors. Moreover, CSM’s products are of high quality and voted by

consumers as a national strong brand. It also has the largest R&D center in Vietnam, effectively enhancing product

features to compete with other companies. As the bias automotive market is maturing, we expect that CSM will

continue to strengthen its position in the future.

Export market

ASEAN market: In this region, CSM mainly exports to Laos, Myanmar and Cambodia, in which tire industry is poorly

developed. The main competitors of CSM in these markets come from China with low-price advantage. However, we

expect that the company will benefit from long-standing trade relations between Vietnam and these countries as can

be seen by low tariff. While import tax applied for CSM’s product is only 5% and will be lifted in 2015, Chinese

producers are exposed to permanent tax rate of 10%. Additionally, the company has recently expanded its distribution

agencies in these countries to further penetrate into the market.

Developed market: Low-cost strategy offers competitive advantage for exporting radial tires.

CSM’s target market for radial export is in developed market, especially the US. By offering 20-30% lower in price but

still reaching international quality standard, CSM can gain strong competitive advantage over foreign-based

companies. In addition, as Chinese producers have to pay 35% import tax for the US and 8% export tax for China’s

government, CSM’s tires will become more attractive to consumers. Therefore, we expect that CSM can successfully

introduce its product into foreign markets.

For detail about competitive analysis, please refer to Part C of Appendix 7.

FINANCIAL ANALYSIS

Sustainable earnings growth

In 2012, CSM enjoyed robust financial performance with record sales of VND3,044bn. Net income also reached

VND245bn, 5.5 times higher compared with the previous year. The impressive performance continues in the first 9

months of 2013 with 38.3% YoY increase in earnings. This rapid growth was supported by the strong expansion in

export market, the downtrend of rubber price and realized gain of investment in affiliate companies.

In 2013-2020 period, we forecast CSM’s earnings will continue to experience a strong and consistent CAGR of 18.5%,

effectively increase net profit margin from 8.3% in 2012 to 12.6% in 2020. This is mainly driven by robust sales growth

and increasing gross margin.

Rapid sales growth

According to our estimate, CSM’s revenue will intensely increase at CAGR of 16.8% to VND9,456bn in 2020 with

different growth rate in separate segments.

Radial tire revenue presents robust CAGR of 30.8% in 2014-2020 period corresponding to capacity expansion of the

radial project. According to CSM’s plan, the radial project will release 180,000 units in 2014 before reaching full

capacity of 1mn units. With target price of VND6mn per unit, revenue is projected to reach VND1,080bn in 2014 and

increase to VND6,000bn in 2021. We expect that all production volume will be consumed thanks to favorable market

condition, in which demand is forecasted to consistently exceed domestic supply. Moreover, CSM offers competitive

price compared with foreign competitors, which further facilitates the product launch in 2014.

Figure 11: Five Forces Model


Figure 12: Market share in 2012

Source: Vinachem

Source: CSM’s annual report and team estimate

Figure 14: Total revenue (bnVND)


012345

Threat ofsubstituteproducts

Competitionin the industry

Bargainingpower ofsuppliers

Bargainingpower of

customers

Threat of newentrants

17.4%

16.1%

7.2%

59.3%

CSM

DRC

SRC

Others

-

300

600

900

1,200

0

3000

6000

9000

12000

Others Bias automotive

Motorcycle Radial automotive

5-Most favorable to CSM

1-Least favorable to CSM

Figure 13: Net income (bnVND)

5

CSM’s bias automotive tire and motorcycle tire segments are maturing with 2013-2020 CAGR of only 2.1% and 5.3%

respectively.

The domestic demand for bias automotive tires is forecasted to experience sluggish growth due to the trend of

substitution with radial tires and slow growth rate of automobile sales. Meanwhile, motorcycle segment continues to

expand over the next 3 years as a result of rising OEM demand before maturing when sales is mainly driven by

replacement demand. With a dominant position in traditional segments, CSM is expected to at least keep the growth

rate of the whole market.

Sound gross margin

Radial automotive tire segment: In 2014, the gross margin is forecasted to stand at only 10% on account of trial

production expense, rising administration and depreciation costs. The figure will increase to 25% in 2018 as the radial

project reaches economies of scale. This target margin is derived from average figures of top Asian radial

manufacturers in 2012 (Figure 38, Appendix 9) based on the following reasons: 1) As raw material price in the future is

forecasted to stay at a slightly lower level than in 2012 (Figure 33, Appendix 7B), the figure in this year would be a

suitable proxy to forecast the future gross margin; 2) The radial factory of CSM uses world-class technology,

consequently it is reasonable to expect that in the future this factory can operate with similar efficiency of top radial

producers in Asia.

Bias automotive tire segment: The gross margin is expected to reach 22.5% in 2013 and maintain this level in the long

term. In 2009 and 2012, this margin reached high level of 22.7% and 22.3% respectively as a result of the sharp

decrease in rubber price. The downtrend is forecasted to continue in 2013 before stabilizing in the future. Therefore,

we take the average figures in 2009 and 2012 as the target margin for bias automotive tire segment.

Motorcycle tire segment: The margin in 2009 and 2012 stood at 29.8% and 29.5% respectively. With the downtrend of

raw material price and increasing revenue from high-margin scooter and tubeless tires, the gross margin of motorcycle

tires is expected to reach 30% from 2013.

Although in long-term, the company is going to reduce its cost of goods sold thanks to the decrease in rubber price and

increasing efficiency in inventory management, we expect the overall gross margin will deteriorate slightly in the next 3

years. This is mainly driven by the low gross margin from radial segment in initial years. In mid-term, the overall gross

margin is expected improve as the radial gross margin reaches the target level (Figure 16).

DuPont analysis

In the analyzed historical period, CSM exhibited high return-to-equity at 32% in 2012 compared to 14% average figure

during 2009- 2011. According to our DuPont analysis, the most important driver for this impressive profitability is net

profit margin, which increased significantly from 1.3% in 2011 to 8.3% in 2012. We forecast that the ROE ratio will

continue to increase consistently from 34% in 2013 to 41% in 2020, which is mainly driven by net profit margin and

total asset turnover. In addition, the negative effect of declining financial leverage will be offset by the expanding net

margin and effective asset utilization, which confirms the sustainable profitability for CSM (Figure 17).

Strong cash generating ability

CFO is expected to increase significantly at CAGR 29.4% during 2013- 2020, mainly driven by sustainable earnings

growth and efficient working capital management. The company will experience the decreasing days of inventory

thanks to upgraded management system and near-sourcing operation. The days of sales also decrease as a result of

improvement in credit terms. This enables the company to shorten the cash conversion cycle from 134 days in 2012 to

90 days in 2020.

CSM will experience consistently negative CFI to increase investment in the radial project. Nevertheless, the company

will use long-term debt to finance capital expenditure, as can be seen by positive CFF in 2013 and 2014. From 2015,

CSM is able to internally generate enough cash for covering capital expenditure and debt repayment.

Improving solvency

We forecast the financial leverage will increase from 2.1 in 2012 to 2.5 in 2014 as the company plans to finance 70% of

radial project’s investment by debt (Figure 19). 75% debts come from USD with interest rate of only 4.5%, which allows

CSM to lower cost of capital and increase profitability ratios. From 2015, the leverage is expected to decline to 1.9 in

2020 as cash is sufficient to pay off debt. Accordingly, the interest coverage ratio will increase from 3.9 in 2012 to 11.9

in 2020, implying improvement in solvency.

For details about financial ratios, please refer to Appendix 6.

Figure 15: Gross margin of motorcycle tire and bias automotive tire


Figure 16: Overall gross margin


Figure 17: DuPont analysis for 2013 and 2020


Figure 18: Cash flows (bnVND)


Figure 19: Financial leverage


0.0%

10.0%

20.0%

30.0%

40.0%

2009A 2010A 2011A 2012A 2013F

Motorcycle tire Bias automotive tire

0.0%

10.0%

20.0%

30.0%

(1,000)

(500)

-

500

1,000

1,500 CFO CFI CFF

1.0

1.5

2.0

2.5

3.0

6

VALUATION

We have considered two approaches to value CSM: Discounted Cash Flows (DCF) and Multiple Analysis. While DCF

model incorporates long-term growth for CSM, Multiple Analysis reflects the market valuation

DCF valuation: Free Cash Flow to the Firm (FCFF)

This method is suitable for CSM as the company is borrowing a large amount of debt to finance radial project. We

evaluate CSM in three main market segments that the company operates, including radial automotive tire, bias

automotive tire and motorcycle tire segments. This approach is appropriate as these segments have different growth

rate and margin. We exclude bicycle tire segment from DCF valuation as this segment has small share in total

revenue, sluggish growth and low profit margin, consequently contributing minimal value to CSM’s stock price. The

base price from this model is VND43,787.

Sales

Radial automotive tire: As estimated, revenue from radial project will reach VND1,080bn in 2014 and quickly increase

to VND6,000bn in 2021. The robust revenue growth corresponds with output expansion from 180,000 units in 2014 to

full capacity of 1mn units in 2021. We forecast the average price will be kept at VND 6mn per unit, 20-30% discount to

the price of foreign competitors. From this conservative view, we expect that from 2022 revenue of radial project will

remain stable at VND6,000bn. CSM will take advantage of increasing margin to boost earnings in the future.

Bias automotive tire: Sales growth is expected to experience 2.1% CAGR in 2013-2020 period before reaching

terminal growth rate of 1%. The sluggish growth is derived from the trend of substitution with radial tires.

Nevertheless, with the status of a leading company, we believe CSM can at least maintain sales growth equal to the

rate of the whole segment.

Motorcycle tire: We analyze this segment in 3 stages of growth: analytical stage, convergence stage, and perpetuity

stage. Because of robust OEM demand from motorcycle producers, CSM’s revenue is expected to increase 9.2% CAGR

from 2013 to 2015. In 2016-2020 period, the growth rate declines significantly to CAGR of 3.6% as the OEM demand

slows down. Mature growth is forecasted to be 2% as sales is mainly driven by replacement demand.

For more details about sales forecast method, please refer to Appendix 8.

Gross profit margin

Radial automotive tire: Gross margin is forecasted to gradually increase from 10% in 2014 before reaching a stable

level of 25% from 2018. We take a conservative position on gross margin in the first 3 years to account for trial

production, depreciation expenses together with increasing selling and administration costs. In 2018, we expect

economies of scale will enable CSM to reach the target margin of 25%, which is derived from average gross margin of

big radial tire manufacturers in Asia in 2012.

Bias automotive tire: Gross margin of this segment is forecasted to stay at 22.5%, equal to the average figure in 2009

and 2012. Gross margin jumped to high level in 2009 and 2012 with 22.7% and 22.3% respectively, as a result of

decreasing raw material price. After significant decrease in 2012 and the first half of 2013, natural rubber price is

forecasted by World Bank to remain stable in the future. Therefore, we believe CSM can maintain gross margin at the

average level in 2009 and 2012.

Motorcycle tire: Gross margin is expected to reach 30% in 2013 and maintain this margin in the future. Like bias

automotive tires, in 2009 and 2012 CSM enjoyed robust gross margin for motorcycle tires with 29.8% and 29.5%

respectively. We expect CSM can slightly enhance this margin due to two reasons: 1) Raw materials price is forecasted

to continue the downtrend in 2013 and reach a stable level in the future; 2) Increasing revenue contribution from

high-margin scooter and tubeless tires will boost gross margin.

CAPEX

In total investment of VND3,450bn for radial project, CSM plans to pay VND2,000bn in 2012 and 2013 to finish the

first phase of construction. The remaining capital will be allocated in parts from 2014 to 2019, corresponding to

capacity expansion.

Meanwhile, based on analysis of fixed assets and depreciation of CSM, we estimate the investment for production

line of bias automotive tires and motorcycle tires will reach VND56.7bn per year, which is higher than VND50bn

estimate of the company. We divide the total capital expenditure according to relative contribution to sales of these

two segments.

WACC

CAPM is used to calculate cost of equity. Market return is 15.68% by annualizing monthly return from October 2009

to October 2013 of VN-Index. Country risk premium of 3.11% is added to required market return to better reflect

additional risk for foreign investors. We use 10-year government bond interest rate of 8.5% and adjusted beta of 1.23.

Cost of debt is calculated based on interest rate for VND loan of 11.5% and target tax rate of 20%. The debt-to-equity

ratio is targeted 0.75 in the long run as the company will use strong CFO to lessen dependence on leverage. Detail

about WACC calculation is described in Table 2.

Figure 20: Revenue from radial project (bnVND)


Figure 21: Revenue growth rate of motorcycle tire and bias automotive tire


Table 1: FCFF

FCFF bnVND

Radial automotive tire FCFF 1,205.90

Bias automotive tire FCFF 1,010.40

Motorcycle tire FCFF 1,923.60

Firm value 4,243.36

Market debt 1,298.18

Equity value 2,945.18

Number of shares outstanding 67,292,000

Price/shares 43,767.13


Table 2: WACC

10-year Government bond interest rate 8.50%

Expected Market Return 15.68%

Raw Beta 1.33

Adjusted Beta 1.23

Country risk premium 3.11%

Cost of equity (Ke) 21.35%

Cost of debt (Kd) 11.50%

Future corporate tax 20%

Target D/E 0.75

WACC 16.03%

Source: Bloomberg, Damodaran, team estimates

-

2,000

4,000

6,000

0%

2%

4%

6%

8%

10%

2013 2014 2015 2016 2017 2018 2019 2020

Bias automotive Motorcycle

7

Multiple Pricing: Forward P/E and EV/EBITDA

We choose regional peers based on the similar characteristics with CSM in terms of product lines, strategy and

financial performance: In Vietnam, DRC is the biggest competitor of CSM. We consider DRC as the only domestic peer

as both of companies plan to focus on radial tires and have similar financial performance. For better comparison, we

select other tire manufacturers in Asia using four criteria: Current market cap 2012 higher than USD100mn, revenue

2012 at least USD100mn, ROE in 2012 higher than 15% and 4-year median ROE of at least 10% (Appendix 10).

Valuation using both forward P/E and EV/EBITDA: While P/E reflects the direct relationship between price and EPS, it

can be inappropriate to compare firms with different accounting standards and leverage levels. Therefore, EV/EBITDA

is used to enhance the valuation as it is relatively less sensitive to the effect of capital structures and depreciation

policy.

Research by Kim and Ritter (1999) and Lio, Nissim, and Thomas (2002) found that forward-looking multiples increase

predictive accuracy and decrease variance of multiples within an industry, while trailing multiple is not informative

about future. Therefore, we use forward P/E and EV/EBITDA for more accurate valuation.

Valuation

From eight foreign peers, we have the median forward PER and EV/EBITDA equal to 8.09 and 4.58, respectively. The

domestic peer (DRC) exposes forward PER of 8.97 and forward EV/EBITDA of 5.90. Because the discrepancies between

these firms are small, we applied 50-50 proportion for both domestic and foreign peers to have the final ratios. The

target price from Multiple Valuation is VND44,662 (Table 3).

Weighting of the models

Multiple pricing reflects the market sentiment about stock price in the short term. Meanwhile, DCF Valuation

incorporates long term growth, which is deemed appropriate for CSM as the company will start operating a big radial

project in 2014. Therefore, we assign more weight for DCF with 65%, multiples with 35% and reach the target price of

VND43.966 (Table 4).

For a detailed volatility analysis of our target price, please see the Monte Carlo Simulation in the Appendix 15.

CORPORATE GOVERNANCE AND

CORPORATE SOCIAL RESPONSIBILITY

Corporate Governance (CG)

We estimate corporate governance quality of CSM by applying Principles of Corporate Governance publish by

Organization for Economic Co-operation and Development (OECD). CSM attains the total score of 43.6 out of

maximum 100 point, slightly lower than the average figure in Vietnam. However, we expect that this score will be

enhanced in the future thanks to the more aggressive concern of Vietnamese government about CG to promote the

efficiency of the market and the motivation of CSM to actively better CG to attract foreign investors, assuring long

term development.

Table 6: Corporate Governance

Good for corporate governance Not good for corporate governance

Shareholders' rights

- Shareholders are timely informed about Annual

General Meeting of Shareholders, owning rights of

voting.

- Company does not have the English versions of

reports, which is difficult for foreign investors to

access to information.

Equitable treatment of Shareholders

- Shares in the same class have equivalent right. - The Company’s Charter does not refer to the right of

cumulative voting for the minority shareholders.

Disclosure and Transparency

- CSM has the clear policy of disclosure of the

ownership and transaction of related parties.

- CSM is sometimes late for disclosing the transaction

of related party.

Responsibilities of the Board

- CSM has clear corporate governance regulation,

pointing out responsibility of Board of Directors.

- Only Chairman of Board of Directors is independent,

which is not satisfactory with the rule: 75% of

members are independent.


Table 3: Multiples analysis

Adjusted

Ratios

Target price

Forward P/E 8.53 VND44,184

EV/EBITDA 4.77 VND45,139

Average VND44,662


Table 4: Target price

Weight Price (VND)

FCFF 65% 43,767

Multiples 35% 44,662

Target Price 43,966


Table 5: CSM’s Corporate Governance score

Score Weight

Overall CG

performance

43.6 100%

Area A -

Shareholders

Rights

48.0 15%

Area B - Equitable

Treatment of

Shareholders

58.8 20%

Area C - Role of

Stakeholders

23.7 5.0%

Area D - Disclosure

and Transparency

42.1 30.0%

Area E -

Responsibilities of

the Board

35.9 30%


8

Corporate Social Responsibility (CSR)

CSM makes a good concern about relationship with employees, contribution to society and safety criteria for

consumers. Although eco-friendly tires are currently not paid attention to, we still expect CSM will catch up with this

trend soon thanks to its prospective R&D strength, which assures the company’s long-term competition advantage in

global market.

Table 7: Corporate Social Responsibility

Relationship with employees

The salary fund increases to the total amount of VND147bn in 2013, 3% higher than

previous plan. The average wage of employees in 2012 is high at VND8.4mn. CSM also

takes care of workers’ living quality and assures a friendly working environment.

Contribution to society

CSM possesses bonus and welfare fund of total amount up to VND10.5bn in 2012. CSM

regularly does charity work to help the underprivileged.

Safety

CSM’s products are applied international standards in term of safety such as: DOT of the

US, JIS K6366, K6367, D4230 of Japan… Moreover, CSM makes effort to improve product

specification to make suitable to Vietnamese climate and transportation circumstance.

Environment

CSM achieved ISO: 14001 from TUV in 2004, showing its high quality in manufacturing

process to protect environment.

CSM also follows EU standard seriously in using safe chemicals in production. The products

are assured not containing dangerous chemicals, harming consumers’ health.

Although eco-friendly tires are currently not concerned much, we expect CSM will timely

catch up with this trend thanks to its strong R&D activities and flexible ability to adapt to

international changes. .


INVESTMENT RISKS

MARKET RISK: Fluctuations of raw material price affecting gross margin assumption

According to our calculation, raw materials accounted for about 66.8% of total expense in 2012 (Figure 22). From 2010

to 2011, CSM’s earnings were adversely affected by the sharp increase in rubber price. To deal with this risk, CSM

often buys a large amount of raw materials when the price goes down as the advantage of increasing gross margin

much outweighs additional cost for storage. Moreover, the stable trend of natural rubber as forecasted by World Bank

further mitigates the risk (Figure 33, Appendix 7B).

MARKET RISK: Volatilities of exchange rates have direct impact on net income

With about 70% of machines for radial factory and 65% of raw materials imported from foreign companies, the

depreciation of VND causes additional cost for CSM. However, the company has planned to increase export from 25%

of total revenue in 2012 to 50% in 2020. This strategy will take advantage of possible depreciation of VND and raise

foreign currency inflows. Moreover, according to Standard Chartered forecast, VND will remain stable as compared

with USD in the future. Therefore, the exchange rate risk can be decreased.

MARKET RISK: Changes of interest rate affect financial expense calculation

Based on our estimate, 1% increase in interest rate may reduce CSM’s net income for 4.4%. This indicates that

earnings of CSM can be sensitive to changes in interest rate. However, in the future when CSM pays off debt, the

impact will be reduced. In fact, the lending rate has decreased quickly from above 20% in 2011 down to 13.5% in the

first half of 2013, which confirms the government’s commitment to stabilize macroeconomic condition. Moreover, as

Vietnam’s CPI is forecasted by IMF to remain stable at about 7% in the future, the fluctuations of interest rate can be

further lowered (Figure 24).

ECONOMIC RISK: Sluggish recovery of the economy may have influence on sales growth forecast

Tire manufacturing is dependent on the cycle of the economy. In 2012, Vietnamese economy experienced the record

low growth of 5%, which reduced demand for vehicle sales and road transportation, consequently decreased tire

consumption. Corresponding to the economic difficulty, CSM’s sales only increased 4.1% in 2012, almost half of the

previous year growth rate. In 2013, Vietnam’s economy is forecasted by IMF to recover slowly at 5.3% (Figure 25).

However, with high prospect of export market, strong distribution network and robust demand in radial segment, we

expect CSM can boost revenue as planned.

ECONOMIC RISK: Competition pressure

In 2014, CSM plans to launch product into radial market, which is at present dominated by imported products or

foreign companies. However, with about 20-30% lower in price, CSM can gradually enhance its appearance in this

segment. For traditional markets, we expect that CSM continues to maintain current status with the advantage of

economies of scale and strong distribution network.

Figure 22: Expenses 2012 by nature


66.8%

Raw materials

Labor cost

Administration

Financial expense

Selling expense

Tax expense

Depreciation

Figure 23: VND/USD exchange rate forecast

Source: Standard Chartered

Figure 24: Vietnam CPI forecast (%)

Source: IMF

18000

19000

20000

21000

22000

23000

2013 2014 2015 2016 2017 2018

5.0%

6.0%

7.0%

8.0%

9.0%

10.0%

2012 2013 2014 2015 2016 2017 2018

9

OPERATIONAL RISK: Updates in the radial project

There are risks connected with the new project. Even though the construction cost and imported machine price are

lower than initial estimate, there are risks related to the product launch in 2014, especially when DRC has started

operation of its radial factory in June 2013. There are also risks related to assumptions of the project such as average

price, target gross margin, and working capital. To analyze the feasibility of this project, we have conducted Monte

Carlo Simulation for NPV of the project and found that only 6% probability of negative value (Appendix 14). Therefore,

this project can be promising for CSM.

OPERATIONAL RISK: Increase in labor and SG&A costs

Even though the number of employees was reduced for 18% in 2012, labor cost increased significantly 19% as

compared with the previous year (Figure 26). However, we expect the cost can be kept stable due to the following

reasons: 1) Radial factory uses modern technology that reduces demand for labor in the long term; 2) In 2012, average

wage increased 45% as compared with 2011 to reach VND8.4mn per employee per month, a high level in Vietnam.

Combined with the fact that labor cost only accounted for 6% of total expense in 2012, we expect the risk from labor

cost will be minimal.

In 2012, SG&A costs accounted for 9.6% of total cost, increasing strongly from 5.4% in 2011. This was due to

company’s strategy to expand distribution network and support for radial project. With the advantage of economies of

scale, we expect the proportion will gradually compress in the future.

REGULARTORY RISK: Vehicle control policy

There are risks related to government restriction of vehicle sales. In the last decade, Vietnamese government has

imposed large tax burden on automobile consumption due to poor infrastructure condition and protection for

domestic auto industry. Even though the import tax will have to be decreased gradually to zero in 2018 when Vietnam

fulfills the commitment with WTO and AFTA, there can be risk that the government will use other policy to control car

sales, such as increasing special consumption tax, value added tax and road maintenance fee. This can bring about

negative impact on our automotive tire growth forecast. However, the main revenue stream of CSM is from light and

heavy trucks which are encouraged for economic development so the possible negative effect will be mitigated.

Meanwhile, potential changes in motorcycle policy can also pose some risks. Even though in the plan of Vietnam

Ministry of Transportation, Vietnam would have 37mn motorcycles in 2020, the update data in April 2013 has almost

reached that target. Therefore, there is a possibility that a new law controlling motorcycle sales will be enacted in the

future. The risk can adversely affect CSM as motorcycle tire segment accounted for about 41.80% of sales in 2012.

REGULARTORY RISK: Changes in environmental policy

In developed coutries, tire manufacturers have to satisfy some government’s policy related to environmental issues.

The implementation often results in additional cost or even changes in production line. However, we expect such laws

will not be imminent because Vietnam is still a developinng country. Additionally, with the operation of the new radial

plant and a modern research center as planed in 2014, we expect CSM can further adapt its production with

environmental standards.

COMPANY INTERNAL RISK: Low corporate governance score

Based on our analysis, CSM’s corporate governance score in 2012 is 43.55, which is slightly below the average score of

44.70 in Vietnam. This can pose some risks to investors’ interests. However, the score of CSM is higher than DRC and

SRC–CSM’s domestic competitors (Figure 28 and Appendix 11). This should be a plus when investors consider these

companies. We also expect that the score will be improved in the future thanks to company’s strategy to attract

foreign investors and tighter government’s regulation.

COMPANY INTERNAL RISK: Management transition

In March 2013, there was a significant change in management of CSM when two experienced managing director and

vice managing director retired and were replaced by two younger managers. Even though these young successors are

trained intensively over the last 5 years to prepare for the transition, there can be some risks related to management

experience, connection with Vietnam Rubber Group or relationship with foreign partners.

Monte Carlo Simulation

Accounting for these risk factors, we performed Monte Carlo Simulation on our DCF model to estimate the volatility of

our target price. As seen from Appendix 15, the probability that will trigger our recommendation from buy to sell is

12%. On the other hand, the probability of a gain is as high as 73%. Thus, we consider CSM as medium risk.

For details about probability of occurrence and possible impact of risk factors, please refer to Appendix 12.

Figure 25: Vietnam GDP forecast

Source: IMF

Figure 26: Number of employees and average wage in 2011 and 2012


Figure 27: Tax rates for passenger car in 2012

Source: Ministry of Finance

Figure 28: Corporate governance score


4.5%

5.0%

5.5%

6.0%

6.5%

2012 2013 2014 2015 2016 2017 2018

Number ofemployees

Averagewage

2011 2,165 5,779

2012 1,776 8,399

0

2,000

4,000

6,000

8,000

10,000

Importtax

Specialconsumption tax

Valueadded

tax

Tax 82% 50% 10%

0%

20%

40%

60%

80%

100%

43.55

42.88

41.73

40.5

41.5

42.5

43.5

CSM DRC SRC

10

INVESTMENT SUMMARY

Impressive stock performance

We initiate a BUY recommendation for CSM with a target price of VND43,966 per share, 26.7% upside from current

price level. CSM is the largest tire company in Vietnam with 17.4% of total market share. In the first 9 months of 2013,

the company enjoys strong financial performance with 38.3% YoY increase in earnings. This rapid growth has boosted

its stock price significantly by 50%, outperforming top stocks in Vietnam (Figure 29). We expect the growth of stock to

be continued thanks to its dominant position in traditional segments and strategic expansion in radial automotive

segment. Moreover, CSM’s stock is still undervalued in comparison to its peers as can be seen by 12% discount in

terms of P/E and 21% discount for EV/EBITDA (Figure 30).

CSM will secure its dominance in traditional segments

CSM’s dominant position can be described by 25% share in bias automotive tire and 35% share in motorcycle tire. This

is strongly supported by the nationwide distribution network, strong R&D activities and its parent company -

Vinachem. The company has the largest R&D center in Vietnam, effectively enhancing product quality to compete with

other competitors. It can also control raw material cost thanks to the tight relationship of Vinachem with Vietnam

Rubber Group. The Five Forces model further emphasizes the dominance of CSM as can be seen by high barriers to

entrance and low bargaining power of customers. These factors enable the company to enjoy robust earnings growth

even though traditional segments are maturing.

Strategic expansion in radial segment supports long-term growth

The penetration in radial segment assures the bright prospect for CSM in the future. On contrary to traditional

segments, radial segment is developing strongly in Vietnam as evidenced by the fact that demand consistently exceeds

domestic supply. This provides huge growth opportunities for CSM as the company will launch the first line of radial

product in early 2014. This segment does not only become the main source of revenue but also diversify CSM’s

operation in terms of product line and geographic markets. As all of CSM’s peer companies have already focused on

radial tires, we believe that the new project will substantially reduce the discount of CSM in terms of P/E and

EV/EBITDA.

Sustainable earnings growth

We predict that CSM will grow revenue at CAGR of 16.8% in 2013-2020 period, primarily through capacity expansion of

new radial project, which accounts for roughly 60% of total revenue in 2020. Margin is expected to improve thanks to

the downtrend of rubber price, change of product mix and efficiency improvement. This delivers an impressive

earnings growth of 18.5% over the next 7 years and consistently high ROE. According to our DuPont analysis, the most

important driver for this robust profitability is net profit margin, which increases from 8.3% in 2012 to 12.6% in 2020,

effectively offsetting the negative effect of declining financial leverage. This confirms the sustainable profitability for

CSM.

Strong cash flows and improved solvency

As a consequence of revenue growth and margin expansion, we expect CFO to increase significantly with CAGR of

29.4% in 2013-2020 period. The company plans to reduce days of inventory by upgrading management system and

moving product plants to near source of rubber supply. The days of sales also decrease as a result of improvement in

credit terms. This indicates the efficiency in cash management of the company. Meanwhile, CSM is expected to

increase leverage from 2.1 in 2012 to 2.5 in 2014 to finance for the radial project. From 2015, the leverage declines to

1.9 in 2020 as CFO is sufficient to pay off debt. Accordingly, the interest coverage ratio will increase from 3.9 in 2012 to

11.9 in 2020, implying improvement in solvency.

Valuation methods

We derived our target price by combining DCF valuation and Peer Multiple Pricing. In DCF model, we divide CSM’s

operation into 3 main parts: radial automotive tire, bias automotive tire, and motorcycle tire. We believe that the

method is appropriate to estimate stock price of CSM as these product segments have different potential growth,

margin, and competitive characteristics. In Multiple Pricing, we compare CSM’s P/E and EV/EBITDA with those of peer

companies that are similar with CSM in terms of market capitalization, revenue, and ROE. We put 65% weight on DCF

valuation as the method accounts for additional potential from the radial project while Multiple Pricing reflects market

expectation in the short term.

Possible investment risks

We consider the fluctuations of raw material prices as the main risk because of strong sensitivity of earnings to cost of

goods sold. Company internal issues can also pose risks such as management transition and low corporate governance

score. In addition, investors should pay attention to other possible risks: fluctuation of exchange rates and interest

rates, the operation of radial project, and changes in government policy.

Figure 29: CSM’s stock performance in 2013

Source: Bloomberg

Figure 30: Forward P/E and EV/EBITDA for CSM and peers

Source: Bloomberg

Figure 31: Return on equity - ROE


Figure 32: Relation of capital expenditure and debt repayment to CFO (bnVND)


-20%

0%

20%

40%

60%

80%

CSM VN30

0.0

2.0

4.0

6.0

8.0

10.0

Forward P/E EV/EBITDA

CSM

Peer median

0%

10%

20%

30%

40%

-

300.0

600.0

900.0

1,200.0

1,500.0

CFO Capex and Debt

1-Jan 1-Jun 1-Oct

11

APPENDIX 1: INCOME STATEMENT

Income Statement (bnVND)

2010A 2011A 2012A 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

Net sales 2,699.7 2,923.8 3,043.8 3,193.6 4,443.2 5,039.6 5,757.1 6,646.5 7,466.8 8,159.8 9,455.6

COGS (2,328.2) (2,661.2) (2,336.7) (2,395.2) (3,494.4) (3,970.0) (4,536.9) (5,222.0) (5,819.6) (6,288.3) (7,198.6)

Gross profit 371.4 262.6 707.1 798.4 948.8 1,069.6 1,220.2 1,424.4 1,647.3 1,871.5 2,257.0

Selling expense (92.1) (73.4) (108.9) (95.8) (132.0) (151.6) (175.9) (206.3) (234.3) (257.9) (302.6)

Administration (80.7) (59.7) (160.8) (159.7) (189.1) (194.1) (219.8) (251.5) (280.7) (305.4) (351.2)

Operating profit (EBIT) 198.6 129.5 437.4 542.9 627.7 723.9 824.5 966.7 1,132.3 1,308.2 1,603.2

Financial income 18.6 17.3 6.5 3.7 2.0 2.0 2.0 2.0 2.0 2.1 2.1

Financial expense (41.9) (106.2) (110.5) (75.6) (121.0) (145.9) (166.4) (156.9) (146.5) (120.4) (134.7)

Other income 11.5 11.5 20.5 15.2 16.0 16.8 17.4 17.9 18.4 18.8 19.3

Other expense (1.5) (0.8) (16.6) (0.4) (0.4) (0.4) (0.4) (0.4) (0.4) (0.5) (0.5)

Income before tax 185.3 51.2 337.4 485.8 524.3 596.4 677.1 829.3 1,005.8 1,208.3 1,489.5

Tax expenses (44.4) (12.0) (83.4) (121.4) (115.3) (131.2) (135.4) (165.9) (201.2) (241.7) (297.9)

Deferred taxes - - (0.1) - - - - - - - -

Net earnings 140.9 39.3 253.9 364.3 408.9 465.2 541.7 663.4 804.6 966.6 1,191.6

Source: CSM’s financial statement and team estimates

APPENDIX 2: COMMON-SIZE INCOME STATEMENT

2010A 2011A 2012A 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

Net sales 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%

COGS -86.2% -91.0% -76.8% -75.0% -78.6% -78.8% -78.8% -78.6% -77.9% -77.1% -76.1%

Gross profit 13.8% 9.0% 23.2% 25.0% 21.4% 21.2% 21.2% 21.4% 22.1% 22.9% 23.9%

Selling expense -3.4% -2.5% -3.6% -3.0% -3.0% -3.0% -3.1% -3.1% -3.1% -3.2% -3.2%

Administration -3.0% -2.0% -5.3% -5.0% -4.3% -3.9% -3.8% -3.8% -3.8% -3.7% -3.7%

Operating profit (EBIT) 7.4% 4.4% 14.4% 17.0% 14.1% -82.6% 14.3% 14.5% 15.2% 16.0% 17.0%

Financial income 0.7% 0.6% 0.2% 0.1% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Financial expense -1.6% -3.6% -3.6% -2.4% -2.7% -2.9% -2.9% -2.4% -2.0% -1.5% -1.4%

Other income 0.4% 0.4% 0.7% 0.5% 0.4% 0.3% 0.3% 0.3% 0.2% 0.2% 0.2%

Other expense -0.1% 0.0% -0.5% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Income before tax 6.9% 1.8% 11.1% 15.2% 11.8% 11.8% 11.8% 12.5% 13.5% 14.8% 15.8%

Tax expenses -1.6% -0.4% -2.7% -3.8% -2.6% -2.6% -2.4% -2.5% -2.7% -3.0% -3.2%

Deferred taxes 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Net earnings 5.2% 1.3% 8.3% 11.4% 9.2% 9.2% 9.4% 10.0% 10.8% 11.8% 12.6%


12

APPENDIX 3: BALANCE SHEET

Balance sheet (bnVND) 2010A 2011A 2012A 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

TOTAL ASSETS 1,181 1,523 1,847 2,957 3,955 4,207 4,396 4,382 4,810 5,320 5,742

Current Assets 830 1,060 1,314 1,635 2,126 2,317 2,424 2,681 2,992 3,411 4,151

Cash & cash equivalent 63 43 30 57 472 515 469 549 703 919 1,414

Short-term Investment 30 - 2 2 2 2 2 2 2 2 3

Accounts Receivables 280 285 421 461 447 488 531 582 628 721 781

Inventories 452 707 837 1,089 1,178 1,284 1,393 1,518 1,627 1,736 1,921

Other current assets 4 25 24 25 27 28 29 30 31 32 32

Noncurrent Assets 352 463 533 1,323 1,830 1,890 1,972 1,701 1,819 1,909 1,591

Fixed Assets 294 415 482 1,292 1,811 1,871 1,953 1,682 1,800 1,890 1,571

Long-term Investment 56 46 48 26 13 13 13 13 13 13 13

Other non - current assets 2 2 3 5 5 6 6 6 6 6 6

LIABILITIES & EQUITY 1,181 1,523 1,847 2,957 3,955 4,207 4,396 4,382 4,810 5,320 5,742

LIABILITIES 506 904 880 1,773 2,415 2,444 2,472 2,238 2,406 2,605 2,627

Total current liabilities 456 751 675 766 949 1,078 1,234 1,424 1,599 1,725 2,008

Short-term borrowings 289 597 381 495 556 631 721 832 935 1,022 1,184

Accounts payable 117 105 198 212 322 370 429 499 564 597 706

Advances from customer 2 3 2 3 4 4 5 6 6 7 8

Accrual Expense 14 18 58 22 31 35 40 46 52 57 66

Welfare fund 18 21 11 18 19 20 21 22 22 23 23

Other current liabilities 16 7 26 16 17 18 19 19 20 20 21

Non-current liabilities 50 153 205 1,007 1,465 1,366 1,237 815 807 879 619

Other long-term Payables 2 2 4 204 234 121 88 31 86 123 43

Long-term debt 46 151 201 803 1,232 1,244 1,149 783 721 756 576

Other non-current liabilities 2

EQUITY 675 619 967 1,184 1,540 1,763 1,925 2,144 2,405 2,715 3,116

Owners' Equity 675 619 967 1,184 1,540 1,763 1,925 2,144 2,405 2,715 3,116

Chartered Capital 422 422 585 673 910 1,000 1,000 1,000 1,000 1,000 1,000

Retained Earnings 170 98 281 369 468 593 744 950 1,189 1,474 1,845

Foreign exchange difference 0 1 -

Funds 83 97 101 142 162 170 181 194 216 242 271


13

APPENDIX 4: COMMON-SIZEBALANCE SHEET

2010A 2011A 2012A 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

TOTAL ASSETS 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00

Current Assets 70.22 69.58 71.14 55.28 53.74 55.08 55.15 61.18 62.19 64.11 72.29

Cash & cash equivalent 5.35 2.79 1.65 1.94 11.93 12.24 10.68 12.54 14.62 17.28 24.63

Short-term Investment 2.54 0.00 0.10 0.07 0.05 0.05 0.05 0.05 0.05 0.05 0.04

Accounts Receivables 23.71 18.71 22.78 15.57 11.30 11.60 12.08 13.27 13.06 13.55 13.59

Trades receivable 21.02 16.84 18.46 12.59 11.28 11.59 12.09 13.31 13.12 13.65 13.71

Inventories 38.26 46.43 45.30 36.83 29.78 30.52 31.68 34.64 33.82 32.63 33.46

Other current assets 0.36 1.65 1.32 0.86 0.68 0.67 0.66 0.69 0.64 0.59 0.56

Noncurrent Assets 29.78 30.42 28.86 44.72 46.26 44.92 44.85 38.82 37.81 35.89 27.71

Fixed Assets 24.89 27.25 26.10 43.67 45.79 44.47 44.42 38.38 37.41 35.53 27.37

Long-term Investment 4.72 3.02 2.59 0.88 0.33 0.31 0.30 0.30 0.27 0.25 0.23

Other non - current assets 0.16 0.15 0.17 0.17 0.14 0.13 0.13 0.14 0.13 0.12 0.11

LIABILITIES & EQUITY 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00 100.00

LIABILITIES 42.82 59.36 47.66 59.95 61.05 58.08 56.22 51.08 50.01 48.96 45.74

Total current liabilities 38.58 49.33 36.55 25.90 24.00 25.62 28.08 32.48 33.23 32.43 34.96

Short-term borrowings 24.44 39.20 20.63 16.73 14.07 15.00 16.40 18.99 19.44 19.21 20.62

Accounts payable 9.88 6.90 10.71 7.16 8.14 8.79 9.76 11.39 11.72 11.23 12.30

Advances from customer 0.21 0.19 0.12 0.10 0.10 0.10 0.11 0.13 0.13 0.13 0.14

Accrual Expense 1.16 1.17 3.12 0.75 0.78 0.83 0.91 1.05 1.08 1.06 1.14

Welfare fund 1.50 1.37 0.57 0.62 0.49 0.48 0.48 0.49 0.46 0.43 0.40

Other current liabilities 1.39 0.48 1.39 0.55 0.43 0.43 0.42 0.44 0.41 0.38 0.36

Non-current liabilities 4.24 10.03 11.11 34.05 37.05 32.46 28.14 18.59 16.78 16.53 10.78

Other long-term Payables 0.17 0.13 0.20 6.89 5.91 2.89 2.00 0.71 1.79 2.32 0.74

Long-term debts 3.89 9.89 10.90 27.16 31.14 29.57 26.14 17.88 14.99 14.21 10.03

Other non-current liabilities 0.18 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

EQUITY 57.18 40.64 52.34 40.05 38.95 41.92 43.78 48.92 49.99 51.04 54.26

Owners' Equity 57.18 40.64 52.34 40.05 38.95 41.92 43.78 48.92 49.99 51.04 54.26

Chartered Capital 35.77 27.74 31.68 22.75 23.00 23.77 22.75 22.82 20.79 18.80 17.41

Retained Earnings 14.38 6.45 15.21 12.48 11.84 14.10 16.93 21.67 24.71 27.70 32.13

Foreign exchange difference 0.04 0.09 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Funds 7.00 6.36 5.45 4.82 4.11 4.05 4.11 4.43 4.49 4.54 4.72

Source: Company’s financial statement and team estimates

14

APPENDIX 5: CASH FLOW STATEMENT

Cash flow statement (bnVND) 2013 2014 2015 2016 2017 2018 2019 2020

Net cash flow from operating activities 54.5 628.2 564.9 666.5 762.1 935.2 1,130.1 1,327.8

Net income 364.3 408.9 465.2 541.7 663.4 804.6 966.6 1,191.6

Adjustments: 12.8 229.3 264.4 293.5 297.1 337.8 380.0 382.6

Depreciation and amortization 31.4 232.6 260.8 289.1 291.4 330.8 370.2 372.7

Provisions (18.7) (3.3) 3.5 4.4 5.8 7.0 9.8 10.0

Cash flow prior to changes in working capital - - - - - - - -

Change in accounts receivable (39.3) 11.2 (42.4) (44.2) (52.2) (48.1) - -

Change in inventory (255.1) (88.6) (106.3) (109.0) (125.6) (109.2) (109.6) (185.6)

Change in other current assets (1.2) (1.4) (1.4) (0.9) (0.9) (0.8) (0.7) (0.8)

Change in accounts payable 13.8 110.4 47.5 59.5 69.8 64.8 33.5 109.0

Change in advances from customers 0.6 1.0 0.4 0.7 0.7 0.7 0.6 1.1

Change in accrual expenses (35.5) 1.2 1.2 0.8 0.8 0.7 0.6 0.7

Change in welfare fund liabilities 7.7 1.0 1.0 0.7 0.6 0.6 0.5 0.5

Change in other current liabilities (9.6) 0.9 0.9 0.6 0.6 0.5 0.5 0.5

Change in deferred tax liabilities (0.1) - - - - - - -

Fund payments (3.9) (45.7) (65.6) (76.8) (92.2) (116.3) (142.0) (171.8)

Net cash flow from investing activities (600.7) (703.6) (433.5) (404.8) (77.1) (394.2) (423.4) (134.9)

Change in Short-term investments (0.1) (0.1) (0.1) (0.1) (0.1) (0.1) (0.1) (0.1)

Acquisition of fixed assets (840.9) (752.1) (320.7) (371.1) (20.2) (448.6) (460.6) (54.1)

Change in Other Non-Current Assets (2.0) (0.3) (0.3) (0.2) (0.2) (0.2) (0.1) (0.2)

Change in investments in J.V & associates 7.7 - - - - - - -

Change in non-current payables 199.4 29.9 (112.6) (33.6) (56.8) 54.5 (0.1) (0.1)

Change in other non-current payables 0.6 0.2 0.2 0.2 0.1 0.1 0.1 0.1

Change in other long-term investments 34.5 18.8 - - - - - -

Net cash flow from financing activities 573.2 489.8 (88.4) (307.1) (605.1) (387.3) (394.9) (636.3)

Changes in short-term borrowings 113.7 61.5 74.7 89.8 111.4 102.7 86.8 162.3

Changes in long-term debts 547.2 428.3 12.6 (94.9) (365.8) (62.4) 35.0 (179.9)

Issue of new shares through dividend stock 87.8 236.8 90.3 - - - - -

Dividend paid (175.6) (236.8) (265.9) (302.0) (350.7) (427.6) (516.7) (618.7)

Net cash flow for the year 27.0 414.4 43.1 (45.4) 79.9 153.8 216.1 495.2

Cash at the beginning of the year 30.4 57.4 471.8 514.9 469.4 549.3 703.1 919.2

Cash at the end of the year 57.4 471.8 514.9 469.4 549.3 703.1 919.2 1,414.4


15

APPENDIX 6: KEY FINANCIAL ANALYSIS

2012A 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

Liq

uid

ity

Current ratio 1.95 2.13 2.24 2.15 1.96 1.88 1.87 1.98 2.07

Quick ratio 0.67 0.68 0.97 0.93 0.81 0.80 0.83 0.95 1.09

Cash ratio 0.05 0.08 0.50 0.48 0.38 0.39 0.44 0.53 0.71

Cash conversion cycle 133.95 159.31 124.84 116.01 108.59 100.65 95.58 94.84 89.72

Act

ivit

y

Receivables turnover 10.19 8.95 10.86 10.79 11.30 11.93 12.30 12.02 12.49

Inventories turnover 3.03 2.49 3.08 3.23 3.39 3.59 3.70 3.74 3.94

Payables turnover 16.27 12.94 13.42 11.79 11.63 11.52 11.16 11.02 11.33

Days of sales outstanding 35.82 40.77 33.62 33.82 32.31 30.61 29.68 30.36 29.21

Days of inventory on hand 120.56 146.75 118.40 113.16 107.66 101.72 98.62 97.60 92.73

Days of payables 22.44 28.20 27.19 30.97 31.38 31.67 32.71 33.12 32.22

Operating cycle 156.38 187.51 152.03 146.98 139.97 132.32 128.29 127.96 121.94

Total asset turnover 1.81 1.33 1.29 1.23 1.34 1.51 1.62 1.61 1.71

Fixed asset turnover 6.79 3.60 2.86 2.74 3.01 3.66 4.29 4.42 5.46

Working capital turnover 6.43 4.24 4.35 4.17 4.74 5.43 5.63 5.30 4.94

Solv

en

cy

Financial leverage ratio 2.13 2.23 2.54 2.47 2.33 2.16 2.02 1.98 1.90

Debt-to-equity ratio 0.60 1.10 1.16 1.06 0.97 0.75 0.69 0.65 0.56

Interest coverage ratio 3.96 7.18 5.19 4.96 4.95 6.16 7.73 10.87 11.91

Pro

fita

bili

ty

ROE 32.0% 33.9% 30.0% 28.2% 29.4% 32.6% 35.4% 37.8% 40.9%

ROA 15.1% 15.2% 11.8% 11.4% 12.6% 15.1% 17.5% 19.1% 21.5%

Gross profit margin 23.2% 25.0% 21.4% 21.2% 21.2% 21.4% 22.1% 22.9% 23.9%

EBITDA margin 21.2% 24.0% 16.1% 16.0% 16.2% 17.0% 17.6% 18.4% 19.9%

EBIT margin 14.4% 17.0% 14.1% 14.4% 14.3% 14.5% 15.2% 16.0% 17.0%

Net profit margin 8.3% 11.4% 9.2% 9.2% 9.4% 10.0% 10.8% 11.8% 12.6%


16

APPENDIX 7: INDUSTRY OVERVIEW& COMPETITIVE POSITIONING

A. Five Forces Model

1. Rivalry among the existing competitors: medium competitive level

Competition among domestic companies: Industry is highly concentrated: the 3 domestic companies – subsidiaries of Vinachem group – accounts for approximately

40.7% of the market share. Each company has its own advantage: CSM specializes on light truck tire and motorcycle tire while DRC mainly focuses on heavy truck tire,

and SRC concentrates on producing bicycle tire.

Competition with foreign firms: Kumho has operated a radial plant with full capacity of 3.15mn tires per year in Binh Duong since 2008, specializing on personal car

and commercial vehicle. With more than 50% of the radial tires in Vietnam are currently imported, this plant has brought comparative advantage to Kumho as opposed

to current companies in the industry. DRC launched its first radial tires in 3Q2013, and CSM is expected to release its first products in 1Q2014, which will increase the

competition of this industry. However, the demand for Radial tire in Vietnam is high due to the radial using rate is still low at 10% compared to 90% in the developed

countries. Therefore, it is estimated that the competition is not too intense.

2. Threat from new entrants: low level

Vietnam tire industry is not too attractive to the new foreign entrants: This industry’s growth rate depends on the growth of automotive tire but with the restriction

on automobile consumption applied by Government, the growth rate of the whole industry is not attractive enough to enter.

For potential domestic competitors, there are a lot of challenges for entrance. Tire production requires large capital outlay, high fix cost, modern technology and

strong distribution channel. Therefore, it is difficult for new firms to enter the market.

3. Threat from the substitutes: low level

The tire industry does not have substitute products. The products will be innovated regarding the quality, model and technology.

4. Bargaining power of suppliers: medium level

Almost all of the natural rubber is exported; therefore, the price of it depends on world price. The remaining materials need importing and the price also counts on the

fluctuation of the world price and exchange rate. Hence, the firms are difficult to be active in negotiating the price. However, the rubber tire companies in Vietnam can

take advantage of the source of natural rubber to choose the suppliers and negotiate the price.

5. Bargaining power of buyers: medium level

The demand of this industry is largely driven by the replacement sales (approximately 75% of total sales), the remaining going to the OEM (original equipment

manufacturers) for the car, motorbike and bike manufacturers. The demand for replacement tire can be as consumers can delay tire replacement. However, this delay

cannot last long, hence, consumers have medium bargaining power.

B. Supportive factors for CSM’s growth

Figure 33: Natural rubber price (Cent/kg)

Source: World Bank

Figure 34: Import tax for personal car

Source: Ministry of Industry and Trade, team estimates

259

192

365

482

338 290 305 310 309 308 307 306 305

0

100

200

300

400

500

600

2013F 2014F 2015F 2016F 2017F 2018F

Import tax 60% 50% 35% 20% 10% 0%

0%

10%

20%

30%

40%

50%

60%

70%

17

Figure 35: Import tax for truck

Truck 2013F 2014F 2015F 2016F 2017F 2018F

< 5 ton 60% 50% 40% 30% 20% 0%

5-10 ton 45% 35% 25% 25% 15% 0%

10-20 ton 22% 20% 15% 12% 10% 0%

20-24 ton 20% 18% 15% 10% 5% 0%

24-45 ton 5% 4% 4% 3% 2% 0%

> 45 ton 0% 0% 0% 0% 0% 0%

Source: Ministry of Industry and Trade, team estimates

Figure 36: Cargo transportation breakdown 2012

Source: BMI

60% 20%

10%

10%

Road Railway Port Others

Table 8: Domestic radial tire supply and demand

Thousand units 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

CSM

Total capacity 0 180 250 350 480 600 700 900

Percentage of domestic distribution 0% 50% 50% 50% 50% 50% 50% 50%

Number of domestic units 0 90 125 175 240 300 350 450

DRC

Total capacity 80 150 300 450 600 600 600 600



Kumho

Total capacity 3,300 3,300 3,800 4,500 5,500 5,500 5,500 5,500



Bridgestone

Total capacity 0 0 0 9,000 10,000 10,000 10,000 10,000



Total domestic supply 370 495 655 850 1,090 1,150 1,200 1,300

Total domestic demand 676 790 925 1,084 1,272 1,494 1,756 2,067


Figure 37: Vietnam’s investment for roads and bridges (bnUSD)

Source: BMI

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

2

2012A 2013F 2014F 2015F 2016F 2017F 2018F

Value Change %

Table 9: GDP growth rate of CSM’s export markets in ASEAN

2012A 2013F 2014F 2015F 2016F 2017F 2018F

Cambodia 7.3% 7.0% 7.2% 7.3% 7.3% 7.5% 7.5%

Laos 7.9% 8.3% 7.8% 7.6% 7.6% 7.5% 7.9%

Myanmar 6.4% 6.8% 6.9% 7.0% 7.0% 7.1% 7.1%

Source: IMF

Table 10: Total investment over GDP of CSM’s export markets in ASEAN

2012A 2013F 2014F 2015F 2016F 2017F 2018F

Cambodia 23.5% 23.5% 21.5% 22.0% 22.0% 22.0% 22.2%

Laos 22.2% 24.8% 24.5% 24.6% 24.6% 24.3% 23.9%

Myanmar 20.1% 23.3% 24.4% 27.0% 29.2% 31.2% 33.2%

Source: IMF

18

Table 11: Comparison between radial and bias automotive tires

Radial tire Bias tire

Advanced characteristics:

Flexible sidewalls & construction and less sensitive to overheating

Better connection to road

Less compaction and better traction

Tubeless

Light weight & rubber saving

30% higher production cost but double duration

Keep pressure stable after a deflation

Less flexible construction and more

sensitive to overheating

Small connection to road

More compaction

Must use with tube

Heavy

Lower production cost

Lose pressure suddenly after a deflation

Low fuel consumption thanks to:

Less rolling resistance

Flexible running

High fuel consumption

Extended tire life (twice durable than Bias):

Less heat generated

Reduce the crabbing (tire wear)

Small rolling resistance

High heat generated

High rolling resistance

Safer for car-drivers:

Improved control reduced traction

Running safer at high speed, better brake effectiveness even in

bad and wet road condition

Softer ride because of the layout of the tire's plies

More stable contact with the road because of the flexible of the

sidewalls

Less vibration, less ground compaction and damage

Better in absorbing shocks, impact and bumps.

Reduce accidents in tire deflation situations (Able to run in

dozens of kilometers after leaking)

Less safe at high speed

Tire must be fixed immediately after a

deflation

Disadvantages:

Should use in on-road condition

Best choice in extreme off-road

condition

Source: Vinachem

C. Competitive Analysis

Among three listed tire manufacturers in Vietnam, CSM has competitive advantage as can be seen by nationwide distribution network, diverse

product portfolio, strong brand and high financial resources.

Table 12: Comparison table between CSM and other domestic competitions

CSM DRC SRC

Wholesale agency 200 100 130

Main business location South Middle Land North

Product portfolio 150 140 80

Main segment

Bias and radial automotive tire for commercial vehicle, passenger car and light truck

Motorcycle tire

Bias and radial automotive tire for heavy truck and specialized vehicle

Motorcycle tire

Motorcycle tire Bicycle tire Airplane tire

Brand strength High Medium Low

Financial resources High High Medium


19

Table 13: Radial automotive segment

Radial Segment CSM DRC Kumho Bridgestone

Product launch 1Q2014 3Q2013 2008 2016

Full Capacity (Unit) 1mn 0.6mn 5.5mn 10mn

Target segments Light and medium truck Medium and heavy truck Personal car and commercial vehicle

Personal car and travel car

Supply in Vietnam 50% 50% 10% 0%

Export market 50% 50% 90% 100%

Distribution network High Medium Low Low

Brand Medium Medium High High

Price Medium Medium High High

Source: Firms’ annual report and team estimates

In radial segment, Kumho and Bridgestone are the two biggest foreign tire producers in Vietnam with outnumbered capacity and reputation of product

quality. However, we consider these companies are not the direct competitors for CSM because these companies operate on different segments.

While CSM produces tires for light and medium truck, foreign firms mainly focus on tires for personal car and commercial vehicle. Furthermore, the

majority of production volume will be exported to gain high profit margin. For imported products, high price offering can restrict the penetration into

Vietnam. Therefore, DRC is considered as the main competitor for CSM. Nevertheless, we expect the strong distribution network will enable CSM to

better reach customers. Moreover, the strong brand of CSM in Vietnam will ensure the successful introduction of radial product into the market.

Table 14: Bias automotive and motorcycle segments

CSM DRC SRC Yokohama Cheng shin

Products Bias

automotive; Motorcycle tire

Bias automotive;

Motorcycle tire Motorcycle tire Motorcycle tire Motorcycle tire

Product quality

Distribution network

Product portfolio

Brand image

Competitive price

Source: Company’ annual report and team estimates

In bias automotive segment, the diverse product portfolio and high product quality ensure the strong position for CSM in the future. The company

currently offers 60 different types of product, covering all range of demand. This allows the company to better deal with economic uncertainty.

Moreover, its product quality is high, reaching international standards such as JIS K6366, K6367, D4320. The company also has the largest R&D

center, effectively enhancing product quality to compete with other companies. Moreover, as the bias automotive market is maturing, we expect

that CSM will continue to strengthen its position in the future.

In motorcycle segment, the nationwide distribution network and strong brand will secure the dominance of CSM in the market. CSM currently has

the largest distribution network, with 200 wholesale centers. The company also retains tight relationship with retail stores across Vietnam. This

strategy is important in Vietnam as consumers are in the habit of replacing their tires in nearby stores. Moreover, CSM’s brand is highly rated by

consumers as its tires are durable and suitable with traffic condition in Vietnam. Therefore, we expect the company can maintain its dominance in

the future.

20

APPENDIX 8: Quantifying method to forecast sales growth for CSM

As World Bank forecasts rubber price to stabilize in the future, we expect that price inflation will not have significant impact on sales growth of tire industry. This leads us to assume that revenue is totally driven by demand growth. Moreover, with a strong position in the market, it is reasonable to expect that CSM can maintain revenue growth equal to the rate of the whole market. Therefore, we have estimated demand growth for separate segments to forecast revenue of CSM.

1. Motorcycle tire segment

Total motorcycle tire consumption comes from two sources: original equipment manufacturer demand (OEM) and replacement demand.

For OEM demand, all domestic motorcycle manufacturers use tires in Vietnam for production. Therefore, the demand follows the formula:

OEM demand = motorcycle output x 2

Meanwhile, according to Vinachem, replacement demand depends on the number of circulating motorcycles by the formula:

Replacement demand = 0.85 x total circulating motorcycles

With total circulating motorcycles = previous year’s number of circulating motorcycles + current year’s motorcycle consumption (the motorcycle output for export is excluded when estimating total circulating motorcycles in Vietnam).

The below table details our calculation

Table 15: Motorcycle sales growth calculation

(Mn units) 2010A 2011A 2012A 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

Motorcycle production output 3.7 3.8 3.8 4.2 4.8 5.5 5.5 5.5 5.5 5.5 5.5

Motorcycle domestic consumption

3.0 3.3 3.1 3.0 3.0 2.7 2.5 2.3 2.1 1.9 1.5

Total circulating vehicles 30.6 33.9 37.0 40.0 43.0 45.7 48.2 50.5 52.7 54.5 56.0

OEM tire demand 7.4 7.6 7.6 8.4 9.6 11.0 11.0 11.0 11.0 11.0 11.0

Replacement demand 23.46 26.01 28.82 31.45 34.00 36.55 38.85 40.97 42.93 44.80 46.33

Total tire demand 30.86 33.61 36.42 39.85 43.60 47.55 49.85 51.97 53.93 55.80 57.33

Tire demand growth rate 8.91% 8.35% 8.80% 9.41% 9.06% 4.83% 4.26% 3.76% 3.47% 2.74%

Source: Vietnam Ministry of Transportation, Vinachem and team estimates

2. Bias and radial automotive tire segments

In this section, we use the term automobiles to imply both cars and trucks.

We consider the number of automobiles as the key to forecast tire demand. Total tire consumption comes from two sources: original equipment manufacturer demand (OEM) and replacement demand.

For OEM demand, domestic automobile manufacturers almost use tires in Vietnam for production. Therefore, the demand follows the formula:

OEM demand = domestic automobile output x 4

Meanwhile, according to Vinachem and our team estimates, replacement demand depends on the number of circulating automobile vehicles by the formula:

Replacement demand = 2.92 x total circulating automobiles

With total circulating automobiles = previous year’s number of circulating vehicles + current year’s domestic automobile output + current year’s imported automobiles (All domestic output volume will be distributed in Vietnam).

21

The replacement ratio of 2.92 is calculated in the table below

Table 16: Replacement ratio calculation

Number of replacement tires per annum

Proportion to total circulating automobiles

Cars 2 46.1%

Trucks 4 53.9%

Weighted average number of tire demand per automobile 2 x 46.1% + 4 x 53.9% = 2.92

Source: Vinachem and team estimates

Based on this method, we calculate the total number of tire demand in Vietnam from 2013 to 2020. Moreover, according to Vinachem, the radial utilization rate in 2012 was only 10%, much lower than 52% in Asia/Pacific region. Therefore, we expect that the rate can reach 25% in 2020. Our calculation is shown in the table below:

Table 17: The calculation of radial and bias automotive tire growth

2010A 2011A 2012A 2013F 2014F 2015F 2016F 2017F 2018F 2019F 2020F

Number of domestic automobile production

42,286 31,181 40,470 41,700 43,752 46,941 50,362 54,205 58,341 62,793 67,585

Growth rate -26.26% 29.79% 3.04% 4.92% 7.29% 7.29% 7.63% 7.63% 7.63% 7.63%

Number of imported automobiles

69,938 79,757 38,088 43,658 47,097 49,872 52,939 56,486 60,271 64,309 68,618

Growth rate 14.04% -52.24% 14.62% 7.88% 5.89% 6.15% 6.70% 6.70% 6.70% 6.70%

Sum of new automobiles

112,224 110,938 78,558 85,358 90,849 96,813 103,301 110,691 118,612 127,102 136,202

Total number of circulating automobile

1,815,234 1,926,172 2,004,730 2,090,088 2,180,937 2,277,750 2,381,051 2,491,742 2,610,354 2,737,456 2,873,658

Growth rate 6.59% 6.11% 4.08% 4.26% 4.35% 4.44% 4.54% 4.65% 4.760% 4.869% 4.976%

Tire demand from OEM 169,144 124,724 161,880 166,800 175,008 187,764 201,448 216,820 233,365 251,173 270,339

Replacement demand 4,976,195 5,304,114 5,628,275 5,857,821 6,107,237 6,372,698 6,655,586 6,957,431 7,280,870 7,627,454 7,998,846

Total tire demand 5,145,339 5,428,838 5,790,155 6,024,621 6,282,245 6,560,462 6,857,034 7,174,251 7,514,235 7,878,627 8,269,185

Radial utilization rate 9.0% 10.0% 11.2% 12.6% 14.1% 15.8% 17.7% 19.9% 22.3% 25.0%

Demand for radial tires 488,595.4 579,015 675,573 789,951 925,043 1,084,192 1,272,006 1,493,963 1,756,499 2,067,296

Radial demand growth rate

18.51% 16.68% 16.93% 17.10% 17.20% 17.32% 17.45% 17.57% 17.69%

Demand for bias tires 4,940,242 5,211,139 5,349,048 5,492,295 5,635,419 5,772,841 5,902,245 6,020,272 6,122,127 6,201,889

Bias demand growth rate

5.48% 2.65% 2.68% 2.61% 2.44% 2.24% 2.00% 1.69% 1.30%

Source: Vietnam Ministry of Transportation, Vinachem, BMI and team estimates

22

APPENDIX 9: DCF VALUATION

Figure 38: Gross margin of Asian radial tire producers 2012

Source: Bloomberg

Table 18: Bias Automotive tire FCFF

2013 2014 2015 2016 2017 2018 2019 2020 Terminal

Sales 1,473.1 1,512.6 1,552.0 1,589.9 1,625.5 1,658.0 1,686.0 1,708.0

% total sales 46.13% 44.97% 43.85% 43.47% 43.16% 42.88% 42.58% 42.11%

% growth 2.68% 2.61% 2.44% 2.24% 2.00% 1.69% 1.30%

COSG 1,141.7 1,172.3 1,202.8 1,232.1 1,259.8 1,284.9 1,306.7 1,323.7

Gross profit 331.5 340.3 349.2 357.7 365.7 373.0 379.4 384.3

Operating expense (117.9) (110.4) (105.5) (108.1) (110.5) (112.7) (114.7) (116.1)

EBIT 213.6 229.9 243.7 249.6 255.2 260.3 264.7 268.2

Financial expense (34.9) (38.8) (38.0) (37.3) (36.7) (35.9) (36.5) (36.9)

Income before tax 178.7 191.1 205.7 212.3 218.5 224.4 228.2 231.2

Net income 134.0 149.1 160.4 169.8 174.8 179.5 182.6 185.0

(+) Depreciation 14.5 31.7 31.8 32.5 33.2 34.0 34.8 35.4

(+) Provision (8.6) (2.4) 0.3 0.2 0.2 0.2 0.9 0.1

(+) Interest*(1- tax rate) 43.6 47.3 46.3 44.8 44.0 43.1 43.8 44.3

(-) Working capital Investment 107.4 184.0 101.2 38.5 61.0 55.2 58.5 56.5

(-)CAPEX 8.0 8.9 12.8 34.6 8.7 14.8 19.8 22.8

FCFF 68.1 32.8 124.9 174.2 182.6 186.9 183.7 185.5 1,246.4

WACC 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03%

Present value of FCFF 68.1 28.3 92.8 111.5 100.7 88.8 75.3 65.5 379.3

Total value 1,010.4


0%

5%

10%

15%

20%

25%

30%

35%

Yokohama Nexen Hankook Bridgestone Toyo Kumho Cheng Shin Average

23

Table 19: Motorcycle tire FCFF

2013 2014 2015 2016 2017 2018 2019 2020 Terminal

Sales 1,382.6 1,512.7 1,649.8 1,729.4 1,803.1 1,871.0 1,935.8 1,988.9

% total sales 43.29% 44.98% 46.61% 47.29% 47.87% 48.39% 48.89% 49.04%

% growth 8.80% 9.41% 9.06% 4.83% 4.26% 3.76% 3.47% 2.74%

COSG 967.8 1,058.9 1,154.8 1,210.6 1,262.2 1,309.7 1,355.1 1,392.3

Gross profit 414.8 453.8 494.9 518.8 540.9 561.3 580.8 596.7

Operating expense (110.6) (110.4) (112.2) (117.6) (122.6) (127.2) (131.6) (135.2)

EBIT 304.2 343.4 382.7 401.2 418.3 434.1 449.1 461.4

Financial expense (32.7) (38.8) (40.4) (40.6) (40.7) (40.6) (41.9) (43.0)

Income before tax 271.4 304.6 342.4 360.6 377.7 393.5 407.2 418.4

Net income 203.6 237.6 267.0 288.5 302.1 314.8 325.8 334.7

(+) Depreciation 13.6 31.7 33.8 35.4 36.9 38.4 39.9 41.3

(+) Provision (8.1) (2.4) 0.4 0.2 0.2 0.2 1.0 0.1

(+) Interest*(1- tax rate) 40.9 47.3 49.3 48.7 48.8 48.7 50.3 51.6

(-) Working capital Investment 100.8 184.1 107.6 41.9 67.6 62.2 67.2 65.8

(-)CAPEX 7.5 8.9 13.6 37.7 9.7 16.7 22.7 26.5

FCFF 141.7 121.3 229.3 293.2 310.8 323.1 327.1 335.4 2,437.6

WACC 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03%


Total value 1,923.6


24

Table 20: Radial Automotive tire FCFF

2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024

Net income -

(1.9)

15.9

62.7

167.4

292.7

442.3

654.5

804.7

811.5

816.3

819.4

(+) Depreciation -

162.1

188.2

214.3

214.3

251.4

288.5

288.5

288.5

288.5

288.5

288.5

(+) Provisions 1.8

0.8

1.1

1.4

1.3

1.1

2.2

1.0

(0.0)

0.0

(0.0)

(+) Interest*(1-tax) -

27.1

46.2

64.4

57.6

50.2

27.7

37.6

59.3

52.5

47.7

44.6

(-) Working capital investment (95.0)

-

(36.9)

(52.8)

(68.6)

(63.3)

(52.8)

(105.5)

(52.8)

-

-

-

(-) CAPEX (823.6)

(732.4)

(291.5)

(291.5)

-

(414.0)

(414.0)

-

-

-

-

-

FCFF (918.5)

(543.3)

(77.2)

(1.7)

372.1

118.2

292.8

877.3

1,100.8

1,152.5

1,152.5

1,152.5

WACC 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03%

Present value of FCFF (918.5)

(468.2)

(57.4)

(1.1)

205.3

56.2

120.0

309.8

335.0

302.3

260.5

224.5

RADIAL PROJECT 2025 2026 2027 2028 2029 2030 2031 2032 2033

Net income 864.0 864.0 864.0 864.0 864.0 864.0 864.0 864.0 864.0

(+) Depreciation 153.1 104.6 78.5 74.2 43.2 6.1 - - -

(+) Provisions 0.0 (0.0) 0.0 (0.0) 0.0 (0.0) 0.0 (0.0) 0.0

(+) Interest*(1-tax) - - - - - - - - -

(-) Working capital investment - - - - - - - - -

(-) CAPEX - - - - - - - - -

FCFF 1,017.1 968.6 942.5 938.2 907.2 870.1 864.0 864.0 864.0

WACC 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03% 16.03%


Total value 1,205.9


25

APPENDIX 10: MULTIPLES VALUATION CRITERIA

Figure 39: Market capitalization and revenue 2012 higher than USD100mn

Source: Bloomberg

Figure 40: ROE 2012 higher than 15% and median ROE in 2009-2012 at least 10%

Source: Bloomberg

Figure 41: Forward P/E and EV/EBITDA

0

500

1000

1500

2000

2500

GOODYEARINDIA

GAJAHTUNGGAL

GOODYEARTHAILAND

NEXEN APOLLO MRF BALKRISHNA GITI DRC CSM

Market cap Revenue

0% 5% 10% 15% 20% 25% 30% 35%

GOODYEAR INDIA

GAJAH TUNGGAL

GOODYEAR THAILAND

NEXEN

APOLLO

MRF

BALKRISHNA

GITI

DRC

CSM

Median ROE ROE 2012

0

5

10

15

20

25

GOODYEARINDIA

GAJAHTUNGGAL

GOODYEARTHAILAND

NEXEN APOLLO MRF BALKRISHNA GITI DRC CSM

P/E forward EV/EBITDA


26

APPENDIX 11: CORPORATE GOVERNANCE AND CORPORATE SOCIAL RESPONSIBILITY

Figure 42: Corporate governance methodology and comparison

Market CSM DRC SRC

Overall CG performance 44.7 43.55 42.88 41.73

Area A- Shareholders’ Rights 48.5 48 47.5 46

Area B – Equitable treatment of

Shareholders 61 58.8 58.6 56.8

Area C – Role of Stakeholders 29.4 23.7 22.9 25.4

Area D – Disclosure and

Transparency 43.2 42.1 40.6 40.1

Area E – Responsibilities of the

Board 36.1 35.9 35.6 33.9

Source: IFC’s publication 2012 and team estimates

According toInternational Finance Corporation’s publication, in 2012, the average score of 100 biggest listed companies in Vietnam was 44.7%, a figure which was lower than international up-to-standard degree of 75%. CSM has lower score than the average figure of the 100 companies, which indicates that corporate governance of the company needs improving. However, the score is still higher than DRC and SRC. We believe that with the goal of becoming a big player in the region, CSM will gradually increase the score to reach the Pass rate in the near future.

Table 21: Corporate Governance Score Range

Score Range Description

<50 N/A

50-59 Pass

60-69 Satisfactory

70-79 Good

80-89 Very Good

90-100 Excellent

Source: www.oecd.org

15%

20%

5% 30%

30%

27

APPENDIX 12: INVESTMENT RISKS

Figure 43: Risk matrix


Cash flow Year 0 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033

Equity

199 87 87 - 124 124 - - - - - - - - - - - - - -

Disbursed Debt

533 204 204 - 290 290 - - - - - - - - - - - - - -

Outflows (1,080) (913) (500) (624) (415) (810) (722) (285) (234) (137) (150) (78) - - - - - - - - -

Initial outlay (1,078) (732) (291) (291) - (414) (414) - - - - - - - - - - - - - -

Additional working capital investments

- - (37) (53) (69) (63) (53) (106) (53) - - - - - - - - - - - -

Payments of borrowed working capital

- (95)

Payments of long-term debts

(3) (85) (172) (280) (346) (333) (255) (180) (181) (137) (150) (78) - - - - - - - - -

Inflows 679 693 408 481 382 834 1,021 943 1,093 1,100 1,105 1,108 1,017 969 942 938 907 870 864 864 1,392

Net income - (2) 16 63 167 293 442 655 805 811 816 819 864 864 864 864 864 864 864 864 864

Depreciation - 162 188 214 214 251 289 289 289 289 289 289 153 105 78 74 43 6 - - -

Long-term debts inflows

679 533 204 204 - 290 290 - - - - - - - - - - - - - -

Recovery of working capital

- - - - - - - - - - - - - - - - - - - - 528

Net cashflow to equity

(402) (219) (92) (143) (33) 24 299 658 860 963 955 1,030 1,017 969 942 938 907 870 864 864 1,392

Cost of equity 0.0% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96% 19.96%

Discounted Cash flow

(402) (183) (64) (83) (16) 10 100 184 200 187 155 139 115 91 74 61 49 39 33 27 37

NPV 754

IRR 29.10% Source: Team estimate

APPENDIX 13: NPV OF RADIAL PROJECT

28

APPENDIX 14: MONTE CARLO ANALYSIS FOR NPV OF RADIAL PROJECT

The Radial project plays very important part in CSM as it will contribute 53% in total sales and 50% total net profit in 2020. Therefore, we use Monte Carlo

Simulation on NPV to test the feasibility of radial project. We considered that average radial selling prices, COGS and cost of equity are sensitive factors which may

affect the NPV of Radial.

Source: Team’s estimates

The analysis showed that the Radial Project is very prospective as there is only approximately 6% that makes NPV negative. The detailed assumptions are reported

in the below table:

AVERAGE RADIAL SELLING PRICE (mnVND) Triangular distribution with parameters:

Minimum:

Maximum:

Likeliest:

5 7 6

% COST OF GOODS SOLD IN TOTAL RADIAL SALES Lognormal distribution with parameters:

Mean:

Std. Dev:

75% 4%

COST OF EQUITY (%) Normal distribution with parameters:

Mean:

Std. Dev:

19.958% 1%

0

50

100

150

200

250

300

350

400

450

(368) 193 754 1,314 1,875

Fre

qu

en

cy

NPV

5.00 6.21 7.00

Pro

bab

ility

AVERAGE RADIAL SELLING PRICE

62.85% 71.33% 79.82% 88.30%

Pro

bab

ility

COGS RADIAL (2021 AHEAD)

16.87% 18.93% 20.99% 23.05%

Pro

bab

ility

COST OF EQUITY (%)

29

APPENDIX 15: MONTE CARLO ANALYSIS FOR TARGET PRICE

Since there are many factors that affect the CSM’s stock price as stated in the risk analysis section, we continue performing Monte Carlo Simulation assigning

probability distributions with standard deviations estimated upon our assumptions of the magnitude of each specific risk. Six factors are considered the main

ones and the principal assumptions are reported in the following table:

Table 22: Monte Carlo assumptions

Factor Distribution Standard deviation (Normal & Lognormal)

Triangular/ Uniform

Minimum Likeliest Maximum

Average Radial selling price Triangular 5 6 7

% COGS Radial Auto tire (2021 ahead) Lognormal 4%

% COGS Bias Auto tire (2013 ahead) Lognormal 4%

% COGS Motor tire (2013 ahead) Lognormal 4%

D/E Target Normal 1%

Cost of Equity Normal 1%


SELL HOLD BUY

12% 15% 73%


The Monte Carlo Simulation showed that the mean of CSM’s share price is around VND 43,270 (the base case is VND43,974), which supports our

recommendation. There is 73% probability of gaining profit while only 12% chance that would change our recommendation from buy to sell as some factors

change for unfavorable direction.

We determined that Cost of Goods Sold is the most sensitive factor that could change our target price, followed by cost of equity and radial tire price. Therefore,

increasing the gross margin and hedging the price volatility in raw material will be the key drivers that improve the firm value.

0

0.01

0.02

0.03

0.04

0.05

0.06

19,300 30,800 42,300 53,800 65,300

Pro

bab

ility

Share Price

70%

0% 10% 20% 30% 40% 50% 60% 70% 80%

D/E target

Cost of Equity (%)

Average Radial tire Price

COGS (%)

Sensitivity: Share price

30

REFERENCE MATERIALS

Italia, Politecico di Milano Student, (2011), Piagio CFA Research Challenge Report

Thailand, Thammasat University,(2012), CPALL PUBLIC COMPANY LTD CFA Research Challenge Report

Poland, Wroclaw University of Economics, (2013), KGHM PolskaMiedz SA CFA Research Challenge Report

BMI international, (2013), Vietnam Autos Report Q4,2013

CFA Institute,(2012) Equity Asset Valuation,(2nd ed)

Vinachem, (2012) Tire Industry Research

CSM The Southern Rubber Industry Joint Stock Company, (2019-2012), Financial Report

CSM The Southern Rubber Industry Joint Stock Company, (2009-2012), Annual Report

BSC,(2013), CSM Stock Analysis

BVSC,(2013), Vietnam Tire Industry Report

Disclosures:

Ownership and material conflicts of interest:

The author(s), or a member of their household, of this report does not hold a financial interest in the securities of this company.

The author(s), or a member of their household, of this report does not know of the existence of any conflicts of interest that might

bias the content or publication of this report.

Receipt of compensation:

Compensation of the author(s) of this report is not based on investment banking revenue.

Position as an officer or director:

The author(s), or a member of their household, does not serve as an officer, director or advisory board member of the subject

company.

Market making:

The author(s) does not act as a market maker in the subject company’s securities.

Disclaimer:

The information set forth herein has been obtained or derived from sources generally available to the public and believed by the

author(s) to be reliable, but the author(s) does not make any representation or warranty, express or implied, as to its accuracy or

completeness. The information is not intended to be used as the basis of any investment decisions by any person or entity. This

information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This

report should not be considered to be a recommendation by any individual affiliated with Vietnam Organizer Team, CFA Institute

or the CFA Institute Research Challenge with regard to this company’s stock.

CFA Institute Research Challenge

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