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| Share Name | Share Symbol | Market | Type | Share ISIN | Share Description |
|---|---|---|---|---|---|
| Technoplast | LSE:TNP | London | Ordinary Share | IL0005410118 | ORD ILS1.0 |
| Price Change | % Change | Share Price | Bid Price | Offer Price | High Price | Low Price | Open Price | Shares Traded | Last Trade | |
|---|---|---|---|---|---|---|---|---|---|---|
| 0.00 | 0.00% | 0.00 | - |
| Industry Sector | Turnover | Profit | EPS - Basic | PE Ratio | Market Cap |
|---|---|---|---|---|---|
| 0 | 0 | N/A | 0 |
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Technoplast Industries Ld
2 December 2003
PART 3
Tel-Aviv, November 30, 2003
Mr. Itamar Patishi, Chairman Mr. Michael Susz, Chairman
Technoplast Industries Ltd. Kidron Plastics Ltd.
Tel-Aviv Ramat Gan
Dear Sirs,
Re. Determination of the Ratio for the Merger Between Technoplast Industries
Ltd. and Kidron Plastics Ltd.
Kesselman Corporate Finance PricewaterhouseCoopers Ltd. ("Kesselman Finance")
has been requested by you to determine the ratio for the merger between
Technoplast Industries Ltd. ("Technoplast") and Kidron Plastics Ltd. ("Kidron")
(together, "the Companies"). The determination of the ratio for the merger
between the Companies ("the Merger Ratio") is required within the context of a
planned merger transaction between the two Companies ("the Merger Transaction").
Pursuant to the Merger Transaction, Kidron Management and Holdings (1961) Ltd
and a related party (together, "Kidron Holdings") are to transfer all of
Kidron's issued and paid-up share capital to Technoplast, in exchange for the
allotment of Technoplast shares, which will give Kidron Holdings control over
Technoplast.
Scope of our engagement
The objective of our engagement ("the Engagement") is to determine the Merger
Ratio within the context of the Merger Transaction. In order to determine the
Merger Ratio, we assessed the fair market value of the equity of both
Technoplast and Kidron.
Fair market value, for the purpose of the Engagement, is defined as the price at
which property would change hands between a willing buyer and a willing seller,
neither being under any compulsion to buy or to sell, and both having reasonable
knowledge of relevant facts.
The results of the Engagement are intended solely for the managements of
Technoplast, Kidron and Kidron Holdings in connection with the objective
referred to above.
Methodology
As stated, the Merger Ratio was determined on the basis of the valuations of the
Companies' fair market value ("the Valuations"). The Valuations of the
Companies were made on an "as is" basis, viz. without taking into account the
Merger Transaction.
The discounted cash flow (DCF) method was chosen for use in performing the
Valuations. The DCF method is based on an assessment of a company's ability to
generate cash flows. Accordingly, the valuation of the company is made on the
basis of the discounted cash flows that the company expects to generate in the
future. The future cash flows are discounted at the cost of capital, which
reflects the risk embedded in their generation, and which indicates the return
that a reasonable investor would expect from an investment in a company with a
similar risk.
In addition, the market comparable method was also used in performing the
Valuations. Under this method, the value of the company is estimated based on a
comparison between comparable public companies and the company being valued.
The Valuations were made as of July 31, 2003.
The Valuations are based on the audited financial statements of Technoplast and
Kidron for the years 2000-2002, the reviewed quarterly financial statements of
Technoplast as of March 31, 2003, internal management reports of Technoplast and
Kidron, business forecasts prepared by the management of Technoplast, publicly
available data relating to the sectors in which the Companies operate and other
data furnished by the managements of the Companies. The forecasts and data
provided by the Companies have not been independently verified by us.
Fair market value of the Companies
The summarized results of the Valuations of Technoplast and Kidron are presented
below:
Kidron Equity Value (in NIS millions)
DCF method 8
Market comparable method 11
Technoplast Equity Value (in NIS millions)
Best-case scenario Worst-case scenario(1)
DCF method 6 0
Market comparable method 3 0
Accordingly, we estimate the fair market value of the equity of Kidron, as of
July 31, 2003, to be in the range of between NIS 8 million and NIS 11 million,
and the fair market value of the equity of Technoplast, as of July 31, 2003, to
be in the range of between NIS 0 and NIS 6 million.
The valuation methods, underlying assumptions and forecasts, on the basis of
which the Valuations were performed, are fully described in the valuation
reports attached to this letter ("the Valuation Reports").
It should be noted that a valuation does not present precise information, and
its conclusions - in many instances - are subjective and are based on the
operation of individual judgment. It is thus not possible to determine a single
value for each company, and it is our practice to present a reasonable range of
values, as are shown above. Nevertheless, because we have been requested to
determine a single value for each of the Companies in order to determine the
Merger Ratio, we have chosen the value at the mid-point of the valuation range,
which, to our best belief and in accordance with the information furnished to
us, can serve as the representative fair market value of the equity for each of
the Companies. Changes to the aforesaid information, or additional information,
are clearly likely to affect the results of the valuation. It should also be
noted that, within the framework of Technoplast's valuation as presented above,
there are two possible future scenarios, whereas the expectancy of the two
scenarios brings also the value at the mid-point of the valuation range.
Pursuant to the above, we have valued the fair market value of the equity of
Kidron and of Technoplast, as of July 31, 2003, at NIS 9.5 million and NIS 3
million respectively.
Conclusions from the Engagement
In light of the results of the Valuations, as detailed above, it can be
determined that a Merger Ratio, according to which the percentage of Kidron
Holdings' holding in Technoplast (following the Merger Transaction) shall be 75%
of the latter's issued and paid-up share capital, on a fully diluted basis, is a
reasonable and fair Merger Ratio from the aspect of Technoplast's shareholders.
Additional remarks
The Valuations are based, inter alia, on forecasts of the Companies' statements
of income and cash flows.
As a general rule, forecasts relate to future events and are based on
assumptions that are considered reasonable at the time such forecasts are
prepared. These assumptions might change over the course of the forecast period
and, accordingly, the forecasts made at the time of the Valuations might be
different from the actual financial results and/ or from estimates that might be
made a later date. Thus, it is not possible to relate to the forecasts that
have been prepared with the same degree of assurance as is possible with data
included in the audited financial statements and, accordingly, we do not express
any opinion with regard to the consistency between the forecasts that have been
prepared and the financial results that will actually be achieved.
Even though our work included analysing the Companies' financial statements and
referring to their accounting records, it did not include an examination in
accordance with auditing principles and/ or accounting principles generally
accepted in Israel. Nothing in our work should be taken as a confirmation or
qualification regarding the correctness and completeness of any data, whether
financial or otherwise, which were provided by the Companies' managements or
their representatives.
Our work was based on sources that we believed to be reliable, and nothing has
come to our attention that might cast doubt on the reasonability of the data
that we used and which were not checked independently by us. The information,
representations and explanations that we received in relation to the performance
of the Engagement are the responsibility of those providing such information.
In light of this, our work should not be considered as confirmation of the
correctness, completeness and accuracy of the data furnished to us. In no event
shall we be liable for any loss, damage, cost or expense which shall be caused,
in any way or manner, by acts of deceit, misrepresentation, misdirection,
provision of incorrect information or by keeping information from us, on your
part.
The Valuations are intended for the aforementioned purpose and no other use is
to be made of them, nor are they to be quoted, either in total or in part, in a
prospectus or in any other document, without first obtaining express approval
thereto, in writing, from Kesselman Finance. Nevertheless, we give our consent
for this letter, together with the Valuation Reports, to be included and/ or
referred to in the immediate reports, which are to be published by Technoplast
in relation to the Merger Transaction, and for their use in connection with the
various processes relating to the approval of the transaction.
It should be noted that, within the framework of our appointment to perform the
Engagement, a limit of US$ 150,000 ("the Maximum Liability Amount") has been set
for our aggregate financial liability, to you and/ or to any party acting on
your behalf, arising from any source whatsoever and with regard to any cause
whatsoever, other than in the case of malice or gross negligence on our part,
insofar as this relates to our liability in connection with the performance of
the Engagement. Furthermore, we have also been provided with an indemnity,
pursuant to which - if a legal action or other process is brought against us for
the payment of any amount to a third party in connection with the performance of
the Engagement, and on condition that it is subsequently shown by way of a
peremptory ruling that there was no legal cause against us - you shall indemnify
us for all reasonable expenses that we shall have disbursed or that we shall
have been required to pay for legal advice and representation, professional
opinions, mounting a defence against legal proceedings, negotiations, and the
like, in respect of any claim, demand or other proceedings in connection with
the performance of the Engagement, up to an amount of US$ 100,000. Furthermore,
you shall indemnify us in respect of any amount for which we shall be obliged -
by any legal proceeding or by any other binding proceeding - to pay to a third
party in connection with the performance of the Engagement, over and above the
Maximum Liability Amount (together with any amount already paid as stated). In
the event that it is subsequently shown by way of a peremptory ruling that there
was no legal cause against us, the aforementioned indemnification obligation
shall apply to the full amount to the last dollar. No indemnification
obligation shall apply if it is determined that we performed the Engagement with
malice or with gross negligence. In every instance, each of the Companies shall
be separately liable for half of any expense that the Companies are required to
pay in accordance with the terms of the indemnity. Nevertheless, if the
expenses shall stem from the valuation of just one of the Companies, then that
company shall be solely liable for the full amount of the indemnification in
respect of those expenses.
Presented below are further data, which are required under the draft guidelines
concerning the minimal disclosures required for Valuations and in relation
thereto, and the regulations relating to their inclusion in reports made under
the Securities Law, 1968, as published by the Securities Authority ("the
Guidelines").
Particulars of the Engagement
- The valuation was requisitioned by Technoplast, Kidron and Kidron Holdings;
- The Engagement of Kesselman Finance by the requisitioners of the valuation
was agreed to on June 30, 2003;
Particulars of the valuer and his professional experience
- The valuation was performed by a team headed by Tzur Fenigstein, CPA, which
also included Eyal Debby, CPA and Zohar Hoshen, Adv.;
- Details of Tzur Fenigstein's academic qualifications are as follows:
1989 - Awarded an MBA (cum laude) from Tel-Aviv University.
1986 - Qualified as a CPA.
1983 - Received his BA in accounting and economics from Tel-Aviv
University.
- It should be noted that the valuer has not been convicted of any offences
listed in Section 226(A) of the Companies Law, 1999 nor of any offence
referred to in the Securities Law, 1968.
Previous valuations performed
- Technoplast and Kidron have not been valued by Kesselman Finance during the
three years prior to the date of the valuation.
All other data required by the Guidelines, and which is not detailed above, are
incorporated in the Valuation Reports.
Yours sincerely,
_____________
Tzur Fenigstein
Kesselman Corporate Finance PricewaterhouseCoopers Ltd.
Valuation
of
TECHNOPLAST INDUSTRIES LTD.
November 2003
CONTENTS
1 Introduction ........................................................................ 3
2 Summary of Valuation ............................................................... 5
3 Description of the Company ......................................................... 7
3.1 General ..................................................................... 7
3.2 Shareholders ............................................................... 7
3.3 Holdings .................................................................. 7
3.4 Products .................................................................. 8
3.5 Customers ................................................................... 8
3.6 Business and Marketing Policy ............................................. 9
3.7 Competition ............................................................... 9
3.8 The Group's Advantages and Disadvantages .................................. 11
4 Business Environment ............................................................... 12
4.1 The Chemicals and Plastics Sector - General ............................ 12
4.2 The Plastics Sector - Worldwide Review ...................................... 13
4.3 The Plastics and Rubber Sector in Israel ................................. 15
5 Analysis of Financial Statements ................................................... 20
5.1 Balance Sheet ............................................................... 20
5.2 Statement of Income ......................................................... 22
5.3 Statement of Cash Flows ................................................... 23
5.4 Analysis of Financial Ratios ................................................ 24
5.5 The Altman Survival Index ................................................... 26
5.6 Highlights .................................................................. 26
6 Methodology ........................................................................ 30
6.1 Generally Accepted Valuation Methods ....................................... 30
6.2 Market Transaction Method ................................................... 31
6.3 Assets Value Method ......................................................... 31
6.4 Market Comparable Method ................................................ 31
6.5 Discounted Cash Flow Method .............................................. 31
6.6 Valuation Principles ...................................................... 32
7 Valuation of Technoplast ............................................................ 33
7.1 Valuation Based on the Discounted Cash Flow Method ..................... 33
7.2 Valuation Based on the Market Comparable Method ........................ 45
8 Valuation of SMS ................................................................... 47
8.1 Income Forecast ............................................................ 47
8.2 Investments ............................................................... 50
8.3 Forecasted Cash Flow Statements .......................................... 51
8.4 Equity Value ............................................................... 52
9 Conclusion of Valuation .............................................................. 53
10 Sensitivity Analyses.................................................................. 54
1 Introduction
Technoplast Industries Ltd. ("Technoplast" or "the Company"), which was founded
in 1951, is engaged in the manufacture and marketing of injection moulded
plastic products. Technoplast is a public company, whose shares are traded on
the Tel-Aviv Stock Exchange and the London Stock Exchange.
On June 29, 2003, an agreement of principles was signed between Technoplast and
Kidron Management and Holdings (1961) Ltd. and a related party (together, "
Kidron Holdings") for the merger of the two companies ("the Merger Transaction"
or "the Transaction"). Pursuant to the Merger Transaction, Kidron Holdings is
to transfer all of the issued and paid-up share capital of Kidron Plastics Ltd.
("Kidron")(2) to Technoplast, in exchange for the allotment of Technoplast
shares, which will give Kidron Holdings control over Technoplast. Against the
background described above, Kesselman Corporate Finance PricewaterhouseCoopers
Ltd. ("Kesselman Finance") has been engaged to determine the ratio for the
merger between Technoplast and Kidron (together, "the Companies") within the
context of the Merger Transaction. In order to determine the merger ratio,
Kesselman Finance carried out an assessment of the fair market value of the
equity of each of the Companies.
Fair market value, for the purpose of the engagement, is defined as the price at
which property would change hands between a willing buyer and a willing seller,
neither being under any compulsion to buy or to sell, and both having reasonable
knowledge of relevant facts.
This report contains the valuation of the fair market value of Technoplast, as
might be determined on the basis of long-term economic considerations. The
valuation does not take into account considerations that might affect the value
of the Company for a specific investor, or for a specific seller, nor does it
take into account general factors (political or other) that might affect the
Company's future value.
The valuation is based on the Company's audited financial statements for the
years 2000-2002, its reviewed quarterly financial statements as of March 31,
2003, the audited financial statements of Smart Storage Ltd. ("SMS") for the
years 2001-2002 and of Bamasaf (1994) Ltd. ("Bamasaf") for 2001, the Company's
and SMS' internal management reports, business forecasts prepared by the
Company's management, publicly available data relating to the sectors in which
the Company operates, and other data furnished by the management of the Company.
We have not independently verified the forecasts and data provided by the
Company, although their reasonability has been examined by us.
Subsequent to the completion of the valuation, Technoplast's financial
statements (reviewed) for the first half of 2003 ("the June Financials") were
published. Having reviewed the June Financials, we believe that there is
nothing in Technoplast's operating results, as presented in the June Financials,
which are likely to materially affect the valuation.
As with all economic valuations, this valuation does not lay claim to establish
the exact value of the Company; it merely attempts to estimate the Company's
fair market value on the basis of the aforementioned information. Changes to
the aforesaid information, or additional information, are clearly likely to
affect the results of the valuation. The discounted cash flow (DCF) method and
the market comparable method (as described below) were chosen for use in making
the valuation.
The valuation is intended solely for the purposes of the requisitioners of the
valuation, and no other use is to be made of it, nor is it to be quoted, either
in total or in part, in a prospectus or in any other document, without first
obtaining express approval thereto, in writing, from Kesselman Finance.
Nevertheless, we give our consent for this report to be included and/ or
referred to in the immediate reports, which are to be published by Technoplast
in relation to the Merger Transaction, and for its use in connection with the
various processes relating to the approval of the Transaction.
2 Summary of Valuation
Technoplast is a public company, whose shares are traded on the Tel-Aviv Stock
Exchange and the London Stock Exchange. Since its establishment in 1951, the
Company has been engaged in the manufacture and marketing of injection moulded
plastic products. The Company owns two production plants - one in Migdal
Ha'Emek, and the other in Barkan. In accordance with the decision taken by the
Company's board of directors in October 2002, the plant at Barkan was closed at
the end of 2002, and its operations were transferred to the plant at Migdal
Ha'Emek. The Company controls its subsidiary SMS, which - directly and through
its own subsidiaries - manufactures and markets plastic garden sheds, panels and
other plastic products, as described below.
The valuation of Technoplast was made as of July 31, 2003 ("the Valuation Date
"). The DCF method was used in order to perform the valuation. Using this
method, the cash flows for the years 2003-2006 were forecasted and discounted;
in addition, the value of the Company at the end of the forecast period was
discounted. Since it was assumed that the Company is a "going concern" and that
it would continue its operations beyond the end of the forecast period, its
residual value at the end of the forecast period was accordingly determined as
the present value of its projected cash flows for infinity, on the basis of the
representative cash flow, and a real long-term growth rate of 2% per annum. The
cost of capital used to discount the operating cash flows, reflecting the
business risk to which the Company's operations are subject, was set at 10%.
In addition, the market comparable method was also used in arriving at
Technoplast's valuation. Under this method, the value of the Company was
estimated based on a comparison with comparable public companies in the same
sector.
It should be noted that, in view of the fact that the Company is currently in
the midst of implementing a recovery programme (as described in section 3
below), we have taken into account, in performing the valuation, two possible
future scenarios - a best-case scenario and a worst-case scenario. The
difference between these two scenarios is in the gross profit margins and the
level of cost savings used therein, as will be explained in more detail later in
this report
The tables below present selected data from the forecasted statements of income
of the Company (without its subsidiaries) for the years 2003-2006 and for the
representative year, together with historical data for 2001-2002 (NIS in
thousands)(3):
Best-Case Scenario
Actual Forecast
2001 2002 2003 2004 2005 2006 Rep. years
Revenues 96,303 96,255 91,028 98,000 104,000 108,000 110,160
Rate of change 0.0% -0.1% -5.4% 7.7% 6.1% 3.8% 2.0%
Gross profit (850) 7,534 13,681 17,995 23,572 26,032 26,553
% of revenues -.09% 7.8% 15.0% 18.4% 22.7% 24.1% 24.1%
Operating income (loss) (23,207) (13,966) (4,056) (567) 5,558 7,020 7,160
% of revenues -24.1% -.14.5% -4.5% -0.6% 5.3% 6.5% 6.5%
Net income (loss) (17,288) (35,715) (4,056) (567) 5,558 7,020 4,869
% of revenues -18.0% -37.1% -4.5% -0.6% 5.3% 6.5% 4.4%
Worst-Case Scenario
Actual Forecast
2001 2002 2003 2004 2005 2006 Rep. years
Revenues 96,303 96,255 91,028 98,000 104,000 108,000 110,160
Rate of change 0.0% -0.1% -5.4% 7.7% 6.1% 3.8% 2.0%
Gross profit (850) 7,534 13,681 17,620 21,583 22,963 23,422
% of revenues -.09% 7.8% 15.0% 18.0% 20.8% 21.3% 21.3%
Operating income (loss) (23,207) (13,966) (4,056) (942) 3,074 3,456 3,525
% of revenues -24.1% -.14.5% -4.5% -1.0% 3.0% 3.2% 3.2%
Net income (loss) (17,288) (35,715) (4,056) (942) 3,074 3,456 2,397
% of revenues -18.0% -37.1% -4.5% -1.0% 3.0% 3.2% 2.2%
The table below presents the results of the valuation, according to both the DCF
method and the market comparable method (NIS in millions):
Technoplast - Equity value Best-case scenario Worst-case scenario(4)
DCF method 6 0
Market comparable method 3 0
Shareholders' equity, as of March 31, 2003(5) 20.4
Minimum market capitalisation during the six 5.2
months preceding Valuation Date (February 1 -
July 31, 2003)
Maximum market capitalisation during the six 13.2
months preceding Valuation Date (February 1 -
July 31, 2003)
Average market capitalisation during the six 8.2
months preceding Valuation Date (February 1 -
July 31, 2003)(6)
Accordingly, we estimate the fair market value of the equity of the Company, as
of July 31, 2003, to be in the range of between NIS 0 and NIS 6 million.
3 Description of the Company
3.1 General
Technoplast is a public company, whose shares are traded on the Tel-Aviv Stock
Exchange and the London Stock Exchange. Since its establishment in 1951, the
Company has been engaged in the manufacture and marketing of injection moulded
plastic products. The Company owns two production plants - one in Migdal
Ha'Emek, and the other in Barkan. In accordance with the decision taken by the
Company's board of directors in October 2002, the plant at Barkan was closed at
the end of 2002, and its operations were transferred to the plant at Migdal
Ha'Emek. The intention in consolidating the production lines was to achieve
cost savings in the Company's operations. The real estate at Barkan is still
owned by the Company and is now rented to a third party, under a long-term
(8-year) lease, at an annual rental of $ 140,000.
The Company has recently encountered financial difficulties as a result of its
working capital deficit and the losses it has accumulated over the last three
years. The sales of the Company (without its subsidiaries) totalled NIS 96
million in 2002, and NIS 39 million in the first quarter of 2003 (compared to
NIS 46 million in the corresponding period last year); the Company's operating
loss amounted to NIS 14 million and NIS 2 million for 2002 and the first quarter
of 2003, respectively. At the end of 2001, the Company initiated the
implementation of a recovery programme, which is based on three components:
extending its market reach to new markets, expanding its range of products, and
improving operational efficiency by curtailing direct costs and cutting back
overheads ("the Recovery Programme"). During 2002, the Company continued to
implement the Recovery Programme, and, as a result, gross profit margins
improved, the downward sales trend was halted and even reversed, and the cash
flows from the Company's operating activities in the first quarter of 2003 were
positive.
Technoplast's market capitalisation on the Tel-Aviv Stock Exchange as of July
31, 2003 amounted to NIS 9.3 million.
3.2 Shareholders
The controlling shareholder of Technoplast is Orlite Industries (1959) Ltd.,
which owns 29% of the Company's share capital. A.A. Patishi Investments Ltd.
owns 24% of the Company's share capital. Mr. Shlomo Tisser and Mr. Zion Tayar
each own 6% of the Company's share capital. An additional 0.5% of the share
capital is owned by Mr. Daniel Stern, the Company's current CEO. The remaining
shares are held by the Public.
3.3 Holdings
Technoplast owns 56.5% of the issued and paid-up share capital of SMS, which
manufactures and markets plastic garden sheds. SMS owns 100% of its
subsidiaries: Smart Storage Enterprises Inc. ("SMS Inc.") and Bamasaf(7). SMS
Inc. markets the products of SMS in the United States, and Bamasaf manufactures
the sheds that are sold in Israel and overseas and is also the manufacturing
subcontractor of plastic panels used for various purposes (by the Electricity
Corporation, the Ministry of Defence, industrial concerns, etc.). SMS was
founded in 1999 and began marketing garden sheds at the end of 2000. At the
outset, the manufacture of the sheds was subcontracted to a third party. During
2000, the manufacturing was transferred to Bamasaf's plant, which is located on
Kibbutz Gezer (at the beginning, Bamasaf was engaged as an external
subcontractor, but since 2002 - as previously mentioned - it has been a wholly
owned subsidiary of SMS). Bamasaf was founded in 1994 as an investment company
and in 1998 it began manufacturing and marketing plastic panels.
In addition, Technoplast also owns 100% of Technoplast Investments (1993) Ltd.,
which is an inactive company, and 25.1% of the issued and paid-up share capital
of Afic Printing Products Ltd. ("Afic")(8). (Hereafter, Technoplast and its
investee companies are referred to as "the Group").
Until 1999, Technoplast also owned 25% of the share capital of Tzag Industries
Ltd. ("Tzag"), which was also Technoplast's major customer, with some 80% of the
Group's production being sold to Tzag. In 1999, Technoplast's holding in Tzag
was acquired by The Stanley Works ("Stanley"), one of the world's biggest
manufacturers of tools and doors for domestic, industrial and professional use.
Today, Tzag is still one of Technoplast's major customers, though to a lesser
extent than previously.
3.4 Products
The Company produces a wide range of plastic products, including equipment for
the home, storage solutions, garden equipment, furniture, etc. The Company's
products are sold in Israel and overseas, to Europe, Australia and the USA and
other places, being distributed mainly through "Do-It-Yourself (DIY) retail
chains. The Company has a number of principal product lines: subcontracting for
Tzag (products that Technoplast manufactures for Tzag as a subcontractor);
subcontracting for others (products that Technoplast manufactures as a
subcontractor for other concerns); storage and garden products; traditional
products, such as home shelving and furniture, garden equipment, children's
products, etc. (established products developed by the Company for itself, which
are now also manufactured by other companies, and whose share of turnover is
expected to fall in the future); new products (innovative products, which the
Company is planning to develop in the future and which, in light of their
inventiveness, will, at least initially, face relatively little competition, in
the estimation of the Company's management).
As stated, SMS manufactures and markets plastic garden sheds in various sizes
and styles. The sheds are manufactured by SMS using the extrusion method. The
principal advantage of manufacturing using the extrusion method is that there is
no limitation on the size of the product, which is not the case when using the
injection method (which is based on moulds). In addition, products manufactured
by the extrusion method are more durable and are stronger than those produced by
the injection method. The main disadvantage of the extrusion method lies in its
higher manufacturing costs that result in a higher price to the consumer. In
addition to sheds, SMS' products also include plastic panels, which are
manufactured by the extrusion method too, but constitute a relatively small
proportion of its sales (10%-15%).
3.5 Customers
As stated, the Company's products are distributed mainly through DIY retail
chains, in Israel and overseas, and also by means of agents and representatives
throughout the world.
Formerly, as has been mentioned, Tzag was Technoplast's major customer, with
some 80% of the Group's production being sold to Tzag. In practice, Technoplast
acted as Tzag's subcontractor, and Tzag would commit to order a set amount from
Technoplast, with the price being determined in advance on the basis of cost +.
The agreement for these arrangements was extended in January 2000 until 2004.
Since Technoplast's holding in Tzag was acquired by Stanley in 1999, there has
been a gradual decline in the amount bought by Tzag from Technoplast. In 2000,
sales to Tzag amounted to a little over half of the Group's total sales (NIS 61
million); in 2001 and 2002, Tzag's share of the Group's sales fell to 35% (NIS
51 million) and 29% (NIS 44 million), respectively; in the first quarter of
2003, Tzag's share declined further to 24% of the Group's total sales.
The garden sheds marketed by SMS are also distributed through DIY retail chains,
in Israel and overseas. At the beginning of its operations, the vast majority
of SMS' sales were to one major US customer - The Home Depot Inc. ("Home Depot
"). Home Depot is the largest DIY chain in the USA, with annual sales of $ 61
billion. During the past three years SMS has begun marketing to other customers
in North America, thereby reducing its dependence on Home Depot that today
accounts for 70%-75% of its sales. As described below, the competition from
other suppliers (Royal), from whom Home Depot has started buying, is another
reason why SMS' sales to Home Depot have fallen. In addition, the terms of the
trade relationship with Home Depot were altered from the beginning of 2003:
formerly Home Depot bought from SMS under FOB terms, meaning that all costs
after the goods left SMS' home port in Israel (e.g. freight to the USA and
inventory holding charges) were borne by Home Depot; since the beginning of
2003, SMS has begun marketing the sheds directly to the stores of the Home Depot
chain in the USA, which means that all the freight costs, as well as the US
storage and distribution costs, are now borne by SMS. In Israel too, SMS
markets its products through DIY retail chains, such as Home Centre, Ace,
Rosenfeld, etc.
Due to the limitations of the local Israeli market, as described in section 4
below, a large proportion of the Group's sales are directed towards the overseas
market - in 2003, more than 60% of Technoplast's sales and 75% of SMS' sales are
expected to be exported.
3.6 Business and Marketing Policy
As stated, Technoplast has been in financial difficulties for the past two years
due to the losses from its operations and its negative cash flow. As a result
and as already referred to, the Company has embarked on a Recovery Programme,
which is based on three components: extending its market reach to new markets,
expanding its range of products, and improving operational efficiency by
curtailing direct costs and cutting back overheads. Among the means being
employed to extend market reach are the marketing efforts being made to expand
the Company's customer base and reduce its dependence on Tzag, the level of
whose purchases, as described above, are falling in any case. Expanding the
product range requires investments in developing new products, which are
expected, at least initially, to face relatively little competition, and as a
consequence to benefit from higher profit margins than those earned on
Technoplast's established products. Improving operational efficiency by
curtailing costs is being effected both by reviewing and reorganising the
Company and its operational structure, and also by the planned consolidation of
the production facilities of Technoplast and SMS, as described in section 7
below. This planned consolidation is expected to result in savings in
operational costs and the administrative costs included in the cost of sales,
selling and marketing expenses, and general and administrative expenses.
3.7 Competition
The Group has a number of competitors in Israel, including:
- Rimoni Industries Ltd. ("Rimoni") - Rimoni is engaged, directly and through
its subsidiaries, in manufacturing and marketing moulds for use in the
plastics industry, and also in manufacturing precision plastic products.
The segment of the Company's operations in which Rimoni is a competitor is
that of manufacturing plastic products, which is the main part of the
Company's operations (90% in 2002). Rimoni's revenues totalled NIS 50
million in 2002 and NIS 16 million in the first quarter of 2003, while its
operating income for the same periods amounted to NIS 8.8 million and
NIS 3.3 million, respectively. Rimoni is traded on the Tel-Aviv Stock
Exchange and, as of July 31, 2003, its market capitalisation stood at
$ 12.9 million.
- L.M. Lipski Ltd. (Lipski") - Lipski is engaged, directly and through its
subsidiaries, in developing, manufacturing and marketing plastic consumer
products, such as: children's products (furniture, etc.), bathroom products
and also domestic hothouses. Lipski's revenues totalled NIS 69 million
in 2002 and NIS 22.5 million in the first quarter of 2003, while its
operating income for the same periods amounted to NIS 3.6 million and
NIS 0.9 million, respectively. Lipski is traded on the Tel-Aviv Stock
Exchange and, as of July 31, 2003, its market capitalisation stood at
$ 39.5 million.
- Palram Industries Ltd. ("Palram") - Palram is engaged, directly and through
its subsidiaries, in manufacturing and marketing thermoplastic sheets from
polycarbonate and rigid thermoplastic sheets from PVC, as well as other
additives. Most of the company's sales are exported. Palram's revenues
totalled NIS 570 million in 2002 and NIS 148 million in the first quarter
of 2003, while its operating income for the same periods amounted to
NIS 44 million and NIS 11 million, respectively. Palram is traded on the
Tel-Aviv Stock Exchange and, as of July 31, 2003, its market capitalisation
stood at $ 53 million.
- Plasson Industries Ltd. ("Plasson") - Plasson is engaged, directly and
through its subsidiaries, in developing, manufacturing and marketing
technical products, mainly from plastic materials - plastic fittings
for plastic pipes used in carrying liquids, gases and communication lines,
products for the poultry industry, and plastic sanitary products.
Plasson's revenues totalled NIS 433 million in 2002 and NIS 129 million in
the first quarter of 2003, while its operating income for the same periods
amounted to NIS 67 million and NIS 22 million, respectively. Plasson is
traded on the Tel-Aviv Stock Exchange and, as of July 31, 2003, its market
capitalisation stood at $ 103 million.
- Keter Plastics Ltd. ("Keter") - Keter is engaged in manufacturing and
marketing plastic products for the home and garden. Keter's products are
sold in DIY retail chains in Israel and overseas, and are in direct
competition with the Group's products. Keter also competes with SMS, but
only in the market for small sheds, as Keter manufactures using the
injection method, which - as stated above - dictates limitations on the
product's size, while SMS, which uses the extrusion method, suffers from no
such restrictions on the size of the products it manufactures.
- Tzag- Tzag is engaged in developing, manufacturing and marketing plastic
products, for private and professional use, in Israel and overseas. As
described above, Technoplast is a subcontract manufacturer for Tzag, though
the size of its annual production for Tzag has been declining since it sold
its interest in Tzag to Stanley. Tzag's turnover in 2002 totalled
$ 130 million(9).
- Pal-Kar Ltd. ("Pal-Kar") -Since 1977, Pal-Kar's plant at Kibbutz Kfar Rupin
has been engaged in the manufacture and marketing of PVC panels and
products. Pal-Kar's garden products include, inter alia, a variety of
fencing, shade solutions and protective grilles, as well as garden
structures and sheds. Pal-Kar competes with SMS in the sheds' market.
The Group has a large number of competitors overseas, including:
- Newell Rubbermaid Inc. ("Rubbermaid") - Rubbermaid is one of the largest
companies in the USA and is engaged, directly and through its subsidiaries,
in manufacturing and marketing consumer products for the home and garden.
Among its products, Rubbermaid markets a wide range of plastic products,
which includes household utensils, furniture, garden furniture, garden
sheds and more, that are in direct competition with Technoplast's products.
Rubbermaid is traded on the New York Stock Exchange (NYSE) and, as of July
31, 2003, its market capitalisation stood at $ 6.4 billion. The company's
sales for 2002 totalled $ 7.5 billion, of which 35% were in the plastic
products segment. For the first half of 2003, its sales totalled $ 3.7
billion, of which 40% were in the plastics segment. Rubbermaid's operating
income in 2002 and the first half of 2003 amounted to $ 794 million and
$ 222 million, respectively.
- Royal - A Canadian company that competes with SMS in the sheds' market, and
that also markets its products through Home Depot. Over the years, because
of the competition between SMS and Royal, Home Depot has been able to
exert pressure on SMS to reduce its prices. In addition, as explained
above, the terms of the trade relationship with Home Depot were altered
and, as a result, from the beginning of 2003, SMS has begun supplying its
products directly to the stores of the Home Depot chain. Despite this,
SMS' management does not anticipate any deterioration in its share of the
Home Depot market in which it competes with Royal; this is because SMS'
products are sold in four of the five geographical regions in which the
Home Depot chain operates, while Royal markets its products only in the
fifth region (the northern region).
3.8 The Group's Advantages and Disadvantages
The Group's principal advantages can be found in its trade relationships with
existing customers, and particularly with its major customers such as Home
Depot, Menard, Renot Depot, Lowes, and others. Also worthy of note, are the
Group's manufacturing and operating organisations and the many years' experience
it has in the plastics industry. SMS has a specific advantage in that, as
already mentioned, its manufacturing method (extrusion) allows it to manufacture
sheds and panels without any size limitations, thus giving it an advantage over
its competitors whose products are subject to size limitations. In addition,
products manufactured by the extrusion method are more durable and are stronger
than those produced by the injection method. The main disadvantage of the
extrusion method lies in its higher manufacturing costs that result in a higher
price to the consumer.
Today, the Group's main disadvantage is the financial difficulties it finds
itself in, which prevent it from continuing with the investments and the product
development that are essential for the continuation of its operations.
Nevertheless, as referred to above, the implementation of the Recovery Programme
has begun to show results, with improved profitability and positive cash flows
being recorded by the Company in the first quarter of 2003.
4 Business Environment
4.1 The Chemicals and Plastics Sector - General(10)
The chemicals and plastics sector covers a wide range of products, from products
that are used as raw materials in other industries through to final products for
end-users. US chemical companies hold the largest share of world production,
accounting for 26% of total world production in this sector. The state of this
industry is closely linked to the world and local economic situations, as
reflected by a number of core parameters: the gross domestic product (GDP), the
level of private consumption, the level of retail sales, and exchange rates of
the relevant currency. The largest end-markets for chemical producers are
industrial manufacturers, the motor industry, housing and agriculture.
The chemicals sector can be divided into a number of principal segments,
including: basic chemicals, organic chemicals, plastics and fertilisers, with
each of these segments being divided into additional sub-segments.
The predominant characteristics of the chemicals sector are, inter alia: the
fact that it is capital-intensive, due to the high costs associated with
constructing and running processing plants (production facility construction
costs can run to several hundreds of million dollars); the technological
complexity of the production process; and also the very large investment
required in environmental safety and conservation equipment. Energy prices have
a major impact for producers in the chemicals sector, who are mainly using oil
and natural gas, both as a raw material and as a source of power to operate
their processing plants. Energy prices, which hit a 2-year high during 2003,
have caused a problem for chemical producers, who have had to revise their
selling prices wherever possible. The chemicals sector is also characterised by
its cyclical nature, which stems both from cycles in its end-markets and also
from fluctuations in some of its segments that result from the massive growth in
their production capacity. Chemical producers are also subject to
sector-specific regulations with regard to environmental safety and
conservation, which also entail additional costs for them.
In 2002, the revenues of the US chemicals sector totalled US$ 532 billion, which
was almost the same as the total for 2001. S&P forecasts improved business
conditions for the sector in the forthcoming period, helped by a lower level of
energy prices compared to those in the first half of 2003, although they will
still be high in comparison to former periods. Profit margins are expected to
improve as a result of the selling price increases that took place in the first
quarter of 2003, although this will be counteracted in part by the negative
impact of higher raw material prices. GDP in the USA is forecasted to increase
by 2.5% in 2003, while the growth in the chemicals sector during the coming
years is forecasted to slightly exceed the growth in the GDP, due to the
increase in the standard of living and the faster rate at which synthetic
materials are replacing other basic materials. It should be noted that, in the
USA, the chemicals sector is to a large extent a mature sector, while, in the
developing nations of Asia and Central America, there is a much larger growth
potential due to high birth rates, the rise in the standard of living and
increasing industrialisation.
4.2 The Plastics Sector - Worldwide Review(11)
4.2.1 Data and general background
2002 was a better year than 2001 for the plastics sector in the USA. The fall
in raw material prices was one the factors that led to higher demand and profit
margins in 2002. The total quantity of plastics produced in 2002 amounted to 80
billion pounds (36 billion kilos), 6.8 % up on 2001. For the first four months
of 2003, plastics production was 0.5% higher than for the corresponding period
last year.
During the last ten years (1992 to 2001), production and sales levels in the
plastics sector (in terms of quantities) have shown a compounded annual growth
rate (CAGR) of almost 5%. Further growth took place in 2002. It would appear
that the increase is due largely to plastics replacing natural materials -
including, wood, glass, paper, metal - in such uses as packaging, non-perishable
items and products for personal use.
The selling prices of most plastic products rose in 2002, compared to their
prices at the beginning of the year, with producers taking advantage of the
greater demand referred to above; however, prices levelled off towards the end
of the year. Since the beginning of 2003, most plastics producers have been
able to again raise their prices (in some cases, even doubling them), but profit
margins have narrowed due to the even larger increase in the cost of raw
materials.
The chart below shows the movement in price levels for plastics producers in the
USA over the last ten years (costs of raw materials):
As can be seen from the chart, raw material prices tend to rise and fall in
cycles, which are closely related to energy price levels. Raw material prices
reached their highest level ever in April 2003, 25% higher than their level at
the end of 2002; in May 2003, there was a slight reduction in the level of raw
material prices, which - it may be supposed - will lead to a decline in selling
prices, but the level of raw material prices is still 19% higher than it was in
2002. The measure of success for a further increase in selling prices depends
on demand trends and the prices of energy and other raw materials.
4.2.2 Demand for plastics - Market analysis
A considerable portion of the demand for plastics comes from the consumer and
packaging segments, both of which show a relatively high level of sustainability
during periods of recession. Packaging was the largest market for plastic
products in 2002. This market, which includes bags, bottles and food
containers, accounted for 28% of the total annual demand for plastics. The
second largest market in the same year, accounting for 17% of the annual demand
for plastics, was the construction market, which uses plastics in buildings for
pipes, conduits, etc. The following chart analyses the demand for plastics in
the USA for 2002 by market:
* For example: Kitchen storage equipment, toys, sports accessories, and medical
products.
4.3 The Plastics and Rubber Sector in Israel(12)
4.3.1 Sales - Volume and market analysis
In 2002, sales by the plastics and rubber sector in Israel amounted to $ 2.63
billion, while in 2003 they are expected to reach $ 2.72 billion - an increase
of 3%. During the periods 1994-2002 and 1995-2002, the volume of the sector's
sales increased at a CAGR of 2.85% and 1.2%, respectively; in other words, the
major growth spurt took place in 1995.
The chart presented below shows sales volumes for the plastics and rubber sector
in Israel for the years 1994-2002 and an estimate for 2003 ($ in millions):
The major end-markets of the sector are the packaging market (as in the USA) and
the agriculture market, which on their own account for 50% of the demand for
plastic. The next largest markets are the household market and the construction
market that account for 16% and 13%, respectively, of the overall demand. The
following chart analyses the demand for plastics in Israel for 2002, by product:
4.3.2 The local and export markets
The plastics and rubber sector is export-oriented, due to the limited size of
the local market. This is driven on the one hand by the sector's desire to
achieve size advantages (economies of scale), and on the other hand by the
capital-intensive nature of the sector and the large investments that have to be
made in equipment. Accordingly, the last ten years have seen an upward trend in
the volume of exports of plastic and rubber products, both in absolute terms and
also as a percentage of aggregate plastics production in Israel. The following
chart shows the division of the Israeli plastics market into local and export
sales, and the percentage of exports in relation to aggregate production for the
years 1994-2002 and an estimate for 2003 ($ in millions):
Europe and North America are the main export destinations for the Israeli
plastics sector, and together represent the destination for more than 80% of all
the sector's exports. The chart below analyses the sector's exports for 2002 by
destination:
4.3.3 Investments in equipment
The level of investments in equipment is one of the indicators used to forecast
industrial growth, with an increase in investments (in excess of routine repairs
and renewals) reflecting growth expectations. Following three years of decline
in the level of the sector's investments, the 7% increase in the volume of
machinery imports into Israel in 2003 indicates a certain degree of recovery.
The following chart shows the level of machinery imports into Israel for the
years 1994-2002 and an estimate for 2003 ($ in millions):
4.3.4 Trends and forecasts(13)
2002 was a difficult year for the plastics and rubber sector in Israel. Among
the factors that contributed to this can be listed the deep recession affecting
the Israeli economy, the shattered security situation, the loss of sales to the
Palestinian Authority, and the downturn in world demand as a result of the
global recession. Prior to the outbreak of the Intifada, industrial concerns in
the plastics and rubber sector were making sales of NIS 130 million annually to
the Palestinian Authority. Since the outbreak of the Intifada in October 2000,
trade relations have contracted to 30% of their former level, and sales now
amount to NIS 40-45 million per year - primarily of plastic products and piping
for agriculture.
According to recent estimates made by sources in the sector, the plastics and
rubber sector is expected to stage a recovery in 2003. In the last few months,
a quarter of all plants in the plastics and rubber sector have re-established
trade connections with the Palestinians. Other factors on which the
expectations of a recovery are based are the expected increase in demand from
the local market, following the end of the war in Iraq, the hope for improvement
in the security situation and changes in the state of the world market.
Furthermore, following the war in Iraq, a number of plastics plants are
considering participating in the rehabilitation of Iraq, through American
tenders, and this too constitutes a potential driver that will aid the sector's
recovery. The trend to use plastic in place of other materials, such as wood,
cardboard, glass, etc., is also still continuing.
Recent years have seen a rising trend of overseas investment by Israeli
companies, which have been setting up plants and subsidiaries, mainly in Eastern
Europe and Asia, the USA and Ireland. The overseas plants have been built in
order to provide proximity to destination markets, thereby resulting in reduced
shipping costs. Another incentive for Israeli companies to invest overseas is
the preferential investment terms being offered overseas. Another trend that is
anticipated by the sector is an upturn in the number of companies merging, in
order to benefit from the aforementioned economies of scale and to maintain
their competitive advantage in the marketplace. Several examples of strategic
partnerships and mergers that have taken place recently are as follows: (1) The
establishment, a year ago, of a joint venture for the production of plastic
garden tables by the plastics company, Ambin, together with Kibbutz Beit Zera
and Kibbutz Ramat Yohanan; the venture manufactures garden tables that are
intended to be marketed through (DIY) chains in the USA and Europe. (2) A
merger between Plazit and Madaf Plastic Industries, which are engaged in
manufacturing packaging, sheeting and disposable utensils; the merger, which was
completed in the last few months, is intended to improve business conditions,
following increased competition in this market. (3) The market is also seeing
plastics producers cooperating with metal and furniture manufacturers to develop
new, integrated products.
As stated, the prices of plastic products are closely linked to the prices of
raw materials, which in turn are linked to energy prices (oil). In addition,
the exchange rate also impacts on local prices, with a devaluation causing
prices to rise and a revaluation having the opposite effect.
4.3.5 The market for sheds(14)
4.3.5.1 General
The market for garden sheds can be divided into three main segments, according
to the material from which the shed is made: metal, wood and PVC (plastic).
Metal sheds - Of the three types, metal sheds have the largest market share.
The sheds are relatively easy to manufacture and, consequently, they are usually
relatively cheaper than the other two alternatives.
Wooden sheds - These have the second largest market share. There is a wide
range of such sheds, providing a choice from simple, relatively cheap models
through to luxury, expensive models. In general, wooden sheds are more
expensive than metal sheds. Wooden sheds are more common outside the USA,
particularly in Western Europe.
PVC sheds - These sheds are the newest, relatively, on the market and are more
complicated to manufacture. The market share currently held by PVC sheds is
currently the smallest of the three types, but is expected to grow in the coming
years and to represent a significant portion of the overall increase in the
worldwide market for sheds.
The following chart presents an estimate of the US market for sheds analysed by
the type of material from which they are made (the overall size of the market is
estimated at $ 850 million per annum):
Since PVC is a relatively new material to appear on the sheds' market, it can be
assumed that the unique advantages it enjoys - as will be described below - will
bestow upon it a greater growth potential than that of the other two sectors.
4.3.5.2 PVC sheds
Sheds made from PVC enjoy a number of principal advantages over models made from
metal or wood. The first of these, is the ease with which they can be
assembled, in view of the fact that the are assembled in a modular manner;
secondly, sheds made from PVC are more durable since they need less maintenance
and are subject to less wear and tear from the elements; as a consequence, PVC
sheds have a relatively high cost-benefit ratio, since they will last for many
years.
In light of this, it is expected that the share of PVC sheds in the garden
sheds' market will gradually increase over the coming years - as stated above.
5 Analysis of Financial Statements
5.1 Balance Sheet
The Group's balance sheets for the years 2000-2002 are presented in condensed
form in the table below(15):
2000 2001 2002 2000 2001 2002
NIS in thousands % of total assets
Cash and cash equivalents 8,405 753 952 5% 0% 1%
Trade receivables 41,113 38,998 30,944 23% 21% 18%
Other accounts receivable 8,208 4,901 6,882 5% 3% 4%
Inventories 12,337 22,207 18,607 7% 12% 11%
Current assets 70,063 67,379 57,833 39% 35% 33%
Fixed assets 98,308 114,276 105,493 55% 60% 60%
Short-term bank credit 18,037 55,001 63,485 10% 29% 36%
Trade payables 35,027 38,219 35,444 20% 20% 20%
Current liabilities 67,090 109,438 111,377 38% 58% 64%
Long-term bank credit 30,616 39,616 34,760 17% 21% 20%
Long-term liabilities 34,400 41,325 35,582 19% 22% 20%
Shareholders' equity 75,418 39,706 22,418 42% 21% 13%
Total assets 178,752 189,961 174,425 100% 100% 100%
The trends indicated by the balance sheet data are detailed below:
- Cash and cash equivalents - The cash reserves in 2000 amounted to
NIS 8.4 million (5% of total assets), but have fallen in 2001 and 2002 to
less than NIS 1 million (less than 1% of total assets).
- Trade receivables - During the three years examined, the balance of trade
receivables fell from a level of NIS 41.1 million (23% of total assets) in
2000 to a level of NIS 38.9 million in 2001 and NIS 30.9 million (18%
of total assets) in 2002. The reduction of NIS 8 million in 2002 is due
primarily, to the drop in the level of SMS' activity. The above reduction
began in the last quarter of 2002 following the change in the terms of the
trade relationship between SMS and Home Depot that became effective from
January 2003, as described in section 3 above.
- Current assets - The balance of the Group's current assets has fallen from
a level of NIS 70.1 million (39% of total assets) in 2000 to a level of
NIS 67.4 million (35% of total assets) in 2001, and then to NIS 57.8
million (33% of total assets) in 2002. The decrease in 2002 is due to the
decrease in trade receivables (as explained above), together with a
reduction of NIS 3.6 million in the balance of inventories, which was
partly offset by the NIS 2.0 million increase in other accounts receivable.
- Fixed assets, net - The balance of the Group's fixed assets accounts for
55%-60% of its total assets in the years examined. In 2001, there was a
NIS 15.9 million increase in the balance of fixed assets resulting from
investments in equipment by the Company and its subsidiaries. In 2002,
the depreciation on the investment in fixed assets rose, and the balance
of fixed assets fell by NIS 8.8 million. This reduction was due, inter
alia, to the efficiency and savings measures taken by the Company as part
of the Recovery Programme that it is implementing.
- Short-term bank credit - The level of short-term bank credit has been
constantly climbing over the last three years, from a level of NIS 18
million (10% of total assets) in 2000 to a level of NIS 63.5 million (36%
of total assets) in 2002. The increase of NIS 36.9 million in 2001 was due
to the NIS 18.2 million increase in short-term credit taken by the Company
and the NIS 18.7 million increase in short-term credit taken by its
subsidiaries. The increase in the subsidiaries' short-term credit can be
partly explained by the fact that Bamasaf was fully consolidated for the
first time in 2001. In 2002, the banks increased the Group's credit
facility as part of the Recovery Programme being implemented by the Group,
in order to improve its financial condition and to enable it to continue
its operations.
- Trade payables - The Group's debts to its suppliers increased by NIS 3.2
million in 2001, compared to 2000. In 2002, the balance of trade payables
fell by NIS 2.8 million and amounted to NIS 35.4 million. The balance
of trade payables represented 20% of total assets in each of the last three
years.
- Long-term bank credit - The rate of the Group's long-term bank credit has
remained more or less constant at around 20% of total assets. In 2001, the
balance of this credit rose to NIS 39.6 million, an increase of NIS 9.0
million compared to 2000. In 2002, the balance of long-term bank credit
decreased and amounted to NIS 34.8 million.
- Shareholders' equity - In 2000, the Group's shareholders' equity amounted
to NIS 75.4 million (42% of total assets). In 2001, the shareholders'
equity fell to a level of NIS 39.7 million (21% of total assets), and, in
2002, it fell further to a level of NIS 22.4 million (13% of total assets).
The reduction in shareholder's equity has been caused by the Company's
losses that are eroding its retained earnings.
5.2 Statement of Income
The principal data from the Group's statements of income for 2000-2002 are
presented in the table below:
2000 2001 2002
NIS in thousands
Sales 128,430 147,745 153,492
Rate of annual change -11.3% 15.0% 3.9%
Cost of sales 118,804 142,380 134,413
Gross profit 9,625 5,364 19,079
Percentage of sales 7.5% 3.6% 12.4%
Selling, general and administrative expenses 19,320 29,953 32,510
Percentage of sales 15.0% 20.3% 21.2%
Operating income (loss) (9,695) (24,588) (13,431)
Percentage of sales -7.5% -16.6% -8.7%
Financial expenses 1,290 9,106 3,927
Percentage of sales 1.0% 6.2% 2.6%
Net income (loss) (17,691) (35,715) (17,288)
Percentage of sales -13.8% -24.2% -11.3%
Analysis of the Group's statements of income indicate the following trends:
- Sales - The Group's sales amounted to NIS 146 million in 1999, but fell to
a level of NIS 128 million in 2000. The reduction was caused primarily by
the NIS 48.2 million fall in sales to Tzag (the main customer), which was
partly offset by increased sales to other customers. In 2001, there was a
NIS 19.3 million increase in sales turnover, representing a 15% increase
over that in 2000. This was mainly due to the NIS 51 million rise in the
sales of the subsidiaries (SMS and Bamasaf), which was partly offset by the
NIS 19.5 million drop in the Company's sales, due primarily to a further
drop in the sales to Tzag. The overall increase in the Group's sales also
continued in 2002. Sales in 2002 increased by a further NIS 5.7 million
(3.9%), totalling NIS 153.5 million. The entire increase was derived from
the increased sales of the subsidiaries, although - contrary to previous
years - the downward trend in the Company's sales was halted and, since the
third quarter of 2002, has even be reversed. The reversal of the trend was
brought about by an increase in the sale of products that the Company
manufactures for itself to sell, which was partly offset by reduced income
from subcontract work and a decline in sales to Tzag.
- Gross profit - The gross profit fell from NIS 9.6 million (7.5% of sales)
in 2000 to NIS 5.4 million (3.6% of sales) in 2001. The reduction in
the gross profit margin was the result of the Company making a gross loss
of NIS 0.8 million (1.0%), after having made a gross profit of NIS 10.6
million (9.0%) in 2000. The decline in the Company's gross profit margin is
explained by the downturn in its sales turnover, due partly to the global
recession and the erosion of prices on overseas markets. The Company's
loss in 2001 was offset by the gross profit of NIS 6.2 million, compared to
the gross loss of NIS 1 million in 2000, contributed by the subsidiaries.
In 2002, the gross profit rose to NIS 19.1 million, reflecting a gross
profit margin of 12.4%. This increase was due to the Company's gross
profit of 8% (compared to its 1% gross loss on sales in 2001) and the
increase in SMS' gross profit margin from 10% to 19%. The improvement in
the Company's gross profit margin is due to a more profitable mix of
products sold and to the efficiency measures implemented as part of the
Recovery Programme. Such measures include the closing of the plant at
Barkan, as described above. The improvement in SMS' gross profit margin is
due to its higher sales turnover, as SMS was still in the throes of getting
established in 2000-2001.
- Operating income (loss) - The Group has shown an operating loss in each of
the last three years. In 2001, the operating loss was 16.6%, compared to
the operating loss of 7.5% in 2000. The main cause for the increase
in the Group's operating loss in 2001 was the increase in the Company's
operating loss that amounted to NIS 23.2 million (24% of sales, compared to
NIS 6.3 million (5% of sales) in 2000. The increase in the Company's
operating loss was mainly due to the decrease in its gross profit margin,
higher selling and marketing expenses as a result of the larger amount of
the Company's products exported directly and of the measures taken to break
into new markets, and also the rise in general and administrative expenses
due to an increase in the allowance for doubtful accounts. In 2002, the
Group managed to reduce its operating loss. This loss was cut back to NIS
13.4 million (9% of sales), with the improvement in the gross profit margin
and the reduction in general and administrative expenses being the main
factors causing this. The Company's operating loss was also reduced and
amounted to NIS 14.0 million (15% of sales). The reduction in the
operating loss was achieved despite a rise in selling and marketing
expenses that totalled NIS 19.8 million (13% of sales) in 2002, compared to
NIS 15.6 million (11% of sales) in 2001.
- Financial expenses - The Group's financial expenses increased from NIS 1.3
million in 2000 to NIS 9.1 million in 2001 (some NIS 3 million of these
expenses resulted from the devaluation of the shekel against the dollar
and various European currencies), and were then cut back to NIS 3.9 million
in 2002.
- Net income (loss) - The Group has made a loss in each of the last three
years. The Company's net loss in 2001 was twice that sustained in 2000,
and amounted to NIS 35.7 million. In 2002, the loss was cut back by 50%
and amounted to NIS 17.3 million.
5.3 Statement of Cash Flows
The principal data from the Group's statements of cash flows for 2000-2002 are
presented in the table below:
2000 2001 2002
Cash flows from operating activities (4,270) (24,668) 2,344
Cash flows from investing activities (20,579) (14,307) (4,868)
Cash flows from financing activities 22,950 31,316 2,727
Increase (decrease) in cash for the year (2,079) (7,658) 206
Balance of cash at the beginning of the year 10,484 8,405 753
Cash at the end of the year 8,405 746 958
Analysis of the Group's statements of cash flows indicate the following trends:
- Cash flows from operating activities - The result of these cash flows,
which shows the ability of the Group to generate cash from its ordinary
operations, was negative in both 2000 and 2001. The negative cash flows
were largely the result of the losses sustained by the Group during those
years. In 2002, the Group generated positive cash flows totalling NIS 2.3
million from its operating activities. The positive cash flow for 2002,
despite the net loss amounting to NIS 17.3 million, was derived from
reductions in inventories and trade receivables totalling NIS 12.7 million
and depreciation and amortisation of NIS 14.6 million, which were partly
offset by the increase on other accounts receivable and the decrease in
other accounts payable and accruals that totalled NIS 6.8 million.
- Cash flows from investing activities - The major part of the cash flows
from investing activities were used in the acquisition of fixed assets.
In 2000, the total cash flows used in investing activities amounted to
NIS 20.8 million, of which NIS 14.9 million was invested in fixed assets
and NIS 5.9 million was invested in associated companies. In 2001, the
total cash flows used in investing activities amounted to NIS 14.3 million,
due to investments in fixed assets of NIS 14.3 million. In 2002, the total
cash flows used in investing activities amounted to NIS 4.9 million, due to
a downturn in the amount invested in fixed assets.
- Cash flows from financing activities - In 2000, the cash flows from
financing activities totalled NIS 23.0 million, most of which derived from
the issue of shares. In 2001, the cash flows from financing activities
totalled NIS 31.3 million, most of which derived from the short-term bank
credit taken by the Group. In 2001, the cash flows from financing
activities totalled NIS 2.7 million, due to the increase in short-term
credit taken by the Group.
5.4 Analysis of Financial Ratios
5.4.1 Liquidity ratios
Liquidity ratios provide an indication of the Group's ability to settle its
liabilities and to cope with unexpected short-term financial demands.
The Company's liquidity ratios for the last three years are presented in the
following table:
Liquidity ratios 2000 2001 2002
Current ratio 1.04 0.61 0.52
Quick ratio 0.86 0.41 0.35
Level of immediate liquidity 0.13 0.01 0.01
Net working capital in relation to total assets 0.02 -0.22 -0.31
Analysis of the liquidity ratios shows the following trends:
- Current ratio - This ratio tests the Group's ability to settle its current
liabilities. The higher the ratio, the better the company's chances
of surviving financial crises. A result of 2 or more would be considered a
reasonable current ratio. The Group's current ratio has declined over the
last three years from a level of 1.04 in 2000 to 0.52 in 2002, mainly due
to the size of its short-term indebtedness.
- Quick ratio - This ratio compares the Group's liquid assets (those assets
that can be quickly realised, viz. its current assets, other than
inventories) to its current liabilities. A result of 1 or more would be
considered a reasonable quick ratio. As was the case for the current
ratio, the Group's quick ratio has also declined over the last three years,
in parallel with the growth in the size of its short-term indebtedness.
- Level of immediate liquidity - This ratio is an abbreviated form of the
quick ratio, with the numerator being composed only of cash, cash
equivalents and marketable securities. The level of immediate liquidity
presented by the Group in 2001 and 2002 is extremely low, due to the sharp
decline in the Group's cash reserves, on the one hand, and to the increase
in the short-term indebtedness, on the other.
- Net working capital in relation to total assets - This ratio measures the
surplus of current assets over current liabilities in relation to the total
assets. The greater this surplus in relation to the Group's total assets,
the greater are the liquid reserves available to the Group should it need
to cope with short-term financial difficulties or pressures. The Group's
working capital has been falling continuously and has been negative for the
last two years, due - inter alia - to the increase in short-term credit
taken by the Company.
The liquidity ratios paint a constantly worsening picture over the three years
examined.
5.4.2 Profitability ratios
Profitability ratios measure the ability of the Group to generate profits.
The Company's profitability ratios for the last three years are presented in the
following table:
Profitability ratios 2000 2001 2002
Net income in relation to sales -14% -24% -11%
Assets yield -6% -13% -7%
Capital yield -24% -62% -56%
Analysis of the profitability ratios shows the following trends:
- Net income in relation to sales - Measures the margin that is left with the
Group from each shekel of sales. The Group has had a negative margin in
each of the last three years. In 2000, the profitability percentage
was negative at a level of -14%. In 2001, the Group's profitability ratio
was at a negative rate of -24%. Although still negative, the profitability
percentage improved in 2002 to -11%.
- Capital yield and assets yield - These ratios measure the percentage profit
achieved by the Group in relation to the owners' capital invested in the
Group and in relation to the total capital invested in the Group,
respectively. As was the case for the net income in relation to sales,
it can be seen that the assets yield and the capital yield are both
negative (as the Group is making losses).
5.4.3 Capital structure ratios
Capital structure ratios indicate how the Group's activities are financed, and
the division between shareholders' equity and external capital:
Capital structure ratios 2000 2001 2002
Financial leverage 58% 79% 87%
Short-term to long-term debt 0.59 1.39 1.83
Analysis of the capital structure ratios shows the following trends:
- Financial leverage - This ratio measures the Group's liabilities (external
capital) in relation to its total assets (leverage). Due to the constantly
reducing shareholders' equity, caused by the Group's losses, and the
increasing size in the Group's indebtedness, caused by its taking
short-term credit, the Group's financial leverage has been continually
increasing from a level of 0.58 in 2000 to a level of 0.87 in 2002.
- The ratio between short-term debt and long-term debt - The proportion of
short-term debt in relation to the total indebtedness has been rising
consistently over the three years examined and the ratio between it and
the long-term debt has also been rising.
5.5 The Altman Survival Index
This index enables advance forecasting to identify which are the high-risk
companies that are likely to encounter financial difficulties in the coming
years, and which are the relatively low-risk companies. The Altman Survival
Index is well accepted in the USA and Europe (where it is known as the Z Score
Model). The Index is based on the examination of the balance sheets of hundreds
of US companies that encountered financial difficulties in the 70's and 80's,
and it is appropriate both for companies whose shares are traded on the stock
exchange and for private companies that are not publicly traded. The Altman
Index is calculated on the basis of five financial ratios that are given
different weightings to form one index. The ratios and the weightings used to
calculate the Altman Index are detailed in the following table:
Altman Index Weighting 2000 2001 2002
Contribution to the Index
Net working capital to total assets 0.717 0.01 -0.16 -0.22
Retained income to total assets 0.847 -0.04 -0.20 -0.30
Income before interest and taxes in
relation to total assets 3.107 -0.17 -0.40 -0.24
Shareholders' equity to total liabilities 0.420 0.31 0.11 0.06
Sales in relation to total assets 0.998 0.72 0.78 0.88
Altman Index - Total 0.83 0.13 0.18
Based on the examination carried out by Dr. Yair Ingbar, which covered forty
companies in Israel(16), it was found that the results of the Index, when being
applied in Israel, can be divided into three ranges:
Below 1 - Poor chances of survival.
Between 1 and 2.5 - Grey area in which it is hard to determine the company's
chances of survival.
Above 2.5 - The company is in a good situation and has a strong chance of
survival.
The Altman Survival Index is a supplementary measurement only, and should be
used in conjunction with the examination of other financial indices and
indicators.
The results of the Altman Index show a worsening of the Group's situation
between 2000 and 2001, and a slight improvement in 2002. In each of the three
years examined, the Group fell into the first category under the Altman Index,
viz. that of having poor chances of survival.
5.6 Highlights
5.6.1 Recovery Programme
The Company began implementing the Recovery Programme in the fourth quarter of
2001. The Recovery Programme is based on three components: extending its
market reach to new markets and expanding its range of products, improving
operational efficiency by curtailing direct costs and cutting back overheads,
and increasing bank credit facilities.
As stated, the Company has begun implementing this programme and the following
positive signs are already evident:
- The downward trend in the Company's sales has been halted and a reversal
began in the third quarter of 2002.
- The Company has made a gross profit in each of the last four quarters.
- In contrast to the situation in 2000 and 2001, the Group's cash flows from
operating activities were positive in 2002.
- The Company, as part of the efficiency measures it has undertaken, has
closed down its manufacturing plant at Barkan and has transferred all the
operations to its plant at Migdal Ha'Emek, in order to consolidate its
manufacturing operations and to cut costs. The Company estimates that the
savings resulting from this measure will amount to some NIS 3.5 million
per year.
- The Group's operating results for the last quarter of 2002 showed a marked
improvement over the operating results for the last quarter of 2001: the
Group's consolidated loss for the last quarter of 2002 amounted to NIS
6.8 million, compared to NIS 17.4 million for the corresponding quarter of
2001.
- The Company is continuing to take steps to reduce its dependence on its
main customer (Tzag), whose sales in 2000, 2001 and 2002 accounted for 53%,
53% and 45%, respectively, of the Company's total sales. These steps are
focused on two courses:
- Developing products and markets for itself by significantly broadening the
scope of exports - largely at the expense of sales to Tzag.
- Accelerating the operations of subsidiary SMS. SMS' sales in 2002 totalled
NIS 58 million.
The trend towards reducing the dependence on Tzag continued during the first
quarter of 2003. Sales to Tzag during that quarter fell to 38% of the Company's
total sales.
5.6.2 Results for the first quarter of 2003
Sales
The improving trend in the Company's performance continued in the first quarter
of 2003. The Company's sales in that quarter totalled NIS 26 million, an
increase of NIS 3 million compared to the corresponding period in 2002 and also
higher than in the preceding quarter.
The sales turnover of the subsidiaries amounted to NIS 13.4 million, a reduction
of NIS 9.7 million compared to their sales turnover in the corresponding quarter
of 2002. Some of the reasons for the reduction in sales are the seasonal drop
in sales to Home Depot and the change in the method that sales are made to Home
Depot, as has been described above.
Gross profit
The improving trend in the Company's gross profit margin continued in the first
quarter of 2003. The gross profit margin for the first quarter of 2003 was 16%,
compared to 8%for the whole of 2002 and 9% in the first quarter of 2002.
There was a decline in the subsidiaries' gross profit margins for the first
quarter of 2003, compared to the corresponding quarter of 2002, due to the
decrease in their sales turnover and the rise in raw material prices.
Operating loss
The Company continues to reduce its operating loss. The Company's operating
loss for the first quarter of 2003 amounted to NIS 0.9 million, compared to an
operating loss of NIS 3.1 million for the corresponding period of 2002. The
reduction in the operating loss was achieved through the improvement in the
gross profit margin and through the continuation of the operational efficiencies
being implemented by the Company, and despite a marked increase in selling and
marketing expenses, which rose from NIS 4.7 million (10% of sales) in the first
quarter of 2002 to NIS 6.3 million (15% of sales) in the first quarter of 2003.
This rise is the product of increased marketing efforts, the growth in Company
products that are exported directly and the change in the way that the
subsidiary operates on the US market.
The consolidated operating loss increased in the first quarter of 2003, compared
to the consolidated operating loss in the corresponding quarter of 2002, this
being due primarily to erosion in the subsidiaries' profit margins.
Financial expenses
Financial expenses continued to fall in the first quarter of 2003 and amounted
to NIS 1.2 million compared to NIS 1.5 million in the corresponding quarter of
2002.
Cash flows
The Company generated positive cash flows totalling NIS 2.8 million from its
operating activities in the first quarter of 2003, compared to the negative cash
flow of NIS 1.8 million from its operating activities in the corresponding
quarter of 2002.
The major increase in the subsidiary's operations, which required additional
investment in its inventories and trade receivables, has resulted in a negative
cash flow from its operating activities of NIS 5.7 million in the first quarter
of 2003.
Sources of finance
The Group's credit facilities with banks cover its present financial
requirements.
In 2002, the Company signed the documents for a floating charge in favour of the
banks, as well as for a fixed charge on its land and buildings at Barkan and a
fixed charge on its land and buildings at Migdal Ha'Emek in favour of one of the
banks, which enabled the Company to increase its credit facility by NIS 4.5
million.
At the same time, the Group is conducting negotiations with the banks for a
further increase in its credit facilities and for the rescheduling of the
repayment of its long-term loans. The increase in the credit facilities that
the Group is requesting are required to finance its working capital requirements
and for capital investments. The Group's management is optimistic that the
negotiations will culminate in the granting of credit facilities sufficient to
enable the continued implementation of the Recovery Programme.
Financial ratios
Liquidity ratios 2002 Q1/ 2003
Current ratio 0.52 0.53
Quick ratio 0.35 0.35
Level of immediate liquidity 0.01 0.02
Net working capital in relation to total assets -0.31 -0.32
It can be seen that the liquidity ratios at the end of the first quarter of 2003
have barely changed at all from those for December 2002.
Capital structure ratios 2002 Q1/ 2003
Financial leverage 87% 89%
Short-term to long-term debt 1.83 2.22
It can be seen that the financial leverage at the end of the first quarter of
2003 has barely changed at all from that for December 2002. In contrast, the
ratio of short-term debt to long-term debt has increased significantly, and the
proportion of the short-term debt in relation to the Company's total external
debt has also risen.
6 Methodology
6.1 Generally Accepted Valuation Methods
There are several generally accepted methods for assessing the economic value of
businesses and companies:
- The assets value method;
- The market transaction method;
- The market comparable method;
- The discounted cash flow (DCF) method.
6.2 Market Transaction Method
The market transaction method makes use of the actual price at which an earlier
transaction for the sale of the business being valued was executed, or at which
similar businesses were sold, provided that such transaction was carried out a
reasonably short time before performing the valuation.
In order to make the comparison with transactions carried out in similar
businesses, it is necessary to identify transactions that are similar from the
aspects of field of activity, operating characteristics, the degree of
negotiability and financial data.
Under the market transaction method, the valuation stages are as follows:
1. Identifying transactions that relate to businesses having similar
operating characteristics to those of the business being valued.
2. Finding a proper basis for comparing the size relationships between
the similar business and the business being valued.
3. Calculating the average multiplier of the similar businesses and
deriving the value of the business being valued, by using this multiplier
The advantages of using this method are that, because it makes use of actual
prices determined in arm's length transactions, it fairly reflects all the
parameters that impact on the value, and avoids the necessity of having to base
the valuation on forecasts that might be disputable. Also, basing the valuation
on transactions that have taken place shortly before the date of performing the
valuation ensures that the valuation arrived at using this method is based on
the same economic facts and business environment, which are faithfully reflected
through the market price.
The main failing of this method is the difficulty that usually exists in finding
similar transactions that can be used to calculate the value of business being
valued.
6.3 Assets Value Method
This method is based on the cost of the business' assets, net of its
liabilities, as they are reflected in the balance sheet. The valuation can also
include adjustments and corrections in an attempt to estimate the market value
of the assets and liabilities. This method is suitable mainly for businesses
with a high proportion of tangible assets, such as real estate companies.
This approach is also appropriate for assessing the cost of establishing a
similar business, but not necessarily for assessing the potential profit
expected to stem from the business' assets. The main failing of this method
stems from the fact that it takes no account of the business' profit potential
over and above its book assets.
6.4 Market Comparable Method
The market comparable method is similar to the market transaction method, but is
based on the share prices of public companies in the same sector as the business
being valued.
With the market comparable method, the business is valued on the basis of the
average ratio, for the sector in which it operates, between a given figure based
on the market value and a selected accounting parameter. The customary
parameters include net income, operating income, sales and shareholders' equity.
Use is occasionally also made of operational parameters, such as the number of
subscribers, sales territories, etc. For any particular sector, the average
ratio between the market value based figure and the relevant parameter is known
as the "multiplier".
This method is best used to arrive at a preliminary economic estimate of the
value of the business, but not for a more precise valuation. The advantage of
this method is its simplicity and the speed with which it can be applied,
compared to other methods. Its main failing stems from the fact that it does
not take into account a whole series of factors that are likely to affect the
value of a specific business, but are different in the "similar" businesses in
the same sector. Such factors include: different growth rate, different capital
structure, etc. Another failing results from the fact that, in most instances,
there is a wide range of multipliers and taking an average of these does not
necessarily give the right result.
6.5 Discounted Cash Flow (DCF) Method
The DCF method is based on an assessment of the business' ability to generate
cash flows. Accordingly, the valuation of the business is made on the basis of
the discounted cash flows that the business expects to generate in the future.
The future cash flows are discounted at the cost of capital, which reflects the
risk embedded in the business' activity, and which indicates the return that an
investor would expect from an investment in a business with a similar risk.
The DCF method is the method most generally accepted and has the most solid
theoretical basis. In order to use this method, it is necessary to construct a
financial model, which will be used to forecast the sales, cost of sales,
selling, general and administrative expenses, taxes and investments, so that a
forecast of cash flows can be extracted.
The main advantage of this system stems from the fact that it is customised to
the specific business and that it takes into account factors that are unique to
the business being valued. This characteristic gives this method a relatively
greater degree of accuracy.
Its disadvantage lies in the difficulty of forecasting the relevant future
sales, expenses and investments and of determining the appropriate cost of
capital.
In this valuation analysis, both the DCF method and the market comparable method
have been chosen for use in the valuation of the Company.
6.6 Valuation Principles
Separate valuations were performed for the Company itself and for SMS. In order
to assess the equity value of Technoplast, both the DCF method and the market
comparable method were used. In order to assess the value of Technoplast's
holding in SMS, the DCF method was used.
The stages in the valuation of the Company and of SMS, using the DCF method,
were as follows:
- Analysing the Company's fields of activity;
- Forecasting revenues;
- Analysing the structure of the expenses and forecasting the expenses
necessary to achieve the forecasted revenues;
- Forecasting the investments to be made during the forecast period;
- Preparing forecasted financial statements, including statements of income
and cash flows;
- Calculating each company's operating value by discounting the cash flows
from its operating and investment activities, including the residual value
of the business at the end of the forecast period, using a weighted cost
of capital that reflects the business risk to which the company's
operations are subject.
- Deriving each company's equity value by means of adding the value of
non-operating assets to the economic value of the company's operating
activities and deducting therefrom the value of its financial liabilities.
The valuation was made as of July 31, 2003. In order to perform the valuation,
the cash flows for each of the companies for the years 2003-2006 were forecasted
and discounted, and the residual value of the company at the end of this period
was also discounted. Since it was assumed that the Company is a "going concern"
and that it would continue its operations beyond the end of the aforementioned
period, its residual value at the end of the period was accordingly determined
as the present value of its projected cash flows for infinity, on the basis of
the representative cash flow, and a real long-term growth rate of 2% per annum.
The valuation of the Company based on the market comparable method followed the
same stages as were used under the DCF method, other than calculating the
residual value of the business at the end of the forecast period, and was made
on the basis of the average operating income multiplier from a sample of public
companies in the Company's business sector, as described below.
The valuation is based on the Company's audited financial statements for the
years 2000-2002, its reviewed quarterly financial statements as of March 31,
2003, the audited financial statements of SMS for the years 2001-2002 and of
Bamasaf for 2001, the Company's and SMS' internal management reports, business
forecasts prepared by the Company's management ("the Company's Forecast"),
publicly available data relating to the sectors in which the Company operates,
and other data furnished by the management of the Company. The forecasts and
data provided by the Company have not been independently verified by us.
7 Valuation of Technoplast
7.1 Valuation Based on the Discounted Cash Flow Method
The valuation of the Company has been performed based on two possible future
scenarios - a best-case scenario and a worst-case scenario. The difference
between these two scenarios is in the gross profit margins on the products to be
sold and in the level of the savings in manufacturing expenses, selling and
marketing expenses and general and administrative expenses, which are expected
to result from the consolidation of the manufacturing facilities of Technoplast
and Bamasaf, as will be described below. Presented below is the income forecast
under each scenario, as well as details of the assumptions made in arriving at
the forecasts of revenues and expenses. With regard to items for which the
assumptions used in the best-case scenario were different from those used in the
worst-case scenario (viz. gross profit margins (sub-section 7.1.3), selling and
marketing expenses (sub-section 7.1.4) and general and administrative expenses
(sub-section 7.1.5)), the assumptions used under each scenario are noted
separately.
7.1.1 Income forecast
Below are presented the Company's forecasted income statements for the years
2003-2006 and for the representative year, together with historical data for
2001-2002 (NIS in thousands)(17):
Best-Case Scenario
Actual Forecast
2001 2002 2003 2004 2005 2006 Rep. years
Revenues 96,303 96,255 91,028 98,000 104,000 108,000 110,160
Rate of change -0.1% -5.4% 7.7% 6.1% 3.8% 2.0%
Cost of revenues 97,153 88,721 77,347 80,005 80,428 81,968 83,607
Gross profit (850) 7,534 13,681 17,995 23,572 26,032 26,553
% of revenues -0.9% 7.8% 15.0% 18.4% 22.7% 24.1% 24.1%
Selling and marketing 12,052 14,722 8,249 9,074 9,841 10,839 11,056
expenses
% of revenues 12.5% 15.3% 9.1% 9.3% 9.5% 10.0% 10.0%
General and administrative
expenses 10,306 6,778 9,488 9,488 8,173 8,173 8,336
% of revenues 10.7% 7.0% 10.4% 9.7% 7.9% 7.6% 7.6%
Operating income (loss) (23,207) (13,966) (4,056) (567) 5,558 7,020 7,160
% of revenues -24.1% -14.5% -4.5% -0.6% 5.3% 6.5% 6.5%
Taxes on income - - - - - - 2,291
Net income (loss) (17,288) (35,715) (4,056) (567) 5,558 7,020 4,869
% of revenues -18.0% -37.1% -4.5% -0.6% 5.3% 6.5% 4.4%
Worst-Case Scenario
Actual Forecast
2001 2002 2003 2004 2005 2006 Rep. years
Revenues 96,303 96,255 91,028 98,000 104,000 108,000 110,160
Rate of change -0.1% -5.4% 7.7% 6.1% 3.8% 2.0%
Cost of revenues 97,153 88,721 77,347 80,380 82,417 85,037 86,738
Gross profit (850) 7,534 13,681 17,620 21,583 22,963 23,422
% of revenues -0.9% 7.8% 15.0% 18.0% 20.8% 21.3% 21.3%
Selling and marketing 12,052 14,722 8,249 9,074 9,889 10,887 11,104
expenses
% of revenues 12.5% 15.3% 9.1% 9.3% 9.5% 10.1% 10.1%
General and administrative
expenses 10,306 6,778 9,488 9,488 8,620 8,620 8,793
% of revenues 10.7% 7.0% 10.4% 9.7% 8.3% 8.0% 8.0%
Operating income (loss) (23,207) (13,966) (4,056) (942) 3,074 3,456 3,525
% of revenues -24.1% -14.5% -4.5% -1.0% 3.0% 3.2% 3.2%
Taxes on income - - - - - - 1,128
Net income (loss) (17,288) (35,715) (4,056) (942) 3,074 3,456 2,397
% of revenues -18.0% -37.1% -4.5% -1.0% 3.0% 3.2% 2.2%
7.1.2 Revenues
The Company's forecasted revenues from the sale of products are presented in the
table below for the years 2003-2006, together with historical data for 2001-2002
(NIS in thousands):
Actual Forecast
2001 2002 2003 2004 2005 2006
Subcontract work for Tzag 46,687 44,847 26,000 24,000 20,000 20,000
Subcontract work for others 13,952 4,535 4,000 5,000 5,000 5,000
Storage and garden products 11,269 17,636 26,000 24,000 21,000 16,000
Technoplast - traditional products 24,395 29,237 35,028 30,000 30,000 27,000
Technoplast - new products - - - 15,000 28,000 40,000
Total sales 96,303 96,255 91,028 98,000 104,000 108,000
Analysis of sales:
Local market 33,881 44,530 33,051 32,450 28,950 29,150
Overseas markets (exports) 62,422 51,725 57,977 65,550 75,050 78,850
Exports as % of total sales 65% 54% 64% 67% 72% 73%
The Company's revenues, both historical and forecasted, are presented according
to main product lines: subcontract work for Tzag (products manufactured under
subcontract arrangements for Tzag); subcontract work for others (products
manufactured by Technoplast under subcontract arrangements for other parties);
storage and garden products; traditional products, such as home shelving and
furniture, garden equipment, children's products, etc. (established products
developed by the Company for itself, which are now also manufactured by other
companies, and whose share of turnover is expected to fall in the future); new
products (innovative products, which the Company is planning to develop in the
future and which, in light of their inventiveness, will, at least initially,
face relatively little competition, in the estimation of the Company's
management).
It has been assumed that revenues for the forecast period will be the same as
the revenues included in the Company's Forecast, which shows a gradual decline
in the proportion of subcontract work for Tzag and others in relation to the
overall revenues; in addition, from 2004, the share of the sale of traditional
products, including storage and garden products, is also expected to taper off;
as already mentioned, these products are getting older and are gradually
becoming less profitable. In actual fact, all the forecasted growth in sales is
expected to derive from the new products, this being on the assumption that the
Company actually succeeds in developing new products and is able to gain
additional market share with the introduction of such products. At the same
time, it has also been assumed that the proportion of exports in relation to the
total sales will continue to grow throughout the forecast period, since - as
mentioned previously - the size of the local market is limited.
7.1.3 Gross profit
The gross profit margins during the forecast period have been based on the
adjusted forecasts made by the Company's management with regard to the gross
profit margin for each of the product lines. The estimates made by the
Company's management, as well as the adjustments made by us, were prepared on
the basis of past performance and estimations concerning the future.
Best-case scenario
In conformity with the estimates made by the Company's management, the
forecasted gross profit margin on subcontract work for Tzag and for others is
10% and 20%, respectively.
The gross profit margin on storage and garden products, and also on the
traditional products, has been forecasted based on the percentage profitability
for the first quarter of 2003 (18%).
With regard to the new products, a gross profit margin of 30%-35% (32.5%) has
been assumed, which is slightly less than that in the Company's Forecast (35%).
Our adjustment was made, inter alia, on the basis of a comparison with similar
companies in the sector, which revealed that the average gross profit margin is
slightly less than 30%; accordingly, the gross profit margin used by us was
determined as the median of the average gross profit margin for the sector and
the gross profit margin used in the Company's Forecast.
It has also been assumed, again in conformity with the estimates made by the
Company's management, that there will be savings in manufacturing costs. The
cost savings are expected to result from the planned consolidation of the
operations of Technoplast and SMS at the plant in Migdal Ha'Emek, as described
above ("Cost Savings"). This planned consolidation is expected to result in
savings in operational costs and the administrative costs included in the cost
of sales, selling and marketing expenses, and general and administrative
expenses. As estimated by the Company's management, the savings within the
framework of cost of sales, as a result of this measure, are expected to amount
to some NIS 2.3 million per year. It has been assumed that the consolidation of
the operations and the actual achievement of Cost Savings will occur, at the
earliest, in 2005.
The gross profit margin derived from the above assumptions is 24.1% for the
representative year.
Worst-case scenario
In conformity with the estimates made by the Company's management, the
forecasted gross profit margin on subcontract work for Tzag and for others is
10% and 20%, respectively.
The gross profit margin on storage and garden products, and also on the
traditional products, has been forecasted based on the percentage profitability
for the first quarter of 2003 (18%), while assuming a gradual decline over the
forecast period, culminating in 15% for the representative year. This
adjustment results from the estimates made by the Company's management, which we
have applied, that the existing products are ageing and will thus encounter
difficulties in generating high gross profit margins.
With regard to the new products, a gross profit margin of 30% has been assumed,
which matches the average for the sector, as described above.
It has also been assumed that the Company will be only partially successful in
realising the anticipated Cost Savings, and that the Cost Savings within the
framework of cost of sales will only amount to NIS 1.5 million.
The gross profit margin derived from the above assumptions is 21.3% for the
representative year.
7.1.4 Selling and marketing expenses
In the Company's Forecast, the selling and marketing expenses were computed as a
percentage of revenues (based on the percentage of revenues that these expenses
represented in the past). Since, as stated, the sales data used by us also
match the Company's Forecast, in financial terms too, the selling and marketing
expenses included in the forecast used by us in the valuation are identical to
those in the Company's Forecast. The Cost Savings were also taken into account,
being included, on the one hand, in the Company's Forecast (used for the
best-case scenario), and, on the other hand, under the assumption that the
savings actually achieved by the Company would be less than planned (used in the
worst-case scenario), as explained below.
Best-case scenario
In accordance with the Company's Forecast, annual savings in selling and
marketing expenses of NIS 140,000 have been taken into account from 2005.
Worst-case scenario
It has been assumed that the Company will be only partially successful in
realising the anticipated Cost Savings, and that the Cost Savings within the
framework of selling and marketing expenses will only amount to NIS 90,000 per
year.
7.1.5 General and administrative expenses
In the Company's Forecast, the general and administrative expenses were computed
as a percentage of revenues (based on the percentage of revenues that these
expenses represented in the past). Since, as stated, the sales data used by us
also match the Company's Forecast, in financial terms too, the general and
administrative expenses included in the forecast used by us in the valuation are
identical to those in the Company's forecast. The Cost Savings were also taken
into account, being included, on the one hand, in the Company's Forecast (used
for the best-case scenario), and, on the other hand, under the assumption that
the savings actually achieved by the Company would be less than planned (used in
the worst-case scenario), as explained below.
Best-case scenario
In accordance with the Company's Forecast, annual savings in general and
administrative expenses of NIS 1.3 million have been taken into account from
2005.
Worst-case scenario
It has been assumed that the Company will be only partially successful in
realising the anticipated Cost Savings, and that the Cost Savings within the
framework of general and administrative expenses will only amount to NIS 0.9
million per year.
7.1.6 Taxes on income
The statutory tax rate for Israeli companies is 36%. In light of its carry
forward tax losses and the additional losses that will be sustained during the
forecast period, the Company is not expected to have any liability to pay taxes
during the forecast period.
The Company has five programmes for the expansion of its plant. These
programmes have been granted "Approved Enterprise" status under the Law for the
Encouragement of Capital Investments, 1959 ("the Law"), thereby entitling the
Company to tax benefits. The tax benefits are conditional upon the Company
complying with the terms prescribed by the Law, by the regulations promulgated
thereunder and by the approval deeds relating to the Company's programmes.
Accordingly, it has been assumed that the Company's effective tax rate for the
representative year will be 32%.
Carryforward tax losses
As of December 31, 2002, the Company's carryforward tax losses amounted to NIS
70 million. In the years 2003-2004, the Company is expected to sustain further
losses totalling in aggregate NIS 4.6 million (according to the best-case
scenario) or NIS 5.0 million (according to the worst-case scenario). The
carryforward tax losses are expected to cancel out the taxable income for the
years 2005-2006, while it has been assumed that the Company will pay taxes on
its income in the representative year. The tax asset resulting from the future
utilisation of the carryforward tax losses remaining after 2006 has been
computed and discounted to its present value at the Valuation Date ("the Tax
Asset"), and has been included as part of the operating value.
7.1.7 Investments
The investments in manufacturing equipment and in other fixed assets have been
estimated according to the Company's Forecast, which predicts annual investments
of NIS 6.9 million.
It should be noted that the Company's actual investments in recent years have
been significantly higher than the annual amounted forecasted for investments
(NIS 20 million and NIS 9 million in 2000 and 2001, respectively). The
investments in these years were particularly high due to the Company's
transition from being solely a subcontractor to also manufacturing products for
itself to sell. This transition required significant investment, primarily in
the moulds used to manufacture the products. According to the Company's
management, the forecasted amount of investments is reasonable, assuming the
development of 1-2 new products annually during the coming years.
The annual investment in working capital is computed according to the Company's
past credit policy and its forecasts for the future.
In 2002, trade credit days and inventory days were low compared to prior years.
Accordingly, it has been assumed that both credit days and inventory days will
gradually rise over the forecast period to their average level during the last
three years (trade receivable days - from 90 days to 95 days; trade payable days
- from 62 days to 68 days; and inventory days - from 30 days to 34 days).
The following table presents the parameters used for forecasting the investments
in working capital:
2003 2004 2005 2006 Rep. year
Trade receivable days 90 91 92 94 95
Trade payable days 62 64 65 66 68
Inventory days 30 31 32 33 34
Other accounts receivable days 18 18 18 18 18
Other accounts payable and accruals days 41 41 41 41 41
7.1.8 Forecasted cash flow statements
Below are presented the forecasted cash flow statements for the years 2003-2006
and for the representative year (NIS in thousands):
Best-Case Scenario
2003 2004 2005 2006 Rep. year
Net income (loss) for the period (4,056) (567) 5,558 7,020 4,869
Adjustments required to reflect the cash flows
from operating activities (a) 9,645 7,040 6,975 6,770 6,241
Cash flows from operating activities 5,589 6,473 12,533 13,790 11,110
Cash flows from investing activities 6,900 6,900 6,900 6,900 6,900
Free Cash Flow (1,311) (427) 5,633 6,890 4,210
Residual value* 53,676
Cash flows for discounting (1,311) (427) 5,633 6,890 57,886
* The residual value is computed on the basis of a cost of capital rate of 10%
(see details below) and a long-term growth rate of 2% per annum.
(a) Adjustments required to reflect the cash flows from operating activities
(NIS in thousands):
2003 2004 2005 2006 Rep. year
Income and expenses not involving cash flows -
Depreciation and amortisation 10,390 8,822 8,962 7,962 6,900
Changes in operating asset and liability items
Decrease (increase) in trade receivables 1,284 (2,070) (1,875) (1,406) (956)
Decrease (increase) in other accounts 252 (337) (290) (193) (104)
receivable
Decrease (increase) in inventories 945 (422) (238) (342) (359)
Increase (decrease) in trade payables (1,945) 747 368 575 604
Increase (decrease) in other accounts
payable
and accruals (1,282) 300 48 174 155
Total adjustments required to reflect the cash
flows from operating activities 9,645 7,040 6,975 6,770 6,241
Worst-Case Scenario
2003 2004 2005 2006 Rep. year
Net income (loss) for the period (4,056) (942) 3,074 3,456 2,397
Adjustments required to reflect the cash flows
from operating activities (a) 9,645 7,116 7,303 6,993 6,256
Cash flows from operating activities 5,589 6,174 10,377 10,449 8,653
Cash flows from investing activities 6,900 6,900 6,900 6,900 6,900
Free Cash Flow (1,311) (726) 3,477 3,549 1,753
Residual value* 22,350
Cash flows for discounting (1,311) (726) 3,477 3,549 24,103
* The residual value is computed on the basis of a cost of capital rate of 10%
(see details below) and a long-term growth rate of 2% per annum.
(a) Adjustments required to reflect the cash flows from operating activities
(NIS in thousands):
2003 2004 2005 2006 Rep. year
Income and expenses not involving cash flows -
Depreciation and amortisation 10,390 8,822 8,962 7,962 6,900
Changes in operating asset and liability items
Decrease (increase) in trade receivables 1,284 (2,070) (1,875) (1,406) (956)
Decrease (increase) in other accounts 252 (337) (290) (193) (104)
receivable
Decrease (increase) in inventories 945 (454) (381) (444) (372)
Increase (decrease) in trade payables (1,945) 813 658 779 627
Increase (decrease) in other accounts
payable
and accruals (1,282) 342 230 295 161
Total adjustments required to reflect the cash
flows from operating activities 9,645 7,116 7,303 6,993 6,256
In order to arrive at the value of the Company, the cash flows from operating
activities and investing activities over the forecast period ("the Free Cash
Flow"), and the residual value at the end of the forecast period were
discounted, to the Valuation Date, on the assumption that the annual cash flow
is distributed evenly over the course of the year.
7.1.9 Cost of Capital
For the purpose of assessing the value of operations on the basis of the DCF
method, the Free Cash Flow, viz. the cash flows from operating activities,
before financial expenses and with the addition of investments in fixed assets,
were discounted at a cost of capital that reflects the risk to which the
Company's operations are subject. The cost of capital, as of the Valuation
Date, was determined to be 10%.
For the purposes of determining the cost of capital, use is made of the capital
asset pricing model (CAPM), which is the model customarily used in assessing the
cost of capital for companies. According to this model, the formula for
determining the cost of capital is:
R = Rf + b * (Rm - Rf)
When:
R - The weighted average cost of capital (WACC) for the company's operations;
Rf - The risk-free interest rate
b - The relative risk coefficient (beta). This coefficient reflects the
relative risk entailed for a particular investment and is based on the degree of
correlation between the return on the investment and the return for the capital
market as a whole. When this coefficient is greater than 1, the company is
highly sensitive to market changes (viz. when the economy is in recession, the
sector will suffer more than other sectors and, when the economy is thriving,
the sector will benefit more than other sectors). When this coefficient is less
than 1, the value of the company is less sensitive than average to changes in
the state of the market. When this coefficient is negative, the response of the
sector is in the opposite direction to the state of the market. For the purpose
of assessing the value of the Company's operations, the Company's operating beta
coefficient is estimated, viz. the beta appropriate to the Company's WACC.
(Rm - Rf) - The average equity market risk premium.
Risk-free interest rate - The risk-free interest rate is determined according to
the yield on long-term State bonds. As of the Valuation Date, the yield on
long-term (18 years) State bonds in Israel is 4.54%.
The beta coefficient - On the basis of a comparison with similar companies in
Technoplast's field of operations, the Company's beta was assessed to be 0.63
(18).
The market risk premium - The surplus anticipated yield over and above the
risk-free interest, which is expected to be received from a diversified
portfolio. The surplus yield for the Israeli stock market over and above the
yield on long-term State bonds is estimated at 8%(19).
In accordance with these parameters, a cost of capital of 10% was arrived at, as
shown in the following table(20):
Parameters
Risk-free yield 4.54%
b 0.63
Market risk premium 8.0%
Cost of capital 10.0%
Comment: The cost of capital used for the valuation of Technoplast (10%) differs
from that used for the valuation of Kidron, due to the fact that Technoplast is
a manufacturer, while Kidron is a trading company. It is accepted practice to
assume a higher operational risk for manufacturers than for trading companies in
the same sector, due to the formers' higher investments and fixed expenses.
7.1.10 Equity value
As already stated, the Company's Free Cash Flow was calculated in order to
assess the value of its operations. This cash flow was discounted at the cost
of capital that reflects the Company's operating risk, which has been estimated
at 10%, as described above. It has also been estimated that the Company's Free
Cash Flow will continue to grow at an annual rate of 2% from the end of the
forecast period. Within the framework of the valuation of the Company's
operations, the Tax Asset amounting to NIS 9.0 million (in the best-case
scenario) or NIS 7.0 million (in the worst-case scenario)(21), and a
depreciation asset ("the Depreciation Asset") amounting to NIS 5.8 million (in
both scenarios), were taken into account(22).
In order to arrive at the equity value, the value of non-operating assets has
been added to the value of the Company's operating activities and from this has
been deducted the value of the Company's financial liabilities, as presented in
its balance sheet as of December 31, 2002.
The non-operating assets include cash and cash equivalents, long-term
investments, investee companies (Afic), and the real estate at Barkan, which
have been taken into account at the values at which they are included in the
Company's balance sheet as of December 31, 2002 (NIS 9.5 million).
The financial liabilities include short-term and long-term bank credit and half
the severance pay liability. Within the framework of the financial liabilities,
half of the Company's provision for taxes payable, amounting to NIS 4.8 million,
has also been taken into account ("the Tax Provision"). (The total amount of
the Tax Provision, as advised by the Company's auditors, is NIS 9.5 million).
In addition, a provision of NIS 5.5 million, which has been created in the
Company's books in respect of a debt to the income tax authorities that is
currently being clarified through the courts ("the Income Tax Debt"), has also
been taken into account. It should be noted that the full amount of the Income
Tax Debt being claimed is NIS 12 million, although the Company's legal advisers
are unable to assess the chances of the claim.
The summarised results of the valuation using the DCF method are presented in
the table on the next page(23):
Best-case Worst-case
Discounted cash flow method scenario scenario
NIS in thousands
Value of operations 48,051 20,191
Tax Asset 9,054 7,007
Depreciation Asset 5,807 5,807
Value of operations, including Tax Asset and
Depreciation Asset 62,911 33,005
A d d - non-operating assets 18,120
L e s s - financial liabilities 75,196
A d d - value of holding in SMS** 323
Equity value 6,159 (23,747)
Equity value (adjusted according to CPI for July 2003) 6,039 (23,282)
** See section 8 below.
Accordingly, we estimate the fair market value of the equity of Company, as of
July 31, 2003, to be in the range of between NIS 0 and NIS 6 million, based on
the DCF method.
7.2 Valuation Based on the Market Comparable Method
For the purpose of valuing Technoplast's equity value using the market
comparable method, use was made of the operating income multiplier. The
operating income multiplier appropriate to Technoplast ("the Operating Income
Multiplier") has been determined on the basis of the median multiplier from a
sample of comparable public companies ("the Sample Companies")(24).
The Operating Income Multiplier for each of the sample companies has been
calculated according to the ratio between the average value of the operations of
each such company for the last three months (May-July) and the operating income
of that company for the period between March 2002 and March 2003. Based on
this, the Operating Income Multiplier has been estimated at 6.9.
The value of a company's operations represents the value of its long-term,
interest-bearing debt together with the value of its equity, without taking into
account non-operating assets and liabilities. Accordingly, the value of
operations is calculated on the basis of the market value of the company's
shares, with the addition of its non-operating liabilities and net of its
non-operating assets.
As Technoplast's operating income is currently negative, the value of its
operations has been calculated on the basis of the operating income for the
representative year. Accordingly, the value of operations for the forecast
period has been derived from the Free Cash Flow, in the same manner as the
calculation based on the DCF method, and the residual value of the operations
has been derived from multiplying Technoplast's forecasted operating income for
the representative year by the Operating Income Multiplier. The Tax Asset and
the Depreciation Asset, as described above, have been taken into account in
arriving at the value of Technoplast's operations.
In order to arrive at the equity value, as stated, the value of non-operating
assets is added and the total of the Company's financial liabilities, as
presented in its balance sheet as of December 31, 2002, is deducted, in the same
manner as the calculation based on the DCF method.
The summarised results of Technoplast's valuation using the market comparable
method are presented in the table on the next page:
Best-case Worst-case
Market comparable method scenario scenario
NIS in thousands
Operating Income Multiplier 6.9
Technoplast's operating income for the representative year* 7,160 3,525
Discounted residual value based on Operating Income
Multiplier ** 34,098 16,787
Value of operations (without residual value) 11,097 4,804
Tax asset 9,054 7,007
Depreciation Asset 5,807 5,807
Aggregate value of operations 60,055 34,405
A d d - non-operating assets 18,120
L e s s - financial liabilities 75,196
A d d - value of holding in SMS 323
Equity value 3,303 (22,247)
Equity value (adjusted according to CPI for July 2003) 3,239 (21,909)
* See the income forecast in sub-section 7.1.1 above.
** The residual value is based on Technoplast's operating income for the
representative year multiplied by the Operating Income Multiplier. The
resulting product, in monetary terms of the representative year, is discounted
to its present value at Valuation Date, on the basis of the cost of capital.
Accordingly, we estimate the fair market value of the equity of the Company, as
of July 31, 2003, to be in the range of between NIS 0 and NIS 3 million, based
on the market comparable method.
8 Valuation of SMS
8.1 Income Forecast
The table below presents the income forecast of SMS for the years 2003-2006 and
for the representative year, together with historical data for 2001-2002 (NIS in
thousands):
Actual Forecast
2001 2002 2003 2004 2005 2006 Rep. years
Revenues 56,205 58,268 68,267 81,731 90,918 94,998 96,898
Rate of change 3.7% 17.2% 19.7% 11.2% 4.5% 2.0%
Cost of revenues 47,029 46,935 50,015 59,246 65,906 68,863 70,240
Gross profit 9,176 11,334 18,252 22,485 25,012 26,135 26,658
% of revenues 16.3% 19.5% 26.7% 27.5% 27.5% 27.5% 27.5%
Selling and marketing 5,570 5,235 14,169 15,111 16,706 17,413 17,761
expenses
% of revenues 9.9% 9.0% 20.8% 18.5% 18.4% 18.3% 18.3%
Research and development
expenses 52 121 - - - - -
General and administrative
expenses 4,499 6,237 4,043 4,043 4,270 4,366 4,453
Operating income (loss) (944) (260) 40 3,331 4,036 4,356 4,443
% of revenues -1.7% -0.4% 0.1% 4.1% 4.4% 4.6% 4.6%
Taxes on income - - - - - - 1,422
Net income 40 3,331 4,036 4,356 3,021
% of revenues 0.1% 4.1% 4.4% 4.6% 3.1%
Note: As from 2002, SMS wholly owns Bamasaf, and the financial statements of
Bamasaf are consolidated with those of SMS. In order to reflect the current
holding structure in the results for 2001, the financial statements of the two
companies for 2001 have also been consolidated, and intercompany sales and
purchases have been eliminated.
8.1.1 Revenues
The table below presents the forecasted revenues of SMS from the sale of
products, according to main product lines, for the years 2003-2006 (NIS in
thousands):
2003 2004 2005 2006
Local market
Sheds 8,499 10,408 11,578 12,098
Panels 8,772 8,874 9,871 10,314
Total local market 17,271 19,282 21,449 22,412
Exports
Sheds 50,996 62,449 69,469 72,586
Panels - - - -
Total exports 50,996 62,449 69,469 72,586
Total shed sales 59,495 72,857 81,047 84,684
Total panel sales 8,772 8,874 9,871 10,314
Total sales 68,267 81,731 90,918 94,998
As mentioned above, SMS derives its revenues from the sale of sheds and panels,
with over 85% of its revenues deriving from the sale of sheds.
The revenues for the forecast period are based on the Company's estimates. The
increase in revenues anticipated for 2004 is, inter alia, due to the fact that
in the first quarter of 2003 (as also in the last quarter of 2002) Home Depot
made virtually no purchases from SMS, following the alteration in the terms of
its trade relationship with SMS, as described above and also in sub-section
8.1.2 below.
It has been assumed that the break-down of revenues between sheds and panels
will remain similar to that anticipated by SMS' management for 2004, i.e. close
to 90% of revenues will be derived from the sale of sheds and the balance will
be derived from the sale of panels. In addition, it has been assumed that the
break-down of shed sales between the local and the export markets will remain
similar to that anticipated by SMS for 2004, so that 15% of shed sales will be
to the local market and the balance will be for export. All sales of panels are
to the local market. Accordingly, the proportion of exports in relation to the
overall sales in the forecast period is 75%.
Currently, the majority of the SMS' sales (70%-75%) are to a main customer -
Home Depot. During the forecast period, SMS' management plans to reduce its
dependence on Home Depot and to distribute its products via other retail chains
in North America and other destinations. It should be noted that the proportion
of sales to Home Depot has already been reduced in comparison to previous
periods, due to the distribution of SMS products via an additional two retail
chains in North America - Menard (the third largest DIY retail chain in the USA)
and Renot Depot (a Canadian retail chain). SMS is also in contact with other
retail chains in North America.
The anticipated increase in sales is partly due to the anticipated increase in
the market as a result of the change of trends in the USA, with plastic sheds
taking preference over other types of sheds (such as wooden or metal sheds), as
described in chapter 4 above. As European consumers still prefer the wooden
sheds, probably for reasons of custom or aesthetics, marketing efforts are
concentrated in North America (mainly USA and Canada).
8.1.2 Gross profit margins
The gross profit margins during the forecast period have been based on the
adjusted forecasts made by SMS' management. The estimates made by SMS'
management, as well as the adjustments made by us, were prepared on the basis of
past performance and estimations concerning the future.
For the whole of 2002, the gross profit margin was 19.5%, although the gross
profit margin for the first three quarters of 2002 was 26.5% . The sharp drop
in the gross profit margin in the last quarter is due to the change in the terms
of the trade relationship with Home Depot. Formerly Home Depot bought from SMS
under FOB terms, meaning that all costs after the goods left SMS' home port in
Israel (e.g. freight to the USA and inventory holding charges) were borne by
Home Depot; since the beginning of 2003, SMS has begun marketing the sheds
directly to the stores of the Home Depot chain in the USA. As a result of the
change, Home Depot suspended its orders from SMS in the last quarter of 2002 and
the first quarter of 2003, for the purpose of disposing of any existing
inventories in the USA prior to placing new orders. Nevertheless, in order to
prepare for 2003, SMS continued the manufacture of sheds and their transport to
storage facilities in the USA. The sharp drop in the volume of activities
resulted in a sharp decrease in the Company's gross profit margin in the last
quarter of 2002.
The anticipated improvement in the gross profit margin is due to the change in
the mix of products sold - as the share of Home Depot in sales becomes smaller,
the gross profit margin grows higher, since the profitability of sales to Home
Depot is low in comparison to other customers.
Accordingly, the gross profit margins taken into account for the forecast period
are higher than those for 2002: 26.5%-27.0% in 2003 (based on the Company's
estimates) and 27%-28% in the remaining forecast period.
8.1.3 Selling and marketing expenses
The selling and marketing expenses were computed as a percentage of revenues,
based on the estimates of SMS.
Since, as stated, the sales data also match the Company's Forecast, in financial
terms too, the selling and marketing expenses are identical to those in the
Company's Forecast. The anticipated decrease in the proportion of selling and
marketing expenses in 2004, is based on a discount of some 30% that is to be
received by SMS, effective as from the second half of 2004, from a supplier who
handles on its behalf the logistic operations relating to the products'
distribution in the USA.
8.1.4 General and administrative expenses
The general and administrative expenses were computed as a percentage of
revenues, based on the Company's Forecast. Since, as stated, the sales data
used by us also match the Company's Forecast, in financial terms too, the
general and administrative expenses are identical to those in the Company's
forecast. As a percentage of sales, the general and administrative are expected
to decrease, as they include a fixed component, while total sales are expected
to increase.
8.1.5 Taxes on income
The statutory tax rate for Israeli companies is 36%. However, SMS is not
expected to have any liability to pay tax during the forecast period, in light
of its carryforward tax losses of approximately NIS 48 million at the beginning
of the forecast period. To date, SMS does not enjoy the status of an approved
enterprise under the Law for the Encouragement of Capital Investments, 1959.
SMS has an approved grants programme, which is conditional upon the relocation
of the plant to Kfar Rupin. According to the SMS' management, the Company has
no intention of making this relocation in the foreseeable future. Nevertheless,
and in view of the plans of Technoplast for the consolidation of the
manufacturing facilities of Technoplast and SMS in Migdal Ha'Emek, a reduced tax
rate of 32% has been taken into account for the representative year.
Carryforward tax losses
As of December 31, 2002, the carryforward tax losses of SMS amounted to NIS 48
million. The carryforward tax losses are expected to cancel out the taxable
income for the forecast period, while it has been assumed that SMS will pay
taxes on its income in the representative year. The tax asset resulting from
the future utilisation of the carryforward tax losses remaining after 2006 has
been computed and discounted to its present value at the Valuation Date ("the
SMS Tax Asset"), and has been included as part of the operating value. The
value of the SMS Tax Asset is approximately NIS 5.4 million.
8.2 Investments
The investments in manufacturing equipment and in other fixed assets during the
forecast period have been estimated according to the Company's Forecast.
The annual investment in working capital was computed according to the past
credit policy of SMS and its forecasts for the future. Inventory levels have
been adjusted to reflect the new trade relationship terms of SMS with Home
Depot, that make it necessary for SMS to hold inventory in the USA, thereby
increasing SMS' inventory levels. The representative inventory level of SMS was
computed on the basis of past data for the period from the date of transition to
the new trade relationship terms.
The following table presents the parameters used for forecasting the investments
in working capital:
2003 2004 2005 2006 Rep. year
Trade receivable days 49 51 54 57 60
Trade payable days 158 161 164 167 170
Inventory days 110 110 110 110 110
Other accounts receivable days 16 16 16 16 16
Other accounts payable and accruals days 9 9 9 9 9
8.3 Forecasted Cash Flow Statements
Below are presented the forecasted cash flow statements for the years 2003-2006
and for the representative year (NIS in thousands):
2003 2004 2005 2006 Rep. year
Net income for the period 40 3,331 4,036 4,356 3,021
Adjustments required to reflect the cash flows
from operating activities (a) 913 4,033 4,352 4,666 3,204
Cash flows from operating activities 953 7,364 8,388 9,022 6,225
Cash flows from investing activities 1,500 1,500 2,500 3,500 3,500
Free Cash Flow (547) 5,864 5,888 5,522 2,725
Residual value* 34,742
Cash Flow for discounting (547) 5,864 5,888 5,522 37,467
* The residual value is computed on the basis of a cost of capital rate of
10% (see sub-section 7.1.9 above) and a long-term growth rate of 2% per annum.
(a) Adjustments required to reflect the cash flows from operating activities
(NIS in thousands):
2003 2004 2005 2006 Rep. year
Income and expenses not involving cash flows -
Depreciation and amortisation 5,100 5,100 5,100 5,100 3,500
Changes in operating asset and liability items
Decrease (increase) in trade receivables (1,330) (2,432) (2,008) (1,353) (1,058)
Decrease (increase) in other accounts (427) (575) (393) (174) (81)
receivable
Decrease (increase) in inventories (3,839) (2,782) (2,007) (891) (415)
Increase (decrease) in trade payables 1,331 4,488 3,490 1,909 1,223
Increase (decrease) in other accounts
payable
and accruals 78 234 169 75 35
Total adjustments required to reflect the cash
flows from operating activities 913 4,033 4,352 4,666 3,204
In order to arrive at the value of the Company, the Free Cash Flow over the
forecast period, and the residual value at the end of the forecast period were
discounted, to the Valuation Date, on the assumption that the annual cash flow
is distributed evenly over the course of the year.
8.4 Equity value
As already stated, the Free Cash Flow of SMS was calculated in order to assess
the value of its operations. This cash flow was discounted at the cost of
capital that reflects the Company's operating risk, which has been estimated at
10%, as described above. It has also been estimated that the Company's Free
Cash Flow will continue to grow at an annual rate of 2% from the end of the
forecast period. Within the framework of the valuation of the operations of
SMS, the Tax Asset of SMS, amounting to NIS 5.4 million, and a Depreciation
Asset amounting to NIS 2.3 million were taken into account(25).
In order to arrive at the equity value, the value of non-operating assets has
been added to the value of the operating activities of SMS and from this has
been deducted the value of the financial liabilities of SMS, as presented in its
balance sheet as of December 31, 2002.
The non-operating assets include cash and cash equivalents and deposits.
The financial liabilities include short-term and long-term bank credit and
loans, liabilities to interested parties, capital notes and half the severance
pay liability.
The summarised results of the valuation using the DCF method are presented in
the table below(26):
Discounted cash flow method NIS in thousands
Value of operations 47,327
A d d - non-operating assets 900
L e s s - financial liabilities 47,654
Equity value 572
Value of Technoplast's holding in SMS* 323
* 56.5%.
9 Conclusion of Valuation
The table below presents the results of the valuation, according to both the DCF
method and the market comparable method (NIS in millions):
Technoplast - Equity value Best-case scenario Worst-case scenario(27)
DCF method 6 0
Market comparable method 3 0
Shareholders' equity, as of March 31, 2003 20.4
(28)
Accordingly, we estimate the fair market value of the equity of the Company, as
of July 31, 2003, to be in the range of between NIS 0 and NIS 6 million.
10 Sensitivity Analyses
The table below presents a sensitivity analysis of Technoplast's equity value,
based on the DCF method (best-case scenario), in relation to the discount rate
and the long-term growth rate (NIS in thousands):
Discount rate
12% 11% 10% 9% 8%
Growth
rate
3.0% (3,602) 2,402 12,112 25,527 43,854
2.5% (4,805) 781 8,874 20,913 36,927
2.0% (5,889) (661) 6,039 16,954 31,151
1.5% (6,870) (1,952) 3,985 13,520 26,260
1.0% (7,767) (3,119) 2,436 10,508 22,060
The table below presents a sensitivity analysis of Technoplast's equity value,
based on the DCF method (best-case scenario), in relation to the revenues for
the representative year and the gross profit margin for the representative year
(NIS in thousands):
Revenues
121,176 115,668 110,160 99,144 88,128
Gross
profit
25.1% 30,933 22,210 13,388 (4,564) (23,893)
24.6% 26,977 18,392 9,717 (8,087) (27,284)
24.1% 23,020 14,575 6,039 (11,564) (30,777)
23.6% 19,033 10,736 2,322 (15,093) (34,463)
23.1% 15,034 6,874 (1,415) (18,678) (38,322)
Valuation
of
KIDRON PLASTICS LTD.
November 2003
CONTENTS
1 Introduction ........................................................................ 3
2 Summary of Valuation ............................................................... 4
3 Description of the Company ......................................................... 5
3.1 General ..................................................................... 5
3.2 Shareholders ............................................................... 5
3.3 Products .................................................................. 5
3.4 Customers ................................................................... 5
3.5 Suppliers.................................................................. 5
3.6 Business and Marketing Policy ............................................. 6
3.7 The Company's Advantages and Disadvantages .............................. 6
4 Business Environment ............................................................... 7
4.1 The Chemicals and Plastics Sector - General ............................ 7
4.2 The Plastics Sector - Worldwide Review ...................................... 8
4.3 The Plastics and Rubber Sector in Israel ................................. 11
4.4 Marketing and the Supply of Raw Materials to the Plastics Industry ...... 14
5 Analysis of Financial Statements ................................................... 17
5.1 Balance Sheet ............................................................... 17
5.2 Liquidity Ratios ............................................................ 18
5.3 Statement of Income ......................................................... 19
6 Methodology ........................................................................ 20
6.1 Generally Accepted Valuation Methods ....................................... 20
6.2 Market Transaction Method ................................................... 20
6.3 Assets Value Method ......................................................... 21
6.4 Market Comparable Method ................................................ 21
6.5 Discounted Cash Flow Method .............................................. 21
6.6 Valuation Principles ...................................................... 22
7 Valuation Using the Discounted Cash Flow Method ................................ 23
7.1 Income Forecast ............................................................ 23
7.2 Investments ............................................................... 27
7.3 Forecasted Cash Flow Statements ......................................... 28
7.4 Cost of Capital ............................................................ 29
7.5 Equity Value ................................................................ 31
8 Valuation Using the Market Comparable Method ................................. 32
9 Conclusion ......................................................................... 33
10 Sensitivity Analyses.................................................................. 34
1 Introduction
Kidron Plastics Ltd. ("Kidron" or "the Company"), which was founded in 1993, is
engaged in the import, marketing and distribution of raw materials and auxiliary
products for the fibreglass and plastics industries. Kidron is a wholly owned
subsidiary of Kidron Management and Holdings (1961) Ltd. (together, "the Group
").
On June 29, 2003, an agreement of principles was signed between Technoplast
Industries Ltd. ("Technoplast") and Kidron Management and Holdings (1961) Ltd.
and a related party (together, "Kidron Holdings") for the merger of the two
companies ("the Merger Transaction" or "the Transaction"). Pursuant to the
Merger Transaction, Kidron Holdings is to transfer all of Kidron's issued and
paid-up share capital to Technoplast, in exchange for the allotment of
Technoplast shares, which will give Kidron Holdings control over Technoplast.
Against the background described above, Kesselman Corporate Finance
PricewaterhouseCoopers Ltd. ("Kesselman Finance") has been engaged to determine
the ratio for the merger between Technoplast and Kidron (together, "the
Companies") within the context of the Merger Transaction. In order to determine
the merger ratio, Kesselman Finance carried out an assessment of the fair market
value of the equity of each of the Companies.
Fair market value, for the purpose of the engagement, is defined as the price at
which property would change hands between a willing buyer and a willing seller,
neither being under any compulsion to buy or to sell, and both having reasonable
knowledge of relevant facts.
This report contains the valuation of the fair market value of Kidron, as might
be determined on the basis of long-term economic considerations. The valuation
does not take into account considerations that might affect the value of the
Company for a specific investor, or for a specific seller, nor does it take into
account general factors (political or other) that might affect the Company's
future value.
The valuation is based on the Company's audited financial statements for the
years 2000-2002, its internal management reports, publicly available data
relating to the sectors in which the Company operates, and other data furnished
by the management of the Company. We have not independently verified the
forecasts and data provided by the Company, although their reasonability has
been examined by us.
As with all economic valuations, this valuation does not lay claim to establish
the exact value of the Company; it merely attempts to estimate the Company's
fair market value on the basis of the aforementioned information. Changes to the
aforesaid information, or additional information, are clearly likely to affect
the results of the valuation. The discounted cash flow (DCF) method and the
market comparable method (as described below) were chosen for use in making the
valuation.
The valuation is intended solely for the purposes of the requisitioners of the
valuation, and no other use is to be made of it, nor is it to be quoted, either
in total or in part, in a prospectus or in any other document, without first
obtaining express approval thereto, in writing, from Kesselman Finance.
Nevertheless, we give our consent for this report to be included and/ or
referred to in the immediate reports, which are to be published by Technoplast
in relation to the Merger Transaction, and for its use in connection with the
various processes relating to the approval of the Transaction.
2 Summary of Valuation
Kidron was founded in 1993 and is engaged in the import, marketing and
distribution of raw materials and auxiliary products for the for the fibreglass
and plastics industries. To the best of Kidron's knowledge, Kidron acts as the
sole agent and distributor in Israel for a number of foreign companies,
including Reichhold Srl, Vetrotex (part of the St. Gobain group), AKZO, etc.
The Company's professional team performs mixing and preparation work for its
customers, and also staffs its storage and distribution centre, which is located
in Haifa and provides the base for its distribution network.
The valuation was made as of July 31, 2003 ("the Valuation Date"). The DCF
method was used in order to perform the valuation. Using this method, the cash
flows for the years 2003-2006 were forecasted and discounted; In addition, the
value of the Company at the end of the forecast period was discounted. Since it
was assumed that the Company is a "going concern" and that it would continue its
operations beyond the end of the forecast period, its residual value at the end
of the forecast period was accordingly determined as the present value of its
projected cash flows for infinity, on the basis of the representative cash flow,
and a real long-term growth rate of 2% per annum. The cost of capital used to
discount the operating cash flows, reflecting the business risk to which the
Company's operations are subject, was set at 9%.
In addition, the market comparable method was also used in arriving at Kidron's
valuation. Under this method, the value of the Company was estimated based on a
comparison with comparable public companies in the same sector.
The table below presents selected data from the Company's forecasted statements
of income for the years 2003-2006 and for the representative year, together with
historical data for 2001-2002 (NIS in thousands)(29):
Actual Forecast
2001 2002 2003 2004 2005 2006 Rep. years
Revenues 10,651 10,154 10,279 10,567 10,863 11,167 11,391
Rate of change -8.3% -4.7% 1.2% 2.8% 2.8% 2.8% 2.0%
Gross profit 4,378 4,220 4,091 4,160 4,079 4,071 4,153
% of revenues 41.1% 41.6% 39.8% 39.4% 37.6% 36.5% 36.5%
Operating income 2,170 2,071 1,842 1,771 1,798 1,726 1,761
% of revenues 20.4% 20.4% 17.9% 16.8% 16.6% 15.5% 15.5%
Net income (176) 25 1,172 1,127 1,144 1,098 1,120
% of revenues -1.7% 0.2% 11.4% 10.7% 10.5% 9.8% 9.8%
The table below presents the results of the valuation, according to both the DCF
method and the market comparable method (NIS in millions):
Kidron - Equity Value
DCF method 8
Market comparable method 11
Shareholders' equity, as of (0.1)
December 31, 2002(30)
Accordingly, we estimate the fair market value of the equity of the Company, as
of July 31, 2003, to be in the range of between NIS 8 million and NIS 11
million.
3 Description of the Company
3.1 General
Kidron was founded in 1993 and is engaged in the import, marketing and
distribution of raw materials and auxiliary products for the plastics sector of
the fibreglass-polyester industry. To the best of Kidron's knowledge, Kidron
acts as the sole agent and distributor in Israel for a number of foreign
companies, including Reichhold Srl, Vetrotex (part of the St. Gobain group),
AKZO, etc. The Company's professional team performs mixing and preparation work
for its customers, in the course of tailor making products to customers' needs,
and also staffs its storage and distribution centre, which is located in Haifa
and provides the base for its distribution network. In 2002, despite the severe
economic recession, the Company succeeded in maintaining a relatively stable
level of revenues. This achievement was due, inter alia, to the Company's major
marketing effort, which is reflected in a broader customer base, and to the more
favourable prices obtained from suppliers.
3.2 Shareholders
At the time of its establishment, the ownership of Kidron was divided between
Kidron Holdings (65%) and Mr. Max Kissos (35%). During 2001, Kidron Holdings
acquired Max Kissos' interest in the Company ("the acquisition"), and the
Company is currently a wholly owned subsidiary of Kidron Holdings.
Max Kissos, an engineer specializing in polyester and having many years
experience in this field, has been the Company's CEO from its establishment
until the present day. At the time of the acquisition, an agreement was signed
with Mr. Kissos for the continuation of his employment as the Company's CEO for
a further 4-year period. According to Company management, this agreement will
again be extended, with the consent of all parties thereto.
3.3 Products
As already mentioned, Kidron markets raw materials and auxiliary products for
the fibreglass and polyester industry. The Company's products are used at every
stage of production, from basic raw materials (woven roving (cloths) and chopped
strand mats), through chemicals used in the production process (release agents,
jelcoat, polyester resin, promoters, hardeners, etc.), right up to tools and
accessories and ancillary supplies.
The majority of the Company's revenues are derived from the sale of polyester
(in excess of 30% in 2002), woven roving and chopped strand mats (together
accounting for more than 20% in 2002) and jelcoat (10% in 2002). Sales of
promoters and hardeners accounted for 9% of revenues in 2002.
3.4 Customers
Kidron markets its products to hundreds of customers in Israel in the
industrial, governmental and other sectors. Kidron's customers include Orlite,
Haifa Chemicals, the Ministry of Defence, etc.
3.5 Suppliers
The Company buys the major part of its raw materials from the suppliers listed
below. To the best of its knowledge, the Company acts as the sole agent and
distributor in Israel for these suppliers:
- Reichhold - A European manufacturer of polyester. The Company mainly
imports from this supplier's Italian plant, but Reichhold has other
plants in Europe and also in the USA;
- Vetrotex (part of the St. Gobain group) - A European supplier from whom
Kidron buys fibreglass; this supplier has plants in Spain, Italy and
France;
- AKZO - A Dutch supplier that manufacturers peroxide;
- L.R. - A UK supplier that manufacturers pigments.
In addition, Kidron also imports the products of other companies from the USA,
Europe, the Far East and other places.
3.6 Business and Marketing Policy
In the conduct of its operations in general, and during 2002 in particular (due
to the economic recession), Kidron makes intensive marketing efforts to broaden
its customer base and to expand the geographical scope of its import activities.
In its efforts to broaden its customer base, one of the measures that Kidron
is taking is to create trade connections with price-oriented customers, whereas
the Company's present customers are more quality-oriented than price-oriented.
To accomplish this, Kidron is constantly seeking to improve the prices it buys
at from its suppliers, so that it can reduce its selling prices to customers and
thus gain a competitive advantage.
3.7 The Company's Advantages and Disadvantages
The Company's principal advantages can be found in a number of factors. One is
that the Company is relatively small, from the aspect of the size of its
workforce. This gives it flexibility and allows it to efficiently fill orders
and supply goods to its customers. Another advantage is Kidron's actual
exclusive agency arrangements with a number of its principal suppliers, with
whom it has longstanding trade relationships. The Company's CEO, Mr. Max
Kissos, is the source of another major advantage: Mr. Kissos has many years
knowledge and experience and is an expert in the plastics industry, particularly
in the field of industrial raw materials. This advantage allows the Company to
specialize in specific fields, which require special expertise and service to
meet customers' needs.
The Company's main disadvantage is its limited growth potential. The Company
has been operating in this market for many years and has a substantial market
share, but it has almost fully tapped the supply of potential customers in
Israel.
In addition, in light of its high level of profitability(31), the Company is
exposed to competition from other businesses in this sector. Due to increased
competition, future results are expected to show a decline in selling prices and
profit margins. Nevertheless, since the Company operates in a field that
requires expertise, there is a certain entry barrier to new competitors, though
it can be expected that this will become less of an obstacle over time.
4 Business Environment
Since, Kidron is engaged - as described above - in the import and marketing of
raw materials for the fibreglass and plastics industry in Israel, its business
is directly linked to the plastics and rubber sector. Accordingly, the
description of the Company's business environment commences with a description
of the chemicals and plastics sector, both from the general and from the Israeli
points of view, and then focuses on matters relating to the supply and import of
raw materials within the sector.
4.1 The Chemicals and Plastics Sector - General(32)
The chemicals and plastics sector covers a wide range of products, from products
that are used as raw materials in other industries through to final products for
end-users. US chemical companies hold the largest share of world production,
accounting for 26% of total world production in this sector. The state of this
industry is closely linked to the world and local economic situations, as
reflected by a number of core parameters: the gross domestic product (GDP), the
level of private consumption, the level of retail sales, and exchange rates of
the relevant currency. The largest end-markets for chemical producers are
industrial manufacturers, the motor industry, housing and agriculture.
The chemicals sector can be divided into a number of principal segments,
including: basic chemicals, organic chemicals, plastics and fertilizers, with
each of these segments being divided into additional sub-segments.
The predominant characteristics of the chemicals sector are, inter alia: the
fact that it is capital-intensive, due to the high costs associated with
constructing and running processing plants (production facility construction
costs can run to several hundreds of million dollars); the technological
complexity of the production process; and also the very large investment
required in environmental safety and conservation equipment. Energy prices have
a major impact for producers in the chemicals sector, who are mainly using oil
and natural gas, both as a raw material and as a source of power to operate
their processing plants. Energy prices, which hit a 2-year high during 2003,
have caused a problem for chemical producers, who have had to revise their
selling prices wherever possible. The chemicals sector is also characterized by
its cyclical nature, which stems both from cycles in its end-markets and also
from fluctuations in some of its segments that result from the massive growth in
their production capacity. Chemical producers are also subject to
sector-specific regulations with regard to environmental safety and
conservation, which also entail additional costs for them.
In 2002, the revenues of the US chemicals sector totalled US$ 532 billion, which
was almost the same as the total for 2001. S&P forecasts improved business
conditions for the sector in the forthcoming period, helped by a lower level of
energy prices compared to those in the first half of 2003, although they will
still be high in comparison to former periods. Profit margins are expected to
improve as a result of the selling price increases that took place in the first
quarter of 2003, although this will be counteracted in part by the negative
impact of higher raw material prices. GDP in the USA is forecasted to increase
by 2.5% in 2003, while the growth in the chemicals sector during the coming
years is forecast to slightly exceed the growth in the GDP, due to the increase
in the standard of living and to faster rate at which synthetic materials are
replacing other basic materials. It should be noted that, in the USA, the
chemicals sector is to a large extent a mature sector, while, in the developing
nations of Asia and Central America, there is a much larger growth potential due
to high birth rates, the rise in the standard of living and increasing
industrialization.
4.2 The Plastics Sector - Worldwide Review(33)
4.2.1 Data and general background
2002 was a better year than 2001 for the plastics sector in the USA. The fall
in raw material prices was one the factors that led to higher demand and profit
margins in 2002. The total quantity of plastics produced in 2002 amounted to 80
billion pounds (36 billion kilos), 6.8 % up on 2001. For the first four months
of 2003, plastics production was 0.5% higher than for the corresponding period
last year.
During the last ten years (1992 to 2001), production and sales levels in the
plastics sector (in terms of quantities) have shown a compounded annual growth
rate (CAGR) of almost 5%. Further growth took place in 2002. It would appear
that the increase is due largely to plastics replacing natural materials -
including, wood, glass, paper, metal - in such uses as packaging, non-perishable
items and products for personal use.
The selling prices of most plastic products rose in 2002, compared to their
prices at the beginning of the year, with producers taking advantage of the
greater demand referred to above; however, prices levelled off towards the end
of the year. Since the beginning of 2003, most plastics producers have been
able to again raise their prices (in some cases, even doubling them), but profit
margins have narrowed due to the even larger increase in the cost of raw
materials.
The chart below shows the movement in price levels for plastics producers in the
USA over the last ten years (costs of raw materials):
As can be seen from the chart, raw material prices tend to rise and fall in
cycles, which are closely related to energy price levels. Raw material prices
reached their highest level ever in April 2003, 25% higher than their level at
the end of 2002; in May 2003, there was a slight reduction in the level of raw
material prices, which - it may be supposed - will lead to a decline in selling
prices, but the level of raw material prices is still 19% higher than it was in
2002. The measure of success for a further increase in selling prices depends
on demand trends and the prices of energy and other raw materials.
4.2.2 Demand for plastics - Market analysis
A considerable portion of the demand for plastics comes from the consumer and
packaging segments, both of which show a relatively high level of sustainability
during periods of recession. Packaging was the largest market for plastic
products in 2002. This market, which includes bags, bottles and food
containers, accounted for 28% of the total annual demand for plastics. The
second largest market in the same year, accounting for 17% of the annual demand
for plastics, was the construction market, which uses plastics in buildings for
pipes, conduits, etc. The following chart analyses the demand for plastics in
the USA for 2002 by market:
* For example: Kitchen storage equipment, toys, sports accessories, and medical
products.
4.3 The Plastics and Rubber Sector in Israel(34)
4.3.1 Sales - Volume and market analysis
In 2002, sales by the plastics and rubber sector in Israel amounted to $ 2.63
billion, while in 2003 they are expected to reach $ 2.72 billion - an increase
of 3%. During the periods 1994-2002 and 1995-2002, the volume of the sector's
sales increased at a CAGR of 2.85% and 1.2%, respectively; in other words, the
major growth spurt took place in 1995.
The chart presented below shows sales volumes for the plastics and rubber sector
in Israel for the years 1994-2002 and an estimate for 2003 ($ in millions):
The major end-markets of the sector are the packaging market (as in the USA) and
the agriculture market, which on their own account for 50% of the demand for
plastic. The next largest markets are the household market and the construction
market that account for 16% and 13%, respectively, of the overall demand. The
following chart analyses the demand for plastics in Israel for 2002, by
product:
4.3.2 The local and export markets
The plastics and rubber sector is export-oriented, due to the limited size of
the local market. This is driven on the one hand by the sector's desire to
achieve size advantages (economies of scale), and on the other hand by the
capital-intensive nature of the sector and the large investments that have to be
made in equipment. Accordingly, the last ten years have seen an upward trend in
the volume of exports of plastic and rubber products, both in absolute terms and
also as a percentage of aggregate plastics production in Israel. The following
chart shows the division of the Israeli plastics market into local and export
sales, and the percentage of exports in relation to aggregate production for the
years 1994-2002 and an estimate for 2003 ($ in millions):
Europe and North America are the main export destinations for the Israeli
plastics sector, and together represent the destination for more than 80% of all
the sector's exports. The chart below analyses the sector's exports for 2002 by
destination:
4.3.3 Investments in equipment
The level of investments in equipment is one of the indicators used to forecast
industrial growth, with an increase in investments (in excess of routine repairs
and renewals) reflecting growth expectations. Following three years of decline
in the level of the sector's investments, the 7% increase in the volume of
machinery imports into Israel in 2003 indicates a certain degree of recovery.
The following chart shows the level of machinery imports into Israel for the
years 1994-2002 and an estimate for 2003 ($ in millions):
4.3.4 Trends and forecasts(35)
2002 was a difficult year for the plastics and rubber sector in Israel. Among
the factors that contributed to this can be listed the deep recession affecting
the Israeli economy, the shattered security situation, the loss of sales to the
Palestinian Authority, and the downturn in world demand as a result of the
global recession. Prior to the outbreak of the Intifada, industrial concerns in
the plastics and rubber sector were making sales of NIS 130 million annually to
the Palestinian Authority. Since the outbreak of the Intifada in October 2000,
trade relations have contracted to 30% of their former level, and sales now
amount to NIS 40-45 million per year - primarily of plastic products and piping
for agriculture.
According to recent estimates made by sources in the sector, the plastics and
rubber sector is expected to stage a recovery in 2003. In the last few months,
a quarter of all plants in the plastics and rubber sector have re-established
trade connections with the Palestinians. Other factors on which the
expectations of a recovery are based are the expected increase in demand from
the local market, following the end of the war in Iraq, the hope for improvement
in the security situation and changes in the state of the world market.
Furthermore, following the war in Iraq, a number of plastics plants are
considering participating in the rehabilitation of Iraq, through American
tenders, and this too constitutes a potential driver that will aid the sector's
recovery. The trend to use plastic in place of other materials, such as wood,
cardboard, glass, etc., is also still continuing.
Recent years have seen a rising trend of overseas investment by Israeli
companies, which have been setting up plants and subsidiaries, mainly in Eastern
Europe and Asia, the USA and Ireland. The overseas plants have been built in
order to provide proximity to destination markets, thereby resulting in reduced
shipping costs. Another incentive for Israeli companies to invest overseas is
the preferential investment terms being offered overseas. Another trend that is
anticipated by the sector is an upturn in the number of companies merging, in
order to benefit from the aforementioned economies of scale and to maintain
their competitive advantage in the marketplace. Several examples of strategic
partnerships and mergers that have taken place recently are as follows: (1) The
establishment, a year ago, of a joint venture for the production of plastic
garden tables by the plastics company, Ambin, together with Kibbutz Beit Zera
and Kibbutz Ramat Yohanan; the venture manufactures garden tables that are
intended to be marketed through "Do-It-Yourself" (DIY) chains in the USA and
Europe. (2) A merger between Plazit and Madaf Plastic Industries, which are
engaged in manufacturing packaging, sheeting and disposable utensils; the
merger, which was completed in the last few months, is intended to improve
business conditions, following increased competition in this market. (3) The
market is also seeing plastics producers cooperating with metal and furniture
manufacturers to develop new, integrated products.
As stated, the prices of plastic products are closely linked to the prices of
raw materials, which in turn are linked to energy prices (oil). In addition,
the exchange rate also impacts on local prices, with a devaluation causing
prices to rise and a revaluation having the opposite effect.
4.4 Marketing and the Supply of Raw Materials to the Plastics Industry
4.4.1 Data - General
The volume (in tonnes) of raw materials consumed by the plastics and rubber
sector has been rising for at least the last ten years. Even in the years when
there was a decline in sales in financial terms (e.g. in 1997 and 1999), the
quantity of raw materials consumed still showed an increase.
The following chart shows the volume (in thousands of tonnes) of raw materials
consumed by the plastics and rubber sector Israel for the years 1994-2002 and an
estimate for 2003:
Source: The Association of Plastic and Rubber Manufacturers in Israel.
The chart below analyses, by type of material, the raw materials consumed by the
industry in 2002 (total consumption was 800,000 tonnes):
Source: The Association of Plastic and Rubber Manufacturers in Israel.
4.4.2 Raw materials - Local production and imports
Local production
There are a number of companies in Israel that produce raw materials for the
plastics and rubber industry. These include:
Tosaf Compounds Ltd. ("Tosaf") - Tosaf has been producing a variety of raw
materials for the plastics industry since its establishment in 1985. Tosaf
markets its products in Israel and overseas, both directly and through its
subsidiaries.
Kafrit Industries (1993) Ltd. ("Kafrit") - Kafrit is a public company traded on
the Tel-Aviv Stock Exchange. It is engaged in the production and marketing of
mixtures, concentrates and additives that are used as raw materials in the
plastics industry, in Israel and overseas. In 2002, Kafrit's sales totalled NIS
190 million, of which 70% went to the local market with the balance being
exported. Sales in the first quarter of 2003 totalled NIS 78 million.
Operating income for 2002 and for the first quarter of 2003 amounted to NIS 19.8
million and NIS 7.3 million, respectively. As of July 31, 2003, Kafrit's market
capitalization stood at $ 45 million.
Electrochemical Industries (1952) Ltd. ("Electrochemical Industries") -
Electrochemical Industries produces and markets PVC, in Israel and overseas.
The shares of this company have been traded on the Tel-Aviv Stock Exchange since
1976., Since 1989, its shares were also traded on the U.S. Stock Exchange
(AMEX), but in 2002 their trade was suspended due to the level of trading
therein. In 2002, the company's sales totalled NIS 457 million and, in the
first quarter of 2003, its sales totalled NIS 113 million. Electrochemical
Industries had an operating loss for 2002 and for the first quarter of 2003
amounting to NIS 33 million and NIS 173,000, respectively. As of July 31, 2003,
Electrochemical Industries' market capitalization stood at $ 1 million.
Carmel Olefins Ltd. ("Carmel") - Carmel produces and markets raw materials for
the plastics industry and for the petrochemical industries, in Israel and
overseas.
Caesarea Polymer Industries Ltd. ("Caesarea Industries") - Caesarea Industries
has two business divisions: one, its raw materials systems division,
manufactures polyurethane-based insulation materials for industries that use
insulation products, and also polyurethane-based and elastomer-based adhesive
systems; the other, its construction solutions division, provides solutions to
the industrialized construction sector, ranging from the planning stages right
through to the completion of the work, including the performance of projects on
a turnkey basis.
Raw material imports
As already stated, some 75% of the Company's revenues are derived from the sale
of polyester, woven roving and chopped strand mats, jelcoat, promoters and
hardening agents. Data relating to the volume of the above products imported in
2002 are presented in the table below(36)
Proportion Proportion
Raw materials Volume of imports imported imported
(in $ thousands) from Europe from the USA
Hardening agents 13,305 43% 31%
Polyester, jelcoats and topcoats 11,115 65% 5.5%
Fibres 1,074 72% 12%
Promoters 389 54% 5.9%
Woven roving 300 60% 17%
Among the other companies importing raw materials for the fibreglass and
plastics industry, and thus being in direct competition with Kidron, are the
following: Prisma (owned by Makhteshim), Almor Fibreglass and MCM(37). It
should be noted that Prisma is not involved in distributing to smaller
customers, even though this a more profitable field. With regard to the other
two companies, these are regarded as second-rate, small-scale suppliers, as the
materials that they import are of a poorer quality than that imported by Kidron.
This information is provided by RNS
The company news service from the London Stock Exchange
MORE TO FOLLOW
END
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