[First Take] China Everbright Water Limited (U9E; CEWL SP)
I decided to pass because of (a) unusually high receivables and contract assets; (b) high capital intensity; (c) significant increase in financial leverage and (d) dividends likely not sustainable
Disclaimer: This is a record of my investment decisions, not financial advice. I may change my decisions without notice. Use this only for education and entertainment. Do not rely on this for your investment decisions.
About
Share price: SGD 0.26
Market capitalisation: SGD 744 mn (USD 590 mn)
Enterprise value (EV): SGD 3,477 mn (USD 2,760 mn)
Average daily volume (ADV): SGD 57k (USD 45k)
LTM P/E: 4.6x; LTM P/B: 0.4x
Time spent: ~2 hours
Decision
Pass
Background
At first glance, U9E looks attractive. P/E is only 4.6x. It boasts a dividend yield of 7%, well above its peers. Its dividend yield looks stable and sustainable because U9E operates critical water infrastructure.
However, I decided to pass because of (a) unusually high receivables and contract assets; (b) high capital intensity; (c) significant increase in financial leverage and (d) dividends likely not sustainable.
In my first take, I walk through how I uncovered these insights. I dissected U9E’s financial statements, reviewed the company’s revenue recognition policies, compared the business with peers, etc.
Business model
Breakdown of 2024 revenue (HKD 6.9 bn, +2.2% YoY):
41% from operation income (recurring revenue from operating completed concession projects);
39% from construction service revenue (revenue from building water infrastructure);
16% from finance income;
4% from sale of machineries and technical service income.
There are 2 customers that each account for >10% of 2024 revenue. Customer #1 accounts for 14% while #2 accounts for 12%. Both are local government authorities.
U9E earns almost all its revenue from mainland China.
Reasons
Unusually high receivables and contract assets. In 2024, U9E’s total receivables and contract assets is outstanding for ~4 years on average. The same number for peers is ~1 year for China Water Affairs Group Limited (855 HK) and ~4 months for Chongqing Water Group Co.,Ltd. (601158 CH).
Out of the HKD 29 bn receivables and contracts reported by U9E, HKD 21 bn (~72%) pertain to long-term contract assets.
Construction of water infrastructure typically take many years. In each year, a construction company typically recognises revenue based on a formula like this: Revenue recognised during the year = (costs incurred during the year / estimated total lifetime costs) * contract value.
When the company recognises revenue in this manner, it must also recognise the same amount in trade receivables or contract assets. Generally, trade receivables are higher quality than contract assets. I will not delve into the details. For our discussion, we just need to remember more contract assets => not good.
As you may already suspect, the amount of revenue recognised in any one year relies a lot on the company’s estimates and judgement, especially with respect to total lifetime costs and costs incurred during the year. The company can inflate revenue by overstating costs incurred during the year or understating the total lifetime costs. If done repeatedly, the company can show impressive revenue growth. However, this accounting trick will build up contract assets, leading to unusually high receivables and contract assets.
I must make it clear that I am not accusing U9E of playing such accounting trick. There is no conclusive evidence. All I am saying is that investors need to focus on this issue as part of their due diligence. Indeed, trade receivables was the focus of the latest shareholders’ Q&A[1] For myself, such unusually high receivables and contract assets are enough to make me pass because I do not have a lot of time and resources to investigate further.
Capital intensive. If such high receivables and contract assets are a normal part of U9E’s business, I would still pass. The business is very capital intensive and not attractive. Cash from operations has been negative every year since 2017. This was mostly driven by heavy investments in receivables and contract assets. In the past 10 years, cash outflow from operations added up to – HKD 6 bn. Cash outflow from investments in fixed and intangible assets totalled – HKD 2 bn. During the same time, U9E reported +HKD 8 bn net profit after tax (NPAT). This HKD 16 bn gap between reported NPAT and cash flows is a clear indicator of just how capital intensive this business is.
Financial risk increased significantly. U9E financed the HKD 16 bn gap mainly through debt. In the past 10 years, U9E borrowed ~ HKD 15 bn. Net debt increased 4x since 2015. Unless U9E finds a way to collect its huge receivables and contract assets, it seems to me that net debt is set to continue increasing.
Dividends likely not sustainable. U9E’s 7% dividend yield may not be sustainable because U9E is funding the dividends with debt rather than operating cash flows. For example, U9E paid HKD 0.4 bn dividends in 2024. This was funded by HKD 1.2 bn of net borrowings because operating cash flow after capex was – HKD 0.4 bn.
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[1] 2025 U9E Responses to questions received from shareholders (17 April 2025)