Sembcorp Marine- Current NAV of 29.2 cents and losses of 4.6 cents LPS

Sembcorp Marine (SCM) has released its full year results, with a loss of 4.6 cents per share (after factoring the enlarged share base). The current net asset value per share is now 29.2 cents per share. This is shown in page 8 of its financial results.

What does the Future Hold?

I am maintaining my prediction that SCM will make 1.1 cent per share loss for 2021. This is because SCM has a few contracts left and does not seem to be fully utilising its yards (However i will re-evaluate the losses post 1HFY results to gauge the company's value).

Investors can expect SCM to deliver the last 2 Transocean Drillships this year because one of them has secured a contract to start operations in the fourth quarter of 2021 with Chevron. Cost of the 2 drillships stated in Transocean report is US$1.93 billion (S$2.56 billion). With delivery in FY21, a significant portion will be recognized as revenue, which I estimate is around SGD $1 billion. With other projects and ship repairs, SCM FY21's revenue will be at least on par or better than FY20.

Orderbook

Assuming a full workforce rate, SCM's orderbook will last until end 2022 based on extrapolation. It is likely SCM will cut its workforce to let its orderbook last longer. 

With the offshore drilling industry now recovering and more rigs put into work, it is likely SCM will get new rig orders secured in 2022. With the market leader, Keppel O&M's exiting, SCM will be able to command good margins for future contracts especially deep water rigs where it is now unrivalled.

Energy demand is increasing quickly now due to the consumption by crypto mining/transactions and growth in data centers. While some banks are predicting a commodity upcycle, similar to the $100 oil seen in 2011-2013, I am less sanguine and expect oil to be at only $80. However, this will result in increased drilling which will support the need to order more oil rigs. 

SCM too will win orders in windfarm installation and that will be another plus point. All in all, an increase in revenue will mean lower losses and eventual profitability for SCM. 

Valuation

At the current reported NAV of 29.2 cents and expected further losses of 1.1 cents (2021) with profitability from 2022, I expect SCM to have a NAV of 28.0 cents before turning its business around. Applying a 30% discount to FY22 forecasted NAV to factor for uncertainty of more losses, the fair value is 19.6 cents, or 25% higher than the current share price of 15.2 cents.

SCM also holds valuable land in Singapore in the form of the new Tuas Yard where Singapore plans to consolidate its trading activities at. The consolidation of port operations at Tuas means SCM ship repair segment will be getting the business of maintaining and repairing ships; after all Keppel Corp is also exiting this segment as well.

Should SCM turn profitable at a quicker pace, this will be a catalyst for the company to be valued at 28 cents as the certainty of continued losses is reduced.

Purchase of Multi-Chem

Following from my penchant of hunting for unknown gem companies. I have chanced upon a company called Multi-Chem and had bought its stock today.

Business Profile

Contrary to its name, the company is not involved in the chemicals industry and is distributing IT security solutions products such as RSA and trend micro and training people on them. While it has a small business in mechanical drilling, this contributes to only 1% of its revenue; hence it should be focused as an IT and network solutions provider.

Being in the IT security solutions company, the company has very little CAPEX. Furthermore due to the trend of working from home, the company has seen a growth in its business. The market capitalization of the company is $124.3 million based on its closing share price today

Growth in Cash Flow

In page 6 of its latest financial results ending in 2020, the company experienced a growth in operating cashflow generated by 60% from $20 million to $32 million. Multi-chem's business in the IT security solutions has grown from $127 million in 2009 to $453 million in 2020.

With a small annual CAPEX outlay due to its model, the company generated approximately $28 million in free cashflow before working capital changes for FY20. This means its current business has the potential to yield a free cashflow yield of 22.5% based on current market cap.

With the gradual return to physical working at the office, I do not forsee that Multi-Chem will continue to grow its business but hover at around an operating free cash generation capability of $20 million. This itself is still a good free cash yield of 16%.

Strong Balance Sheet

In 2020, the company has paid off almost all of its bank borrowings (decrease from $25 million to $4.7 million debt). Its current cash reserves is $67.6 mil, and therefore has a net cash of $62.9 million which forms 50% of its market cap.

Possible Privatization Candidate

The controlling shareholders who is the CEO, owns 68% of the business. With its large cash reserves and a business capable of generating $20 million a year, it is possible a buyout may occur for the remaining 32% stake. 

Assuming a free cashflow yield of 10% and $20 million generated in free cash annually, the company can be valued at $200 million or about $2.22 per share. If investors are gung ho and think that Multi-Chem's strong growth in FY20 can be maintained due to the digital workplace trend; at FY20's free cash flow of $28 million, the business is worth $280 million or about $3.10 per share. With little debts on its balance sheet, the free cash generated by Multi-Chem's business can be sued for dividends. Hence free cash equals to potential dividends.

Multi-Chem's FY 20EPS is 19 cents, and is now trading at low P/E ratio of 7.2x. 

Divesting ISDN and using the proceeds

 With the run up of ISDN, I have moved it to purchasing stocks in Ho Bee Land and SIIC Environment.

Ho Bee Purchase

The decision to purchase Ho Bee is more of a defensive position as the company has a strong recurring cashflow rental of about $190 million to support its expected annual 10 cents yield. At the price of $2.42, the dividend yield is about 4+% which is decent.

Market analysts are alluding to a possible monetization of REIT by Ho Bee of its Singapore, UK and Australia Office properties. While the unlocking of properties into a REIT will indeed free up a lot of cash, I don't think the upside is a lot. CapitaLand REITs are yielding at 4+% and it is likely Ho Bee, if it lists a REIT, will be pricing it at about 5% yield. This is similar to the current yield of the parent company. Readers will comment on the REIT being able to use leverage to amplify its dividends, but Ho Bee itself is highly geared at a 45% ratio in its current state; hence it has to pass a large amount of its debts to the REIT. This means it is difficult for Ho Bee to use the magic of leverage to juice up its assets value. Hence the upside is limited. 

The upside is Ho Bee becoming a REIT manager.

Assuming a $2.9 billion asset monetization into a REIT, applying a 2% AUM fee as revenue and a potential sale of its Singapore biomedical office property into the REIT in future, we are looking at a REIT manager with decent profits (similar to ARA). Majority of Ho Bee's commercial assets are in Singapore (e.g. Metropolis which forms $2 billion out of $2.9 billion of its significant real estate). In a property craze country like Singapore where the government has done little to curb the property appreciation, the effects of a downwards valuation risk to Ho Bee's assets is minimal. Hence Ho Bee will act as a defensive part of my portfolio earning a 4% yield, while one can wait for the unlocking of value in its Singapore properties. 

SIIC Environment Purchase

Bought this company shares because it offers 5+% as yield. While it is highly geared, it is a utility company in waste water treatment and power generation; companies in this industry such as Sembcorp Industries are highly geared. On the contrary, SIIC is less leveraged than SCI and is offering a higher dividend yield. 

On a apple to apple comparison, SIIC environment offers better value than Sembcorp Industries.

First REIT- How much is it worth Post rights and Post Covid

First REIT is restructuring and the management has been proactively persuading shareholders to accept the restructuring. First REIT has consolidated all the important information in this PowerPoint proposal which I will be relying on.

Post Renewal of Master Lease and Rights

The Reit has proposed for a rights exercise at $0.20 per share. In addition, the new master lease has the following terms (page 7 of the slides):

What stands out is how the new terms for rental is an "either/or" option for its base and variable rent; unlike the previous arrangement which was an addition of the two. Furthermore, the base rent has been drastically reduced and my sensing is that the 8.0% of preceding financial year revenue is the higher of the two.

The new terms will take effect in FY 21 if it is voted through. This means the lessee will be basing its payout to First REIT on FY 20's performance, which is when COVID happened! This means unitholders are going to suffer a drastic drop of revenue/ distribution.

How bad is it?

First REIT manager did an excellent presentation in which they showed many of the good stuff upfront but placed all the bad stuff in the annexes (at the tail end of the slides where less people read). The new arrangements is detrimental to current unitholders as seen in the below slides. Below is the effects for unitholders if First REIT were to transit to the new lease arrangement:

FY19

1HFY20 (During COVID and placed as an Annex)

Annualizing 1HFY20 results, it means First REIT's revenue will be $52.2 million against FY19's revenue of $115.3 million. This is a 54% drop. DPU has fallen to only 0.55 cents for the first six months. 

How much is First REIT worth now?

Based on FY20 results, the expected DPU for unitholders post rights and new lease arrangement is about 1.1 cents. Moving to FY21 and FY22, I think unitholders can expect only about 1+ cents of annual dividends as Indonesia has been slow in improving its COVID situation.

First REIT too has shown if it was during FY19 (when times were good), one can expect DPU of approximately 2.6 cents. However, it is unlikely the business environment in Indonesia will improve so quickly to 2019's level.

Based on the bad reputation Lippo companies have achieved during this crisis, I will expect an 8-10% yield for the risk of investing with them. If one is pessimistic enough, they can assume a 1.1 cents annual DPU for a few years with an incremental growth in DPU while expecting a 10% yield on First REIT, this will mean the shares is worth about 12-15 cents at present. Assuming (a) Lippo pays First REIT the base rental (as the higher of the two), (b) the rupiah depreciates against SGD 2% annually and (c) investors expect an 8% yield, one can expect First REIT's fair value to be in the region of 17 cents.

UOB KayHian Calculation Mistakes may be an Investment Opportunity into Sembcorp Marine

In March 2020, I had covered Sembcorp Marine (SMM) and lamented that given the poor O&M Industry outlook, it is likely interested bidders will pay for the company at 0.7 times its book value.

UOB KayHian (UOBKH) has recently released its brokerage valuation of SMM; valuing the company to be worth 12.5 cents (0.7 times its net tangible value at its brokerage estimated end FY21 NTA of 17.8 cents per share) and issued a sell call. This is one of the probable contributing factor to SMM share price fall over the past 2 days.

I do agree with the analyst in his projection of how much losses SMM will be incurring through to FY22. However, I realize the analyst had made mistakes in his calculation and has opened a possible investment opportunity.

UOB KayHian's Calculation Mistakes

In the analyst report, SMM's estimated 2021 tangible book value is at 17.8 cents after factoring in a loss per share of 2.1 cents and 1.1 cents in each of the FY leading to it. Back of the envelope calculation means UOBKH has calculated the current tangible book value to be 21 cents per share. This is factually wrong based on SMM's published results.

In SMM's investor relation and annual report for end FY2019, they have published its net tangible asset per share to be 92.1 cents per share (see screenshot above). This is before the dilutive issuance of 5 rights for every 1 shares at 20 cents. After netting the effect of the rights dilution, the net tangible asset value of SMM share does not tally to UOB KH's report. The actual post dilution NTA is 31.95 cents per share. This is repeated in page 13 of the circular sent to shareholders in July 2020.

The True Calculated Net Tangible Asset Value

Hence factoring UOBKH's forecasted losses of 2.1 cents and 1.1 cents per share and the actual NTA of SMM; in FY21F, SMM's estimated net tangible asset value is 28.75 cents per share. 

Applying a 0.7 times book value factor, SMM is valued at 20.1 cents per share.

In summary, UOBKH has greatly miscalculated SMM's estimated NTA by at least 10 cents. The analyst had calculated it to be at 17.8 cents when it should be 28.75 cents.

This signals a potential investment opportunity (upside of 35%) from the current sold down price if the 20 cents target based on UOBKH's forecast and parameters are met.

I have invested a bit into the shares today upon realizing the calculation mistake by UOBKH.

<Vested in SMM shares>

 

New Purchase: ISDN Holdings

 Came across a company that was highlighted by "Squirrel" in valuebuddies. Pretty decent company which has reorganized itself to a profitable entity. As most of the thoughts below are his and i do find them valid. I will be summarizing the value proposition of ISDN. Here is the link to his full excerpt on valubuddies.

Improving Profit Margins

ISDN's major business segment is a solution provider (think consultants) in the Industrial Automation control industry. The company has seen its profit margins in the business improving, demonstrating its efficiency in executing contracts. In addition, the segment revenue has been growing in its main country of business of China. ISDN provides its services to a myriad of customers including the Chinese GLC tech companies. With the recent push by China to being self sufficient in chip technologies etc and US sanctions, this will mean the creation of automation lines of production in China. 

Improving profit margins and increasing revenue bodes well for ISDN

JV for Disinfectant Business

ISDN have made announcement that it is the supplier of disinfectant for one of our public transport company. With the fear of COVID and increasing need to sanitize everything, ISDN JVs is positioned to earn more revenue and profits in the disinfectant business in Singapore.

Hence it is my new purchase

To me, the points above are valid and proven by facts/global events. Hence I have initiated a position.

If the company can continue its path of growing its business and remain efficient in executing contracts, at 39 cents, it will be a single digit PE stock which makes it undervalued when compared against industry comparable. 

Increasing my Stake in China Everbright Water

Increased my stake in China Everbright Water (CEW)

The decision was due to my thinking that low interest rate environment will be here in the long run. Hence a good industry to invest in would be the utilities companies since they employ a large amount of leverage to own tangible cash generating assets.

Closest Comparable

Was thinking between Sembcorp Industries and China Everbright who are the remaining 2 large utilities companies on SGX. Below were my comparison:

Debt Ratio: Post demerger, Sembcorp Debt ratio stands at 66%, while CEW was at 61%.

Dividend Yields: Sembcorp was paying around  5 cents per share, while CEW was paying 1.3 cents per share. At current share prices, SCI was yielding 3.7%, while CEW was 5.7%.

Payout ratio was about the same after stripping out Sembcorp Marine losses. What this meant was that CEW was a better yielding stock at the same payout ratio. Book value wise CEW was trading at a steeper discount (but i dont really analyse on PB ratios anymore as asset values can be easily written down)

Cashflow yield: SCI cash flow generation ability was much better than CEW based on its cash flow projection. However, it is worth noting that CEW is in the BOT water business and is at a growing stage. As a result, cashflow generation is still weak. SCI on the other hand is in the mature stage and has completed power plants.

CEW Industry and Potential Growth

Industry wise, while SCI is diversified across power, water and waste management. CEW is a pure water play (the only one in Singapore). This makes it slightly difficult to compare but SCI was the closest apple to compare it against. In addition, CEW is in an expansion stage and is doing water treatment in China. This is a growing market as China needs a higher clean water treatment capacity to meet up with the growing urbanization of its population. This bodes well for CEW's future growth and revenue increase through water tariffs.

Final thoughts: Given the strong yield CEW has, I had bought more to make it one of my core positions.