Thursday, January 14, 2016

How Much Should Sembcorp Industries Be Worth?‏

The last time I have anything to do with Sembcorp Industries (SCI) was when I divested the shares last year back in April 2015 at a price of $4.84 (Link Here). Back then, my main concern was their increasing debt (consolidated) and weakening in their utilities function, along with the relatively fair (not cheap) valuation at about 10.8x PER and EV/EBITDA of 7.9x. I didn’t predict that oil price would come to such level we’ve seen today back then.

How fast things have changed today. With the recent news of a major oil crisis, SCI has been dropping furiously and its share price has been languishing at around $2.46 at the moment, almost half from what it is a year ago. Pretty crazy.

Some readers have requested me to go through SCI like what I did with Keppel previously. I am not going to go through each and everything specifically so I’ll just quickly run the important numbers.

The outstanding order book for SMM is slightly higher than Keppel, and since SMM operates mostly based on these as their core earnings, they would have been more badly impacted than Keppel. SCI is less impacted because it has its utilities and infrastructure business to buffer.

Based on CIMB estimates, the risk for cancellation of Sete Brasil / Petrobas is about $5 billion revenue and if we take in 6% EBIT margin assumption, it’ll work out to be about $450m EBIT impacted to the downside. This translates to about $0.215 based on earnings.

Then, there are also the other Jack-up orders which had a higher probability of being cancelled/deferred. This totalled up to about $470m EBIT impact for this segment. This translates to about $0.225 based on earnings.
Finally, t here are also the recent ongoing litigation involving Marco Polo where they most probably had to reversed their earnings. These impacted to about $41m EBIT earnings or $0.0196 based on earnings.

Shares of SMM are languishing at around $1.4 at the moment, so we can do the calculation from there.

The company has also issued a profit warning guidance in Q4 later, so we certainly know that it’s probably not a good idea to add anything until they announced their full year results.

Looking at it from another angle

What about trying to look at SCI from a different angle?

Since SCI owns 61% stake of SMM in their books, and taking today’s closing price of SMM at $1.37, this would translate to about $0.98 in SCI book after adjusting for their respective no. of shares.
Now, if we take SCI closing price today to be at $2.46, it means that their utilities and other infrastructure function would be worth $1.48 ($2.46 - $0.98).
The other infrastructure function’s book value is about $0.30, so we can take that their utilities segment is being valued at $1.18 ($1.48 - $0.3) at the moment.
The big question now is if Mr. market is discounting too much SCI at the moment, not factoring the potential growth of their utilities. Should we then, as contrarian investors, pounce on this opportunity?
Well, we’ll never know because we don’t know how much more is SMM going to fall, so the best bet if we want to be conservative is to price them at $0 value. This means that for as long as we are convinced that the utilities segment is worth at least $2.46, then we should be happy to be buying more.
We know that their utilities segment is very strong on overseas growth and are somewhat muted in local due to higher competition cited. The question is now on whether we can continue to see growth coming out from the utilities and if so how much should they grow to justify the $2.46 worth.

Using a reverse engineering methodology based on 5 years DCF model on FY14 earnings, with a WACC of 6%:
- $2.50 worth would mean that the utilities segment needs to have a long term terminal growth rate of 3.2%.
- $2.00 worth would mean that the utilities segment needs to have a long term terminal growth rate of 1.7%.
- $1.50 worth would mean that the utilities segment needs to have a long term terminal growth rate of 0.9%.

Final Thoughts

The company has increasing debts that are way more than previous years so there is also a concern that they might need to call for rights issue to raise cash. However, looking at their current EV/EBITDA of 6.75x, it does look decent and better than when I sold them a year ago (EV/EBITDA = 7.9X).
I should be looking to enter at some point but am currently waiting for their final results to be announced on 17 Feb. By then, I hope the market continues to discount them, and I’ll gladly pick them up at a much lower price later on.


  1. Hi B
    I like your analysis. Thank you for helping decide that I should average down Semb Corp.

    1. Hi GY

      You are welcome.

      Please take it with a pinch of salt as you read any other analysis as well :)


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  2. Hi,
    Noted you mentioned SCI's FY2015/4Q15 Dec2015 reporting date as 17 Feb 2016.
    Is there a website where I could get quarterly reporting dates for SG-listed stocks, before the event? To date, I have to look up the individual companies' website after the event, which isn't what I want. Thanks and regards,

    1. Hi Anonymous

      Yes, there is in the sgx website that summarizes the 30 blue chips quarterly announcement they pulled out from Bloomberg. I don't have the link right now but if I encounter it again, I'll let you know.

  3. This is awesome! Thanks for sharing your thoughts on SCI, B.

  4. "Now, if we take SCI closing price today to be at $2.46, it means that their utilities and other infrastructure function would be worth $1.48 ($2.46 - $0.98)."

    Not sure if it will be more accurate to take reference to the current Market Cap of the 2 companies instead of the share price of a single share.

    1. Hi Unknown

      I actually have taken the SMM market cap and no.of shares outstanding before converting them to SCI no of shares and adjusted per share. So yes, I have not only taken the share price of each single share. I adjusted for them accordingly.

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  5. You used 5Y DCF and mentioned terminal growth rate (ie denominator) - the latter implying a constant growth at year 5. What are your assumptions for years 1 to 4? Your numerator is EBIT or something?

    1. Hi FS

      I have a spreadsheet I shared in my previous other SCI posts which uses the FCF.

  6. You used 5Y DCF and mentioned terminal growth rate (ie denominator) - the latter implying a constant growth at year 5. What are your assumptions for years 1 to 4? Your numerator is EBIT or something?

  7. Hi B,

    While I believed Sembcorp is undervalued and let u, like to nimble at various points, if possible, I think Valuing Sembmarine at Zero is both over-conservative and also over liberal.

    I am not valuation trained, sorry to wave the axe here.

    If u value according to earnings, it is over liberal because marine might be making losses and bleeding cash for 1-2 years in worst case scenario.

    The possible termination of the reminder drillships to me, is actually not at bad thing. Yes, Sembmarine will get hit jialat jialat for the 3(if I remembered correctly) drillships already constructed but will be free from
    Further contract obligations to throw good money after bad.

    If we value by assets, it is quite silly to think marine is worth zero. NOL is loss making for how many donkey years?

    When marine merge with Keppel or get bought out by parent, it is never going to be zero.

    So when we agar agar the 2 scenarios, we have to ask ourselves if we are buying for asset play reasons or recovery in earnings reason, or perhaps a mixture of these with other reasons.

    My point is dun bet on earning recovery in the short term, and obviously Mr market is valuing it in earnings lens...

    1. Hi SI

      I purposely did that to see if anyone were going to question me that. I'm glad you are the first one that brings this up.

      You are right, my above analysis is based only on calculation of assets which is way conservative because we know SMM cannot be valued at 0, so in that sense, I think that is the margin of safety I am considering.

      On the other hand, it is also possible that SMM earnings could be negative for years, thereby dragging the overall performance of SCI. That is something which if we are valuing based on earnings, need to be accounted for. I'm not convinced yet their earnings would be negative in the long run. They will do in the short term if they need to reverse all the earnings they have previously recognized but over the long run, I think they would have to evolve their business or drop the business altogether.

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