SINGAPORE (July 20): Despite notching a net loss of $131 million in 1H2020 - including an exceptional loss of $191 million - RHB analyst Leng Seng Choon sees underlying strength in Sembcorp Industries (SCI) due to potential growth drivers in its energy business. He has maintained his “buy” call on the counter and maintained his target price at $2.11 at a 19% upside.
“Whilst we forecast an FY20 net loss, we remain positive on Sembcorp Industries on its energy and urban segments driving future growth, as well as the stoppage of bleeding from the marine business after the de-merger with Sembcorp Marine,” says Leng in a broker’s report today. Announced two days ago, the loss is a sharp reversal from SCI’s $191 million profit in 1H2019.
Despite recording a net loss of $5 million in 1H2020, Leng says that the 15% y-o-y reduction of the unit’s $156 million net profit (excluding exceptional items) was due to Covid-19 pressure as energy prices collapsed from weakened demand.
According to Lim Siew Khee from CGS-CIMB, the majority of SCI’s energy losses was due to write-down of gasoil reserves to net realisable value (NRV) and uncertainty over recovery of gasoil inventory at Hin Leong Trading also contributed to the loss. She also cited impaired investments in Sembcorp Salalah Power and Water Company in Oman due to a credit rating downgrade for Oman and fair value gain previously recognised during Salalah’s IPO.
“We believe the quantum of impairment should taper in 2H20F, with around $30 million currency translation loss likely after the divestment of [SCI’s] water business in Chile in 3Q20F,” she reports. Yet surprisingly, SCI’s Middle East operations actually scored a 1H2020 core profit rise of 26% y-o-y and 63% h-o-h to $49 million due to higher tariffs in Salalah and Fujairah, as well as an insurance settlement decided in favour of SCI.
SCI is presently strengthening its renewables portfolio and has won a contract to build, own and operate a 60MW-peak floating solar farm on Tengah Reservoir. The firm is also supporting India’s renewable energy ambitions. Seeking to diversify its energy mix into renewables, India is a significant contributor to SCI’s energy profits from operations (PFO).
Leng therefore sees potential in SCI’s Indian operations, which accounts for $186 million -- a 45% share of PFO before exceptional items -- compared with China, contributes only a 17% share of PFO. Yet CSG-CIMB’s Lim sees India profits to fall 23% y-o-y to $77 million in FY20F, mainly driven by wind power and SEIL 1. SEIL 2 is likely to remain in losses as operating conditions worsen y-o-y.
Conversely, Lim sees SCI’s China profits rising 7% y-o-y to $62 million in 1H20 due to weaker hydro-power supply, driving demand for thermal power. With the Chinese economy opening ahead of the rest of the world, she sees demand sustaining into 2H2020 to bring in stable profits y-o-y for FY2020. Still, the risk of a second wave of Covid-19 could scupper such earnings.
Despite making a $30 million profit in Singapore, Lim notes that this was a record low, arising due to the circuit breaker measures, lower gas sales and loss of profit from divested assets in Jurong Aromatic Corporation (JAC). “Jurong Island activities have been reduced and as Singapore heads into a recession, we believe utility load demand is likely to remain weak in 2H20F. Utility assets are nearing end-of-life (c.>20 years), and a review of replacement capex is on the cards,” she adds.
Strong performance was observed in SCI’s urban segment, with 1H20 net profit doubling y-o-y to $38 million due to strong land sales at Nanjing Eco Hi-tech Island and Kendal Industrial Park. Yet weaker demand in Vietnam arising from Covid-19 served as a drag on the firm’s urban operations.
The counter’s loss in the marine segment, however, proved a heavy blow to the firm’s 1H20 performance, with weak revenue contributing to overall 1H20 topline softness. This stemmed in particular from sharp 1H2020 losses from Sembcorp Marine, which SCI owns a 61% stake in. With both firms de-merging, however, subsequent weakness in the marine sector will no longer affect SCI’s performance.
Leng expects an FY2020 net loss of $30 million for SCI relative to his earlier expectations of a $315 million profit. Consensus predictions had come in somewhat lower at $295 million. Management has offered guidance towards losses for FY2020, though this was tempered by positive operating cash flows.
“Excluding the exceptional items, we forecast recurring FY20 net profit of $186 million (1H20: $60 million). We also estimate FY2021 recurring earnings to double y-o-y,” concludes Leng. Nevertheless, net gearing for the counter remains high at 1.75 vis-a-vis 1.31 at the end of December 2019, with Lim predicting that SCI’s dividend will likely be deferred to FY2020.
Still, Lim has maintained her “add” call on SCI with a $2.27 target price while saying that no major strategic review is required for now. Core earnings per share (EPS) is expected to grow 68.9% and 18.5% y-o-y respectively in 2021 and 2022.
With an experienced new CEO Wong Kim Yin in charge of SCI, CGS-CIMB’s Lim sees the counter taking time to re-rate. The former CEO of SP group with two decades of experience in the energy sector, Wong’s focus now, she says, is to bring about the de-merger of SCI from Sembcorp Marine. He believes that SCI can capitalise on Singapore’s strategic geography and that the group is well-positioned in its operating sectors.
As of lunchtime, SCI is trading 0.03 points down at $1.75. Price-to-earnings (P/E) ratio stands at 12.73 and dividend yield at 2.86%.
