Sembcorp Industries - Riding on oil recovery
- OPEC’s commitment to cut output excites the market.
- SCI is a safer proxy to oil recovery, through 61%- owned SMM.
- Reiterate BUY; TP lifted to S$3.10.
BUY SCI; TP lifted to S$3.10, after imputing higher valuation for SMM (from S$1.15 to S$1.55).
- The risk premium for O&M players should be reduced with the brighter oil outlook following OPEC’s agreement to cut production.
- Sembcorp Industries (SCI) offers the best risk reward among the three O&M large caps, trading at an undemanding 0.7x P/BV, implying a next-to-zero valuation for SMM. Our TP translates to 0.9x P/BV, which is c.20% below the trough levels seen during the Global Financial Crisis and Asian Financial Crisis.
- We believe this is fair in view of its 6% ROE and 3% dividend yield. Reiterate BUY on SCI.
TPCIL delivers encouraging earnings.
- Thermal Powertech Corporation India (TPCIL) - SCI’s first Indian power plant which has been fully operational since September 2015 - has turned from a loss position of c.S$1m in 1H16 to c.S$7m profit in 3Q16. This follows the resumption of operations after the plant had been shut down for repairs in June.
- We expect more stable contribution of ~S$10m profit a quarter with the commencement of long-term Power Purchase Agreements (PPAs – 86% of total capacity) and resolution of technical issues.
Emerging markets remain the growth engine.
- TPCIL is projected to contribute c.5/10% of FY16/17F earnings from startup losses of S$22.5m in FY15. This would help to mitigate the earnings decline from Singapore power plants while other overseas utility businesses are expected to be stable this year. Besides, SCI has also made forays into other emerging markets - Bangladesh and Myanmar - and this should underpin the longer-term growth prospects of its utilities segment.
- However, the second Indian plant Sembcorp Gayatri Power Ltd (SGPL) is coming on stream soon in 4Q16/1Q17 but long-term PPAs with the government may only commence in 2018. This could result in earnings volatility in the transitional year given the exposure to short PPAs and spot market.
- Given its diverse earnings stream and various listed assets, we derive our fair value for SCI based on the sum of its different parts: market valuations of its stakes in listed companies Sembcorp Marine (SGXlisted, 60.6% stake), Gallant Venture (SGX-listed, 11.96% stake) and Salalah (Muscat stock exchange, 40% stake) and earnings from utilities and urban development.
- For its holding company position, we have applied a 10% conglomerate discount to the reappraised net asset value (RNAV). We derive a TP of S$3.10, translating to 0.9x P/BV.
Key Risks to Our View
- Key risks to earnings are further deferments/cancellations of marine projects, deterioration of Singapore's power spark spreads, and execution hiccups at its Indian power plants.