Singapore Strategy - 2017 Outlook - Themes for investment
- We pick
- proxies to growth and earnings turnaround (Genting, Ezion, OCBC, MM2),
- companies with sustainable dividend yield and cash flow (ComfortDelgro)
- Beneficiaries of US recovery and strong US$ (Venture, ST Engg) and
- M&A plays (GLP, Thai Bev).
- City Developments is undervalued, and will be re-rated if the government relaxes the property cooling measures.
4 themes to ride the volatility.
1. Earnings recovery / Growth
- Post US election, near-term jitters on bond yields and currencies are likely to weigh on the stock market. However, looking beyond the volatility and the uncertainty on the impact of Trump policies, our regional strategist has upgraded Singapore to Overweight, as a cyclical upturn may be forthcoming. The bottoming signals have emerged from the uptick in loan growth which bounced back into positive territory after a year – the longest stretch of contraction.
- Singapore’s manufacturing PMI, in line with the global ones, are also firmly in expansion mode. Conservatively, one can expect a lesser drag from the marine transport sector which is down 40% in 2016 due to the fallout in the oil & gas sector.
- All suggest that the worst may be over for the Singapore economy, according to our regional strategist.
- With this backdrop, we attempt to look for companies on earnings recovery path, or those with strong earnings growth.
- Our selection criteria are based on BUY calls with > 10% earnings growth for small-mid cap (SMC) and > 5% for large caps in FY17F. SMCs tend to outshine large caps in terms of earnings growth. Among our coverage, SMC (< US$2bn) are estimated to generate earnings growth of -1% for FY16F and +34% for FY17F, outpacing the -3% and +3% growth for the large caps.
- Our picks are: Genting, Thai Beverage, ComfortDelgro, Venture, OCBC, ST Engineering, Jumbo, Ezion, mm2 Asia and Singapore O&G.
2. Sustainable dividend with strong cashflow
- In the current environment where economic growth is uncertain, we continue to prefer companies that not only offer attractive yields but with sustainable dividend payout and also in net cash position. With an average dividend payout ratio of 55% and dividend yield of 4%, Singapore remains an attractive haven for yield plays. With the reality of interest rates hike pushing nearer, we would prefer non-REITS yield plays.
- Below is a list of high dividend yield stocks which we believe are sustainable, based on their earnings model, free cash flow and payout ratio.
- Our top dividend yield picks are Genting, ST Engineering, ComfortDelgro, Venture, OCBC and Thai Beverage.
3. Beneficiaries of US recovery and strong US$
- Positive macro indicators in the US are likely to draw out the bulls. US GDP growth is running at full potential, and home prices have re scaled to pre-crisis peaks. The economy is now at full employment, core inflation and wage growth have been accelerating for 18 months. Trump’s push for fiscal stimulus will put the economy on a stronger recovery track – DBS forecasts at above consensus of 2.7% GDP growth in 2017. Along with this optimistic backdrop for the US, spiced by our expectations of 4 FED rate hikes next year, DBS currency strategist expects S$ to weaken to 1.48 vs the US$ by 4Q17.
- The improving US economy driven by higher consumer confidence, lower unemployment rate, and boost to infrastructure spending is positive for Singapore, as US is the third largest trading partner accounting for 7% of exports and 8% of Singapore’s GDP. Transport and related stocks (SIA, ST Engineering, SIA Engg, Hutchison Port), Supply chain companies (Noble, OLAM), technology companies ( Venture, Innovalues, UMS) and entertainment plays (Cityneon) are key beneficiaries of an expected rise in consumer spending and/or corporate capital expenditure.
- The stronger US$ is positive for companies with investments in the US or exporters with revenue in USD, found mainly in the commodities, shipping, logistics, transport, technology and CPO plantation sectors. Key beneficiaries are Hutchison Port, Riverstone, Innovalue, UMS, Venture, Riverstone, CNMC Goldmine and ST Engineering.
- Commodity and CPO companies benefit from higher US$ revenue as all products are US$-based and translated to local currency (Rupiah or Ringgit), although this is partly offset by lower CPO prices. Conversely, companies with US$ denominated loans may be affected, although in most cases, they are hedged by US$ revenue and there are few companies in Singapore with US$ denominated loans. Key stock picks are : ST Engineering, which will benefit from an increase in defense spending in the US, its investments in the US will benefit from any cut in corporate tax rate, and the strengthening US$.
- Venture offers an attractive dividend yield of 5%, will benefit from both a recovery in the US, with 55% of exports to the US, the strengthening US$. Cost are in ringgit while almost all of sales are in US$. A well managed company with fragmented ownership, it is an attractive takeover target.
- 2016 has seen a rise in M&A / privatization deals. Cheap valuations, low liquidity and strong brand names are some of the factors propelling this move. A handful of these companies, like OSIM, Select Group, Eu Yan Sang and Super Group are in the Consumer Goods space.
- More deals could be expected from this segment. For one, we expect to see Thai Beverage leveraging on its Singapore-listed associate company, Fraser and Neave Ltd (FNN) to seek inorganic growth for the Group. Along with this, we believe ThaiBev will take the opportunity to restructure, increase and consolidate its holdings in FNN.
Potential M&A, takeovers and privatization candidates
- Delfi could be a potential takeover target. The owner already had a history of spinning off its upstream cocoa processing business. In 2013, Delfi sold the division to Barry Callebaut AG for US$950m. Delfi is now left with a strong branded consumer business in Indonesia. The business has a strong market share of c.50% and is a market leader for branded chocolates in Indonesia. Its competitive advantage lies in its extensive network across Indonesia for general trade. It has a first-mover advantage and considerable reach into suburban and rural areas. Global players have already been competing in the market but mainly in the modern channels. We believe its strong brands and network will be attractive to investors who are keen to dominate the chocolate space in Indonesia.
- However, Petra’s valuation is pricy which can be a stumbling block for any deal to be done. The owner and his family own 50.5% of Delfi. Market capitalisation of the stock is approximately US$1b currently. Based on our analysis of successful takeovers on the SGX, it normally takes a 30% premium to succeed in buyouts. The cost would potentially be at least US$1.3b from the current market cap. It also means valuation is a whopping 31x FY17F PE or more.
In the Oil & Gas space, the depressed oil prices have led to rising impairment charges and default in loans.
- Companies are facing high debt levels and declining revenues. To date, companies like Swiber and Swissco have already started filing for bankruptcy restructuring while others like Rickmers Maritime and Ausgroup, are seeking to defer / refinance loans. Vard has recently announced a privatization offer by majority shareholder Fincantieri. The sector’s prolonged oil crisis and depressed valuations could catalyse more M&A activity. This presents opportunities for cash-rich upstream players to acquire resource-rich but financially distressed E&P assets / companies. We also expect to see a wider consolidation scale in the O&G industry as the players face further financial pain. Two possible privatization candidates are Mermaid Meritime and Pacc Offshore (POSH).
- Mermaid is c.87.3% held by the Thoresen group and its related management, leaving only S$36.6m in free-float market capitalization on the table. With c.S$250m in cash on hand, the Thoresen group has the necessary ammunition to take Mermaid private. Additionally, Mermaid has very low debt levels versus peers, with a net gearing of only 0.04x as of 2Q16, this adds to its attractiveness as a privatization candidate.
- POSH is 81.89%- owned by the Kuok group, and is a more stable long-term bet versus peers with no immediate debt concerns (as committed undrawn bank lines cover capex requirements) and positive operating cash flows YTD. The company has also demonstrated an ability to secure work for its vessels amidst an anaemic market (e.g. long term contracts recently inked for work in the Middle-East for 13 vessels).
- Singapore shipyards are bracing for tough times ahead – absence of new rigbuilding orders, dwindling order book, low book-to-bill ratio, high fixed cost, project cancellations and deferments. These will place rising pressure on shipyards to restructure or merge to derive cost benefits and create a formidable player against global competition.
Other potential candidates that could unlock value include United Engineers, SIA Engineering, HPH Trust, GLP, and Bukit Sembawang.
- Major shareholders, OCBC, Great Eastern and affiliates, have announced a potential sale of their combined stake of c.32% of United Engineers (UE), which will spark a general offer, based on SGX listing rules. We believe UE will be of interest to prospective acquirers given the group’s strong recurring income and well-positioned assets – UE Bizhub City (UE Square), One North mixed development, as well as UE Bizhub West which are strategically located at the fringe of the Central Business District (CBD) or in key suburban commercial districts.
- SIA Engineering (SIE) is a potential privatization by parent SIA, who has a cash balance of about S$4bn as of end-June 2016, and would effectively have to fork out only c.S$390m cash to take SIE private.
- HPH Trust’s share price is trading near historic lows, offering a prospective yield of 8.7% in 2017F and at 0.6x FY16 P/B, could be attractive as an acquisition target given its strategic assets. Notably, major shareholders CK Hutchison and Temasek themselves are no strangers to privatisations.
- Despite trading at 0.88x P/NAV, 0.7x P/RNAV after the recent run-up in share price due to ongoing rumours of a possible offer for the company from CIC and other investors, we believe that Global Logistics Properties (GLP) remains cheap. The attractiveness in GLP is in its leading position in the warehouse logistics space in key markets of China, USA, Japan. In China, through its joint venture companies and key shareholders, the group has access to valuable land resources to grow its operational footprint. Through its various development and income funds, the group’s fund management business has also been a regular source of income and has also built up substantial amount accrued interest upon exit of the funds in the medium term. Plans to also realise value from its China warehouses through an income fund/REIT will enable the group to close the NAV/RNAV gap.
- Bukit Sembawang (BS) is one of the few developers in Singapore that still have substantially un-developed landbank in Singapore and could be an interesting target for investors looking to land-bank. The group is 44% owned by the Lee Family, who is rumoured to be keen to sell off their stake in another listed company – United Engineers. Key properties in Bukit Sembawang’s portfolio are mainly high-end residential projects (Paterson Suites, St Thomas Walk and Skyline Residences) which could be subject to block sales to investors given the improved sentiment amongst buyers (both individual and institutional) in the luxury end of the residential market. The group have also substantial land resource to build landed homes in Ang Mo Kio and Sembawang area which could last at least 10 years in terms of sales. Stock is trading at 0.9x P/NAV but at a substantial discount to its market value as a majority of its assets are marked to historical cost.