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Morningstar | Sembcorp Marine Returns to the Black in 4Q; Shares Still Overvalued

Although no-moat Sembcorp Marine reported a net loss of SGD 74 million in 2018, the results were better than we and the market expected. In particular, the firm registered a net profit of SGD 6 million in the fourth quarter, largely attributable to margin recognition from newly secured production floater projects. We increase our fair value estimate to SGD 1.20 from SGD 1.18 after fine-tuning our model. Despite the turnaround, we believe Sembcorp Marine remains overvalued, as we think the recovery of the offshore and marine, or O&M, sector will be gradual and competition will keep margins compressed. For investors who wish to gain exposure to the sector, we think Keppel is more attractive, as its O&M segment is profitable and the group has a stronger balance sheet.

Sembcorp Marine's fourth-quarter results are commendable, given that it has posted net operating losses in the previous four quarters and despite management guidance of a negative operating profit trend. In addition, in contrast to Keppel, no further provisions were made for Sete Brasil’s contracts. Meanwhile, management continues to expect a slow recovery in the O&M sector, as improvement in global capital expenditures was partly offset by the oversupply market. While the firm continues to receive active inquiries for its offshore production units, it will take some time to translate those into new orders. On the other hand, although the ship repairs and upgrade segment remains competitive, higher work volume is expected from the new regulations to install ballast water treatment systems and gas scrubbers. We expect Sembcorp Marine to be profitable in 2019, and we are forecasting new contract wins of SGD 2.5 billion versus 2018 order wins of SGD 1.2 billion.

The firm’s net gearing ratio increased to 1.5 times from 1.1 times as of the end of 2017, due to higher capital expenditure and working capital requirements. To conserve cash, management has decided not to declare a dividend for 2018.

While we are concerned that the firm’s high net gearing may affect its capability to win new orders, we expect this to improve. Management expects 2019 capital expenditures to be lower than 2018’s SGD 342 million, as the firm has completed the headquarters at Tuas Boulevard Yard, or TBY, and invested in new capabilities. Sembcorp Marine will move all operations to TBY by the end of 2019, resulting in accelerated depreciation of about SGD 60 million from fourth-quarter 2018 to the end of 2019. Nonetheless, the group will save about SGD 48 million per year from 2020. We also think the firm could monetize its SGD 1.2 billion deferred payment for rigs to fund its operations if necessary.