SMRT Corp Ltd - Phillip Securities 2016-07-21: YAT LOK FATT ~ An offer you must not refuse

SMRT Corp Ltd - Phillip Securities 2016-07-21: YAT LOK FATT ~ An offer you must not refuse SMRT CORPORATION LTD S53.SI

SMRT Corp Ltd - YAT LOK FATT ~ An offer you must not refuse

  • Unsolicited offer from 54.0%-majority Shareholder, Temasek, to acquire remaining shares for S$1.68 in cash through a Scheme of Arrangement.
  • The Scheme will not affect SMRT's transition to the NRFF, if the NRFF is approved by shareholders.
  • Rationale for the privatisation is to allow SMRT Management to focus on primary role as an operator, without the pressures and obligations of a listed company.
  • Shareholders will still receive FY16 final dividend of 2.5 cents.

Analyst and Media Briefing

  • We attended the Analyst and Media Briefing that was hosted by SMRT Management: Mr. Koh Yong Guan (Chairman), Mr. Desmond Kuek (CEO), Mr. Manfred Seah (CFO); and representatives from Temasek: Ms. Juliet Teo Juet Sim (Head, Transportation & Logistics; Senior Managing Director, Portfolio Management) and Mr. Chia Song Hwee (President; Joint Head, Investment Group; Joint Head, Portfolio Management Group; Joint Head, Singapore).

Investment Action

  • The Scheme Price of S$1.68 implies a rich forward P/E multiple of 31.6x of our FY17 earnings estimate. 
  • In view of the significant business risks facing SMRT Trains going forward and the opportunity cost involved in holding onto their Shares in SMRT, we advise minority Shareholders to Accept the Scheme.

What is the news?

Privatisation through a Scheme of Arrangement

  • Temasek is making a bid to acquire all remaining Shares of SMRT for S$1.68 per Share, through a Scheme of Arrangement. The total cash consideration of S$1.18bn is for c.702mn Shares.

Rationale and timing for the transaction

  • Temasek believes that SMRT will still face significant challenges under the New Rail Financing Framework (NRFF); and Temasek would like SMRT to focus on its primary role as a transport operator to provide safe and high quality rail services, without the short term pressure of being a listed company.
  • Temasek, already being the 54.0%-majority Shareholder, took the opportunity to acquire the remaining Shares now that the announcement of NRFF has removed the Regulatory risk uncertainty.

Timeline for the Transaction

  • End-August: Application to the Court to convene Scheme Meeting for Shareholders September or October 2016: Scheme Meeting for Shareholders
  • October or November 2016: Effective Date of Scheme

Scheme Price of S$1.68 has rich implied P/E ratio and premia to VWAPs and Reference Prices

  • Scheme Price is 34.1x to 64.2x of SMRT's FY16 PATMI based on illustrative EBIT-margin range of 0.9% to 5.9% under the NRFF assumption. Scheme Price offers a 15.5% premium to the last 12-month volume weighted average price (VWAP) and premium to other period VWAPs and Reference Prices, such as the 52-week high (0.3% premium).

Scheme Price is final and only for a limited opportunity

  • The Scheme Price is final and will not be raised. We also understand that if the Scheme does not go through, Temasek is prohibited from making another offer for the next 12- months. After which, Temasek may not make an offer again.

How Do We View This?

Significant business risk for SMRT Trains under NRFF

  • As described in our most recent update report on SMRT, dated 18 July 2016, SMRT Train will be facing heightened business risk under the NRFF, together with its composite EBIT-margin effectively capped at 5%. 
  • Moreover, there is no guarantee that SMRT Trains will be able to earn a composite EBIT-margin of 5%.

Compelling opportunity for Shareholders to exit a business that has asymmetric upside/downside characteristics at a premium

  • We view the Scheme Price of S$1.68 as fair. It is a premium of 24.4% over our most recent target price of S$1.35; and a premium of 19.1% over the consensus average target price. 
  • While the Scheme Price is not overly generous, we think that minority Shareholders should take into consideration their opportunity cost if they were to continue holding onto their SMRT shares.

Long-term investment horizon for Temasek could be tied to the HSR – longer than what a typical minority Shareholder is willing to wait

  • Temasek had emphasised during the briefing of its long-term view in investing in SMRT, but did not elaborate on the investment horizon. 
  • We note that a memorandum of understanding (MOU) for a High-Speed Rail (HSR) line between Singapore and Kuala Lumpur has been signed; and that the HSR line is expected to be completed by 2026. So while business outlook in the immediate term for SMRT Trains appears bleak, we think that if Temasek's investment in SMRT is linked to the HSR, it could take more than 10 years before the returns will materialise – much longer than what a typical investor is willing to wait.

How does a Scheme of Arrangement differ from a General Offer (GO)?

Scheme of Arrangement: a meeting will be convened and Shareholders will vote at the meeting

  • For a General Offer, no meeting will be convened and Shareholders do not vote at a meeting.

All remaining shares will be acquired by Belford, if the vote goes through.

  • Temasek cannot vote its Shares in the Scheme. Two thresholds must be satisfied at the Meeting for the Scheme to go through:
    1. 75% in value of Scheme Shares voted at the Scheme Meeting; and
    2. Majority in number of shareholders present and voting at the Scheme Meeting
  • What this means is, at least 50% of the Shareholders present at the Meeting must vote in favour of the Scheme, AND they must control at least 75% of the Shares present at the Meeting. If the vote goes through, Belford Investments Pte. Ltd (wholly owned subsidiary of Temasek) will acquire all the remaining Shares that it does not already own.

Temasek wishes to delist SMRT and take it private, not increase its holding in SMRT 

  • A salient point to note on the rationale of the Transaction Structure (Scheme of Arrangement) is Temasek's ultimate desire to delist SMRT in one decisive sweep, instead of through a General Offer, where it would have to wait for Shareholders to tender their Shares until Temasek controls > 90%.

Richard Leow CFTe Phillip Securities | http://www.poems.com.sg/ 2016-07-21
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