United Global Limited - DBS Research 2016-07-15: Small Mid Cap Exploration

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UNITED GLOBAL LIMITED 43P.SI 

United Global Limited (UTG SP)

• United Global has been engaged in the manufacture and trade of industrial lubricants for nearly two decades, and was recently listed on the SGX’s Catalist Board with a initial valuation of c.7x PE, at a discount to close peer AP Oil’s c.10x PE. 
• Given its larger scale, higher margins and faster growth, the stock appears cheap vs its local peer and could re-rate as earnings are delivered and if the company is able to accelerate growth via M&A.

• Recently listed on SGX’s Catalist Board on 8 July 2016, United Global is principally engaged in the manufacture of lubricants and trading of base oils, additives and lubricants. Domiciled in Singapore with a long operating history of almost two decades (incorporated in 1999), the Group currently supplies lubricant products to customers in over 30 countries.
• Key operational management personnel have each been with the Group for over 12 years. Under their leadership, United Global has been consistently profitable (since inception) and has significantly strengthened its bottom line over the last few years, from US$3.3m in FY13 to a record profit of US$6.2m in FY15, despite a modest 2.2% contraction in top line from US$102.1m in FY13 to US$99.9m in FY15.
• However, we note that the dip in FY15 revenue was mainly a reflection of the low underlying oil prices, which in turn led to lower selling prices for the company. To isolate the effects of the broader oil price environment, we believe that gross profitability – which has grown steadily from US$10.8m in FY13 to almost US$14m in FY15, would be a better gauge of the Group’s organic growth.
• United Global’s gross profitability can be attributed to its two key business segments:
  1. Manufacturing of lubricants
     • United Global manufactures products for its in-house brands (United Oil, U Star Lube, and Bell1), as well as for other third- party principals, where the Group typically provides third parties with required base oils, additives and formulations. 
     • Products are ultimately sold to customers in various sectors such as the automotive, industrial, marine, mining, construction and agricultural industries.
     • Quality control procedures have been instituted to ensure that United Global’s products meet stringent in-house requirements and international standards and/or specifications such as the EOLCS by API, the European Automobile Manufacturers’ Association and the ISO standard for industrial oils. In addition, the Group’s range of products are also certified by several leading automotive and engine manufacturers such as Daimler AG, Volkswagen, Porsche and Scania, for use in their engines.
     • This segment typically contributes the lion’s share of the Group’s gross profits and in FY15, represented c.88.3% (or US$12.3m) of United Global’s total gross profits.
  2. Trading of base oils, additives and lubricants
     • The Group also trades in base oils and additives, by purchasing from suppliers in bulk and on-selling to customers whom in their own capacities, may not be able to take advantage of the economies of scale that the Group presently has by purchasing and transporting in large quantities. The company has identified the Indonesian market as its key source of trading revenues.
• Gross margins for the trading segment have fluctuated between 2.1% and 3.6% from FY13 to FY15. In FY15, this segment contributed c.11.7%, or US$1.6m, of the Group’s total gross profits.
• While the global lubricant market is projected to grow at a 2.4% CAGR ahead, which is not stellar, we believe there is potential for smaller players such as United Global (which has an estimated global market share of c.0.1% currently) to grow faster than the market, especially given the Group’s new initiatives to spur growth.
  
  For instance, the Group entered into a strategic cooperation framework agreement with CNOOC in 2015 to collaborate and market lubricant products in the PRC and other markets. Under the agreement, United Global will supply to CNOOC lubricant products, assist n the stocking and transportation of lubricant products, and also cooperate with CNOOC to develop new lubricant products.
• The HydroPure brand of lubricant products was subsequently developed and launched, and a supplemental agreement pertaining to this new product range (which is renewable on a yearly basis) has conferred upon United Global the right and responsibility to sell HydroPure products outside of the PRC. We believe that this collaboration between United Global and CNOOC should set the stage for the Group’s longer-term growth.
• Currently operating at utilisation of c.65.5%, we believe there is still room for United Global to scale up on operations and improve utilisation as the Group continues to grow its presence in new and existing markets - which should largely be driven by entry into new distributorship agreements.
• Apart from organic growth, the Group has signalled its intent to further expand and diversify its business through M&A, joint ventures, and/or strategic alliances that complement the Group’s existing operations. We believe that much of this will be funded internally as Management had previously shared that it will likely retain 80% of IPO proceeds to fund inorganic growth opportunities.
• Key risks: 
  1. Cost-plus model generally allows the Group to pass on higher raw material costs, but short-term fluctuations in raw material prices (such as base oils and additives) could still weigh on margins, given the typical 3-5 months' lag between cost and ASP increases; 
  2. Demand for products dependent on growth outlook for end-sectors; 
  3. Exposure to product liability claims as products are required to undergo stringent quality assurance procedures and comply with international standards and requirements.
• Valuation at 7x PE represents a 30% discount to close peer AP Oils’ 10x PE, which appears cheap given United Global’s larger scale, higher margins and faster growth and we believe the stock could further re-rate if United Global is able to deliver on earnings and accelerate growth via M&A.

Paul YONG CFA DBS Vickers | http://www.dbsvickers.com/ 2016-07-15

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