Sarine Technologies Ltd - CIMB Research 2018-02-26: Recovery On Track Towards Robust 1H18 Outlook

Sarine Technologies Ltd - CIMB Research 2018-02-26: Recovery On Track Towards Robust 1H18 Outlook SARINE TECHNOLOGIES LTD U77.SI

Sarine Technologies Ltd - Recovery On Track Towards Robust 1H18 Outlook

  • Sarine Technologies' 4Q/FY17 net profit was below expectations at 8%/73% of full-year projections due to lower equipment sales.
  • 11 Galaxy family systems were sold during the quarter (vs. two in 3Q17), hinting at a growth recovery ahead.
  • Illicit competition abating with cooperation from U.S. retailers and ongoing lawsuits.
  • Newly opened gemlab could drive further sales from the downstream segment.
  • Maintain ADD with a slightly lower Target Price of S$1.53.

Higher capital equipment sales hint at a recovery in 4Q 

  • Sarine Tech delivered 11 Galaxy family systems (six Galaxy and five Meteor machines) in 4Q17, bringing the total installed base to 345 Galaxy family systems as at 31 Dec 17.
  • Compared to just two machines sold in 3Q17, we view this as a marked improvement and possible recovery in growth, in our view. 
  • Management believes there is still upside to sales of higher-value Galaxy machines this year, and the newly launched Meteorite systems (targeting under-0.35 carat diamonds) could drive equipment sales ahead.

Midstream diamond segment looking better in 1H18 

  • Industry conditions in the midstream segment turned more positive with polished inventories reduced amid spending ahead of Valentine’s day and Chinese New Year holidays towards the start of the year. 
  • First diamond sight of 2018 by De Beers yielded robust US$665m sales, higher than each of the prior nine sights (US$376m-586m) in 2017, though this was partially driven by seasonality. Rough prices were largely flat and we expect a return to normalised manufacturing activities in the midstream.

Illicit competition abating 

  • Although illicit competition is expected to continue for another two quarters and affect sales of systems for smaller stones (i.e. Solaris/Meteor), Sarine turned more optimistic that the infringed use of its patented technology has started to abate. 
  • Apart from lawsuits and software upgrades from older hacked versions, key U.S. retailers are cooperating in prohibiting polished diamond imports that contain infringing goods from errant manufacturers. The U.S. was the largest diamond import market (US$24bn) in 2016.

Newly launched gemlab to capture further sales from downstream 

  • The new Sarine Technology Lab, which opened on 18 Feb 2018, offers an automated solution to provide consistent and reliable AI-based 4C (Clarity, Colour, Cut and Colour) grading of polished diamonds, along with an integrated enhanced Sarine Profile that provides other aspects like light performance and traceability of a diamond from a rough to polished state. 
  • We think this one-stop package offering could fuel growth in trade revenue in the retail business, which accounted for 2% of total revenue in FY17.

Little impact from diamond fraud linked to Indian billionaire 

  • Management stated that Sarine has at most negligible exposure to Firestar Diamonds, the company that is linked to Nirav Modi, who is reportedly at the centre of the US$1.8bn diamond fraud scandal involving Punjab National Bank in India. However, we expect higher scrutiny of Indian banks extending credit to diamond manufacturers/traders in the near-term, which could hamper upside to mid-stream manufacturing activity.

Maintain ADD with a slightly lower Target Price of S$1.53 

  • DPS of 1.5 UScts was declared for the quarter, bringing total FY17 DPS to 3.5 UScts. 
  • We lower our FY18-19F EPS slightly by 1-2% to reflect lower recurring sales volumes from total installed base of Galaxy family systems. 
  • Our Target Price is lowered to S$1.53 accordingly, based on 17.2x CY19F P/E (10% discount to its historical 9-year average). Maintain ADD on the stock. 
  • Key risks include an economic downturn.

Colin TAN CIMB Research | 2018-02-26
CIMB Research SGX Stock Analyst Report ADD Maintain ADD 1.53 Down 1.560