Sembcorp Industries - UOB Kay Hian 2018-08-06: 2Q18 India Delivers Surprise Profit, Potentially On Track For Profit In 2018

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SEMBCORP INDUSTRIES LTD SGX:U96

Sembcorp Industries - 2q18 India Delivers Surprise Profit, Potentially On Track For Profit In 2018

• Sembcorp Industries (SCI)’s 2Q18 core earnings disappointed at the group level, but was in line at the utilities level.
• The India business reported a surprise profit, largely due to a one-off client recovery. Higher spot price exposure in 2H18 could see continuation of better profitability for India. India could report a small profit against our breakeven base case.
• Earnings for 2018-20 fell 5-13% largely on the marine business.
• Target price was lowered to S$3.41 on lower Sembcorp Marine target price. Maintain BUY.

RESULTS

Group level core earnings disappoint on marine.

• Sembcorp Idustries (SCI) reported headline 2Q18 net profit of S$81.9m (+47% y-o-y). Excluding one-offs such as the one-off loss from West Rigel, provisions, one-off recovery gains and others, core net profit was S$70m (-50% y-o-y, -25% q-o-q). This represented 19%/19% of UOBKH/consensus estimates, a miss largely due to the higher losses from marine, as reported earlier by Sembcorp Marine (SMM).

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Utilities earnings in line at S$82m.

• The segment reported 2Q18 earnings of S$82m and included several one-off items. Excluded, core net earnings was around S$75m-80m or 24-25% of our full-year utilities estimate.
• Earnings was helped by a surprise turnaround of the India business to profit, as well as stronger-than-expected earnings from Singapore operations.

Singapore up by 4%, helped by strategic fuel sale.

• Net profit was S$43.3m (+4% y-o-y, +23% q-o-q), helped by a S$4m strategic fuel sale as well as higher high sulphur fuel oil (HSFO) prices. Excluding the fuel sale, 2Q18 earnings would have been S$39m (+12% y-o-y, -6% q-o-q).

India posts profit surprise, helped by one-off client recovery of S$11m at SGPL.

• India surprised with a quarterly profit of S$39.4m, helped by SGPL being profitable. Sembcorp Gayatri Power Limited’s (SGPL) profit was driven by high plant load factor (PLF) (91%), greater exposure to higher spot electricity prices as well as a one-off recovery from customer amounting to S$11m. Excluded, SGPL reported a core loss, though the swing in earnings remains impressive considering the ~30% exposure to spot electricity market over 2Q18. Spot electricity prices rose 41% y-o-y/17% q-o-q in 2Q18.

UK Power Reserve (UKPR) to see minimal contribution in 2018.

• The unit reported one month of profit contribution in 2Q18. A loss of S$7m was reported, and was approximately an even split between operational losses and one-off transaction costs.
• Peak earnings season for the unit will be during the winter season (October-March). The unit is expected to contribute minimally for 2018.

Other countries’ net profit:

• Net profit for China was S$15.1m (-66% y-o-y), down largely due to provisions made on the water business. Rest of Asia was S$5.2m (-67% y-o-y), and was down due to lower service concession revenues recognised for Myingyan and Sirajganj. Middle East was S$14.3m (-24% y-o-y) owing to Salalah being impacted by a cyclone. 
• Corporate included an undisclosed one-off provision on equipment for the Myingyan power plant.

Strong land sales from urban development offsets marine losses.

• Net profit was S$35.4m (+314% y-o-y), driven by contributions from its associates/JV. 
• Land sales was 82ha (+92% y-o-y), split between 19ha of residential/commercial and 63ha of industrial/business.

STOCK IMPACT

India appears to be on the mend, could report a small profit by end-18.

• We remain cautious in fully buying into India’s turnaround. The 2Q18 performance was driven by two factors at SGPL’s level:
  1. higher exposure to spot prices, and
  2. spot electricity prices being significantly higher in 2Q18 due to a coal shortage.
• Moving into 2H18, SGPL has a > 60% exposure to spot prices. Prices have fallen to ~Rs3.5/kWh (-14%) and assuming it sustains, one should expect lower losses or breakeven at the baseline. However, with annual maintenance shutdowns due in 2H18, SGPL’s financial performance will depend on how well Sembcorp Industries executes the shutdowns during low demand periods.
• In conclusion, losses will likely be lower and Sembcorp Industries could potentially report a small profit on India, above our breakeven base case.

EARNINGS REVISION/RISK

Cut earnings by 5-13%, largely due to SMM.

• Our 2018-20F earnings have been reduced to S$319m (-13%), S$419m (-6%) and S$448m (-5%) respectively. The cuts come largely on the revised higher losses from the marine division. 
• Our utilities earnings have been revised upwards slightly to S$320m (previously: S$316m). We remain at breakeven for India. Urban development earnings have been raised to S$87m (prev: S$45m) to reflect the higher-than-expected ASP for land sales.

VALUATION/RECOMMENDATION

Maintain BUY, target price reduced to S$3.41 on lower SMM TP.

• Our target price for Sembcorp Marine was lowered from S$2.05 to S$1.83, and was the main factor driving Sembcorp Industries’ target price decline. Utilities is valued at an implied 8.5x 2019F PE.
• Current valuations for the non-marine business is implied at ~6x 1-year forward PE, against its long-term mean of 8x. Earnings seem to be on the cusp of a turnaround, and valuations look attractive.
• Maintain BUY.

Foo Zhiwei UOB Kay Hian Research | https://research.uobkayhian.com/ 2018-08-06

SGX Stock Analyst Report BUY Maintain BUY 3.41 Down 3.600