SG Small Cap Stocks - CGS-CIMB Research 2020-04-01: COVID-19 ~ Be Mindful Of Highly Geared Companies


SG Small Cap Stocks - COVID-19 ~ Be Mindful Of Highly Geared Companies

Net debt companies - Construction sector

  • Given the prolonged weakness and the ensuing lower profitability in the construction sector over the past three years, construction players generally have weaker interest coverage ratios. We noticed that net gearing of construction companies in Singapore has also trended up in recent years.
  • The COVID-19 outbreak could potentially tighten cash flow further for construction companies should their pace of construction activities slow down significantly. Thus far, we note that most construction works are still ongoing, albeit at a slightly slower pace, due to:
    1. manpower shortage, arising from the various travel restrictions imposed, and
    2. supply chain disruptions for building materials and equipment, notably from China and Malaysia.
  • BRC Asia (SGX:BEC), a reinforced steel supplier with a c.60% market share (by volume) of steel re-bars in Singapore, said that its volume deliveries fell by 5-10% in Feb 2020 due to lower construction activities; we think could be a rough gauge of the COVID-19 outbreak impact on the sector to date.
  • In our view, harder hit projects include:
    1. certain infrastructure works that are more reliant on Chinese workers (c.10% of overall construction workforce),
    2. residential projects with structural works involving prefabricated, prefinished volumetric construction (PPVC) modules or precast concrete carcasses, as well as
    3. late-stage construction works reliant on supply of finishing from China (lifts, floor tiles, toilet fittings etc.).
  • While we expect construction companies to make up for the slack later in the year, slower construction activities in 1H20F will lead to lower progress payment for construction companies, which may strain cash flow of highly levered companies. This increases credit risk, with contractors potentially defaulting on their obligation. We therefore caution investors to avoid highly-geared companies, as well as companies with high-dependence on a single project.
  • To help ease contractors’ potential cash flow concerns that could arise due to COVID-19, Building & Construction Authority (BCA) announced that Government Procuring Entities (GPEs) will be accepting fortnightly payment claims, in lieu of monthly payment claims, for their public sector construction projects. Contractors could also submit claims for Extension of Time (EOT) under the contract provisions, should they assess that work progress has been delayed due to the impact of COVID-19 after having taken all necessary mitigating measures.
  • We project both BRC Asia and Yongnam to have a net gearing ratio exceeding 0.50x for FY20F.


  • We estimate that 78% (S$238.7m) of BRC Asia (SGX:BEC)’s total borrowings consist of trust receipts (repayable within a year) issued for inventory procurement (BRC Asia typically holds up to four months’ worth of inventory on hand). The remaining bank loans (22% of total borrowings) are mainly attributable to the acquisition of Lee Metal (Unlisted) as at end FY19.
  • We believe that BRC Asia is able to manage its debt given its strong cash flow generation. BRC Asia generated S$77.0m of free cash flow in FY19, which implies free cash flow interest coverage ratio of 8.0x. We also expect BRC Asia to have minimal capex in FY20F.
  • We have an ADD rating on BRC Asia, with Target Price of S$2.05, based on 1.65x CY20F P/BV. We like the company for its market leadership in Singapore's reinforced steel industry, earnings visibility that is riding on the recovery in home market demand, and improving balance sheet strength. See BRC Asia Share Price; BRC Asia Target Price; BRC Asia Analyst Reports; BRC Asia Dividend History; BRC Asia Announcements; BRC Asia Latest News.
  • Re-rating catalysts include a stronger margin expansion; downside risks include slower volume growth due to weaker construction activities amid the COVID-19 outbreak and counterparty credit risks.

Yongnam (SGX:AXB)

Net debt companies – other coverage

  • For other companies under our coverage, our projected FY20F net gearing ratio for Centurion Corp (SGX:OU8) and Japfa (SGX:UD2) are above 1.0x. mm2 Asia (SGX:1B0) is the third highest geared company in Figure 11 (see attached PDF report) at 0.70x for FY20F. For Japfa, on a total equity (including its minority interest) basis, our projected FY20F the net gearing ratio is a lower 0.74x.

Centurion Corp (SGX:OU8)

  • Centurion Corp (SGX:OU8) (ADD, Target price: S$0.58) is one of the most leveraged stocks among our coverage, with projected net gearing ratio of 1.1x for FY20F. However, of the S$739m borrowings at end 2019, about 92% is long term debt, with average debt maturity profile of around seven years. We estimate FY20-22F interest coverage ratios to be within its debt covenant threshold at 2.9-3.1x.
  • In FY19, the purpose-built student accommodation (PBSA) contributed S$19m (or c.27%) to Centurion Corp’s operating profit. In the worst case scenario of a severe drop in student occupancy and profitability halving, the group would still be able to service its financing costs (c.S$29m p.a.) with its yearly operating cash flow of S$60m-70m, in our view.
  • We see less risk for its purpose-built workers accommodation (PBWA) segment (which accounts for S$52m or 73% of FY19 group operating profit) as the demand and supply conditions in Singapore remain tight. We think both the PBSA and PBWA segments are potentially counter-cyclical, and its diversified presence across Singapore, the UK, Australia and Malaysia could help buffer against macro challenges. Hence, our ADD rating for the stock remains intact.
  • Our target price of S$0.58 is based on DCF valuation (WACC: 4.9%, LTG: 1%). See Centurion Corp Share Price; Centurion Corp Target Price; Centurion Corp Analyst Reports; Centurion Corp Dividend History; Centurion Corp Announcements; Centurion Corp Latest News.
  • Downside risks to our ADD rating include worsening COVID-19 situation, as well as significant slowdown in O&G (Oil & Gas) and construction sectors. Risk of dividend cuts could materialise in the event of material earnings decline, as we think the group will keep to its historical track record of 40-50% payout ratio (no dividend policy).

Japfa (SGX:UD2)

  • For Japfa (SGX:UD2) (ADD, Target price S$0.95), we forecast its FY20F net gearing ratio to be 0.74x (based on total equity) which is below the company’s target net gearing ratio of less than 1.1x. Our Target Price is based on 12x FY21F EPS (close to 5-year average mean). Japfa is in a highly cyclical business.
  • Risks are
    1. downturn in Vietnam swine prices;
    2. lower Indonesia poultry segment earnings; and
    3. wider losses in its consumer segment.
  • As at end-Dec 2019, short terms loans due in FY20F account for c.42% (US$583.5m) of Japfa’s total borrowings (US$1.38bn); and are predominantly working capital loans that could be refinanced and contingent on business performance, in our view. Within the remaining long term debts (US$798m) we estimate c.US$260m (c.US$253m represents an acquisition loan; c.US$10m is an IDR bond) are due in FY21F.
  • See Japfa Share Price; Japfa Target Price; Japfa Analyst Reports; Japfa Dividend History; Japfa Announcements; Japfa Latest News.
  • In a bear case scenario, we think net gearing could rise closer to 1.0x (based on total equity) if FY20F revenues are impacted by lower consumption in the key markets of Indonesia/ Vietnam/China and/or if the company maintains its capital expenditure. However, thus far Japfa has managed to survive its last two slowdowns -
    1. in 2014 it suffered from weak Indo poultry business;
    2. in 2017 both its Indo poultry and Vietnam swine segment were impacted negatively due to oversupply issues.
  • As such, they may be able to avert any cash crunch, especially as they still have leeway towards their targeted max net gearing ratio, in our view.

mm2 Asia (SGX:1B0)

  • We think mm2 Asia (SGX:1B0) (HOLD, Target price S$0.13) is susceptible to both earnings and balance sheet risks. Apart from a working capital-intensive business, we expect it to record FY20F net gearing of 0.73x (net debt of S$211m). While the cinemas in Singapore and Malaysia are its cash-generating assets, they also came with high leverage upon acquisition, and are impacted by postponement of scheduled Hollywood mega-movie releases based on its recent announcement, as well as the Singapore government’s ban on entertainment outlets from 26 Mar till 30 Apr. UnUsUaL (SGX:1D1) (its 39.2% subsidiary) also faces cancellations of large scale events and concerts in Singapore and abroad as a result of the COVID-19 outbreak, which will further hamper its cash flow.
  • About 74% of mm2 Asia’s total borrowings at end Sep-19 is long-term debt, though we note that a portion of its liabilities will be due by 2021F (S$50m 7% MTN, and S$48m 2% convertible debt securities to be redeemed by Feb 2021F). On our estimates, its FY20F net debt to EBITDA level of 2.2x could be at risk from earnings decline and unexpected production delay (debt covenant ratio of less than 3x), while its FY20F interest coverage ratio is decent at c.3x. With a cash balance of only S$18.6m at end Sep-19, we think mm2 Asia’s cash flow may be affected by its ability to collect its trade receivables.
  • We cut our FY20-22F earnings estimates for mm2 Asia by 19.0-35.0%, resulting in a lower SOP-based target price of S$0.14. We downgrade the stock from Add to HOLD. See mm2 Asia Share Price; mm2 Asia Target Price; mm2 Asia Analyst Reports; mm2 Asia Dividend History; mm2 Asia Announcements; mm2 Asia Latest News.
  • Despite the share price de-rating, we still see some value in its assets, hence our HOLD recommendation.
  • Upside risk is faster recovery from COVID-19 and strategic M&A/corporate action while downside risk is the worsening of the COVID-19 outbreak.

William TNG CFA CGS-CIMB Research | NGOH Yi Sin CGS-CIMB Research | ONG Khang Chuen CFA CGS-CIMB Research | https://www.cgs-cimb.com 2020-04-01
SGX Stock Analyst Report ADD MAINTAIN ADD 2.050 SAME 2.050