Restructuring inches closer for Sembcorp Industries: analysts

SCI’s Indian arm is most likely to face losses.

An overhaul may just be on the horizon for Sembcorp Industries (SCI), warns analysts, as the company expects energy operations to continue being slammed by a double whammy of falling demand and shrinking prices throughout 2020.

This comes after SCI saw energy demand in its merchant operations in Singapore, India and the UK drop 10-25% YoY in April. Although its long-term contracts are still keeping them stable despite the pandemic, a downward trend is likely to be seen for its businesses in Singapore, India and the UK. 

Other factors that push SCI to sink into losses includes $30m of currency translation loss with the completion of the divestment of its water business in Chile, and the $45m pre-tax reduction in book value (c.$37m net of tax) on the required regulatory inventory of its gas oil reserves in Singapore.

DBS’ analyst Pei Hwa Ho noted that whilst Sembcorp Industries (SCI) is already trading at a steep 50% discount to book, re-rating potential hinges on return of equity (ROE) enhancement (from the current 5%) stemming from earnings recovery of its utilities businesses in India and the UK and marine segment.

“We hold on to our view of a potential merger between Keppel’s O&M arm and Sembcorp Marine (SMM) given the keen competition in the sector. We believe a spin-off of its marine arm could re-rate SCI’s undervalued utilities business that is being overshadowed by the cyclical marine business,” Ho said.

Emerging markets key to growth
Amongst SCI’s markets, its Indian arm Sembcorp Energy India (SEIL) is the most likely one to post losses for Q1 2020, dragged down by its second power plant (SEIL 2), according to CGS-CIMB analyst Siew Khee Lim.

DBS’ Ho added that the availability of coal supply and tariff fluctuation for SCI’s power plants in India are concerns.

“Our check found that average utilisation in Jan-Apr was 88% for SEIL 1 but 47% for SEIL. Spot power prices were 6% lower QoQ at c.$0.05/kwh (Rs2.66/kwh), we believe this could have widened SEIL 2's losses during the quarter. Wind power is also typically weaker in 1Q for SEIL 2,” Lim said.

However, DBS’ Ho noted that SEIL is starting to contribute more steadily at $15-20m a quarter to the bottom line, whilst losses at SEIL 2 should narrow to a near-breakeven level with load factor and tariff improvements.

Apart from India, Ho noted that SCI made forays into other emerging markets, such as Bangladesh, Vietnam and Myanmar, which is likely to underpin the longer-term growth prospects of its energy segment beyond 2019. It noted that both Myanmar’s 230MW gas-fired Myingyan Independent Power Producer (IPP) and Bangladesh’s 427MW gas-fired Sirajganj Unit 4 commenced operations in H1 2019 and should contribute maiden full year profits in 2020.

“We think Middle East could be the only stable market for SCI in FY20F while most other merchant markets (Singapore, India and UK) could see 20-50% decline in YoY earnings. We project energy core profit to decline 25% in FY20F,” CGS-CIMB’s Lim added.