Thursday, October 29, 2009

MTQ – Analysis of Purchase Part 2

Part 2 of my Analysis of Purchase will focus mainly on the various business divisions within MTQ and their performance since FY 2001 through to FY 2009. I have compiled tables for segment and business unit analysis based on net profit and EBITDA margins. Note that ALL information stated here is extracted from MTQ’s Annual Reports from FY 2001 through FY 2009, including press releases and financial statement filings on SGXNet (in other words, it’s all public information). I will also end off Part 2 with a little industry news and updates as this impacts the business of MTQ in the long-run and is thus considered important.

Business Divisions and Analysis

Oilfield Engineering Division

This division is in charge of maintenance of equipment and assets relating to oil fields and oil rigs, and MTQ is the authorized working partner for some of the world’s largest OEMs in wellhead equipment, and is accredited to carry out manufacturing and repair works in accordance to American Petroleum Institute Standards. The work they do includes (but is not limited to) reconditioning of Blowout Preventers (BP), drilling equipment, valves and manifolds etc. EBITDA margins are decent at an average of 26.6% over 5-years, with the most recent FY 2009 registering an EBITDA margin of 28.5%. For FY 2009, oilfield engineering now takes up 61.3% of revenues and constitutes 92.5% of EBITDA (the lion’s share).

Within this division are 3 business segments, namely oilfield equipment repair segment, fabrication segment and equipment rental segment. The main contributor for revenues come from their oilfield equipment repair segment, which services oil majors who send their equipment over to MTQ for repairs. They are the authorized workshop for OEMs such as Cooper Cameron, Shaffer Varco and QVM. The equipment rental business was only launched in FY 2005 to complement the existing oilfield engineering repair business, due to the increase in volume as oil prices rose and oil majors committed more capex to E&P acitivities (thus driving up the number of oil rigs and rig-related machinery and equipment).

Surprisingly, after digging up the FY 2001 AR, it showed that MTQ had exited the foundry business in Malaysia due to lack of competitiveness and limited growth potential. They were also heavily into marine sector (repair of ships and related shipping equipment) before deciding to exit due to severe competition and higher wage costs. The exit was done in FY 2002 and an exceptional gain was booked in FY 2003. Thus, it would seem that years of streamlining this division has finally made it the best revenue contributor, and that the Group has found its niche.

From the analysis, since FY 2001 to FY 2004, EBITDA margins for this division averaged about 13.6% as the Company was mainly doing fabrication work, and also because for FY 2001 and FY 2002, there were contributions from the marine engineering business which had lower margins. Margins improved dramatically from FY 2005 onwards, starting at 21.3% and ending in FY 2009 at 28.5%, averaging 26.6% over these five financial years.

During FY 2004, this division turned in a lacklustre performance due to slower E&P spending by oil companies amid a cyclical downturn. But MTQ took the opportunity to upgrade their equipment and assets as well as manpower training. It was anticipated (at the time) that higher investments in drilling equipment over time would ensure adequate workflow for the division in future years. Their equipment renewal and upgrading program ensured faster turnaround times and greater efficiency (see milestones).

It should be noted that for FY 2001 and FY 2002, this division did significantly better than in FY 2003 and FY 2004 when MTQ reported a cyclical downturn in the oil and gas industry. Note too that for as oil prices have remained high, FY 2007 through FY 2009 saw much increased revenues for this division.

Milestones and Progress for Oilfield Engineering Division

· FY 2001 – Hived off all oilfield activities into Metalock Oilfield Services Pte Ltd;
· FY 2002 – Secured repair works from petrochemical plants and refineries on Jurong Island. Planning to renew and upgrade facilities;
· FY 2003 – Secured strategic business alliance with OEM, and became authorized workshop for Cooper Cameron, Varco-Shaffer and Hydril;
· FY 2003 – Invited by listed Indonesian drilling contractor PT Apexindo Pratama Duta Tbk to participate in providing drilling equipment and services;
· FY 2003 – Addition of 2 new boring machines, 1 vertical boring machine (capable of 30-ton load) and 1 heavy duty horizontal boring machine with table load of 25 tons and full CNC capabilities;
· FY 2004 – Successfully completed the engineering, fabrication and assembly of an inlet manifold skid for the extension of 5 additional wells on an oilfield platform;
· FY 2004 – Successfully adopted the twin welding procedure which significantly improved production time;
· FY 2005 – Equipment rental business launched within the division
· FY 2005 – Strengthened sales force to foster better and stronger business relationships with OEMs and rig builders.
· FY 2006 – Capital investments made to upgrade the workshop’s capabilities to handle more complex jobs which are beyond the capabilities of smaller competitors
· FY 2007 – More spent on upgrading and renewing machinery and equipment to cope with increased work activities.
· FY 2007 – Plans for new expansion into the fabrication of subsea production structures.
· FY 2009 – Regulatory approval obtained to construct a new state-of-the-art facility in Bahrain similar to the one in Singapore, but on a larger scale.

RCR Tomlinson

RCR Tomlinson Limited (“RCR”) is a multi-disciplinary engineering company listed on the Australian Stock Exchange (ASX), and in FY 2003 MTQ acquired an additional 3% interest in RCR for A$229,320 (about S$240,000 – 1,274,001 shares at A$0.18 each) , increasing their interest in the Company to 22.9%. At the same time, in FY 2003, they made a bid of A$0.25 per share for all the remaining shares in RCR that MTQ does not already hold. They had already acquired 19.9% of the Company in FY 2002 (June 2002) but it was not disclosed in the Notes as to how much they paid for it.

In FY 2004, it was reported that MTQ’s bid for buying over RCR was unsuccessful but they managed to raise their stake to 28% from 22.9% (buying over additional shares at A$0.25 per share) and re-classified it as an associated company. In FY 2004 AR, it shows their cost of investment as being S$5.306 million. With 1% of RCR being represented by 424,667 shares, 28% would represent about 11,890,676 shares. This would mean their cost per share is about 44.6 Singapore cents per share (by deduction).

In FY 2005, the Group’s share in RCR was diluted to 22% from 28% after a share placement exercise conducted by RCR in December 2004 (to raise A$10.3 million). And in FY 2006, MTQ were further diluted to 19% as a result of another share placement exercise by RCR (but the Group did spend some money to purchase additional shares in RCR).

As at FY 2007, MTQ’s share in RCR stands at 16%, consisting of 18,910,806 shares which are valued at market value S$36.04 million. As reported, their cost is only S$18.51 million and total unrealised gain is S$17.53 million, representing a gain of almost 94.7% !

In FY 2008 MTQ disposed of their entire stake in RCR and netted an exceptional gain of S$40.79 million, which means they sold it at a market value of S$59.386 million. As a result of this, they netted cash of S$59.3 million and declared a special dividend of 24 cents per share.

Engine Systems Division

This division started off as the “Turbocharger” division (from FY 2001 AR) and was finally renamed to its current name in FY 2003 after the acquisition of RM Diesel Pty Ltd in August 2002. They distribute turbocharger and fuel injection parts and provide turbocharger services.

Much of this division’s revenue is dependent on the Australian economy as they are Australia’s largest independent turbocharger sales and service company. In FY 2003, this division successfully entered the fuel injection spare parts business by acquiring the business of RM Diesel Pty Ltd (Australian company), thereby making inroads to Melbourne and Perth. The division also acquired Turbo Torque Pty Ltd (a Brisbane-based Turbocharger sales and services outfit) in late FY 2003. In the same financial year, they also incorporated a subsidiary in Surabaya to cover the Indonesian market.

EBITDA margins for this division are much poorer than for oilfield engineering, averaging about 11% from FY 2001 to FY 2004. There was a sharp drop in EBITDA margin from FY 2005 onwards (at 5.8%), and in FY 2006 the division recorded an EBITDA loss of –5.4%, with a total 5-year average of just 1.4% (I would term this “dismal”). Suffice to say that it is fortunate that oilfield engineering’s contribution to revenue is steadily increasing since FY 2006 (from 34.5% to the current 61.3%), otherwise my misgivings about this division would probably cause me to avoid MTQ altogether. The shift shows that Management is aware of the poorer performance of this division as compared to oilfield engineering and are thus shifting their resources and energies towards growing that instead.

On a net profit basis, engine systems has always had very low margins, and is not the sort of business which I can see the Management continuing for an extended period of time as it was only profitable in FY 2009 and was bleeding most of the time from FY 2005 to FY 2008.

Milestones and Progress for Engine Systems Division

FY 2001 – Named “Turbocharger” division. Recognized first full-year contribution from Dynamic Turbocharger Services (Australia) Pty Ltd [DTS] which was acquired in November 1999.
FY 2001 – Studying feasibility of leveraging on the competencies of DTS as the leading independent supplier of turbochargers in the Southern Hemisphere (i.e. Australia) and replicating its business model in South-East Asia.
FY 2002 – Plans to introduce value-added services to complement its existing turbocharger operations.
FY 2003 – Renamed “Engine Systems Division”, and entered the fuel injection spare parts business by acquiring the business of RM Diesel Pty Ltd (Australian company). Also acquired Turbo Torque Pty Ltd (a Brisbane-based Turbocharger sales and services outfit).
FY 2003 - Incorporated a subsidiary in Surabaya to cover the Indonesian market.
FY 2004 – Integration of fuel injection business into nation-wide network. Also, plans to expand to other major Indonesian cities.
FY 2005 – Severe competitive pressures and costly integration efforts caused the division to plunge into a loss for FY 2005, despite a marginal increase in revenues of 3%. Indonesian operations have yet to make a positive contribution to the Group.
FY 2005 – New facility set up in Rockhampton, Central Queensland, to support the mining industry; and the division is actively pursuing new markets which could provide vertical integration.
FY 2006 – New systems integration process put in place which consumed Management time and resulted in significant cost overruns.
FY 2006 – Establishment of “Sonic” brand, an MTQ-owned brand name, in the auto aftermarket performance products segment.
FY 2006 – Expansion of fuel injection parts distribution business throughout Australia.
FY 2007 – Able to offer better product range to customers and consolidated its position as a “one-stop-shop” in Australia.
FY 2007 – MTQ was appointed as Master Distributor for SIEMENS VDO for fuel injection in Australia and New Zealand.
FY 2008 – Investment in clean rooms was made in Dendanong and Adelaide to ensure MTQ maintains high technology standards.
FY 2008 – Investment in a vehicle dynometer for Dandenong operations to provide a complete service package for customers.
FY 2009 – Financial crisis and bad weather conditions in Australia have dampened performance of this division. Development of “clean room” facilities has seen growth in the overhaul of common rail pumps.
FY 2009 – More resources will be channelled to grow sales of “Remanufactured” turbochargers and fuel pumps; and the division will look for opportunities to expand product portfolio through Denso and Bosch. (Incidentally, just yesterday on October 28, 2009, it was announced that MTQ had tied up with Bosch for a strategic partnership to distribute Bosch products in Australia).

A segmental net profit analysis by business division is provided in the tables below:-

Industry News and Updates

Since most of MTQ’s business relies on oil majors spending capex on E&P and investing in oil rigs, it pays to monitor this industry to see if there is indeed sustainable demand for MTQ’s services.

From my understanding of the oil and gas industry due to my investments in Ezra (and previously Swiber), oil majors did cut back on a lot of spending during 2008 as oil prices plunged from a record high of US$147 per barrel to US$30 per barrel. Prices have since rebounded to hover around US$70 per barrel, and with the recession ending soon for most economies, there is room for higher demand for energy which may push prices up further.

The latest news is that Petrobras has commissioned 28 high-capacity oil rigs to explore Brazil’s latest oil find, and more rigs will come on-stream in future as there have been significant oil finds recently, which will require more repair and refurbishment services for oil majors. In other words, the pie itself is growing and MTQ is strategically positioned to provide their oilfield engineering services to these clients.

The oil and has majors who are operating from the Middle East will also need their equipment repaired, and with MTQ’s reputation they will send their equipment to MTQ once they establish their new facility there. This has good long-term implications and an investor must be very, very patient in order to reap long-term benefits.

As of this post, oil prices are hovering around US$80 per barrel, which is a high for 2009 thus far. With the sustained recovery in the economy, this will trickle down to higher demand for oil and gas and will act as an impetus to push oil prices higher over the long-run. The weak USD is also contributing to the rally in commodities in general (with Gold prices hitting an all-time high recently).

Watch out for Part 3 of Analysis of Purchase in a subsequent post. Part 3 will discuss dividend history, share buy-backs, insider purchases, prospects in Bahrain, as well as provide a pros and cons analysis which led to my final decision to purchase.

Note: MTQ had just released their 1H FY 2010 results yesterday. I will be doing an analysis and review some time in the next few weeks; as well as provide a brief summary for my end-Oct 2009 portfolio review. Note too that my portfolio review will be done on November 1, 2009 instead of the previously mentioned October 31, 2009.

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