Boustead Singapore Limited – 1H FY 2012 Analysis Part 2

Part 2 of this three-part analysis will focus mainly on divisional analysis, as Boustead has four very distinct divisions which make it one of the harder conglomerates to put a value to. The interesting thing about Boustead which has somehow eluded me all these years (but which has somehow perplexed many an analyst) is that it has four disparate divisions which makes it a very difficult company to classify. On one hand, it is not an oil and gas company even though it has a strong energy-related engineering division and has contracts in many countries around the world for waste heat recovery and boiler systems. Neither is it purely a real estate development company though it has a large (and growing) portfolio of industrial leasehold properties and is considered a niche player in the biotech, logistics and aerospace industries. The best way to describe the company to someone (and mind you, many people have asked me!) is to say that it is a Company with a Pan-Asian focus which is in multiple industries, then quickly move on to explain each arm of Boustead before the listener has adequate time to react (and retort).

But before I become disarmingly irritating with my oft-repeated rendition of the interesting facets of Boustead and its myriad arms, let me assure the reader that there is a reason for the above. I shall end off Part 2 with reference to what was mentioned in the first section of this post, and use this to illustrate a very interesting fact about the Company which somehow continues to endear me to it (yes, someone will inadvertently remind me about the well-documented psychological bias – the endowment effect).

Segment and Divisional Revenue Analysis

Engineering Services as a whole saw a significant decrease in revenue for 1H 2012, down 53.5% to just $128.5 million from $276.2 million. This can be largely attributed to the drop in revenues in the real estate solutions division which saw a 73% year on year fall in revenue to $50.9 million (but 1H 2011’s numbers included the disposal of an industrial property worth $67.8 million). With Boustead’s focus being more on DB&L projects in order to build up their portfolio of recurring rental income, there has thus been less D&B contracts awarded. This, coupled with the slowdown in 1H 2012 also meant that there was less revenue to recognize for the division. However, my view is that Boustead’s Real Estate Division would serve as a buffer for the Group should the Euro Zone collapse, and also help them to generate steady and predictable cash flows during uncertain times. Since most (if not all) of their clients are blue-chip companies, there is also a lower risk of non-payment or default unless a major crisis occurs within the specific niche industries that each client is in.

Revenues for Energy-related engineering and water and wastewater engineering were slightly better for 2Q 2012, but nevertheless when compared on a half-year basis, the increase was not too impressive. For the former, the Group mentioned that more of the revenue will be recognized in future periods as many of the projects are in their initial stages of execution – therefore as a shareholder I should be expecting not just a higher revenue contribution year-on-year, but also hopefully better PBT margins (more on this later). For the latter division, though there was higher revenue recognition in 2Q and 1H, it failed to clinch additional contracts during the first half of the financial year. Somehow my feel is that the intensive competition of this industry and the thin margins are reasons why Boustead has to be very selective in bidding, and also to ensure it maintains its focus on high-value engineering services instead of degenerating into the model used by many China BOT companies (in which a huge capital outlay has to be expensed before cash flows start to stream in). That said, Salcon’s future at this point still looks uncertain as year after year sees more or less flat-lined revenues and PBT (last year saw a LBT because of the Libyan write-off). Sustaining the division may be possible over the long-term, but growing it seems tough and my view is that Boustead should still try their best to realized value from this division by selling it off! My worry is that too many resources, manpower and effort are plugged into the Division in order to sustain it, such that other divisions or areas are neglected or not given sufficient attention.

Geo-Spatial Technology seems to be the star performer – revenues grew 14.3% for 1H 2012 compared to a year ago, and the division is also generating healthy PBT margins and cash flows. Demand for software and professional services remains strong and is poised to grow over time, as Boustead focuses its business development efforts in Australia and South East Asia (e.g. Indonesia).

Divisional Margins Analysis

It’s pretty telling by looking at the table above just how each division has performed not just with respect to its PBT year-on-year, but also its PBT margins. Energy-Related Engineering disappointed by shaving off about 4.4 percentage points off its PBT margins to end at 7.3%, and registered a PBT of $4.6 million against $8.8 million a year ago (a steep 47.7% drop). The sad fact is that revenues had only fallen 17%, and the significant margin deterioration was not adequately explained by the Company as they chose to focus their commentary more on Geo-Spatial (the “star” performer). My view is that Management should also strive to be as candid as possible regarding ALL divisions and weak areas of the business, so that improvements can be devised to improve results.

Water and wastewater engineering (Salcon) has demonstrated another weak half-year, with a LBT of $0.1 million against a profit of $0.7 million a year ago. Not much was mentioned on why the division had incurred this loss even though there were no further write-offs from Libya, and the commentary simply mentioned that there was “steady progress” at its two major projects at Al Wathba in the UAE and Tuas Power Tembusu Multi-Utilities Complex in Singapore. PBT margin was already thin at 5.3% to begin with, and it would seem that pushing on, it would be a challenge to raise PBT margins higher, and SembCorp Industries and other larger companies make much stronger competitors and also have the financial muscle to outbid Boustead for water projects. Therefore, it may not make sense for Boustead to “knock its head against the wall” figuratively speaking to try to grow Salcon into a major player, and FF Wong has been trying to do so since FY 2002. I will continue to monitor this division but my heart feels heavy just talking about it, and I certainly hope Management has some ideas or strategies to turn things around.

For Real Estate Solutions, PBT plunged a very “impressive” 67.3%, but that was before adjusting for the sale of industrial leasehold property in 1H 2011. The sale last year actually depressed PBT margins such that they ended up at 18.7%; and for 1H 2012 the PBT margin had normalized and risen to a more decent 22.6%, with PBT at $11.5 million. There was slower recognition of revenue (and hence PBT) for the period in question, and shareholders should also recall Boustead’s increased focus on more DB&L projects which will provide future recurring income; thus in the short-term, revenues and cash flows would suffer a setback. Since it’s all in the name of “long-term shareholder value” (yes, I know it sounds horribly clichéd), I am willing to tolerate the short-term “lumpiness” in view of enjoying stable, steady and consistent future cash flows and profits.

Interestingly enough, the star performer (I think I must have used the word “star” at least three times, forgive me for that as I try to substitute for a better word) was Geo-Spatial Division, with revenues rising 14.3% and PBT rising 21.6% (implying costs and expenses had actually risen less than the rise in revenues). PBT margin is an impressive 25.6%, even higher than that of Real Estate Solutions Division, and it was also an improvement over the 24% registered a year ago. I did mention in my last analysis and review that this division was Boustead’s “cash cow” and it would show steady and moderate growth; plus cash flows were consistent as most, if not all, of their clients are large multi-national corporations or government agencies. With the recent contract with Earthmine announced in March 2011 making use of ESRI Singapore’s technology, and also with booming demand from resources and terrain planning coming from countries such as Indonesia, there is further potential for this division to grow further.

So as I close off this section of the analysis, I will refer back to my assertion that Boustead’s four divisions do have potential not just to weather the economic storm through “diversification”, but also creates very unique opportunities for the Group to take advantage of in the current turbulent climate. The two divisions which show potential and are performing above expectations (at least, in terms of contracts secured and near-term prospects) seem to be real estate and geo-spatial. Barring a complete collapse in confidence in the real estate industry in Singapore, Boustead’s real estate arm looks set to continue its momentum of contract wins, though the more recent announced wins have been mainly D&B, rather than DB&L. FF Wong is obviously trying to grow the leasehold portfolio (currently at 90,000 square metres, more on this in Part 3) in order to generate more predictable cash flows; and also to perhaps realize value should the portfolio be bought over eventually by a REIT.

The fact that Boustead has such varied arms makes it resilient to a downturn, as some sectors and industries tend to be more affected than others in an economic recession (example, banks or construction). Unless it is a protracted recession which covers ALL aspects of the economy (something akin to a second Great Depression), otherwise I believe Boustead should see resilience in its business model, and the huge cash stash should also act as a good buffer.

Part 3 will focus on something more interesting – Boustead’s industrial real estate portfolio, as well as its dividend history which I had not covered before in previous analyses. Watch out for that.