Swiber - 1Q 2007 Results Analysis

Swiber Holdings Limited released its 1Q 2007 financial statements and press release today. You can check SGX Announcements page (see links on right side of my blog) to look for it. Basically, to sum it up, I expected more from the financials and was a little disappointed by what I read. Below is an analysis of various aspects of the financials:-

First of all, gross margins for 1Q 2007 have declined to only 27.5% as compared to 1Q 2006 which saw gross margins as high as 37.4%. That's a nearly 10 percentage point drop in gross margins, and this could have boosted earnings significantly. One quick glance already makes it obvious - revenues may have increased by 205.8% but cost of goods sold increased even more by 254.1% ! Management should provide some clarity on why margins continue to be squeezed, but no specific mention was made in the press release or performance review.

Net margins have also decreased from 28.4% in 1Q 2006 to only 18.9% for 1Q 2007. I was already being conservative when I estimated their earnings based on 30% net margin, but to be fair, that took into account the fact that most of their vessels have been delivered. In this case, I would assume that the remaining 10 vessels have yet to be delivered, thus putting a strain on margins as the company has to use third-party vessels. The next step Management should take is to update shareholders on the status of the delivery of the vessels, and assure shareholders that margins will improve in future. Just as a hypothetical illustration, if margins had remained at 1Q 2006 levels, we would be seeing net earnings of US$5,487k instead of the current profit of US$3,642k. That's a 50.7% increase in earnings assuming margins had at least been maintained at 1Q 2006 levels !!

Finance costs have also ballooned 210.7% from US$75k to US$233K, reflecting an increase in bank borrowings for the company. While they maintain that debt/equity ratio remains at 0.35, nevertheless, increased borrowings would mean increased interest costs. In a rising interest rate environment, this could cause a larger cash flow drain for the company. A quick look at the Balance Sheet shows that short-term loans more than doubled from US$4.4m to US$9.8m. Long-term loans have also risen and total liabilities are US$57.5m as compared to only US$42.0 a year ago. Trade and other receivables have also increased significantly, ostensibly due to the 200+% increase in top-line, but the company should comment on the number of days of receivables outstanding to see if their cash conversion cycle has improved. A major worry for me for any company is their ability to manage cash; if this is absent, then the company could face a cash crunch even as they are making profits.

The cash flow statement is another area of concern. The company actually generated NEGATIVE cash flows from operating activities of US$3.7 million ! This was because their increase in receivables had more than offset their increase in trade payables, which is the worrying aspect I talked about. Assuming the company pays its creditors faster than it collects from its debtors, we could see more trouble ahead in terms of cash flow management. Let's hope this problem is only temporary with the spending on capex and would resolve by 2Q, otherwise it is a glaring area to highlight to the Management.

As can be observed, about US$9.7m was spent on capex as compared to US$3.8 million a year ago. When put in context, this is justifiable as the company is aggressively expanding its fleet. The sale and leaseback arrangement also means that cash flows will be eased under "investing activities" as the sale would generate immediate cash back for them. Thus, it is hoped that the company can continue to invoke such MOU in order to ease their raising of cash through bank loans, which necessarily incurs interest costs.

Their order book as at March 31, 2007 is US$176 million as stated. The LOI for the Indonesian installation of pipelines and platforms is worth US$21.3 million, thus their current order book as at May 14, 2007 stands at US$197.3 million. Only US$70.4 million from the Shell deal will be recognized for FY 2007, thus the total order book forFY 2007 is about US$99.8m + US$21.3m = US$121.1 million. Taking a net margin of 18.9% (as derived from 1Q 2007 and is thus a good indicator), we would arrive at earnings of US$22.9 million. Add this to the current earnings of US$3.7 million and we get US$26.6 million. Using a conversion rate of 1US$ to S$1.51, we get a net profit of S$40.15 million. Thus, the EPS based on 369 million shares is 10.9 singapore cents. Applying a conservative PER of 13x gives a fair value of S$1.414 for Swiber.

But intrinsic value is more than just about numbers. Swiber is currently aggressively expanding its fleet and negotiating for more deals in the region. Being an EPCIC player operating in a niche market, their focus has given them a better competitive advantage. Management is also pro-active, forward-looking and competent and so far they have delivered (except for the margins !). Thus, it might be prudent to apply a slightly higher PER of 15x for their strong entrenched position within the oil and gas industry and their niche focus. This would translate into an intrinsic value of S$1.635 per share for Swiber, based on forecast EPS of 10.9 cents. Thus, at the current closing price of S$2, I feel Swiber is over-valued. A more reasonable price to buy at would be around the S$1.60 to S$1.70 level.

Further catalysts would include:-

1) Securing of more LOI and contracts for EPCIC projects
2) More sale and leaseback deals to securitize more vessels to aid in fleet expansion
3) Setting up of more repreentative offices in countries where they wish to establish a foothold, namely Middle East, Bangladesh, Vietnam and Thailand
4) Ordering of more confirmed vessels for FY 2008 in order to build their capabilities. Currently, many aspects of their 2nd wave of expansion are merely "planned" and are not concrete yet.

For shareholders who find this review useful, or who have a comment to make about my numbers and assumptions used, please feel free to drop a comment. I will try to reply as soon as I can.

Have a great week ahead, everyone !