Swiber - Clinching of US$31 million LOI in Malaysia (An Analysis and Review)

This morning, Swiber announced that it had clinched a US$31 million LOI (Letter of Intent) with a Malaysian Group to provide offshore installation works for the Puteri Wellhead platform in Malaysia. This LOI comes at the right time as Swiber has just received delivery of 2 new barges; namely the 2,500 metric-ton Da Li Hao crane barge and the pipelay barge Swiber Conquest. These barges were immediately deployed for this LOI and the contract is expected to commence in August 2007 and be completed by October 2007. As the CEO Mr. Raymond Goh says in the press release, Swiber will strive to build the business further by investing in new technology for vessels (e.g. sheerleg barge order planned for FY 2008), expanding their fleet (another pipelay vessel and 4 AHTS planned) and to explore new markets such as Vietnam and Thailand.

With this LOI win, current order book as at June 25, 2007 stands at US$228.3 million. However, for the Brunei Shell deal, only US$70.4 million will be recognized in FY 2007. Thus, from my previous post on Swiber dated May 23, 2007, the order book for Swiber for FY 2007 will increase from US$121.1 million to US$152.1 million. Using the same net margin of 18.9% for 1Q 2007 (this is a conservative approach as Swiber has already taken charge of its own barges and we should assume a higher net margin) gives a net profit figure of US$28.7 million for FY 2007. Adding this to the 1Q 2007 profit figure of US$3.7 million gives an approximate net profit estimate of US$32.4 million. Using an exchange rate of 1US$ to S$1.53 yields a net profit of approximately S$49.57 million. Therefore, the EPS based on 369 million shares will be 13.4 Singapore cents per share. Applying a PER of 13x (conservative) yields a fair value of S$1.74 A PER of 15x would suggest a fair value of S$2.01.

The fair value for Swiber, however, is different from its intrinsic value. Intrinsic value would take into account the following factors:-

1) MOU signed with Emirates Investment Group (EIG) to explore contracts and EPCIC jobs in the Middle East. An MOU is not a definitive contract, but it helps to build up Swiber's network and paves the way for them to form a 50:50 joint venture to explore business opportunities in the Pakistan, the Gulf region and the Middle East.

2) In an interview with AFX-Asia on June 25, 2007 (today) at 10.00 a.m., Mr. Raymond Goh mentioned that this JV will be bidding aggressively for projects in the third and fourth quarter of FY 2007 (July to Dec) and that he expects the JV to be earnings accretive in FY 2008. Thus, this is a prelude to more probable contract wins in the Middle East for FY 2008.

3) Plans are underway to expand Swiber's fleet in order to allow it to service more customers and expand its client base. Mr. Goh said that the company will probably look to fund its next wave of vessel expansion with a share placement to raise funds from the market. Currently, they have already entered into a sale-and-leaseback arrangement for 5 vessels. More such arrangements can be expected in order for the company to remain asset-light.

4) Margins are set to improve from 18.9% (as I had mentioned, a conservative estimate) as the company takes control of more and more vessels which have completed construction in FY 2007. Thus, as the year passes, more and more of Swiber's own vessels will be deployed for use, thus reducing reliance on third-party vessels and reducing margin erosion.

5) Mr. Goh is also bullish on the long-term outlook for the oil industry as he said 40% of the world's crude oil production comes from the Asia Pacific and the Middle East. Thus, there will still be continual demand for EPCIC services in the region. The Middle East consists of mostly shallow waters in which Swiber excels in.

Witht he above 5 points, the intrinsic value of Swiber is probably much higher than the S$1.73 to S$2.01 estimate I have computed. The market is pricing in expectations of Swiber performing well in future by pricing the shares at S$2.36 at today's closing. However, this is still a little lofty for I feel that the company has yet to demonstrate a sustainable increase in margins. 2Q 2007 results should show if the company has managed to improve margins, and I will adjust my valuations from there.

However, moving forward, there are several concerns which I would like to point out:-

a) The recent LOI won by Swiber only lasts for 3 months from Aug 2007 till Oct 2007. While this means that revenues (and hence profits) will be recognized quickly, it also implies that this LOI will noe sustain earnings into FY 2008 as it is short-term in nature. Swiber would do well to capture contracts of longer duration in order to ensure earnings can be sustained into future periods.

b) The LOI was announced for Malaysia, while the previous one was announced for Indonesia (US$21.3 million). These are markets in which Swiber is already well-established and in terms of market reach, it does not present anything new or ground-breaking. It is hoped that Swiber will be able to clinch contracts/LOI in areas they are currently targeting. Such areas will include (but are not limited to) Thailand, Vietnam, Pakistan, the Middle East, Bangladesh, the Gulf region, Myanmar and China. Seeing that the company is targeting so many regions, I hope that they are not over-stretching themselves at the same time.

c) The company also has to watch out for its cash flow as 1Q 2007 showed a negative operating cash flow. Swiber is undergoing an aggressive expansion cmapaign and it is possible that they may either over-leverage to fund their vessel expansion, or be short of cash for day-to-day operations. I hope this concern will be address when I see their cash flow statements for 2Q 2007.

d) The move to deep-water exploration will be gradual and by FY 2009, it is expected that 10% of exploration will be in deeper waters. Swiber has to gear up to adapt to this change; otherwise it may not remain competitive enough to ensure that it can clinch further contracts/LOI.

The above represent risk factors for Swiber, and the prudent investor should always do a SWOT analysis of the company concerned to review its competitive position as well as its prospects.

I will continue to provide in depth and (hopefully) useful analysis for my companies and also tools for value investing on this blog. But please note that for June 26 to 30th (afternoon) I shall be on business trip in Vietnam and thus may not be able to blog daily.

Short Update - Swiber Terminates Loan Agreements

Just a short update for Swiber before I fly off for my business trip. Swiber has announced that loan agreements amounting to US$7.3 million entered into between 2 and 23 March 2007 have, on 25 June 2007, been repaid fully with US$7.8 million.This would imply that the interest expenses to be charged to the Profit and Loss Account amounts to US$0.5 million, which represents an interest of about 6.8% for 3 months !

The announcement however, states that the interest rate on the loans are 9%. I would think that the company had paid off a sum of money as part of termination clauses inherent within the loan agreements in order to terminate them so swiftly.

One can only hope that the money was well-utilized for Swiber's operations before it was returned. I did mention in my evening post that I am concerned about Swiber's use of cash for operating activities. Let's see how this pans out in the 1H 2007 financial statement announcement.