Hyflux

Kim Eng on 3 Aug 2012

Below expectations. 1H12 results were below expectations, despite a yoy revenue growth of 66%. We believe the main factor is the lower gross margins as a result of changing project mix, a theme which continued from the previous quarter. Hyflux remains a very relevant company, but with a challenging contract-winning environment, we believe there may still be downside for the stock price.

FY12 unlikely to meet consensus. Net profit for 1H12 came in at SG25.2m, up 15% yoy, but full year consensus estimates of SG82.6m will likely have to be scaled back significantly. Most of the revenue/ EPC orderbook of SG712m is currently from the SG1.05b Tuas SingSpring desalination plant, which is proceeding on schedule.

China projects still dry. Contract flow from China still remains dry, despite earlier optimism. We believe this is largely to do with the external environment and things may now only pick up next year, after the political leadership handover. There were also no divestment gains on its China BOT projects this quarter.

MENA, and consequently Hyflux, may be back in play. We continue to maintain that this cash-rich, water-poor region is the single most important factor for Hyflux. Project sizes here are more substantial and more importantly, financing terms are very attractive. Governments here favor the EPC model rather than the BOT model; we deem the former much more attractive for a company like Hyflux. We understand project biddings have resumed after a lull following the Arab Spring events and given Hyflux’s capabilities, they are in a position to win.

Balance sheet continues to be a drag in the meantime. Most of the SG400m 6% preference share issue in 2011 remains undeployed in the meantime. This continues to be a heavy drag on earnings to ordinary shareholders. For example, we estimate finance costs and pref share dividends result in an outflow of almost SG50m a year.

Not the right time yet; Maintain SELL. We adjust our estimates to reflect lower margins as well as possibility of new contract wins in MENA. Despite the positive long-term outlook, valuations are too rich at the moment and we maintain SELL with a TP of $1.10.