Should Sembcorp Marine shareholders approve the Keppel O&M deal?

TL;DR

• We like the proposed combination between Sembcorp Marine (SMM) and Keppel Offshore & Marine. 

• On its own, SMM may continue to struggle due to slower order wins and high fixed costs. 

• The combination could bring about synergies as the combined entity would have a stronger financial position and larger orderbook.

• These benefits could more than offset investor concerns on issuance of more SMM shares and a potential selldown of SMM shares by Keppel shareholders following the completion of the transaction. 

What happened? 

Shareholders of Sembcorp Marine (SMM) will vote on its acquisition of the offshore and marine arm of Keppel Corp (KOM) on 16 Feb 2023.

SMM will be paying S$4.5b for KOM. It will issue 36.8b new SMM shares valued at 12.2 cents each. 

Keppel will distribute 33.4b of the shares to its shareholders, at a ratio of 19.1 new SMM shares for 1 Keppel share.

After the exercise, Temasek’s stake in SMM will drop from 54.6% to 35.5%.

What shareholders should know about Sembcorp Marine’s proposed combination with Keppel Offshore & Marine

#1 SMM might continue to struggle as a standalone entity

On its own, SMM may continue to struggle due to slower order wins and high fixed costs. 

Aided by soaring energy prices, SMM won new orders of S$6b in 2022. These brought its orderbook to S$7.1b as at Sep 2022, which is still 45% below FY12 levels when crude traded above US$80/bbl. 

Order wins are likely to slow down in FY23, reflecting weaker growth in developed economies. Oil’s recent correction, higher interest rates, and rising ESG concerns could also affect capex decisions. 

Yes, SMM has been pivoting to renewables and new fuel types, such as hydrogen and ammonia, in recent years. But it would still need to scale the learning curve, before these businesses can contribute meaningfully.

#2 - Combination could drive synergies 

The combination of the two yards will bring about synergies, as their combined orderbook will be close to S$18b.

Yard integration could do away with cost duplications and lower fixed overheads. 

The stronger financial position of the combined entity will also allow the group to chase after bigger and more orders. 

#3 - Distribution of SMM shares could weigh on SMM’s share price

That said, the acquisition of KOM does not come cheap.

The acquisition price of S$4.5b is at least S$3.4b higher than KOM’s book value as at June 2022. Furthermore, KOM incurred a net loss in FY22, which means that its book value could further drop. 

Keppel will be distributing 33.4b new SMM shares to its shareholders, at 19.1 new SMM shares for every 1 Keppel share.

Excluding the shares distributed to Temasek, Keppel shareholders will receive 26.5b shares. This is 38.9% of SMM’s enlarged share base. 

The enlarged free float of the group will rise to 64.5%.

This has led to investor concerns that there could be potential downward pressure on the shares of SMM should shareholders of Keppel’s sell SMM shares following the completion of the transaction. 

What would Beansprout do?

We like the transaction as the proposed combination could drive an improvement in fundamentals of the new entity, with a potential for more orders and earlier return to profitability. 

This could more than outweigh concerns around the price premium paid for Keppel O&M and potential selldown of SMM shares upon the completion of the transaction. 

As a Keppel Corp shareholder, you will be getting shares of SMM following the approval of the transaction by shareholders of SMM.

Click here to see more detailed analysis on Keppel Corp. 

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