Sembcorp Industries – Target price raised to S$2.70, with upside potential

We are raising Sembcorp Industries (SCI) to a Buy. The stock primarily offers a good earnings mix that is underpinned by the defensive Singapore infrastructure businesses, which represents a third of overall earnings. We also believe there is significant upside to SCI’s prospects with an easing in the credit markets. Our revised SOTP valuation at S$2.70 also looks compelling.

We anticipate an imminent easing in the credit markets as the US and other government’s efforts to clean up bank’s books gather momentum. We believe that state-sponsored infrastructure projects put in limbo by the current credit crunch will be the first line of borrowers that can tap into this, due to a lower default risk and pump priming. SCI can benefit from this, particularly from utilities projects in the Middle East and China.

Recent media reports suggest that SCI is on the cusp of securing its second independent water and power project (IWPP) in the Middle East, after securing financing from China Exim Bank forthe US$1bn Salalah project in Oman. This could also pave the way for other mega-projects in Saudi Arabia, and another project in Fujairah, UAE.

However, we believe that it is too early for a recovery in Sembcorp Marine’s (SMM) offshore business, despite oil currently trading above offshore production breakeven of about US$50 per barrel. Energy demand is expected to remain weak, and financing will still not be so freely available for these riskier projects in the near term.

With a recovery in SMM’s share price, our SOTP fair value is raised to S$2.70, implying 19% upside to SCI’s share price, with a potential further revaluation of its utilities earnings multiples (currently at just 7x FY09 PER). Our net profit forecast remains unchanged, where we project a 10% rise in earnings in the current year, driven by its ongoing projects in Singapore, China and Fujairah ramp up.

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