Tug-Of-Fools: ComfortDelGro Corporation Limited – The Bull Argument

I am Tan Jia Hui and this is my bull case for ComfortDelGro Corporation Limited (SGX: C52).

As the price of car ownership in Singapore rose steeply in the past years, majority of Singaporeans have to depend on public transport as their form of commute. Inarguably, most Singaporeans will not be unfamiliar with the two biggest players in the local public transport scene, ComfortDelGro and SMRT Corporation Ltd. (SGX: S53).

Both companies operate in the bus, rail and taxi businesses in Singapore. However, ComfortDelGro outshines its competitor in terms of scale and exposure.

As the world’s second largest land transport company, ComfortDelGro has over the years extended its reach to Australia, UK, China and beyond.

Impressive track record, good exposure

ComfortDelGro has recorded consecutive quarters of year-on-year growth in revenue since the start of FY09 (Financial Year 09). The entity posted $3,747.7 million in turnover in its latest fiscal year ended 31 December 2013.

At the bottom line, net profit has risen at a compounded annual growth rate (CAGR) of 4.6% in the past five years, to reach $263.2 million in FY13.

Over the same period, dividends achieved a 7.2% CAGR, the steady growth in its dividends is an indicator that the business is doing well over the years.

Source: Company Annual Report

In 2Q14, the company’s quarterly revenue surpassed $1 billion for the first time, attributable to contributions from Metroline West, UK, acquired in mid-2013. For the full-year ahead, a boost in both revenue and earnings are expected due to a consolidation from the Metroline West acquisition.

Besides the impressive track record, another point I like about ComfortDelGro is its exposure to foreign markets. Today, its overseas operations contribute to more than 50% of its operating profit. It also currently ranks third in terms of market share for bus operations in the United Kingdom.

ComfortDelGro provides much more diversification and growth potential as compared to SMRT, which only operates in the local market. As the public transport market in Singapore saturates, the group is in a good position to expand its overseas businesses to propel growth.

Favourable outlook for local bus business

In May, the Land Transport Authority (LTA) announced that the public bus industry will shift towards a “government contracting model” in 2H16, in which it contracts bus operators through a competitive tendering process.

Under the new model, the government will own all bus infrastructure and operating assets such as buses and the fleet management system.

ComfortDelGro’s local public bus operation, through its 75% stake in SBS Transit. Ltd (SGX: S61), has been facing immense cost pressures in recent years. SBS’ core bus business has been recording operating losses since FY11, with a reported operating loss of $14.3 million in FY13.

Thus, in my opinion, the change bodes well for ComfortDelGro.

While there are worries that the new model will invite competition and erode ComfortDelGro’s market share, I think that the upsides outweighs the possible downsides.

For a start, LTA will bundle bus services into 12 packages and currently, only 3 packages will be put up for tender.

The remaining nine packages comprising approximately 80% of existing buses will be contracted to the incumbent operators for a period of five years, starting in August 2016, before being opened up to competitive tender. In this way, ComfortDelGro will retain its position as the market leader in the public bus industry at least till 2021.

Experienced in competitive tender

Furthermore, being the only company in Singapore with experience in operating public buses on a competitive tender basis from its bus operations in Australia and the UK, ComfortDelGro will have a certain competitive advantage over its rival.

Other than expecting a stable income stream for its public bus business under the new model, depreciation costs and capital expenditure (CAPEX) are expected to decrease as the government claims ownership of bus assets. In FY13, SBS recorded $61.9 million and an estimated $180.5 million in depreciation costs and CAPEX respectively.

Additionally, it is expected that the government will acquire all of SBS’ bus assets in 2016. Standard Chartered Research estimates that the sale would shift $1.1 billion from vehicles, premises and equipment to cash on the company’s (technically SBS, but ComfortDelgro owns 75%) balance sheet.

A reduction in CAPEX and the excess cash generated could translate to higher dividend payouts or see the capital diverted to drive its overseas ventures, which is increasingly the focus of the firm. Both are positive signs for investors.

Other possible catalysts

Apart from the positive catalyst from the change in the local public bus industry, improvement in contributions in the company’s local rail operations are anticipated, when the second phase of the Downtown Line commences in 2016.

Besides expecting moderate organic growth, I would assume that ComfortDelGro will continue to pursue possible mergers and acquisitions after seeing successes in majority of its overseas foray, evidence in the profitability of its overseas operations.

Source: Company Annual Reports

On the revenue front, although overseas contributions have hovered between 40.5% to 43.3% in the last five years, share of operating profit attributable to overseas operations has been increasingly yearly, reaching 49% in FY13 and surpassing 50 percent in 1H14.

The rapid urbanisation and the massive domestic market in China present a potential opportunity for ComfortDelGro to expand its taxi business in China. Currently, the firm has presence in 10 cities, including Beijing and Shanghai.

Down under, should the New South Wales government open up the remaining (estimated 75% of market) of the state-run bus routes to private bus operators, it would present a chance for the company to expand its operations in Australia as well.

In conclusion, with its taxi, inspection and testing and automotive engineering businesses guided to remain strong by the management, coupled with the likelihood of the group overcoming difficulties in the local bus scene and its growth potentials overseas, it is hard not to remain bullish on ComfortDelGro.

You can read the bear case here.

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