At the Fool, we believe that in order to find good shares to invest in, one has to start with figuring out how strong a company’s business is. And to do so, we can turn to the Rule Maker framework outlined by Motley Fool Chief Executive Officer Tom Gardner in his book Rule Breakers, Rule Makers. The Rule-Maker Framework Here’s how the framework looks like: Is the company selling low priced, everyday items? How does the business’s gross margins look like? What about its net margins? Is the company’s sales growing? What about its cash to debt ratio? Is its Foolish…
At the Fool, we believe that in order to find good shares to invest in, one has to start with figuring out how strong a company’s business is.
And to do so, we can turn to the Rule Maker framework outlined by Motley Fool Chief Executive Officer Tom Gardner in his book Rule Breakers, Rule Makers.
The Rule-Maker Framework
Here’s how the framework looks like:
- Is the company selling low priced, everyday items?
- How does the business’s gross margins look like?
- What about its net margins?
- Is the company’s sales growing?
- What about its cash to debt ratio?
- Is its Foolish Flow Ratio (a gauge of how fast the business can bring in cash) strong?
- Lastly, what’s your level of familiarity and interest with the business?
Figuring out SembCorp Marine
With that, let’s run SembCorp Marine Ltd (SGX: S51) through the framework today.
For some background, SembCorp Marine is a leading player in the offshore and marine industry. Its business is made out of three major sectors: Rig Building; Offshore and Conversion; and Repair. It is also majority owned by SembCorp Industries Limited (SGX: U96).
You can learn more about SembCorp Marine here.
So, here’s how the company fares against the Rule Maker framework (numbered in the same order as the seven criteria above):
- As a supplier to the oil and gas sector, SembCorp Marine thrives on large projects that are ordered by its customers. This typically wouldn’t be low cost projects that a customer will order on a daily basis and thus runs counter to Tom’s criteria.
- The gross margin for SembCorp Marine in 2014 came in at 14.4%.
- For 2014’s net margin, SembCorp Marine clocked in a figure of 10.3%.
- The nature of SembCorp Marine’s business means that its top-line can be volatile. Compared to 2009, revenue in 2014 is up less than 2%. However, in the five years between 2009 and 2014, revenue had hit a low of $3.9 billion in 2011 and a high of $5.8 billion in 2014.
- As of the end of 2014, SembCorp Marine had $1.08 billion in cash and equivalents, and $1.74 billion in borrowings. This gives a cash to debt ratio of 0.62, which is well below Tom’s desired ratio of at least 1.5.
- As of the end of 2014, SembCorp Marine had $1.08 billion in cash, $4.57 billion in current assets, and $3.45 billion in current liabilities. This gives a borderline Foolish Flow ratio of 1.01. One reason for the higher current assets is the relatively high inventories and work in progress ($3 billion) that SembCorp Marine holds.
- The depth and scale of the projects that SembCorp Marine undertakes may require an investor to have a strong technical background in order to have full understanding of the company’s competitive advantages.
Putting a company through the Rule Maker framework can help you size up the type of opportunity at hand.
With SembCorp Marine, we have a company with a volatile revenue base. The nature of the revenue may be lumpy, but SembCorp Marine is at least able to grind out fairly good net margins. That would be important, since the company is maintaining a borderline level of inventory and work in progress on its balance sheet.
Meanwhile, SembCorp Marine’s cash to debt ratio is also not ideal. So, the operational chops and financial discipline of the company will have to carry most of the financial weight.
As a final note, it is important understand that no one company is perfect.
With the characteristics defined above, the onus remains with the Foolish investor to decide if SembCorp Marine’s current share price provides an appropriate margin of safety and whether it fits into his or her portfolio.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong doesn’t own shares in any companies mentioned.