SMRT Corporation Ltd’s Investors: Are You Prepared To Pony Up More Cash?

I remember a time, some number of years ago, when my brokers were introducing me to public bus and train services provider SMRT Corporation Ltd (SGX: S53) as a safe and defensive stock that one can invest in at any time.

The reason, they surmised, is that SMRT served a captive market: Commuters in Singapore who would need the firm’s services to get from Point A to Point B come rain or shine. This trait made SMRT’s revenue recurring and predictable, similar to a utility company. These analyses were given to me by my broker back in the middle of 2007, when SMRT’s shares were trading in the neighbourhood of S$2.00 apiece.

For those of you who are aware of where SMRT is currently trading at (S$1.48; that represents a rough 25% decline from where it was in the middle of 2007), it turns out that investing in a defensive stock with a captive market and recurring incomes may not be the cinch that it seems to be.

The problems

There was a massive disruption to SMRT’s Mass Rapid Transit services just last week which affected a quarter of a million commuters and the company is currently still unsure of the real cause of the issue.

This breakdown in SMRT’s MRT service is the latest in a long string of service disruptions under the company over the last few years. It’s very likely that commuters aren’t happy with SMRT’s service quality currently and might thus feel resentful if the authorities allow more fare hikes to be implemented by the company, at least in the near future.

SMRT has been generating negative free cash flow in its past two fiscal years. Without a fare hike, the company might never be able to generate the cash flow needed to upgrade or simply maintain its assets to ensure better service quality in the future.

Debt may be used, but it’s also worth noting that the firm’s balance sheet has deteriorated significantly in recent years; SMRT’s total debt to equity ratio has ballooned from 19% in the fiscal year ended 31 March 2012 (FY2012) to 95.7% in FY2015.

So, SMRT is now caught between a rock and a hard place.

It needs more revenue (which can only come from a fare hike) to generate the much-needed cash flow to support capital expenditures to maintain or improve the level of its services. But, commuters are most likely going to be very resentful if fares are raised before any noticeable improvement’s seen in the firm’s service quality. And with a debt to equity ratio that already sits at 95.7%, taking on more borrowings does not seem to be a palatable choice.

The course of action that’s left

So, when we put everything together, it’d appear that the only source of capital that the firm can tap would be existing or prospective shareholders of the firm.

This means that there is a chance that the company may raise more capital by issuing new shares in the form of a rights issue (to get capital from existing shareholders), a private placement (capital from prospective investors), or a combination of both.

But even so, there’s a question to answer: Will SMRT’s existing shareholders be willing to invest more money into a company that has given them effectively zero returns over an eight year period from 10 July 2007 to 10 July 2015 even with dividends reinvested? I doubt most shareholders would be very happy if SMRT were to undertake a rights issue.

Meanwhile, the prospect of a private placement may not sit too well with existing shareholders too as they would run the risk of significant dilution. It’d be interesting to watch and see what eventually happens with SMRT.

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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 writer Stanley Lim does not own any companies mentioned above.