2 Key Risks With Sembcorp Marine Ltd That Investors Must Note

Local offshore and marine giant Sembcorp Marine Ltd (SGX: S51) has had a tough year. Over the past 12 months, the rig builder has seen its shares crash by 35%.

That fall may just have thrown SembCorp Marine’s shares into the attention of bargain hunters. Based on its current price of S$2.29, trailing earnings of S$0.20 per share, and annual dividend of S$0.13 in 2014, SembCorp Marine’s carrying an attractive price-to-earnings (PE) ratio and dividend yield of 11 and 5.7%, respectively.

For some perspective, the SPDR STI ETF (SGX: ES3) – an exchange-traded fund tracking Singapore’s market barometer, the Straits Times Index (SGX: ^STI) – is valued at 12.2 times its earnings as of 10 November and sports a yield of 3.2%.

But, investors who are eyeing Sembcorp Marine’s low PE and high yield would have to take note of some crucial risks.

Signs of trouble

When it comes to detecting signs of future trouble with a company, the accounts receivable line item, which is found in a balance sheet, can be useful. The number can be understood simply as sales which have been booked but which are yet to be collected.

It’s normal to see accounts receivables on the balance sheet of any company. But, it’d pay to sit up and take notice when the line item starts growing much faster than sales. In his book Quality of Earnings, investor and author Thornton O’Glove warned:

“Whatever the cause, major increases in accounts receivables is a danger sign.”

Sharp spikes in receivables that are not accompanied by commensurate growth in revenue may be a sign that a company’s businesses are facing problems.

For instance, the firm may have been forced to slacken credit terms in order to retain customers and keep the business running. In other cases, the company may be plagued by rogue customers who either cannot pay or who are taking far longer than normal to settle their bills. There can be more.

Sembcorp Marine’s woes

With all the above in mind, let’s check out the following chart, which depicts how Sembcorp Marine’s revenues and accounts receivables have changed over the past few quarters:

Chart 1 - Sembcorp Marine's year-on-year growth rate for quarterly revenue and accounts receivable

Source: S&P Capital IQ; author’s calculation

I trust it’s obvious to see that Sembcorp Marine’s receivables have been rising year-on-year at striking double-digit percentages even as revenue has declined. Ballooning accounts receivables can result in cash-flow issues and when that’s coupled with a deteriorating and highly-geared balance sheet, a very combustible mix may result.

Chart 2 - Sembcorp Marine's net debt position

Source: S&P Capital IQ; author’s calculation

Over the same period as Chart 1, Sembcorp Marine’s balance sheet has weakened drastically, with its net cash position of S$1.47 billion in the first-quarter of 2014 becoming a net debt position of S$2.0 billion in the third-quarter of 2015. For some perspective, the rig builder ended the same quarter with just S$3.17 billion in equity and so, its current net debt level is not trivial.

A Fool’s take

None of all the above is meant to be the definitive word on the investing merits of Sembcorp Marine. The firm need not necessarily run into even deeper trouble in the future. But given the numbers we’ve looked at, investors may want to carefully consider the risks involved with the company.

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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 Chong Ser Jing doesn't own shares in any companies mentioned.