Investors should consider the motivations of major shareholders in Sembcorp Marine’s deals

MARIE Antoinette probably never uttered the words, “Let them eat cake”. But her alleged response to being told that the peasants of France had no bread is a widely understood allusion to the mighty being callously indifferent to the plight of the weak.

The phrase came to mind while I was reading a report in The Business Times earlier this month about Sembcorp Industries (SCI) contemplating a special dividend after delivering blowout financial numbers for H1 2022.

“We want to make sure the cake is cut in a manner where everyone gets fairly allocated a slice of the cake,” said SCI’s chief executive, Wong Kim Yin, during a media and analyst briefing on Aug 5.

Tell that to minority shareholders of Sembcorp Marine (SCM). The beleaguered offshore and marine player was once a 61 per cent-owned subsidiary of SCI, and many minority investors assumed they could count on the financial backing of the major shareholder.

Just before the recapitalisation of Sembmarine and its demerger from SCI were announced in 2020, Sembmarine’s share price rallied strongly – an indication that the market was expecting some kind of offer.

Instead, Sembmarine and SCI unveiled a corporate exercise that crashed Sembmarine’s stock price. Sembmarine tapped its shareholders for S$2.1 billion through a deeply discounted rights issue, and used the bulk of the proceeds to repay a S$1.5 billion subordinated loan from SCI.

SCI then offloaded its shares in the recapitalised Sembmarine to its own shareholders as a distribution in-specie.

The whole episode is a useful case study for investors on the importance of being alert to the shifting priorities of a public-listed company’s major shareholder.

SCI’s share price has been on a strong upward trajectory since it cut Sembmarine loose. The company’s sharply improved profitability on the back of higher energy prices is now adding to the momentum.

On Aug 5, SCI reported a 94 per cent jump in earnings before exceptional items to S$490 million for the 6 months to June 30. Revenue was up 45 per cent to S$4.76 billion for the half-year period.

With this strong performance, SCI shareholders will receive a big slice of cake this week – in the form of a higher interim dividend of S$0.04 per share that will be paid on Aug 23.

SCI paid total dividends of S$0.05 per share for 2021, comprising an interim dividend of S$0.02 per share and a final dividend of S$0.03 per share.

Sembmarine still in the red

It is unclear exactly when SCI made the decision to cast off Sembmarine and doom its minority shareholders. But it might have been only a matter of time before this “Marie Antoinette moment” happened.

Shareholders of SCI would not be feasting on cake now if the group had kept Sembmarine in its fold. Even after its recapitalisation in 2020, Sembmarine had to raise a further S$1.5 billion through another deeply discounted rights issue last year to cope with the fallout of the pandemic.

While Sembmarine is now showing promising signs of recovery, it is still in the red. It recently reported a net loss of S$142.9 million for the 6 months to Jun 30, versus a net loss of S$647.2 million for the same period in 2021. Revenue for the half-year was up nearly 30 per cent to S$1.1 billion.

On the other hand, it would have been tricky for SCI to pull off a sale of Sembmarine. Before the recapitalisation and demerger was announced in 2020, the market value of SCI’s 61 per cent stake in Sembmarine was less than S$1.1 billion – well short of its S$1.5 billion subordinated loan.

Moreover, the most obvious buyer – Keppel Corp – was itself looking to exit the offshore and marine sector.

Navigating Sembmarine-KOM merger

Focusing on the likely motivations of controlling shareholders might help investors safely navigate the proposed merger of Sembmarine and Keppel Offshore & Marine (KOM).

For starters, the reason this merger is happening at all – after years of talk in the market about the strategic benefits of such a deal – is that SCI and Keppel both want out of the offshore and marine business.

As the controlling shareholder of SCI and Keppel, Temasek will eventually end up with direct control of their offshore and marine assets.

Temasek has already obtained 17.1 billion Sembmarine shares – through SCI’s distribution in-specie and its support of Sembmarine’s rights issues – at an average price of S$0.067 per share. These shares represent a nearly 54.6 per cent stake in Sembmarine. (see *Amendment note)

Under the merger with KOM, shareholders of Sembmarine will swap their 31.4 billion shares for new shares in a shell company on a 1-for-1 basis. The shell company – which will assume the listing status of Sembmarine – will then issue 39.9 billion shares to acquire KOM.

In addition to the 39.9 billion shares in the combined entity, Keppel will also receive a S$500 million cash payment from KOM as part of the deal.

Keppel has said it will subsequently offload a 46 per cent stake in the combined entity via a distribution-in-specie to its own shareholders. This will see Temasek receiving nearly 6.8 billion additional shares in the combined entity, based on its 20.6 per cent stake in Keppel.

Following the whole merger exercise, Temasek will hold more than 23.9 billion shares in the combined entity – representing a 33.5 per cent stake – at an average price of S$0.048 per share. This is less than half Sembmarine’s current market price of S$0.110.

While investors should give due consideration to fundamental metrics like the combined entity’s projected order book, revenue and earnings base, debt levels and book value, it is probably just as important for them to not lose sight of the major shareholder’s likely purpose.

SCI has unlocked significant value by exiting the offshore and marine sector, and Keppel probably will too. This benefits their shareholders, and is perhaps the reason Temasek is helping to facilitate the process.

Yet, the low price at which Temasek is acquiring the offshore and marine units of SCI and Keppel should give minority shareholders of Sembmarine pause.

Activity in the offshore and marine sector will probably improve with higher oil prices. As the global energy sector transitions, however, there may be more strategic investments and initiatives ahead for the combined entity.

Investing in Sembmarine at a price close to what Temasek is paying could be the key to getting a decent slice of cake in the future.

*Amendment note: An earlier version of this column incorrectly stated the average price of Temasek’s current stake in Sembmarine to be S$0.67 per share instead of S$0.067 per share.