Serba Dinamik’s margins for MRO contracts seen to remain healthy

This article first appeared in The Edge Financial Daily, on February 8, 2019.
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Serba Dinamik Holdings Bhd
(Feb 7, RM3.73)
Maintain buy at an unchanged target price (TP) of RM4.91:
We visited Serba Dinamik Holdings Bhd (Serba)’s operations at Terengganu, comprising: Paka Service Centre (PSC),  28MLD membrane water treatment (MWT) plant project site at Pulau Bahagia, and 3MLD mobile membrane filter plant unit. Activities were brisk at PSC, underpinned by a robust order book. In particular, PSC is busy with turnaround works for Petronas Chemicals’ plants in Kerteh. On the other hand, progress is slow for Pulau Bahagia MWT, as the new state government is currently reviewing project details. We maintain “buy” on Serba with a target price of RM4.91, based on 15 times calendar year (CY19) price earnings ratio (PER). Our optimism is underpinned by the group’s robust order book and earnings. To recap, in 1Q17, Serba purchased a 40% stake in Konsortium Amanie (Amanie) for RM34 million. Amanie has secured a RM1.3 billion (including financial costs) project from the Terengganu state government for the development of the Kuala Terengganu Utara Water Supply Scheme (KTUWS). This project, with construction cost of RM800 million, comprises: 120 million litres per day (MLD) conventional water treatment plant,  28 MLD ultra filtration MWT plant, and  intakes, service tank, installation of raw water and clean water pipes, retrofitting and other works.

The state government will pay Amanie on staggered basis over a period of 12 years. This translates into associate contribution of RM3.2 milllion per annum (pa) to the group. Following Serba’s entry as stakeholder, the group was novated EPCC (engineering, procurement, construction and commissioning) works for the 28MLD MWT plant, valued at RM290 million. Additionally; Serba is eyeing the upcoming contract tender for MWT’s operations and maintenance (O&M). We believe the group has high chance of success, given its status as incumbent EPCC contractor. Whereas for the larger 120MLD conventional plant, EPCC works were awarded to Salcon Bhd.

The mobile 3MLD membrane filter plant unit built by Serba at the Pulau Bahagia project site is operating smoothly. To recap, this mini mobile unit is a temporary fixture, and intended as proof-of-concept for the MWT plant. Meanwhile, for KTUWS, progress had reached 19.9% completion as at Dec 25, 2018. This implies a slight delay versus scheduled completion of 24.45%. This is due to: 1) the recent monsoon season affected earthworks clearing activities, and 2) project review by the state. Nevertheless, Serba has completed the design survey for its MWT plant project, and secured land acquisition approvals.

According to management, the new state government has extended KTUWS’ completion date by one year to May 2020. This was to enable a review of project details, including the possibility of: lowering MWT’s operational costs post-completion, and  revised delineation of geographical coverage areas. Nevertheless, management gave the assurance that Serba’s original EPCC contract value of RM290 million remained intact, in spite of any revisions. This is given that any reduction in project costs will be compensated by additional work in other areas.

PSC workshop provides maintenance, repair & overhaul (MRO) and inspection, repair & maintenance (IRM) services for rotating machinery. This is via capabilities in machining, equipment overhaul, fabrication, and electrical & instrumentation. Additionally, there are training facilities at PSC, for practical training and certification of technicians. This enables Serba to offer complimentary training for clients to enhance its product offering. On top of that, PSC receives trainees sponsored by the government via the Teraju programme. Typically, Teraju-sponsored graduates are recruited by Serba. This enables the group to benefit on two fronts, namely:- 1) training revenue, and 2) supply of skilled manpower. The latter is pertinent, given that manpower costs account for 20%-40% of workshop operations

PSC is strategically located near Kerteh, which is home to Petronas group’s integrated O&G facilities. Accordingly, PSC’s outstanding order book, comprises mainly contracts from Petronas. Additionally, PSC is also executing works for KTUWS, including MRO for old equipment and parts. Given PSC’s long track record and local content, its contracts are usually extended by Petronas based on direct negotiation. According to management, gross margins for its MRO contracts remain healthy, at 12%-16%. The respectable margins are partially driven by PSC’s value added reverse engineering capability. This enables Serba to replace old equipment parts that are no longer available in the market. The parts would be sourced externally or fabricated in-house by the group.

PSC is essentially the heart of Serba’s IRM & MRO operations in Peninsular Malaysia. — TA Securities , Feb 7