SINGAPORE (Apr 30): On April 12, the Singapore Exchange questioned Hyflux on the unusual price movements of its shares. Hyflux replied that it had announced on Feb 27 that it had been approached by potential investors interested in a strategic investment in the company. Hyflux is in need of a significant cash infusion. A strategic investor would change the company’s investment thesis and provide the trigger for the prices of its shares, preference shares and perpetual securities to recover. Not so fast, though.
In Issue 816 (Feb 5, 2018) of The Edge Singapore, when Hyflux was trading at 38 cents, its preference shares at around 92 cents and its perpetual securities at 76 cents, we highlighted that the company had a weak capital structure. Hyflux closed at 26 cents on April 25, its preference shares at 67.1 cents and perpetual securities at 56 cents — an indication that the company remains under stress.
According to its annual report, at end-2017, Hyflux had a cash balance of $314.2 million, excluding the $77.2 million cash reported under assets held for sale. It had unutilised committed project finance loans of about $400 million that it could draw down on to support the completion of its ongoing projects. Hyflux also hoped to collect some receivables for engineering procurement construction work carried out in the Middle East and North Africa (MENA) region, its annual report states.
Whatever it does, the company does not have sufficient funds to redeem its $400 million 6% preference shares on April 25, hence the precipitous decline in its share price. Instead, it will step up the annual coupon from 6% to 8%. An investor buying the preference shares in the market would get a yield as high as 11.2%. The step-up will cost the company an additional $8 million a year. For FY2017, Hyflux paid $24 million in preference share dividends (see Table 4). The step-up will take the cost of the preference shares to $32 million a year, up a third.
Capital structure remains weak
The risk in buying these preference shares and perpetual securities — which at current prices yield 10.7% — is that Hyflux is not obligated to pay the coupon, nor does the company have to “call” these shares and securities. There is no obligation to pay distributions to holders of ordinary shares, preference shares and perpetual securities instruments, the annual report states. Preference shares and perpetual securities are subordinated to bonds. A deferral of distribution payments for preference shares and perpetual securities does not constitute a default. This is unlike bonds, where failure to pay the coupon at the appointed date represents a default, and bondholders have the right to take action against the issuer as was seen in the incidents of several bond defaults in the offshore and marine sector.
Hyflux’s share capital comprises $128.8 million worth of ordinary shares, $392 million worth of preference shares and $494.8 million of perpetual securities, unchanged from Sept 30, 2017 (see Table 5). Excluding the preference shares and perpetual securities, FY2017 shareholders’ equity was $95 million, Hyflux’s annual report states. Compare this with Citic Envirotech, also a water treatment company but with a stronger capital structure. Citic Envirotech has in issue $717.6 million of perpetual securities, comprising 39% of total equity. Although this is in the unhealthy range, it is much more robust than Hyflux’s. What Hyflux needs is an infusion of ordinary equity, which a strategic investor can bring to bear.
The company’s gearing ratio, excluding the impact of the preference shares and perpetual securities, stood at 1.2 times as at Dec 31, 2017, up from 0.87 times as at Dec 31, 2016. If the preference shares and perpetual securities are included, the gearing ratio would rise to around two times. As at end-2017, Hyflux had just $25.5 million in retained earnings, $25.8 million in employees’ share option reserve and $15 million in capital reserve.
The four million preference shares of $100 each — which were issued in 2011 — will now carry a dividend rate of 8%. The $500 million of perpetual securities are callable only in May 2020, but these are trading at a 44% discount to their issue price, which is a distressed valuation. It is almost as though the security holders are not expecting their perpetuals to be called.
Tuaspring to blame for financial stress?
When Hyflux undertook the mega Tuaspring Integrated Water and Power Plant project in 2011, it was funded through a mix of project financing and corporate financing, including the 6% preference shares, due for first call date redemption on April 25. “While the process has taken longer than initially expected, we remain committed to the partial divestment of Tuaspring IWPP at an acceptable price. In the light of the delay in divestment, the group is unlikely to complete any divestment deal ahead of the first call date in April 2018 for redemption of its preference shares. Consequently, it is likely that redemption of the preference shares will be deferred until divestment of Tuaspring IWPP is concluded,” Hyflux states.
Tuaspring’s desalination plant has a capacity of 318,500 cu m of water a day and can produce 411mw of power. It is an asset held for sale in Hyflux’s balance sheet despite its being on the market for more than a year. “The power market in Singapore remained weak, resulting in losses from Tuaspring IWPP of $81.9 million in 2017 against $114.5 million in 2016,” Hyflux’s annual report states. Including losses from Tuaspring IWPP, the group reported a loss of $116.4 million. Basic loss per share, adjusted for dividends on preference shares and perpetual securities, was 21.79 cents for 2017.
The China market contributed 10%, or $33.9 million, of total revenue in 2017, mainly from the Tianjin Dagang Desalination Plant. The company has also classified the Tianjin Dagang plant as an asset held for sale.
Total shareholders’ equity decreased from $1.5 billion as at end-2016 to $1 billion as at end-2017, owing to the redemption of $295 million of perpetual securities in January 2017 and the losses incurred from operations for 2017, the annual report states.
On April 6, the company announced that it had been awarded a contract by Asia Water Development Engineering Co to design, manufacture and supply a seawater reverse osmosis desalination plant in Bandar Abbas, Iran. The project is valued at €68.7 million ($111.1 million), with an additional €10.5 million for optional add-ons such as equipment and technical advisers. The contract is expected to contribute to the company’s earnings for the current year. Hyflux has sufficient cash and bank lines to undertake the project, the company says.
In the meantime, ordinary shareholders continue to receive increasingly lower returns (see bar chart). Only a strategic investor can save them, as proceeds from the sale of Tuaspring IWPP will be used to redeem the preference shares.
