Category: Boring Investor

Oil & Gas, Show Me the Orders!

When I sold out of Keppel Corp in Jan at $6.16, my colleague laughed that I had sold too early. Nevertheless, I was pleased to get out of Keppel Corp before it announced results for 4Q2016. I was concerned that orders were not coming in fast enough to replace those orders that had been completed and that Keppel Offshore & Marine (O&M) would show a loss for 4Q2016. True enough, Keppel O&M reported a net loss of $138M for 4Q2016 after asset impairment. I was concerned that Keppel O&M would continue to report losses from that point onwards.
Nowadays, when I consider buying or selling Oil & Gas (O&G) stocks, I look at 2 key information. The first is where is the company positioned along the industry value chain (see My Upstream Oil & Gas Rescue Operations and My Downstream Oil & Gas Recovery Operations for more information). I do not mind the Exploration & Production companies that are at the start of the value chain and the Engineering, Procurement and Construction companies that are at the downstream side of the value chain, but not those in the middle, i.e. Offshore Support Vessel, oil services and ship/ rig building companies.
The other metric that I look at is orders-to-revenue ratio. This is similar to the book-to-bill ratio for the semiconductor industry. If the book-to-bill ratio is higher than 1, it means that the industry is expanding. Conversely, if the book-to-bill ratio is lower than 1, it means that the industry is contracting. Likewise, the orders-to-revenue ratio is able to show whether the companies are getting enough orders to sustain the business through the long and harsh O&G winter. The other way of looking at this metric is that orders will eventually translate to revenue down the road. If the order is $1, you cannot report a revenue of $2 later (nevertheless, you can do 2 years’ worth of work in 1 year and report revenue of $2, but the maths dictate that total revenue cannot exceed total orders over time). Thus, the orders-to-revenue ratio is an useful metric in analysing O&G companies.
Based on the above explanation, you will now understand why I sold Keppel Corp in Jan. In FY2016, Keppel O&M’s revenue was $2,854M. Its new orders secured over the same period was only about $500M. The orders-to-revenue ratio was only 0.18. A couple of years down the road, would Keppel O&M still be able to report profits based on annual revenue of $500M (or $1,000M if you combine 2 years’ worth of work into 1 year)? I thought it was unlikely. Thus, I was pleased to exit Keppel Corp at a price higher than my average cost of $6.08.
Nevertheless, I have to admit that Keppel O&M has continued to surprise me. For 1H2017, it still managed to report a net profit of $1M when I was expecting it to report a loss. And my assessment of Keppel Corp’s ability to navigate the rough waters remains unchanged (see Keppel Corp – A Good Captain Sailing Through Rough Waters).
This year, I have considered buying/ bought 3 O&G stocks. In all 3 cases, orders-to-revenue played a key role. The first was Dyna-Mac. Compared to the other O&G stocks, its level of debts is low and therefore has a higher chance of surviving the O&G winter. However, its orders-to-revenue ratio as at end Dec 2016 was only 0.06 (net book order of $12.8M versus FY2016 revenue of $204.0M). In other words, it only had enough work for 1 month and would be idling for 11 months if new orders could not be found quickly. I gave up the idea of buying it.
The second was Triyards. In FY2016, it obtained new orders of US$273.9M, versus revenue of US$324.9M, translating to an orders-to-revenue ratio of 0.84. Compared to Keppel O&M’s ratio of 0.18, this is considered very good. The other reason why I bought Triyards even though it is in the shipbuilding sector is because it is a distressed asset play. It is 60.9% owned by Ezra, which went into Chapter 11 bankruptcy protection in Mar. The shares had been pledged to the banks as collaterals for a secured loan. If the banks were to sell the shares, it would trigger a general offer for the remaining shares. As at end Feb 2017, Triyards’ net asset value was US$0.673. Unfortunately, in the latest results for 3Q2017, it reported a loss per share of US$0.208 due to asset impairment and cost overruns and the net asset value dropped to US$0.478.

The third stock was Rotary. My average cost was $0.62 and I wanted to average down for a long time. Last year, there was an opportunity to buy at $0.29, but I decided to give it a pass. In May this year, I bought at $0.37. The reason? Again, it is because of orders-to-revenue ratio. When it was trading at $0.29 last year, it only had outstanding orders of about $150M, versus FY2016 revenue of $233.9M. When it reported 1Q2017 results in May this year, the outstanding orders had increased to $435.9M. To me, it was not safe enough to buy at $0.29 last year, but safe enough to buy at $0.37 this year because of the increase in orders. 

As things turned out, I sold Keppel Corp and it went higher. I bought Triyards and it went lower. Nevertheless, the orders-to-revenue metric is sound and I will continue to use it to guide my investments in O&G stocks.

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When you apply for a loan from HDB to buy a flat, it will take all the money from your CPF Ordinary Account (OA) before giving you the loan. This is to reduce the loan amount that you need to service. If you wish to avoid an empty OA account, you can temporarily transfer some of your OA balance out of CPF before you apply for the HDB loan. The pros and cons for either approach are discussed in Clean Out CPF Balance When Taking HDB Housing Loan?
A reader recently asked me how to temporarily transfer some of the OA balance out of CPF. Note that I am not encouraging you to do it, but if you have a real need for keeping some money in the OA to meet future financial obligations such as buying/ servicing insurance policies or financing your family members’ tertiary education, below is one approach for doing it.
The approach I used is to invest in some safe investment instruments. As the objective is to temporarily park the cash outside of OA, the overriding principles are safety and liquidity of the investment. As there is a foreseeable use for the money in the future, it is of utmost importance that most of the money can be returned to your CPF account subsequently. Making a positive return on the money, although welcomed, is not crucial. Secondly, you also do not wish for your money to be locked-in in that investment for longer than is necessary. Typically, the aim is to withdraw the money 1 month before the HDB appointment date and return it 1 month after the HDB appointment, making it approximately 2-3 months of investment period. The longer the money is invested, the higher is the risk.
The instruments that you can invest 100% of your OA balance (note: you cannot invest the first $20,000 of the OA balance) are fixed deposits, government bonds, statutory board bonds, some insurance products and unit trusts. I chose short-term government bonds known as Singapore Government Securities (SGS). They have no credit risks and foreign exchange risks and have local banks providing liquidity as secondary traders. However, SGS are extremely difficult to trade. Before they were listed on the Singapore Exchange, I could only trade them by making a visit to the banks. Staff at the local bank branches practically never heard of them and had to consult their Treasury department at the headquarters every time I traded SGS. Moreover, bond trading is very different from share trading. There is the concept of clean price and dirty price. Clean price is the price that you see quoted on the market. Dirty price is clean price + accrued interest and is the price that you actually pay. It is complex enough, right? For this reason, I would not encourage this approach.
The simpler approach is to buy unit trusts that have the lowest risks and are eligible for CPF-OA investment. Suitable unit trusts are those that invest in (1) bonds, that are (2) short-term, (3) issued in Singapore dollars, and preferably (4) by the government. Bonds will reduce the price volatility compared to shares. Short-term (or short-duration) bonds will minimise the risk of interest rate going up and leading to a drop in bond prices. Bonds denominated in Singapore dollar will eliminate foreign exchange risks, and government bonds will avoid the risk of companies going belly-up. It is probably difficult to find a unit trust that invests in Singapore government bonds solely, so the next best is to have a mix of government and corporate bonds. Since most unit trusts invest in a lot of bonds, the risk of any one company going belly-up and affecting the price of the unit trust significantly is usually small. A good resource for finding suitable bond unit trusts is Fundsupermart.

So, after you have invested in the unit trust, complete the appointment with HDB, and 1 month later, after you have confirmed that HDB has completed its work, sell the unit trust and return the money back to your CPF account.

Lastly, please note that no investment is 100% capital guaranteed. There will be some transaction costs from buying and selling. And if interest rate rises during this period, some capital loss is unavoidable. But by choosing unit trusts that invest in short-term Singapore dollar denominated bonds, the risks are minimised.

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