Values them at $2+ (reminder - they were at $0.90 prior to the...

Values them at $2+ (reminder - they were at $0.90 prior to the NMS takeover - currently $1.34)

See the full note at:

http://www.remisiers.org/cms_images/research/Jan14-Jan18_2013/MTQ_DMG-140113.pdf


NEPTUNE MARINE SERVICES: THE TURNAROUND ACQUISITION
The business. Neptune Marine Services is a subsea services operator. Its services include
dry underwater welding, subsea and pipeline engineering, offshore asset integrity
management, ROV services, hydrographic surveying, commercial diving, rope access and
platform IRM (inspection, repair, maintenance). Singapore-listed peers in a similar line
would be Kreuz Holdings and Mencast’s Unidive segment.
The price. MTQ is effectively purchasing Neptune at a potential maximum price of
A$59.6m, equivalent to a 31% discount to NAV and a 6.6% premium over Neptune’s
tangible book value. This effectively writes down A$26.97m of intangibles out of A$30.66m
on the books today. As of 11 Jan 2013, MTQ controls 80% of the total outstanding Neptune
shares.
The valuation. We believe that the subsea business is an attractive one, with operators
like Kreuz and Mencast’s Unidive enjoying an upswing in business, driven by a global
macro picture of increasing offshore oil & gas expenditure.
Figure 12 Now leaner and getting meaner
FYE 30 Jun (A$m) 2008 2009 2010 2011 2012
Cash and cash equivalents 18 24 22 11 8
Trade and other receivables 20 38 43 29 27
Inventory 3 5 6 3 3
Other current assets 1 2 8 8 9
Current Assets 42 70 78 51 47
Property, plant and equipment 23 69 82 25 25
Intangible assets and goodwill 115 146 164 63 31
Other longterm assets 118 151 169 70 34
Non-Current Assets 141 221 251 95 59
Total Assets 183 290 329 146 106
Trade and other payables 21 47 42 22 15
Borrowings: Current 2 13 39 4 1
Other current liabilities 4 9 2 1 1
Current Liabilities 28 68 83 27 18
Borrowings: Non-current 4 24 20 0 0
Other longterm liabilities 18 16 6 2 2
Non-Current Liabilities 22 40 25 2 2
Share capital 139 158 206 271 273
Other equity -6 24 15 -154 -186
Total Equity 134 182 221 117 87
Total Liabilities and Equity 183 290 329 146 106
Source: Company
Neptune Marine Services is an asset-light business – its key assets are its divers, welders,
and skills. On its books, physical equipment account for only A$25m out of A$106m of total
assets. As such, we believe that the acquisition price of 69% NAV and 1.066x NTA
represents a very attractive entry point.
Five years of indigestion. As can be seen in the income statements below, 2008 and
2009 were good and better years for Neptune. However, in the three years 2008 to 2010,
the previous management of Neptune went on an acquisition binge. Total investing
outflows in those years were A$187m, causing physical assets to balloon from A$23m to
A$82m and intangible assets to jump from A$115m to A$164m.
Figure 13 The good old days
FYE 30 Jun (A$m) 2008 2009 2010 2011 2012
Revenue 86.7 189.0 179.4 118.2 116.4
Cost of sales (41.5) (99.8) (124.9) (73.9) (78.5)
Gross profit 45.2 89.1 54.5 44.3 38.0
Other income 1.9 2.0 2.3 1.1 0.0
Marketing expenses (0.5) (1.0) (0.8) (0.4) (0.2)
Occupancy expenses (2.1) (4.4) (4.9) (4.3) (3.7)
Corporate, shared services and Board expenses (10.3) (50.7) (48.1) (16.9) (12.1)
Business operating expenses (21.4) 0.0 0.0 (36.1) (19.2)
Technical expenses (0.0) (0.3) (0.2) (0.3) (0.3)
Forex gains and derivative gains (0.1) (0.1) 2.7 0.0 0.0
Other operating expenses (0.5) 0.0 0.0 (6.9) (0.5)
Finance costs (2.4) (4.9) (5.2) (3.7) (0.1)
Profit before tax 9.8 29.9 0.3 (23.1) 1.9
Income tax expense (2.4) (8.9) 0.6 (2.1) (0.7)
Exceptional losses 0.0 0.0 0.0 (103.2) (35.0)
Discontinued operations 0.0 0.0 0.0 (14.9) (6.1)
Profit after tax and minority interest 7.4 21.0 0.8 (143.3) (39.9)
Source: Company
Like every case study in business school, the financial consequences came quickly. 2010
saw a top line similar to 2009, but the sharply increased cost structure created a mere
breakeven performance. Neptune bit the bullet and made a massive A$103m writedown in
2011 on the back of a A$23m loss before tax, and took another $35m charge in 2012,
discontinuing certain operations in both years.
Back to basics. Today, Neptune is convalescing. Having written down almost all its
intangibles (and with the further writedown implicit in MTQ’s offer price), the downside risk
to accounting profits has been capped. Following the sales of the Australian fabrication
business and the US diving business, Neptune has refocused onto its core business of
subsea services. The slide below is from a Feb-11 presentation by Neptune management
titled “Back to Basics”, and we note that all the actions have been implemented as of today.
Figure 14 Neptune’s Rationalisation plan: Businesses and assets
Source: Company
The doctor is in. With MTQ now controlling Neptune, an interesting set of opportunities
opens up. Management has indicated that a key strategy will be cross-selling of services,
and taking Neptune’s skills beyond Australia. We can easily see the synergies – MTQ’s
equipment service business can be packaged with Neptune’s IRM services in Australia.
Neptune’s divers can be taken out of Australia and deployed in the region, inspecting and
servicing equipment for MTQ’s customers.
Balance sheet is clean. Neptune is debt-free, being in a A$6m net cash position. With
A$47m of current assets and $17.5m of current liabilities, working capital is a strong
A$29.5m and the current ratio is strong at 2.7x. Long-term liabilities are insignificant at
A$2m. Having been recapitalised, Neptune is now an equity-funded entity with total assets
of $106m and total equity of $86.6m. With such a strong balance sheet, MTQ is purchasing
a company with negligible insolvency risk.
Margin challenges ahead. While costs are down to 2008 levels, margins are not. The
strong profits of 2008-09 were during the good days when margins were in excess of 50%.
We do not think that there will be a return to those margins, but today comparables like
Kreuz are delivering stellar bottom-line performances with gross margins at 34%. For
Neptune, we think that gross margins will stabilise at the 30-35% range, similar to peers’.
Figure 15 The good old days
0%
10%
20%
30%
40%
50%
60%
70%
2005 2006 2007 2008 2009 2010 2011 2012
Gross Margin
Source: Company, OSK
More importantly, future profits. Neptune has been slashing overheads with operating
costs down from A$64m in 2011 to A$36m in 2012, back to 2008 levels.
Figure 16 Costs are back to basics too
0.0
10.0
20.0
30.0
40.0
50.0
60.0
70.0
2008 2009 2010 2011 2012
Overheads (A$m)
Source: Company, OSK
Can management further slash overheads? We think so. While details are sparse, there are
plans to relocate offices out of the expensive Central Business District area, and also to
improve efficiencies in the business. We also think that duplicate functions can be
streamlined. Now that Neptune is a subsidiary of MTQ, there are potential savings in the
“Corporate, shared services and Board expenses” line.
Neptune-overhead-to-MTQ-profit elasticity of -1.6. A small cost reduction could have a
significant impact on MTQ’s bottom line. If Neptune can cut costs by another 10%, the
A$3.6m savings translate into an after-tax S$3.2m, which is a fairly large 16.6% of our
FY13F PATMI of S$19m.

All eyes on Neptune Marine Services. Neptune is a very large investment – at S$60m it is 55% of MTQ’s current market cap. While it offers a potentially very large upside to earnings, it could also become a performance drag like the engine systems segment. An ameliorating factor is cross-selling – this has potentially more synergy than the engine systems segment does with oilfield engineering.