PP 7767/09/2010(025354)

Malaysia RHB Research

Institute Sdn Bhd
A member of the
RHB Banking Group
Company No: 233327 -M

New Listing 14 April 2010

MARKET DATELINE

Seremban Engineering Offer Price : RM0.85

Fair Value : RM1.06

Public Issue Of 28.0m New Shares

Table 1: Investment Statistics Bloomberg: 992962Z MK

Pre-tax Net EPS
FYE Turnover Profit Profit EPS Growth PER P/NTA ROE Gearing GDY
Dec (RMm) (RMm) (RMm) (sen) (%) (x) (x) (%) (x) (%)
2009 69.0 12.2 9.0 11.3 16.8 9.4 1.6 17.1 Net Cash 6.5
2010f 78.3 16.1 10.6 13.2 17.6 8.0 1.5 18.5 Net Cash 6.9
2011f 93.9 20.1 13.4 16.8 26.5 6.3 1.3 16.4 Net Cash 7.1
2012f 111.0 24.8 16.7 20.9 24.8 5.1 1.1 14.3 Net Cash 8.9
Valuations based on estimated fair value of RM1.06/share

Issued capital (m shares) 80.0 (RM0.50 par) Market capitalisation (RMm) 84.8

X Background. Seremban Engineering Berhad (SEB) is principally involved in

LISTING DETAILS
the design, fabrication and installation of process equipment and metal
Listing Sought : Bursa Malaysia
structures for a wide range of industries, such as palm oil, oil & gas, bio-
Main Market
diesel, food and waste management. SEB derives its income from two main
businesses i.e. fabrication business and maintenance services. Listing Date : 10 May 2010
X FY09-12 revenue CAGR of 13%. We estimate SEB’s FY09-12 revenue
CAGR of 12.6%, which is driven mainly by: 1) Higher E&P spending in 2H Public Issue : 28m shares
including:
2010; and 2) Capacity expansion by plantation companies in Indonesia.
-8.0m to
X Strong partnership with global engineering services companies. shareholders of
Besides end-users, SEB provides fabrication equipment to large engineering Success
services companies i.e. Lipico Technologies and Desmet Ballestra, which are Transformers via
extensively involved in the oil and fats industries in Asia. Given these two 1-for-15
renounceable
companies’ long experience and extensive end-customer base in the oil and
restricted offer
fats industries, SEB would be able to gain access to a wider customer base -3.5m to
without the need to invest and establish an overseas network, in our view. employees
X Risks. 1) Intense competition from established players; 2) Overseas -10.0m private
contracts; 3) Rising steel costs; and 4) Dependence on two key customers. placement
- 6.5m to
X Forecasts. Based on secured contracts and assuming a 15% success rate
Malaysian public
with new bids, we have projected FY10 net profit of RM10.6m (in line with
SEB’s forecast), and thereafter growing by 26% for FY11 and 24% for FY12. MAJOR SHAREHOLDERS
We have assumed FY10-12 EBITDA margins remain stable at around 23%
Tan Ah Bah…………………………..70.1%
p.a. due to higher contribution from higher-margin value-added engineering
Wong Choon Cheon………..……..1.2%
services, which will partly mitigate the margin erosion arising from
competitive pressure in the UPV and HE fabrication jobs.
X Valuations. Industry peers including CBIP, KNM, APB, Kencana and Wah
Seong are trading at an average of 12.7x FY10 PER against 13.6x for the
broader oil and gas sector. By giving a 37% discount to the market-cap
weighted average to reflect SEB’s smaller market capitalisation as well as its
still-low exposure to the O&G segment, we derive a target PER of 8.0x.
Hence, based on our FY10 earnings estimate, and applying 8.0x FY10 PER Wong Chin Wai
(603) 92802158
suggests a fair value of RM1.06/share for SEB or 24.7% upside from the IPO wong.chin.wai@rhb.com.my
price of RM0.85.

Please read important disclosures at the end of this report.

BUSINESS BACKGROUND

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 14 April 2010

X Background. Seremban Engineering Berhad (SEB) is primarily involved in the design, fabrication and
installation of process equipment and metal structure for a wide range of industries, such as palm oil, oil &
gas, bio-diesel, food and waste management. Established in 1979, the company began its business in the
provision of engineering services (i.e. precision machining) for the automotive industries before gradually
expanding and diversifying into the fabrication business. In March 2007, Success Transformer Corporation
(STC) acquired 60% equity stake in SEB for RM14.6m and acquired the remaining 40% for RM21.8m in April
2008. Currently, the company has five plants which are based in Senawang, Negeri Sembilan.

X Product and services. SEB derives its income from two main businesses:
1) Fabrication business. The company is principally involved in the provision of design, fabrication and
installation of process equipment, steel structures and platform as well as pipings.
2) Maintenance services. SEB provides higher-margin maintenance and shutdown services for plants as well
as equipment testing. This segment contributes 5.6% of its FY09 revenue.

Table 2: Corporate Structure & Principal Activities

Companies Shareholding Operations

(%)

SEB 100 Investment holding and fabrication of process equipment and metal
structures as well as provision of maintenance and shutdown services

Seremban Engineering 100 Supply of labour for SEB’s fabrication operations

Industries S/B

Sepen Engineering S/B 60 Fabrication of process equipment and metal structures

ACE Standard International Ltd 50 Currently dormant; proposed business activity of provision of
environmental cleaning services for O&G industries

Source: IPO prospectus

X Competitive landscape. We understand that SEB operates in a highly fragmented industry with 18 and 33
companies involved in the fabrication of process equipment for the palm oil and oil and gas industries
respectively. For the palm oil sector, SEB is competing against CBIP and Muar Ban Lee as well as smaller
fabricators in the manufacturing of process boilers. In the oil and gas segment, some of the peers would
include KNM, APB, Kencana and Wah Seong, although we highlight SEB produces the lower-end products.

Table 3: Peers For Various Products And Services

Industries Peers

Palm Oil CBIP, Muar Ban Lee

Oil and Gas KNM, APB, Kencana, Wah Seong

Source: RHBRI

X Long working relationship with global engineering services companies. Overseas contracts make up
about 54% of SEB’s total contracts currently, with the bulk of these contracts from Indonesia and Thailand.
The company supplies process equipment and metal structures for the palm oil, petrochemical, food
processing and O&G industries (see Table 4). While revenue contribution from the O&G segment is on a rising
trend, we note that the palm oil industry is still the largest contributor to its revenue (i.e. 81% of FY09
revenue). Besides end-users, SEB also provides fabrication equipment to large engineering services
companies i.e. Lipico Technologies and Desmet Ballestra, which are extensively involved in the oil and fats
industries in Asia. Given these two companies’ long experience and extensive end-customer base in the oil
and fats industries, SEB would be able to gain access to a wider customer base without the need to invest
and establish overseas network, in our view.

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 14 April 2010

Table 4: Major Customers

Industries % Clients

Palm Oil Lipico Technologies, Desmet Ballestra, KLK, Sime Darby

81

Petrochemical Cabot, Redox Polymers, Ansell, Cal Polymers International

5

Food Processing Nestle, Phillip Morris, Malaysian Cocoa Manufacturing

3

O&G Favello Favco Cranes, Shell Refining Industries, Misi Setia Oil & Gas
8

Source: Company

BUSINESS OUTLOOK

X FY09-12 revenue CAGR of 13%. We estimate SEB’s FY09-12 revenue CAGR of 12.6%, which is driven
mainly by:
1) Higher E&P spending in 2H 2010. While delays in final investment decisions on major projects would
persist in 1H 2010, we believe E&P spending would pick up momentum in 2H 2010 given the gradual
increase in crude oil price as well as stabilisation of project costs. We highlight that projects cannot be
postponed indefinitely as declining production at more mature oilfields will have to be offset by resources
that are increasingly located in frontier areas (i.e. deepwater and oil sands) as well as through enhanced
oil recovery (EOR) activities for the current brownfield blocks i.e. to boost current output level. We
believe Petronas and other national oil companies would need to restart greenfield upstream projects in a
more substantial way in 2H 2010 to sustain longer-term production targets. In addition, leading
indicators such as improving rigs activities and increase in oil sands investment as well as uptick in FPSO
leasing market further reinforce our view that E&P spending would pick up momentum in 2H 2010.

2) Capacity expansion by plantation companies in Indonesia. The USDA predicts CPO production
would grow at a 5-year CAGR of 6-7% p.a. to 2015, which we expect to come mostly from Indonesia.
While there are only another 300,000ha left to be planted in Malaysia, an estimated 10m ha of land are
still available to be planted in Indonesia, based on the government’s previously stated maximum palm oil
land area of 18m ha. Hence, we believe demand for process equipment would remain resilient over the
long-term given the increase in CPO production arising from the landbank expansion by local and
Indonesian plantation companies in Indonesia. Note that we expect Indonesia’s CPO production to grow
at a 5-year CAGR of 10% p.a. over the next five years.

X Expansion plans. Going forward, SEB is looking to grow its business through the following initiatives:

1) Capacity expansion. The company expects to increase its capacity by 10% in FY10 via its new
fabrication yard in Rawang. Note that Sepen (60%-owned subsidiary) acquired the 1.68 acres industrial
land in Rawang for RM1.6m back in May 2009. SEB will utilise the new yard for the fabrication of process
equipment for the food processing and pharmaceutical industries.

2) Expansion in fabrication capabilities. SEB aims to be a one-stop metal fabrication centre via expansion
of its Seremban fabrication capabilities. According to management, the new equipment would also
improve its efficiency and quality (due to less reliance on manual labour) as well as reduce its fabrication
costs (given less dependency on third-party subcontracting houses). Note that around 30-40% of the
gross proceeds from the listing will be used for the purchase of equipment and machines for the
Seremban facilities (i.e. laser cutting machines, welding equipment as well as a sand blasting and painting
facility).

3) Grow its overseas business. The company expects overseas demand for unfired pressure vessel (UPV)
and heat exchanger (HE) fabrications to rise given capacity expansion by plantation companies in
Indonesia as well as resilient demand for fat and oil processing plants in Singapore. Nevertheless, we
highlight that SEB is gaining inroads into overseas market via referrals by large engineering services
companies such as Lipico Technologies and Desmet Ballestra.

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X Moving up the value chain. We are positive on SEB’s strategy of moving up the value chain, i.e. shifting
from fabrication of process equipment to higher-margin plant maintenance and shut-down services.
According to management, plant maintenance services have a gross margin of around 35-40% (vs. typical
fabrication jobs of 23-27%). Going forward, SEB expects to grow its value-added engineering services such
as environmental cleaning services (via 50%-owned ACE Standard International) as well as turnkey service
provider for waste treatment plants (given the success in building South East Asia’s largest sludge treatment
plant in Singapore).

X Orderbook and tenders. SEB currently has an orderbook of around RM13.9m, which would last for 3-6
months. The company has tendered for around RM50.0m worth of new contracts. Management highlighted
that the company has won 15% of the total contracts that it has tendered for since 2000.

X Risks. We believe the company faces a number of risks, including:

1) Competition – Potential stiff competition from more establish players such as CBIP, Muar Ban Lee, KNM
and Kencana. However, we believe competition risk is mitigated by SEB’s proven track record with Lipico
Technologies and Desmet Ballestra and ability to offer turnkey fabrication services.

2) Overseas contracts. While contracts from overseas remain strong, we highlight the risk of potential
margin erosion stemming from intense competition and cost overruns. Furthermore, overseas projects
tend to have higher operation (i.e. disruption in raw material supplies and high overhead cost) and
contract risks (project deferment, change orders, delayed progressive billings, charges due to delays in
delivery), which in turn could result in cost overruns and massive write downs.

3) Steel costs. In general, rising steel prices pose a threat to fabricators’ margins given that significant
amount of steel is used for fabrication works. According to management, steel costs account for 40-50%
of its total cost. For the oil and gas industry, majority of steel materials are sourced from overseas (i.e.
Japan, South Korea, Russia and China) as locally produced steel materials are not suitable (mainly due to
higher specification required i.e. API standard). Furthermore, customers often specify the type and source
of steel to be used for their projects. While SEB can easily pass on increases in raw material costs to its
customers, we highlight the risk of losing out to more aggressive competitors.

4) Dependence on two key customers. SEB's revenue is mostly derived from Lipico Technologies and
Desmet Ballestra (see Table 4). If any of the above customers discontinue the service from SEB, the
company may lose significant market share and consequently lower the company's earnings, in our
opinion.

Table 5. Utilisation Of Proceeds From The Public Issue

RMm

Purchase of plant and machinery as well as extension/upgrading of properties 9.0

Repayment of bank borrowings 3.0

Working capital 2.9

Defray estimated listing expenses 2.0

Total 16.9
Source: IPO Prospectus

FORECASTS AND VALUATIONS

X Forecasts. Based on secured contracts and assuming a 15% success rate with new bids, we have projected
FY10 net profit of RM10.6m (in line with SEB’s forecast), and thereafter growing by 26% for FY11 and 24% for
FY12. We have assumed FY10-12 EBITDA margins to remain stable at around 23% p.a. due to higher
contribution from higher-margin value-added engineering services, which will partly mitigate the margin
erosion arising from competitive pressure in the UPV and HE fabrication jobs. Upon listing, SEB will have net
cash of RM1.7m.

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 14 April 2010

X Valuations. Industry peers including CBIP, KNM, APB, Kencana and Wah Seong are trading at an average of
12.7x FY10 PER while the broader oil and gas sector is trading at around 13.6x FY10 PER. By giving a 37%
discount to the market-cap weighted average to reflect SEB’s smaller market capitalisation as well as its still-
low exposure to the O&G segment, we derive a target PER of 8.0x. Accordingly, we derive a fair value of
RM1.06/share based on FY10 target PER of 8.0x. There is more upside in FY10-12 if the company wins more
contracts (especially for UPV and HE fabrication jobs), but we highlight that its peers for the palm oil segment
(such as CBIP and Muar Ban Lee) are currently trading at relatively low valuations.

Table 6. Peers Comparison

Company Bloomberg ticker FY10 PER (x)

CBIP CBP MK 6.4

Muar Ban Lee MBL MK 5.4
KNM KNMG MK 12.7
APB APBB MK 6.4
Kencana KEPB MK 13.3
Wah Seong WSC MK 13.6
Direct peers average 12.7

Broader oil and gas sector (based on RHBRI coverage of oil and gas stocks) 13.6

Source: RHBRI, Bloomberg

Table 7. Forecasts And Valuations

FYE Dec (RMm) 2009 2010f 2011f 2012f

Fabrication 65.1 73.6 88.3 104.2

Maintenance Services 3.9 4.7 5.6 6.7
Revenue 69.0 78.3 93.9 111.0
Growth (%) 11.2 13.4 20.0 18.1

Gross Profit 17.3 21.6 26.0 30.8

Gross margin (%) 25.1 27.6 27.7 27.8

EBITDA 13.9 18.1 21.3 25.3

EBITDA margins (%) 20.1 23.1 22.7 22.8
Depreciation (1.2) (1.3) (1.4) (1.6)

EBIT 12.7 16.8 19.9 23.7

Interest expense (0.6) (0.7) (0.8) (0.9)
Interest income 0.1 0.1 0.1 0.1
Share of associates (0.0) (0.1) 0.9 1.9

PBT 12.2 16.1 20.1 24.8

Tax (2.9) (4.9) (6.1) (7.5)
Effective tax rate (%) (23.9) (30.4) (30.3) (30.2)

Net profit 9.0 10.6 13.4 16.7

Source: Company data, RHBRI’s estimates and forecasts

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IMPORTANT DISCLOSURES
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Bank Berhad (previously known as RHB Sakura Merchant Bankers Berhad). It is for distribution only under such circumstances as may be permitted
by applicable law. The opinions and information contained herein are based on generally available data believed to be reliable and are subject to
change without notice, and may differ or be contrary to opinions expressed by other business units within the RHB Group as a result of using different
assumptions and criteria. This report is not to be construed as an offer, invitation or solicitation to buy or sell the securities covered herein. RHBRI
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report.

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The recommendation framework for stocks and sectors are as follows : -

Stock Ratings

Outperform = The stock return is expected to exceed the FBM KLCI benchmark by greater than five percentage points over the next 6-12 months.

Trading Buy = Short-term positive development on the stock that could lead to a re-rating in the share price and translate into an absolute return of
15% or more over a period of three months, but fundamentals are not strong enough to warrant an Outperform call. It is generally for investors who
are willing to take on higher risks.

Market Perform = The stock return is expected to be in line with the FBM KLCI benchmark (+/- five percentage points) over the next 6-12 months.

Underperform = The stock return is expected to underperform the FBM KLCI benchmark by more than five percentage points over the next 6-12
months.

Industry/Sector Ratings
Overweight = Industry expected to outperform the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

Neutral = Industry expected to perform in line with the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

Underweight = Industry expected to underperform the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

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