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Sealegs Corporation — Update 23 November 2015

Sealegs Corporation — Update 23 November 2015

Sealegs Corporation

Analyst avatar placeholder

Written by

Sealegs Corporation

Sea change

H1 results

Industrial engineering

25 November 2015

Price

NZ$0.12

Market cap

NZ$16m

Net cash (NZ$m) at 30 September 2015

0.8

Shares in issue

134m

Free float

33.2%

Code

SLG

Primary exchange

NZX

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

15.0

62.0

(11.5)

Rel (local)

13.2

56.2

(16.1)

52-week high/low

NZ$0.14

NZ$0.106

Business description

Sealegs Corporation is a manufacturer of amphibious craft and amphibious enablement systems. It is based in Auckland, New Zealand, and sells its products worldwide.

Next event

FY16 results

May 2016

Analysts

Finola Burke

+61 (2) 9258 1611

Moira Daw

+61 (2) 9258 1611

Sealegs Corporation is a research client of Edison Investment Research Limited

Sealegs (SLG) reported better than expected H1 results, driven by tighter cost management and increased sales from the higher-margin amphibious enablement systems (AES) and B2B sales to hull manufacturers. Since reappointing founder David McKee Wright as CEO in November 2014, the Auckland-based company has focused on developing a licensing strategy for its amphibious enablement systems, which we see as a significant game-changer for Sealegs. The company has recently passed a number of milestones including producing its 1,000th amphibious boat, the launch of its nine-metre Interceptor and the IKA11 aimed at the international military market.

Year end

Revenue (NZ$m)

PBT*
(NZ$m)

EPS*
(c)

DPS
(c)

P/E
(x)

Yield
(%)

03/14

16.8

(0.7)

(0.6)

0.0

N/A

N/A

03/15

17.3

(1.7)

(1.4)

0.0

N/A

N/A

03/16e

18.4

0.2

0.1

0.0

N/A

N/A

03/17e

20.3

0.9

0.6

0.0

20.0

N/A

Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments.

H1 update

Sealegs reported H1 net profit after tax of NZ$0.37m, up from NZ$0.03m year-on-year. Revenues were 3.5% lower at NZ$9.3m due to the shift in product mix to higher-margin OEM and amphibious enablement systems. As a consequence, the company’s gross margin increased 588bp to 28.9% in the six months to 30 September. Sealegs reported gross profit of NZ$2.7m vs NZ$2.2m y-o-y. The results also demonstrated good cost containment. Costs increased just 2.6% for the half year, with distribution declining 16% and marketing expenses falling 11% against a 13% increase in administrative costs.

Changing business mix

Since re-appointing founder David McKee Wright as CEO, Sealegs has focused on developing a licensing strategy for its AES. This change in strategy is expected to have a significant impact on the company’s profitability and capital requirements. The company noted in late-October that its strategy was already yielding results, with more than NZ$2.5m in orders from boat manufacturers in the first six months of FY16, compared with orders of NZ$0.5m for the same period in FY15. We anticipate that the higher-margin OEM strategy will gradually usurp boat sales, enabling Sealegs to reduce its cost base and capital tied up in boat manufacturing.

Valuation: New focus improves valuation

We value Sealegs at NZ$0.20/share using the DCF methodology (WACC of 17.3%, terminal rate of 2.0%). The company’s expansion into the hull manufacturer network and move away from boat manufacturing positions it to significantly improve operating margins and, therefore, cash flows. We are forecasting that operations will be fully cash generative from FY16 onwards.

H1 results

The numbers

Sealegs’ H1 results demonstrated improved margins as a result of good costs containment and a shift in the business mix to the higher-margin AES and B2B product offering. While revenues declined 3.5% due to higher sales of the lower-priced AES, Sealegs’ gross margin increased to 28.9% as a result of the higher margin it books on its AES. First half to September 2015 EBIT was NZ$0.4m vs NZ$0.04m for the same period in FY14/15 and a loss of NZ$0.57m in the first half of FY13/14. The company produced its best ever interim NPAT of NZ$0.37m with costs growth contained to 2.6%.

Exhibit 1: Sealegs H116 vs H115 and H114

Six months ending (in NZ$m)

30 Sept 2013

30 Sept 2014

30 Sept 2015

Sale of goods

7.86

9.04

8.90

Total revenue

8.38

9.67

9.33

Cost of sales

(6.32)

(7.44)

(6.63)

Gross profit

2.06

2.23

2.70

Gross profit margin (%)

24.6

23.1

28.9

EBIT

(0.57)

0.04

0.40

Finance costs

(0.02)

(0.01)

(0.04)

PBT and impairment of assets

(0.58)

0.03

0.37

Share options expense (non-cash)

(0.02)

0.00

0.00

Tax expense

0.00

0.00

0.00

Profit/loss attributable to shareholders

(0.60)

0.03

0.37

Diluted EPS (c/share)

(0.51)

0.05

0.02

Source: Company data

Distribution costs declined 16% for the period while marketing costs fell almost 11%. These declines helped offset an increase in administrative costs and occupancy costs, the latter brought about by the expansion of US warehousing. As shown in Exhibit 2, overall cost growth for the half year was contained to 2.6%.

Exhibit 2: Operating costs comparison

Six months ending September (in NZ$m)

H115

H116

% chg

Distribution

0.242

0.203

(16.1)

Marketing

0.434

0.387

(10.8)

Occupancy

0.089

0.131

47.2

Administrative

1.327

1.497

12.8

Research

0.091

0.021

(77)

Other

0.014

0.085

N/A

Total operating costs

2.183

2.239

2.6

Source: Company data

Changing business mix

Sealegs’ improved operating margins are largely attributable to the change in business focus brought by CEO and co-founder David McKee Wright, who was re-appointed in November 2014. He has focused on improving the business mix and targeting the potentially lucrative emergency and armed services markets.

As a consequence, at the Auckland International Boat Show in September 2015, Sealegs launched two new models aimed at the international military market, the world’s largest amphibious rigid inflatable boat (RIB) and the nine-metre Interceptor-9000.

Sealegs has also been focused on developing a licensing strategy for its amphibious enablement systems. The company noted in late October that its strategy, still in its early stages, was yielding results with more than NZ$2.5m in orders from boat manufacturers in the first six months of FY16, compared with orders of NZ$0.5m for the same period in FY15. The company’s first OEM partners are Stabicraft and Smuggler Boats in New Zealand and ASIS Boats in the United Arab Emirates. Having successfully introduced its amphibious enablement systems to these hull manufacturers, Sealegs plans to seek out additional OEM partners for commercial and recreational applications.

Sealegs now has two amphibious enablement systems available to hull manufacturers: System 100, which is designed for craft up to 6t, and System 60, which is designed for craft up to 3t.

In FY15, Sealegs sold nine kits. In H116, the company sold eight systems comprising 5 OEM systems and 3 OEM hulls. The OEM systems retail at an average NZ$75,000 and a gross margin of ~40%, while the OEM hulls each generate around $230,000 in revenue for Sealegs and a gross margin of 35%. This compares with the average boat price of NZ$153,000, which in FY15 had a gross margin of 21.4%.

We view this change in strategy as significant. Sealegs has for the past 10 years been predominantly a boat manufacturer with capital tied up in stock, research and development and plant and equipment. The margins generated from boat sales were also lower than those that can be generated from the OEM systems.

Financials

We have incorporated the changing business mix into our forecasts for FY16 and beyond. Based on discussions with management, we anticipate that Sealegs will sell 10 OEM systems, 20 OEM hulls and 85 boats in FY16. We expect the focus on OEM to eventually overtake boat sales and have factored this into our forecasts. We anticipate that the higher-margin OEM hulls and systems will help drive profitability in FY16 and beyond. We are forecasting a significant lift in OEM hull sales from FY16 to FY17 as a result of Sealegs relationships with its OEM partners. Conversely, we are forecasting a drop in boat sales to 30 in FY17 compared with 85 in FY16, as part of the changing business mix. As previously noted, OEM hulls each generate an average of NZ$230,000 in sales for Sealegs, compared with the average NZ$153,000 boat sale. Margins on OEM hulls are also higher at 35%, compared with boat margins of 21.4%. As Exhibit 3 shows, we anticipate that Sealegs will post NPAT normalised of NZ$0.12m in FY16 and for profitability to strengthen in FY17 and FY18.

Exhibit 3: Edison P&L forecasts for FY16-18 vs FY15

NZ$m

FY15

FY16e

FY17e

FY18e

Number of boats sold

101

85

30

15

Number of OEM hulls sold

20

80

110

Number of OEm systems sold

9

10

15

30

Sales revenue from boats

15.5

13.0

4.4

2.2

Sales revenue from OEM hulls

4.6

14.8

20.8

Sales revenue from OEM systems

0.7

0.8

1.1

2.3

Sales from services rendered

1.2

0.0

0.0

0.0

Total revenue

17.33

18.36

20.28

25.22

Gross profit

3.59

4.77

4.96

6.43

EBITDA

(1.27)

0.43

1.16

1.90

EBIT

(1.67)

0.09

0.81

1.56

PBT*

(1.69)

0.17

0.88

1.64

NPAT*

(1.75)

0.12

0.83

1.59

EPS* (c/share)

(1.37)

0.09

0.62

1.19

Source: Edison Investment Research. Note: *PBT, profit after tax and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments.

We also anticipate that the company has sufficient cash to execute its strategy. Sealegs last raised equity capital in November 2014, securing NZ$1.57m from the raise. At September 30, 2015, the company had NZ$0.8m cash in the bank. We are forecasting the company to end FY16 with NZ$1.46m cash, as its investment in the development of the IKA11 and Interceptor largely come to an end. We anticipate cash generation into FY17 and FY18 as Exhibit 4 demonstrates.

Exhibit 4: Cash flow forecasts for FY16-18 vs FY15

FY15

FY16e

FY17e

FY18e

Operating cash flow

1.1

0.5

1.2

1.9

Investing cash flow

(1.5)

(1.1)

(0.4)

(0.4)

Cash flow from financing activities

1.6

0.0

0.0

0.0

Net cash flows

1.1

(0.7)

0.7

1.5

Opening cash

1.0

2.1

1.5

2.2

Closing cash

2.1

1.5

2.2

3.7

Source: Edison Investment Research

Valuation

Our DCF valuation of Sealegs reflects the changing business mix and the potential to secure higher gross profit margins longer term. This in turn lowers the company’s risk profile with less capital, over time, required to be tied up in the manufacturing of boats as more of its business comes from its kits and deploying its intellectual capital.

That said, this strategy is still in its infancy and we see it prudent to continue to apply a conservative risk weighting to our valuation. As a consequence, we have used a WACC of 17.3% and a terminal growth rate of 2.0%. This, applied to our free cash flow forecasts, gives us a per share value of NZ$0.20 for the company, which represents a significant premium to the current share price of NZ$0.12.

Exhibit 5: DCF valuation

Valuation parameters

WACC

17.3%

Terminal growth rate

2.0%

PV of free cash flows (in NZ$m)

$6,345

Term val

$17,596

NPV

$23,942

Plus cash

$1,457

Value (NZ$m)

$25,398

Value per share (c/share)

$0.20

Valuation parameters

WACC

Terminal growth rate

PV of free cash flows (in NZ$m)

Term val

NPV

Plus cash

Value (NZ$m)

Value per share (c/share)

17.3%

2.0%

$6,345

$17,596

$23,942

$1,457

$25,398

$0.20

Source: Edison Investment Research

Exhibit 6: Financial summary

NZ$000s

2012

2013

2014

2015

2016e

2017e

2018e

Year-end 31 March

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

13,830

16,407

16,783

17,330

18,355

20,275

25,223

Cost of Sales

(10,360)

(11,576)

(12,639)

(13,738)

(13,584)

(15,311)

(18,797)

Gross Profit

3,470

4,831

4,144

3,592

4,771

4,964

6,426

EBITDA

 

 

(1,206)

804

(319)

(1,269)

434

1,155

1,899

Operating Profit (before amort. and except.)

(1,559)

445

(684)

(1,616)

(3)

371

143

Intangible Amortisation

(80)

(93)

(79)

(56)

(56)

(56)

(56)

Operating Profit

(1,639)

352

(763)

(1,672)

87

807

1,559

Share based payments

(182)

(180)

(42)

(50)

0

0

0

Exceptionals

0

0

0

(598)

0

0

0

Net Interest

1

32

(28)

(75)

28

19

29

Profit Before Tax (norm)

 

 

(1,558)

476

(712)

(1,691)

172

882

1,645

Profit Before Tax (FRS 3)

 

 

(1,820)

204

(833)

(2,396)

115

826

1,589

Tax

0

0

0

0

0

0

0

Profit After Tax (norm)

(1,558)

476

(791)

(1,748)

115

826

1,589

Profit After Tax (FRS 3)

(1,820)

204

(833)

(2,396)

115

826

1,589

Average Number of Shares Outstanding (m)

124.3

122.9

121.7

127.8

133.5

133.5

133.5

EPS - normalised (c)

 

 

(1.3)

0.4

(0.6)

(1.4)

0.1

0.6

1.2

EPS - normalised fully diluted (c)

 

 

(1.3)

0.4

(0.6)

(1.4)

0.1

0.6

1.2

EPS - (IFRS) (c)

 

 

(1.5)

0.2

(0.7)

(1.9)

0.1

0.6

1.2

Dividend per share (c)

0.0

0.0

0.0

0.0

0.0

0.0

0.0

Gross Margin (%)

25.1

29.4

24.7

20.7

26.0

24.5

25.5

EBITDA Margin (%)

-8.7

4.9

-1.9

-7.3

2.4

5.7

7.5

Operating Margin (before GW and except.) (%)

-11.3

2.7

-4.1

-9.3

0.0

0.8

4.3

BALANCE SHEET

Fixed Assets

 

 

2,679

2,657

3,542

3,484

4,793

5,438

4,693

Intangible Assets

474

612

1,826

2,058

2,472

2,343

2,334

Tangible Assets

2,205

2,045

1,715

1,426

2,321

3,095

2,359

Investments

0

0

0

0

0

0

0

Current Assets

 

 

9,025

9,122

7,747

8,085

6,848

7,119

9,763

Stocks

4,207

4,572

5,886

5,126

4,512

3,970

4,939

Debtors

359

453

685

609

654

722

898

Cash

4,322

3,909

997

2,123

1,457

2,201

3,700

Other

137

187

179

226

226

226

226

Current Liabilities

 

 

(2,232)

(2,619)

(2,788)

(3,775)

(3,733)

(3,821)

(4,132)

Creditors

(2,091)

(2,619)

(2,788)

(3,775)

(3,733)

(3,821)

(4,132)

Short term borrowings

(142)

0

0

0

0

0

0

Long Term Liabilities

 

 

(99)

0

0

0

0

0

0

Long term borrowings

(99)

0

0

0

0

0

0

Other long term liabilities

0

0

0

0

0

0

0

Net Assets

 

 

9,373

9,160

8,501

7,794

7,909

8,736

10,324

CASH FLOW

Operating Cash Flow

 

 

(237)

899

(1,300)

1,080

462

1,175

1,929

Net Interest

0

0

0

0

0

0

0

Tax

0

0

0

0

0

0

0

Capex

(748)

(692)

(1,734)

(1,536)

(1,133)

(430)

(430)

Acquisitions/disposals

621

5

55

0

4

0

0

Financing

20

(296)

68

1,570

0

0

0

Dividends

0

0

0

0

0

0

0

Net Cash Flow

(344)

(84)

(2,912)

1,114

(666)

744

1,499

Opening net debt/(cash)

 

 

(4,410)

(4,082)

(3,909)

(997)

(2,123)

(1,457)

(2,201)

HP finance leases initiated

0

0

0

0

0

0

0

Other

17

(90)

0

12

(0)

0

0

Closing net debt/(cash)

 

 

(4,082)

(3,909)

(997)

(2,123)

(1,457)

(2,201)

(3,700)

Source: Sealegs accounts, Edison Investment Research

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