Why is Temasek acquiring Keppel?

For those of you who might have missed it, the really big news that came out the past week was Temasek announcing that it will be acquiring a majority (51%) stake in Keppel (it owns 21% now).

It’s a really interesting deal, so let’s break it down further and analyse the implications.

Basics: Temasek Buying Keppel?

The Straits Times has a fantastic article that summarises the transaction, so huge kudos to them for drafting it so well.

Q WHAT IS TEMASEK’S OFFER?

A Temasek plans to offer Keppel shareholders $7.35 per share, in cash, to buy 554.9 million shares or 30.55 per cent of Keppel. This partial offer will raise its stake in Keppel from 20.45 per cent to 51 per cent. It will do this through its wholly owned subsidiary Kyanite Investment Holdings.

Q HOW DOES THE OFFER PRICE COMPARE WITH HISTORICAL PRICES?

A The price is 25.86 per cent above the last traded price per share last Friday, which was the last trading day before Temasek announced the potential offer on Monday.

It is also 21.09 per cent over the three-month volume weighted average price per share.

It is 21.29 per cent above Keppel’s net asset value per share as of Sept 30.

Q WHEN WILL THE OFFER BE MADE?

A The offer will be made if all pre-conditions are met or waived by Kyanite by Oct 21 next year, or by a later date if the firm applies for an extension in consultation with the Securities Industry Council (SIC). The pre-conditions include getting domestic and foreign regulatory approvals, which Temasek said could take several months, as well as Keppel group’s performance not deteriorating significantly. Keppel will remain a listed company. Once each pre-condition is satisfied or waived, the partial offer process will take two to three months.

Q WHAT DO I NEED TO DO?

A Until the partial offer is made, no action is required.

After the partial offer is formally announced, the offer document will be sent out between 14 and 21 days, unless the SIC consents to an earlier date. At that time, there are two key decisions to make: first, voting for or against the partial offer, or abstaining from voting; second, shareholders can decide whether to tender all, part or none of their shares.

The offer can succeed only if it is approved by a majority of votes cast by shareholders – excluding Kyanite, Temasek and their associates – and at least 30.55 per cent of shares are tendered into the offer.

Shareholders who want to tender their shares can submit the acceptance form, which will come with the offer document. If the partial offer is oversubscribed, the number of shares each person can sell will be distributed in a pro-rated manner, according to the number of shares they tendered.

Kyanite will pay shareholders within seven business days of the closing date of the partial offer.

For more information, contact Kyanite’s financial adviser, Morgan Stanley Asia (Singapore), on 6834-6676.

Keppel’s stock price the past 5 years

A picture speaks a thousand words, so here’s the 5 year chart for Keppel’s stock price.

Spoilers alert, it’s not pretty.

Keppel is a huge Offshore & Marine player (O&M), so they were hit very hard by the oil price bust in 2015. Nobody wanted to buy boats to support offshore oil drilling anymore.

They recovered a fair bit in 2018, but over the past year they’ve been hit by the slowing global economy.

The recent acquisition announcement by Temasek has driven the stock price up to 6.91, but viewed in the bigger scheme of things, it’s really quite a small move. Had you bought this stock 5 years ago, you’re still out of money, in a big way.

Why is Temasek acquiring Keppel?

To understand this deal, we need to understand the motivations of the players involved. And the biggest player here, is Temasek.

Here’s what Temasek had to say about their rationale (emphasis mine):

Rationale for the Partial Offer and Intentions

The Offeror does not intend to delist or privatise the Company; the Company will remain listed on the SGX-ST.

The Partial Offer represents an opportunity for Offer Shareholders to realise part or potentially all of their investment at a premium over the last traded price of the Shares, and to participate in the future financial performance of the Company through their retained equity interest.

Temasek’s long-standing governance model is to support its portfolio companies operating independently and on commercial principles. Temasek does not involve itself in the operating or business decisions of its portfolio companies; these are properly the responsibility of the boards and management teams of the companies.

Following the successful close of the Partial Offer, the Offeror intends to work with the board of directors of the Company in undertaking a comprehensive strategic review of its businesses (the “Strategic Review”) with the objective of creating sustainable value for all Shareholders. In order to facilitate such a Strategic Review, the Offeror may propose new directors to the board of directors of the Company after the close of the Partial Offer.

The Offeror remains open to all possibilities arising from the Strategic Review. The Strategic Review may result in (i) the Company refocusing on and strengthening certain businesses, and/or (ii) potential corporate actions including, but not limited to, joint ventures, strategic partnerships, acquisitions, disposals, mergers, or other transactions involving the Company, in each case as determined by the board of directors of the Company in the best interests of the Company and Shareholders.

Mr Tan Chong Lee, President, Temasek International and Director of the Offeror, said, “The Partial Offer reflects our view that there is inherent long term value in Keppel’s businesses, notwithstanding the challenges presented by the current business and economic outlook.”

He added, “The Partial Offer can only be made after the Pre-Conditions have been fulfilled or waived and this may take several months. For the Partial Offer to be successful, it will require both majority approval by shareholding of the votes cast and acceptances of not less than 30.55% of the total issued Shares.”

Based on what they’re saying, I guess it’s fairly obvious that they’re going to undertake a “Strategic Review” of Keppel once the acquisition is complete, to “unlock shareholder value”.

1. Sum of the parts worth more than the whole?

Keppel has always been an interesting company because it’s such a mega conglomerate, with fingers in every pie. In some ways, it’s kinda like GE.

There’s the Offshore & Marine segment, Property, Infrastructure, and investments arm.

There used to be a time when big was sexy. You know, the heyday of General Electric, when every single MNC wanted to have a finger in every pie. But markets are cyclical, so eventually the GFC came (and mobile technology came). These days, investors no longer find mega-conglomerates sexy. In fact, many conglomerates are trading at a discount to a simple sum of the parts analysis.

The current Keppel is almost impossible to value simply because it is so big. The O&M segment needs to be valued on its own with a completely different valuation metric from property. Apply that across all 4 segments, throw in the number of assumptions you need to make per segment, and you’ll quickly find that any valuation of Keppel is just going to be plain nonsense.

So on a very simplistic analysis, if all Temasek did was to split Keppel into 4 parts, and forced each business unit to survive as a listed entity on it’s own, there’s a good argument to be made here the total stock price would be higher than it’s current.

And of course, the big rumour here is that Temasek is going to merge Sembcorp Marine with Keppel to create a mega O&M player, just like what they did with the CapitaLand Ascendas deal. Now I’m not an O&M kind of guy, so take my comments with a pinch of salt, but to be really honest, I think that while this move is on the cards, it is by no means a done deal. Whether it materializes is going to depend on how the global economy plays out over the next few years, and whether the numbers even make sense at that point in time. The O&M space is dominated by the Korean / China players these days, and many of them have state backed financing. Not only is their cost of production much lower (cheaper financing and labour), they can also afford to produce at a loss to gain market share. Simply merging Keppel O&M with Sembcorp Marine doesn’t do anything to solve this problem.

2. Is Keppel a good investment now?

It depends on your timeframe.

If you want to make a quick buck, you could probably buy in now and maybe ride the momentum higher for a couple weeks. The offer price here is $7.35, so at it’s current $6.91, the market is still pricing in some risk that the deal doesn’t complete. So the closer it gets to completion, the higher the share price should trade (theoretically).

Whether Keppel is a good investment in the longer term, is the more interesting question here. Much of it depends on how the “unlocking of value” by Temasek plays out.

And it’s not going to be quick.

Let’s say it takes 6 months to complete the acquisition (which is already pretty aggressive). We then need to give the new management about 1 to 2 years to execute its strategy, before we can begin to see results. And if it’s a longer term 10 year strategy, then we can’t really evaluate the plan until at least a few years in.

So to be really honest, I think it’s way too early to answer this question.

3. Singapore companies losing our edge?

Now but Financial Horse is a curious horse by nature, so I’m just going to venture a guess based on whatever imperfect information is available to me today.

And I think the key here, is not to lose the forest for the trees. Temasek is a long term player. To understand how they think, we need to think in similarly long timeframes.

So let’s take a step back. Earlier this year, Temasek completed another mega deal, by merging Ascendas-Singbridge with CapitaLand. A while back, M1 was privatized by a Keppel-SPH joint bid. Now overlay that with poor performance from a number of Temasek-linked Companies (TLCs), such as Singtel, SPH, Sembcorb, SIA etc.

What’s the underlying trend here? There’s not going to be a right or wrong answer here, and everybody is going to have their own takeaway. But for me, it is the decline in competitiveness of Singapore’s state backed champions.

Now Lee Kuan Yew is a visionary. There’s no doubt about that. I’ve been reading his books recently, and I’m completely blown away by the quality of thinking and approach towards problem solving.

Lee Kuan Yew’s problem for Singapore was on how to create a new wave of Asian Champions. The solution, was to find a competent business executive, task them to build a national champion in a certain industry (eg. real estate, O&M, Telco etc), and give them huge amounts of cheap financing to play with (ie. Temasek). As each individual component grew bigger, they would eventually merge with each other to create bigger and bigger players (eg. DBS Land and Pidemco merging to create CapitaLand).

So that’s been the broad strategy, and its worked amazingly well. It’s gotten Singapore to where it is today, which is nothing short of a miracle.

The problem now, is that other countries are catching on. China, with their State Owned Enterprises (SOEs), basically employs a similar concept. You take a competent business leader, put him at the top of a national champion, and give him copious amounts of state financing. The only difference in China, is that with 1.4 billion people, the business leader you get is more competent, the scale of financing is much bigger, and the scale of the domestic economy is unparalleled.

So as an example, in shipbuilding, one of Keppel’s traditional strengths, there’s a new wave of competition rising from Chinese and Korean shipyards (Korea uses the same concept). The same for real estate and infrastructure. And that’s competition that’s not going away.

So that’s one factor that has fundamentally changed the global landscape the past 10 years. The other thing? It’s technology.

Technology has been a complete gamechanger. It’s completely revolutionized industries from transportation to real estate to banking.

And if there were one criticism about Singapore companies, its that we’ve not been as quick to the technology game as our US and China peers. As the importance of technology has exploded in recent years, the companies that failed to keep up have fallen behind in competitiveness (I think DBS is one of the few to have successfully reinvented themselves with technology, hence their premium valuation).

What is Temasek’s Endgame?

So imagine you’re Temasek. The traditional model of building up national champions with cheap state financing is under threat because the new guys from China and Korea can do it cheaper, better, and bigger. Oh, and they also have a bigger domestic market to sell to.

And on the other side you have the massive rise of technology, an area where Singapore is comparatively lagging.

What do you do?

And to be honest, I don’t know the answer. If I knew I would be out there solving the problem, instead of writing this article.

But what I know, is that the first step of solving this problem, involves strengthening our national champions. It involves eliminating unnecessary domestic competition, creating bigger players with stronger balance sheets and better economies and scale, and a better pool of talent, so that they will be ready for the next fight where it really matters, on the global stage.

And the way I see it, that’s exactly what’s happening. It’s a wave of consolidation that started with the Ascendas and M1 deal, and is now spreading to Keppel.

But to use a Marvel analogy, if this were the endgame movie, and we (Singapore/Temasek) were Thanos, we’ll still be hunting around for the gauntlet to host the stones. That’s how early on we are, in this grander plan.

Closing Thoughts: Do I like this deal?

Now I’m not a Keppel shareholder. I don’t have strong views either way as to whether this is a good or bad deal. And personally, after this deal, I’m still not going to go out there and buy Keppel stock at least until I see signs of a turnaround.

But what I think, is that this is a necessary deal.

I think that on the global stage, Singapore has fallen behind slightly in terms of competitiveness in recent years. Our national champions are not what they used to be. Our national champions used to dominate via high quality products and cheap financing. That model is being adopted by our neighbors, who do it cheaper and bigger. And the rise of technology has caught us wanting. Singapore may have a CapitaLand, a DBS, and an SIA. But it does not have a Google, an Alibaba, or a Bytedance.

And because I’m in a movie-going mood today, Temasek’s acquisition of Keppel is not the deal we want, but it’s the deal we need.

What do you guys think about Temasek’s acquisition? Share your comments below!

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