Published June 26, 2009

Hyflux bets against North Africa's past

By CHEW XIANG

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ALMOST 14 months ago, Hyflux announced that it had won a $630 million contract to build a mammoth desalination plant in Magtaa, Algeria.

At the time, BT urged caution in this same column. The company had been burnt by a previous unsuccessful foray into the Middle East with a Dubai partner in 2006. The rates at which it bid for and won the Magtaa contract were astonishingly competitive. Would that hurt earnings? Would Algeria be Dubai redux? These were among the questions that arose.

Hyflux has responded with another coup. Earlier this week, it signed a memorandum of agreement with General Desalination Company, the corporate arm of the Libyan Ministry of Utilities. This would see Hyflux building two mammoth desalination plants in Libya's two biggest cities, Tripoli and Benghazi, with total capacity of at least 900,000 cubic metres a day. That's almost twice that of the Magtaa plant now under construction, which can produce 500,000 cubic metres a day.

Details of cost and financing have yet to be announced but analysts have put the value of the deals at up to S$1.5 billion. They also hailed the deals as providing some earnings visibility in the years ahead, especially given the recent lack of big contract wins, especially in China.

OCBC analyst Carey Wong said: 'We believe that the latest geographical expansion into Libya is an important milestone for Hyflux and would further serve to showcase its technologies to the rest of the world, and should result in more project wins.'

And encouragingly, raw material and construction costs appear to be moderating. Last year, higher than expected costs meant that construction profit from an earlier 200,000 cubic metre per day desalination plant in Tlemcen, Algeria was coming below expectations. This year, 'raw materials and consumables used and subcontractors' costs decreased by 9 per cent from $66 million for the first quarter (ended) March 31 2008 to $59.9 million for the first quarter ended March 31, 2009, in line with the lower global commodity costs,' Hyflux said in its most recent financial report.

As well, its strategy of taking a minority stake in the projects - while reserving for itself all of the revenue and profits from construction and engineering work - means it will not have to consolidate debt taken on to finance the building of the plants onto its balance sheet, a relief, given that some have expressed concern about its relatively high gearing.

There are risks, however. Much will depend on Hyflux's ability to execute its projects well, and the company has realised this.

Chief executive officer Olivia Lum has stated just that as the main priority for the company, ahead of winning projects, and has invested heavily in manpower.

But there are risks beyond the company's control. The country has moved mountains to rid itself of pariah nation status since the late 90s - Italy recently agreed to pay Libya US$5 billion as reparations for colonial-era disputes. Other Singapore companies with a presence there include Boustead and Hotel Properties Limited and there have been significant high-level meetings between government officials on both sides. In April, Singapore and Libya signed investment guarantee and double taxation avoidance agreements.

But the country - in theory a democracy of thousands of small communes - is still very much influenced by one man - the 67-year-old Muammar Gadaffi. His possible successor and son, Saif Al-Islam, is a reformist, who in a Forbes interview said that he saw Singapore as a model for Libya's future development.

But reports say that he could be losing ground to conservatives opposed to his plans to liberalise the country's economy and political system. A television station linked to Mr Saif was reportedly shut down in May. His links with Singapore could count against Hyflux should the country be roiled by political uncertainty.

First Algeria, now Libya - Hyflux has, more than any other Singapore-listed company, connected itself to the success and stability of North Africa. Unfortunately, that is a region that in recent history has seldom enjoyed both. Investors should hope it can defy the past.