■ Improved diamond prices in mid-stream value chain point to better sales outlook for Sarine.
■ It plans to enter the diamond grading market with the opening of two labs in 2018.
■ In Jan 2018, the company launched the Meteorite system to capture sales from the under-0.35 carat stone segment.
■ We upgrade to Add from Hold in light of a more positive business outlook. Our new TP is lower at S$1.56, based on 17.2x CY19F P/E, with a transfer of analyst coverage.
Polished diamond market looking for recovery
We think a lower rough/polished diamond price spread will restore manufacturers’ profitability, eventually leading to better revenue for Sarine as the bulk of its business is still heavily dependent on mid-stream manufacturing activities. Media reports in India cited robust demand from domestic and international jewellery manufacturers as the reason polished prices rose 3-4% over the last two weeks of Jan 2018 after the rough/polished diamond price spread continued to improve in 2HCY17.
Opening two diamond grading labs in 1H18F
In Jan 2018, Sarine announced plans to open its first diamond grading lab in Israel in Feb 2018 and a second lab in India in May 2018. The new labs will offer a more compelling value proposition as they will employ automated artificial intelligence-based technology in the diamond grading domain, which has been plagued by concerns over accuracy, consistency and security. It is aiming to capture significant share (10%+) of the diamond 4C certification market (worth c.US$500m p.a. according to management) in five years.
New Meteorite system to extend market reach
It launched the Meteorite system in Jan 2018, designed to capture the largely-untapped segment of very small (under 0.35 carat) rough diamond stones. Management believes the addressable market size for this segment is 50m stones p.a., which translates into market value of US$25m based on its proposed charge of US$0.50 per stone scanned.
Gaining traction in tackling illicit competition
We expect sales that have been eroded by illicit competition to gradually recover and margins to be lifted on lower legal costs from 2H18F. Apart from pursuing legal action against illicit competitors in India that have reportedly eroded sales in 9M17, the group is gaining positive traction in its efforts to discourage customers from using illicit services that infringe on Sarine’s patented technology.
Major shareholder increasing its stake signals confidence
Chilean-based fund Axxion SA (AXXO CI, Not Rated), now Sarine’s biggest shareholder, increased its stake from 8.7% to 9.18% (1.68m shares at S$1.15 per share) over the last two weeks of Jan 2018. Axxion previously held a 0.14% stake in Sarine before Mondrian Investment (Unlisted, previously the largest shareholder) disposed of its entire 8.6% stake on 30 Nov 2017. We believe this signals confidence in Sarine’s overall business outlook and suggests the current valuation offers an attractive risk/reward profile.
We think the sell-off over the past 12 months (40% decline in share price) is overdone and its current valuation of 15.9x CY18F P/E is attractive in light of the strong earnings growth outlook amid improving diamond market dynamics. We transfer analyst coverage and introduce new FY18-19F earnings forecasts and project net profit growth of 123% in FY18F and 38% in FY19F. Our TP is based on 17.2x CY19F P/E (at a 10% discount to its historical 9-year average). A key risk is global economic downturn. (Read Report)
Previous [ Sarine Technologies Ltd ] reports...
15/5/17 Co.Note Possible headwinds (HOLD, S$1.94 tp:S$1.96)
27/2/17 Co.Note Looking to grow its polished diamond business (HOLD▼, S$1.90 tp:S$1.96▲)
15/11/16 Co.Note 3Q16 earnings below expectations (ADD, S$1.60 tp:S$1.95)
Source : CIMB Research