3 reasons why VICOM Limited’s profit fell 12.6% in 2Q 2016

VICOM Limited (SGX: V01) reported its second quarter financial results recently. Revenue was down 6.9% from $27.3 million to $25.4 million. Net profit attributable to shareholders also fell 12.6% q-o-q to $6.6 million. Earnings per share was 7.47 cents, down 12.6% from the 8.55 cents recorded in the same quarter last year. What happened?

Before I dive into the reasons why VICOM’s financial results declined, here’s a quick recap of the company’s business model:

  • VICOM has two business segments – vehicle inspection and a non-vehicle inspection company, SETSCO
  • SETSCO provides a wide range of non-vehicle testing services, a one-stop inspection company for accreditations
  • Vehicle inspection is mandated by the government and companies doing the inspection are regulated, giving high barriers to entry
  • VICOM’s vehicle inspection segment dominates 75% of the market with seven out of nine vehicle inspection centres in Singapore

So why did revenue and profits fall in tandem?

#1: VICOM is currently hit on two major fronts

VICOM’s vehicle testing and inspection segment experienced a downturn due to the high number of vehicle deregistrations from 2015 onwards which I will further explain in a while. Its non-vehicle testing and inspection segment, SETSCO, is also experiencing headwinds as the industries they serve face a continued slowdown, especially in the petrochemical and oil & gas sectors.

#2: Rising vehicle deregistration

We all know that government aims for Singapore to be a “car-lite” society by reducing the number of cars and improving accessibility via public transport. So from a policy standpoint, things may not look that positive. So is Singapore’s vehicle population actually falling?

Let’s take a closer look at the data and facts. We understand that VICOM’s vehicle inspection revenue depends on the number of cars on the road. Rising deregistration of cars would directly affect VICOM’s revenue and profits.

deregistrations

Source: Land Transport Authority

For the full year of 2015, 100,859 cars were deregistered. However, in the first six months of 2016, already more than 70,000 cars were deregistered. In fact, the number of deregistrations was higher in every month of this year than the last. But in order to paint a complete picture, we also have to take into account the number of new vehicle registrations.

#3: Deregistration numbers higher than new registrations

new-registrations

Source: Land Transport Authority

If you realize from the two tables above, vehicle deregistrations have outnumbered new registrations every year since 2014. This means that there’s a net decrease in the number of cars on the road the last 2-3 years. But beyond that, an observant reader would also ask how cars are actually of “inspection age” (three years and older in Singapore):

age-distribution

Source: Land Transport Authority

As we can see from the Land Transport Authority’s Jul 2016 age distribution of cars, 277,079 (46.2%) of 599,740 cars are aged 3-10 years old and require biennial inspections (vehicles older than ten years require annual inspections but I’ll just focus on the bulk of the numbers here). This is a 4% drop from the reported 288,780 cars inspected in 2015 and a 6.4% drop from the 296,057 cars inspected in 2014.

Conclusion

In the next three years, 47.5% of the current car population will reach their 10th year. Car owners will then have to decide to either renew their COE and stick with their old car or scrap it to get some value and buy a brand new car. This very much depends on the price of the COE at the time. But noting the increase in new car registrations this year with the high COE prices and the fact that only 3.8% of cars are in the 10-11th year, we get a sense that most people prefer to buy a brand new car. This could spell dark clouds ahead for VICOM in the short term as cars below three years old are not required for vehicle inspections.

In conclusion, VICOM’s business segments are facing some headwinds. While SETSCO’s downturn may be temporary, VICOM’s vehicle inspection segment may face a more prolonged downturn as vehicle deregistrations outpace registrations and the government’s car-lite policies will maintain a gradual slowdown in vehicle growth.

Read more: What you need to know about VICOM’s business model before you invest

Wei Han is an equity analyst and investor since 2006. Having experienced the global financial crisis in 2008 and the Europe debt crisis in 2011, Wei Han believes that rather than predict rain, one should build arks instead. His investment philosophy involves investing in strong, resilient companies that will survive the tough times and “emerge from the ashes” as multi-bagger stocks. Wei Han also writes on his blog www.ByteSizedInvestments.com.

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