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Sarine gets an upgrade by DBS as growing trade revenues expect to lift margins

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Sarine's technology is in demand now and DBS expects margins to trend higher.

DBS Group Research is upgrading its call on diamond tech company Sarine Technologies to “hold” from “fully valued” with a higher target price of 50 cents from 45 cents previously.

On May 15, Sarine announced its 1QFY2022 ended March business update, which highlighted that the group experienced no material impact from the geopolitical uncertainties during that period. Sanctions notwithstanding, the flow of rough diamonds into the value chain, including those of Russian origin, continued unabated in 1QFY2022, with the midstream polishing activities commensurately robust, exceeding 100,000 stones daily.

On the back of these, the group’s revenue for 1QFY2022 came in 9.9% lower y-o-y at US$15.6 million, while gross margin stood at 71.8%. The group notes that 1QFY2021 was an exceptionally strong quarter.

“With all our activities now nearly back to pre-pandemic levels, and our general and administrative expenditures even above normal due to increased legal and other expenses related to our IP enforcement and litigation in India, our profit from operations was just under US$ 4.0 million, and, with ongoing beneficial tax rates, our net profit was just under US$ 3.4 million,” says the group in its business update.

The way DBS sees it, 1QFY2022 revenue was in line with expectations and net profit was higher than expected thanks to the group’s high gross margins. And the burgeoning trade revenues are expected to further lift margins, according to lead analyst Sachin Mittal, as the Russian-Ukraine crisis is accelerating the demand for diamond traceability by one to two years.

In 1QFY2022, trade revenues inched up to 11.6% of overall revenues, compared to 8% in FY2021, and 11% in 2HFY2021.

While Sarine’s business was not affected in 1Q22, stricter sanctions on Alrosa were enacted in April. At the same time, US demand for Russian diamonds declined. “If the Russia-Ukraine war persists, we could see a weaker diamond industry,” says Mittal.

The US has placed Alrosa on the Specially Designated Nationals list, which bans Alrosa from trading with Americans and kicks it out of the US banking system. Alrosa has cancelled its last sale in April and reports indicate that they are unlikely to sell large volumes in May given the sanctions. At the same time, US demand for Russian diamonds has declined.

Although Mittal believes that the market is likely to shift towards China for supplies, a slowdown in the diamond manufacturing space is likely. He is also uncertain about the extent of the slowdown.

Overall, the group’s remarkable growth rate it enjoyed in FY2021 is unlikely to be sustained, as it was caused by a myriad of factors such as induced demand due to consumer spending boosted by stimulus checks, favourable polished and rough spreads, as well as a low base effect in FY2020.

As at 4.40pm, shares in Sarine are trading 6.7% higher at 48 cents, giving it a FY2022 price-to-earnings value of 11.9x with a dividend yield of 6.0%.

 

Photo: Bloomberg

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