Singapore Rigbuilders Sector - Still in negative mode

What's new
Global order wins have trickled to a halt, as we had flagged in our Singapore Rigbuilders Sector initiation report of 2 February 2015. While record-high orderbooks might provide temporary insulation against major earnings declines, we expect the rigbuilders under our coverage to feel the heat as their backlogs are depleted. Also, we are seeing lower day-rates and utilisation rates across all Mobile Offshore Drilling Unit (MODUs) classes, which we think could be a prelude to lower newbuild prices. This low order-win environment, coupled with potential price declines, will negatively impact the rigbuilders’ margins/profitability in the next 1-2 years, in our view.

What's the impact
Oil companies cutting capex aggressively. Various international and national oil companies (IOCs, NOCs) have announced 10-40% YoY capex cuts for 2015E as shareholders’ pressure mounts and they place greater emphasis on cash conservation in the weak oil-price environment. The impact has trickled down to shipyards, with only 1 new MODU order placed globally in 2015. This precarious situation is compounded by the existing construction backlog, with a flurry of new equipment (rigs, floaters, OSVs) expected to hit the market in 2015-16.

Deferments reasonably expected. Clients are deferring taking delivery of orders, an expected scenario given a weak charter market. This eases the pressure for owners to sign contracts at less than ideal day-rates. Although such a move by asset owners/operators helps alleviate the oversupply situation, the burden now falls on yards, with additional maintenance and storage expenses eating into operational profitability.

Earnings changes. 

We trim 2015- 17E earnings for Keppel by 2-3%, SembMarine by 5-9%, and Cosco by 7-17% based on: 
1) the lower-than-originally expected order-win environment and 

2) tapering our expectations for newbuild prices, given our belief that rate weaknesses (both charter and utilisation) will prompt asset owners to decide against paying current market prices for newbuild assets. 

Our earnings revisions feed through to 3-9% cuts in our 12-month target prices for Keppel, SembMarine and Cosco.

What we recommend
We remain Negative on the sector as we foresee no catalysts for a rerating in the next 12 months. Hence, we stick with our Hold (3) rating on Keppel, Underperform (4) on SembMarine and Sell (5) on Cosco. We continue to prefer Keppel over SembMarine given the latter’s 100% exposure to the declining Oil & Gas (O&G) industry, while Keppel, by virtue of its conglomerate structure, will likely ride out this industry downturn in better shape.

Although we maintain our Negative stance on the sector, we continue to advocate a long-Keppel, short SembMarine strategy to investors seeking exposure to this industry. This strategy would have generated gross returns of some 7%/4%/-1% over 1-year/6-month/3-month horizons, respectively (based on 11th June closing prices).

We believe Cosco faces the greatest risk of order cancellations, as most of its orders were placed without firm contracts from oil companies.

How we differ
We expect order wins and operating margins to fall short of the market’s expectations over the next 12 months. (Read Report)

Source : Daiwa Capital Markets

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