Offshore & Marine

Kim Eng on 17 Aug 2012

Roller coaster ride on oil price fluctuations. Offshore & Marine stocks went through a roller coaster ride during the second quarter following the trail of gyrating oil prices. Brent crude fell briefly below USD90/bbl in June 2012 before recovering back above USD100/bbl level. Worries that declining oil price may trigger a cut in E&P spending have somewhat dissipated as oil prices recovered and offshore players reported a series of contract wins. 2Q12 results were again mixed, but generally supported our views on the sector.

Operating margins a tad lower. Operating margins for the rigbuilders, Keppel Corp (Keppel) and Sembcorp Marine (SMM), came in lower than expected but we attribute this mainly to timing issues associated with percentage-of-completion recognition. We expect margins to trend slightly higher in 2H12 and would remain in a firmer range of 14-16% as the duo depletes their high-margin orderbooks. The shipbuilders, Cosco and Yangzijiang, continue to suffer from a deteriorating outlook for the shipbuilding sector which offers no respite for shipbuilding margins in the near term.

Contract wins supports offshore outlook. Both Keppel and SMM secured their share of Sete Brasil contracts with Keppel clinching USD4.1b worth of contracts for 5 semi-subs while SMM is to build 5 drillships at USD4.032b. Keppel followed up shortly with another USD950m FPSO topside modules contract from Petrobras and SMM with a USD135m semisub contract. Rigbuilders currently hold record high orderbooks with deliveries stretching up to 2019. We remain optimistic on order flows as rigbuilders have indicated healthy enquiries from customers.

Shipbuilders sail into tougher waters. Cosco and Yangzijiang continue to be challenged by the weak outlook of the shipbuilding industry. In this quarter, Yangzijiang saw the cessation of 8 shipbuilding orders. Faced with depleting orderbooks, drought in new orders and weak margins, shipbuilders try to find other revenue streams, such as venturing into offshore space, often doing so at low prices. We see no turnaround yet for both companies although we upgraded Yangzijiang to a HOLD as valuations have bottomed.

The small-cap star. Ezion was a star-performer in our O&M coverage universe. Results were generally in line, but the strong stock performance was mainly driven by a series of contract wins, including a fourth LNG-related contract in Australia, followed by two more service-rig/liftboat contracts/LOI. We expect 3-year EPS CAGR of 36% p.a.

Buy rigbuilders, avoid shipbuilders. Among the big caps, we have BUY calls for SMM, SCI and Keppel with preference in that order. Ezion remains our small-cap top pick for the sector. We would avoid Cosco and Yangzijiang for now, but Yangzijiang would be on our watchlist for potential upgrade when the tide for shipbuilding turns positive as valuations look cheap.