PEC Ltd

OCBC on 15 May 2012

PEC Ltd reported a very weak set of 3Q12 results that caught us and the street by surprise. 3Q revenue increased by 22% YoY to S$107m (3Q11: S$88m), but net profit attributable to shareholders plunged 86% YoY to S$1.3m (3Q11: S$12.6m) on lower gross margin and higher operating costs. Net margin was just 1.2% (3Q11: 11.0%). While the group still has a very strong net cash position of S$112m (or S$0.44 per share), there is a possibility that it may incur losses over the near term horizon. Therefore, we lowered our fair value estimate to S$0.64 (previously S$0.93), based on 0.8x (previously 1.0x) P/B. Downgrade to HOLD.

Weak 3Q12 results
PEC Ltd reported a very weak set of 3Q12 results that caught us and the street by surprise. 3Q revenue increased by 22% YoY to S$107m (3Q11: S$88m), but net profit attributable to shareholders plunged 86% YoY to S$1.3m (3Q11: S$12.6m) on lower gross margin and lower operating leverage. Gross margin halved to 16.3% in 3Q12 (3Q11: 31%), mainly due to (i) intensive pricing competition, (ii) cost pressure from operations and (iii) completion of better margin project works in prior quarters. Its order-book also shrank to S$246m as at end Mar-12 (end Dec-11: S$270m).

Breaking point
With a net margin of just 1.2% for 3Q12, we believe that PEC is near its break-even point. Going forward, it needs to record quarterly revenue of about S$100m (with gross margin of at least 16%) or risk incurring losses in its core business. Its order-book (S$246m as of end Mar-12) looks sufficient for now, but the outstanding contracts are likely secured in late-2011 and may command lower project margins. Given the shortage of projects in the market, we think that oil companies now have the bargaining power to push down the rates for project and maintenance work. This implies lower margins over the medium term horizon.

Rotterdam claims unresolved
Although the problematic Rotterdam project was finally completed after the 3Q12, PEC has yet to resolve its claims. It has about S$18.3m of claims - for which provisions were made for S$11m – due from the Audex-Verwater JV. Meanwhile, we updated our estimates for 3Q12 results and lowered our FY13F gross margin assumptions to 15% (previously: 17%). Given the gloomy outlook, we downgrade our rating to HOLD and lowered our fair value estimate to S$0.64 (previously S$0.93) on 0.8x (previously 1.0x) P/B.