COSCO Corp

OCBC on 26 June 2012

With Yangzijiang experiencing its first order cancellation, we now fear a similar deterioration of COSCO Corp (COSCO)’s order-book. First, COSCO’s order-book contained 47 bulk carriers, which may be susceptible to cancellations. Secondly, many of its customers are based in Europe, making COSCO vulnerable to macro-economic risks from the region. Thirdly, it has a high concentration risk arising from Sevan Drilling’s order of two rigs worth about US$1b. The payment terms for one of the rigs have also been recently changed to a more back-end schedule. As Sevan Drilling uses innovative cylindrical designs for its rigs, there may not be a ready secondary market for such rigs should a default occurs. Given the gloomy outlook, we downgrade COSCO to SELL with S$0.84 fair value estimate.

Will ship defaults hit COSCO Corp?
With Yangzijiang experiencing its first order cancellation (for two bulk carriers by a Greek customer), we now fear a similar deterioration of COSCO Corp (COSCO)’s order-book. First, its orderbook contained 47 bulk carriers, which may be susceptible to cancellations should the operating conditions for bulk shippers worsen. The Baltic Dry Index is at a 25-year low and a quick recovery is unlikely. Secondly, many of its customers are based in Europe (and may therefore rely on Eurozone banks for financing). This makes COSCO vulnerable to macro-economic risks from the region. Thirdly, it has a high concentration risk arising from Sevan Drilling’s order of two rigs worth about US$1b. As Sevan Drilling uses innovative cylindrical designs for its rigs, there may not be a ready secondary market for such rigs should a default occur.

Sevan Drilling to delay payments?
According to Sevan Drilling, the payment terms of Sevan Drilling Rig 4 contracted with COSCO Shipyard has been changed to a more back-ended schedule, i.e. 5% on contract execution in May 2011, 5% around Mar 2012, and the balance of 90% on delivery in 2Q12. The original schedule was 5% on contract execution, 15% prior to steel cutting and balance 80% on delivery. (We checked with COSCO yesterday, but the group was unable to confirm this.) Similarly, other customers may also negotiate for more back-ended payment schedules. This would mean that COSCO’s credit risk (and possibility fx/cashflow risk) may be higher than expected.

Downgrade to SELL; FV S$0.84
With the gloomy outlook, we lowered our PBR peg for COSCO to 1.4x (previously 1.6x) and our fair value estimate to S$0.84 (previously S$0.98). Downgrade to SELL.