Sembcorp Marine (SMM SP) - UOB Kay Hian 2017-01-16: Buoyant LNG Demand Outlook Might See Contract Win Upside Surprise

Sembcorp Marine (SMM SP) - UOB Kay Hian 2017-01-16: Buoyant LNG Demand Outlook Might See Contract Win Upside Surprise SEMBCORP MARINE LTD S51.SI

Sembcorp Marine (SMM SP) - Buoyant LNG Demand Outlook Might See Contract Win Upside Surprise

  • Wood Mackenzie’s upgraded demand outlook suggests Asian LNG is set to see increased demand for LNG terminals. Sembcorp Marine (SMM) is well-poised to benefit from its stake in GraviFloat. 
  • Outsized contract values for such products, combined with other non-rig awards could lead to upside surprise. 
  • We adjust our target price to S$1.61. Tactical trading upside of 3-4% to our target price exists for every S$500m contract win above our assumptions. 
  • Maintain HOLD on weak fundamentals. Entry price: S$1.45.



WHAT’S NEW


Improving Asian LNG demand outlook. 

  • Global gas and LNG prices have been rallying due to booming LNG demand from China and India. 
  • Wood Mackenzie had in a Dec 16 report, upgraded its outlook for Asian LNG demand and it sees scope for an additional 12Mton of LNG demand by 2020. The strong demand from these countries more than offsets the weaker outlook from Southeast Asia.


STOCK IMPACT


Well-positioned to capitalise on higher LNG demand. 

  • The higher demand for LNG will likely spur the need for more LNG terminals. Sembcorp Marine (SMM) is well-positioned to capitalise on this through its stake in GraviFloat. 
  • GraviFloat’s technology of redeployable, gravity-based, modularised LNG and LPG terminals serves as a 10-30% more cost-effective solution than FSRU solutions. This is an attractive proposition in the current budget-conscious environment.

Outsized contracts could see upside surprise to assumptions. 

  • Contract values for these terminals vary on the storage capacity, and easily range from US$500m to US$1b. This is balanced against an improving outlook regarding the sanctioning of new oilfield projects, whose orders are equally large. 
  • The recent US$1.3b BP Mad Dog 2 awarded to Samsung at the start of 2017 is a prime example. A hypothetical US$1b order will easily meet our current S$1.5b contract win assumption. 
  • Moreover, with other possible order wins, there is potential upside surprise to our assumptions.

3-4% target price upside for every additional S$500m in contract wins. 

  • Earnings outlook for shipyards remain weak and newbuild orders will likely remain below the S$4b- 5b order replenishment level that SMM requires annually. 
  • We are hesitant about raising our recommendation due to the weak fundamentals. However, we are cognizant of tactical trades in the current environment, driven by contract awards. 
  • We estimate that for every S$500m in additional contract wins above our assumption, translates to a 3-4% upside to target price.


EARNINGS REVISION


Revising contract win assumption to S$2.0b for 2017-18 p.a. 

  • We increase our contract win assumption taking into account the aforementioned. Our revised assumptions are S$2.0b for 2017-18 p.a., raised from S$1.5b for both years. 
  • We reiterate again that there may be upside surprise to our contract win assumptions.

Earnings revised by 12-25% for 2017-18. 

  • Our revised contract win assumption translates to a higher earnings of S$120m (+12%) for 2017 and S$160m (+25%) for 2018.
  • This in turns increases our 2017 ROE estimate from 4.1% to 4.6%.


VALUATION/RECOMMENDATION


Revised P/B benchmark on the back of higher ROE. 

  • We had previously based our P/B benchmark on SMM’s forward ROE adjusted by a multiplier. 
  • Based on the higher 2017 ROE of 4.6%, our P/B benchmark rises from 1.1x to 1.3x. This is slightly above the -1SD level of SMM’s long-term P/B (1.2x).

Maintain HOLD with a higher target price of S$1.61. 

  • Our target price rises from S$1.40 to S$1.61 as a result of the higher P/B benchmark. 
  • SMM fundamentally remains a HOLD, as continued poor demand for newbuilds will see SMM struggle to reach the minimum annual order replenishment amount for its yard capacity. 
  • Poor earnings will plague it for the next few years, on top of potential impairment risks from its unsold rig units. However, an improving oil price environment and gradual de-leveraging means that the worst of balance sheet risks should be behind it. 
  • Maintain HOLD. Entry price: S$1.45.


RISKS

  • Asset impairments.
  • Lower-than-expected contract wins.




Foo Zhi Wei UOB Kay Hian | Andrew Chow CFA UOB Kay Hian | http://research.uobkayhian.com/ 2017-01-16
UOB Kay Hian SGX Stock Analyst Report HOLD Maintain HOLD 1.61 Up 1.400



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