UOB Kay Hian Research 2015-07-24: Keppel Corp - 2Q15 Held Up By Exceptional Gains, And Lower Tax And Minority Interests. Maintain HOLD.

O&M operating margin remained weak at 12.3% in 2Q15 (1Q15: 12.0%, 2Q14: 14.7%).
Excluding exceptional gains, 2Q15 net profit was below our expectation by 15%.
2Q15 net profit also benefitted from lower tax and minority interests.
New O&M contract wins ytd amount to S$1.5b (2014: S$5.5b), in line with our forecast of S$2.5b for 2015.
We cut earnings forecasts by 4% on lower O&M operating margin assumptions.
Maintain HOLD. Target price: S$8.60. Entry price: S$7.70.

Keppel Corp (Keppel) reported a net profit of S$397m (-2% yoy) for 2Q15 and S$757m (-2% yoy) for 1H15.
The O&M segment posted a net profit of only S$173m (-36% yoy) for 2Q15 while the property, infrastructure and investments segments posted net profits of S$117m (+75% yoy), S$103m (+194% yoy) and S$4m (-86% yoy) respectively.
1H15’s net profit of S$397m was half of our net profit forecast of S$1.51b for 2015.

2Q15 benefitted from two large net exceptional gains. There was a gain of S$202m arising from the sale of Keppel’s 51% stake in Keppel Merlimau Cogen to Keppel infrastructure Trust (KIT).
There was also a S$60m gain from KIT combination. This was partially reduced by the losses following finalisation of the cost to complete the Doha North Sewage Treatment Plant.
Tax expenses declined by S$36m while minority interests fell by S$50m due to a higher shareholding in Keppel Land following Keppel’s recent attempt to privatise Keppel Land.

O&M operating margin continued to be weak at 12.3% in 2Q15, at a similar level as 1Q15’s 12.0% (4Q14: 13.2%, 3Q14: 14.9%, 2Q14: 14.7%, 1Q14: 14.6%), but was lower than our projected 13.0%.

New contract wins ytd amount to S$1.5b (2014: S$5.5b, 2013: S$7.0b, 2012: S$9.9b). This is within our contract win forecast of S$2.5b for 2015, Contract wins appear to be revisiting the low contract win levels seen in 2009-10 when Brent oil price fell below US$40/bbl.
Contract wins in 2009 and 2010 amounted to S$1.7b and S$3.2b respectively (2008: S$5.2b, 2011: S$10.0b).

There have been no payments from Sete Brasil since November last year. The project of building six semi-submersible rigs (semis) for Sete Brasil is now in a small net cash outflow. Keppel has been in discussion with Sete Brasil for a way forward.
In Keppel’s opinion, Brazil still needs these six semis. Any changes in the contract must make sense to both parties.
Profit recognition in 2Q15 from the building of these rigs was small as construction has slowed. Even if payment resumes in October (as reported in the press), there will be some delay in the deliveries of these rigs as Keppel will need some time to resume work.

Keppel’s privatisation of Keppel Land has raised its stake in the latter from 54.6% to 99.3%. 1H15 property earnings were higher on lower minority interests.

We lower our projected O&M earnings on a 1ppt cut in operating margin from 13.0% to 12.0% (2Q15: 12.3%).
We maintain our contract win forecasts for 2015-17 at S$2.5b, S$3.5b and S$5.0b respectively.

For the Singapore rig builders, Sembcorp Marine’s (SMM), a large-cap pure shipyard stock, is a good valuation benchmark for large-cap shipyards involved in offshore heavy engineering.
We use its 1-year forward P/B as the base for valuing large-cap offshore-heavy-engineering stocks. Traditionally, there is a correlation between P/B valuation and oil prices.
We use adjusted regression analysis to set 1-year P/B stock valuations at different oil price levels.
US$70/bbl is our base case for Brent crude oil price. Bloomberg’s consensus median projections for Brent oil price are US$68.00/bbl in 4Q15, US$70/bbl in 2016 and US$75.00 /bbl in 2017.
At U$70/bbl for Brent oil price, we estimate a 2016F P/B is 2.1x for Keppel’s O&M business.

(Nancy Wei; Foo Zhi Wei)

Source: http://research.uobkayhian.com/

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