UOB Kay Hian 2015-08-17: Ezion Holdings - 2Q15: First-mover Disadvantage In Australia.

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EZION HOLDINGS LIMITED 5ME.SI

2Q15: First-mover Disadvantage In Australia 

• Results were below expectations on: 
  1. a loss on Teras Sunrise liftboat in Australia, 
  2. downtime resulting from unit switching, and 
  3. selected delays. 
• Six out of 25 units did not contribute to 2Q15 earnings. However, contracts remain intact and we expect earnings to recover in 4Q15. 
• We cut our 2015-17 net profit forecasts by 31%, 15% and 11% respectively. 
• Maintain BUY. Target price: S$1.40. 

RESULTS 

 First-mover disadvantage in Australia. 

• Ezion reported a net profit of US$29m for 2Q15, down 36.3% yoy. 1H15 net profit was US$70.0m, representing 32% of our 2015 forecast of US$218m. Gross margin fell from 51% in 2Q14 to 35% in 2Q15. 

 2Q15 soft earnings were due to some unanticipated operational issues: 

1. Teras Sunrise - which was expected to go on a short job in Malaysia - ended up in Australia. It suffered a loss due to higher-than expected crew cost and provision for repair of equipment damage; and 
2. Ezion also interchanged among customers some of its service rigs. This was to better meet new customer requests for upgrades while mitigating potential capex that could arise from meeting the requests; 
3. unexpected issues that dragged from 1Q15 into 2Q15 resulted in several units not contributing to revenue in 2Q15. 

Key takeaways from analyst briefing 

 7 units undergoing switching over 2Q15-3Q15. 

• Seven of the 25 service rigs are involved in this inter-changing. This will create gaps in revenue during the period. Switching is necessary for better deployment of service rigs in the long term as Ezion allocates the appropriate service rig that meets clients' requirement. This reduces the capex Ezion would have incurred if it had upgraded the existing units based on clients' request. 

 Loss at Teras Sunrise. 

• Ezion made its first liftboat charter in Australia, chartering its largest and most advanced liftboat, Teras Sunrise, to an oil major. This is the first liftboat in Australia. Due to union laws in Australia, Ezion was forced to take on Australian crew, whose costs are triple that of International crew. This was in spite of the charter contract allowing for the employment of international crew. Crew costs ballooned as a result. Additionally, the Australians were relatively new to liftboats, and that caused operational setbacks. Ezion is looking to pull back the unit and resolve the situation with the customer before proceeding forward. The costs incurred from this exercise resulted in a loss for the unit. Teras Sunrise is currently estimated to return to work by 4Q15. 

 75% fleet utilisation in 2Q15. 

• Fleet utilisation was 75% in 2Q15. Ezion had six units that were not operational due to repair, upgrades and drydock inspection. These six units exclude Teras Sunrise. 

 Low activities from Australian tug & barge fleet. 

• The Australian unit experienced lower activities in 2Q15 vs its peak in 2Q14. Ezion intends to sell the fleet and is looking for spot jobs in the interim period. 

 Higher expense owing to three new units delivered in 2Q15. 

• Ezion took delivery of three more units in 2Q15, increasing its fleet from 22 to 25 units from 1Q15 to 2Q15 respectively. The increased depreciation, crew and operationally-related expenses contributed to the higher cost of goods for 2Q15. 

Details of 6 units that suffered downtime: 

• Unit #1 was renewed for a job in West Africa. However, the recent political upheaval in Nigeria is causing project delays. The unit also lacks a permit to start work. The client has promised to resolve the issue and Ezion expects the unit to start work by next month. 
• Unit #7 was chartered for a new 3+2-year contract in Africa. The service rig needs to be dry-docked before it can proceed to its new job. Longer-than-expected delay at the African yard is preventing the unit from returning to work. Additionally, the unit incurred some cost overrun and is not expected to return to work any time soon. 
• Unit #9 suffered an accident in Nov 14 and repairs at Sembcorp Marine’s SG yard have been longer than expected. One of the thrusters was recently found to be damaged and requires replacing. The unit’s operational-ready date is delayed to end-Oct 15. 
• Unit #12 is working in Myanmar and suffered downtime owing to a switch. 
• Unit #13 is on charter in China and is held for sale. The unit did not contribute to revenue in 2Q15. The buyer is the contractor for the job but recent developments may see the end-client purchasing the unit instead. Negotiations are ongoing. 
• Unit #18 is chartered for a job in the Caspian Sea. It did not contribute in 1Q15 and 2Q15 owing to a client dispute over billing start. Ezion is in negotiations with the client. 

STOCK IMPACT 

 Australia remains a great-potential frontier. 

• Despite 2Q15 setback in Australia, the oil & gas sector there offers great business potential beyond the initial teething problems. We understand Sunrise is the first liftboat to be deployed to Australia. 

 Earnings visibility remains good amid a challenging business environment. 

• The unit switching in 2Q15 and 3Q15 and operational delays have merely deferred earnings recognition to 2017 and beyond. Ezion’s contracts remain intact, customer demand is healthy and the visibility of its long-term revenue is intact. 

EARNINGS REVISION/RISK 

 Cut 2015-17 net profit forecasts by 31%, 15% and 11% respectively. 

• We cut our 2015 net profit forecast in view of the lower-than-expected net profit for 2Q15. We assume the operational issues in 2Q15 will spill over to 3Q15 before an earnings recovery in 4Q15. We cut our 2016-17 forecasts on lower assumed gross margins of 46% vs 50% previously. 

VALUATION/RECOMMENDATION 

 Maintain BUY but lower target price to S$1.40. 

• While the oil services sector is awash with reported corporate losses and marginal profits for 2Q15, in our view, Ezion is faring relatively well. We lower our target price from S$1.52 to S$1.40, based on 1.01x 2016F P/B and premised on Brent oil price at US$70/bbl. 

SHARE PRICE CATALYSTS 

• A rebound in oil prices. 
• Quarterly earnings recovery amid the O&G industry downturn.

Nancy Wei | FOO Zhi Wei http://research.uobkayhian.com/ UOB KH 2015-08-17

BUY Maintain BUY 1.40 Down 1.52