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Cosco Corporation - DBS Research 2015-11-16: Awaiting parent’s restructuring plan

Cosco Corporation - DBS Research 2015-11-16: Awaiting parent’s restructuring plan COSCO CORPORATION (S) LTD F83.SI 

Cosco Corporation - Awaiting parent’s restructuring plan 

  • 3Q15 saw widened loss of S$82m, hit by cost overrun and impairment of trade receivables 
  • Expected to remain in the red next year 
  • Deferment and cancellation trend is worrying 
  • Maintain HOLD on potential upside from parent’s restructuring; TP S$0.42 


Highlights 


Widened loss in 3Q15. 

  • Cosco reported loss of S$82m in 3Q16, widening from S$4.8m a quarter ago. 
  • It would have been merely breaking even at gross profit line, if we strip out inventory write-down of S$14.6m. 
  • Besides, Cosco also incurred impairment of trade receivables totalling S$75.9m. 
  • Net gearing stood at an alarmingly high level of 2.2x as of end-Sept-2015, resulting from the rising deferments and deteriorating payment term. 


Outlook 


Downward pressure on margins remain. 

  • Cosco’s hefty gross orderbook of US$7.9bn is a double-edged sword. 
  • The shipbuilding contracts on its orderbook are of low value while its offshore segment continues to see a steep learning curve with its diversfied product range. 
  • Making things worse, its O&G customers are delaying the rig deliveries in view of the lacklustre chartering market. 
  • We have lowered our margin assumptions and now expect Cosco to be loss-making in FY15-16. 

Lingering concerns over the drillship and cylindrical rig sagas. 

  • Given the weak market sentiment and abundant supply of new drilling rigs, it will be challenging for Cosco to conclude the sale of the cancelled drillship unit. 
  • Meanwhile, the 4th Sevan cylindrical rig unit, which is near completion, faces risk of cancellation as the customer has failed to secure a charter contract and Cosco is held responsible for the delivery delay. 

Parent - Cosco Group - restructuring could deliver upside surprise. 

  • Parent – Cosco Group owns a 53% stake in surprise. With Cosco facing challenges from multiple fronts and its share price falling to its lowest levels in over 10 years, if these may provide impetus for privatisation by its parent, who may hold a longer-term view of Cosco’s potential. 
  • The privatisation would help to streamline Cosco’s cost structure and allow it to enjoy SOE benefits. This would also pave the way for mergers with other SOE yards, in our view. 


Valuation: 

  • We maintain our target price to S$0.42, pegged to 0.8x FY16 P/BV. P/BV is a more appropriate valuation metric than PE, given the low earnings visibility and expectation of losses ahead. 
  • We believe the low valuation has priced in the negatives and see possibilities of privatisation / M&A alongside Cosco Group’s restructuring. Hence, we maintain our HOLD call on Cosco. 
  • Stock has been suspended since Aug-2015 pending announcement of parent’s restructuring plan. 


Key Risks: 


Concerns remain over the drillship and cylindrical rig. 

  • The cancelled drillship unit, having been substantially completed and up for sale since 3Q13, has yet to find a buyer. Meanwhile, the 4th Sevan cylindrical rig unit has had its delivery date extended by 12 months with options on a maximum of an additional 36 months in place. 
  • However it remains at risk of being cancelled, as Sevan Drilling has yet to find a charterer for the asset. 

Competition risk from Chinese yards remains salient. 

  • Many of the leading Chinese shipbuilders jumped onto the offshore bandwagon amidst shipbuilding overcapacity. 
  • With the offshore industry facing headwinds as well, price wars among the Chinese yards remain a key risk. 

Cost overruns continue to plague the business. 

  • Provision for cost overruns has been a major swing factor on earnings, blamed on execution hiccups, longer-than-expected manhours, and underestimation of project costs. 

Deferment and cancellation risk is heightened. 

  • Chinese offshore yards are more susceptible to deferments and cancellations in the light of a weaker customer profile of less established players/speculators, and balloon payment terms of at least 90% upon delivery.


Pei Hwa Ho DBS Vickers | http://www.dbsvickers.com/ 2015-11-16
DBS Vickers SGX Stock Analyst Report HOLD Maintain HOLD 0.42 Same 0.42

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