Yangzijiang Shipbuilding - DBS Research 2017-08-10: Riding On Shipbuilding Upturn

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YANGZIJIANG SHIPBLDG HLDGS LTD BS6.SI

Yangzijiang Shipbuilding - Riding On Shipbuilding Upturn

• YZJ's 2Q earnings above expectations, boosted by disposal gains.
• Shipbuilding margins moderated but still commendable at 20%.
• Secured new orders worth US$381m; 7M17 order wins of US$832m, surpassed FY16’s.
• Maintain BUY; TP raised to S$1.70 

Reiterate BUY; TP raised to S$ 1.70, on earnings revisions and higher valuation multiples. 

• As the largest and most cost-efficient private shipbuilder in China, Yangzijiang Shipbuilding (Yangzijiang) is well-positioned to ride the anticipated shipping and shipbuilding recovery.
• It has a solid balance sheet, sitting on net cash of 63 Scts per share (includes Held-to-Maturity investments), representing 52% of NTA.

Valuation is undemanding at 1.1x P/B, against 7-8% ROE and 4% yield. 

• Our SOP-based TP of S$ 1.70 translates to 1.3x P/B, which is approx. 0.4SD below historical mean (1.9x) since listing in 2007.

Proxy to shipping recovery. 

• The tide is turning for the shipping market with more favourable supply/demand dynamics ahead. The global orderbook-to-fleet ratio has dropped to a low of < 10%, implying low single digit supply growth in the next two years. 
• On the scrapping side, the new Ballast Water Management Convention rule that will take effect in Sept-2017, could accelerate the demolition of old vessels. This is expected to drive a recovery in the shipping market, led by dry bulk segment, and thus give a boost to newbuild demand. 
• Order wins is a leading indicator and rerating catalyst for shipyards as earnings will usually lag by 1-2 years. Yangzijiang is on track to meet our US$1.5bn order win assumption (double that of 2016) as it has already secured US$832m of new orders in 7M17.

Lower margins mitigated by preferential tax rate and write-backs.

• Core shipbuilding revenue was backed by its healthy order backlog of US$4.0bn as at end Jun-2017, which translates to revenue coverage of > 2x. 
• While shipbuilding margins are expected to moderate from the average of 25% in 2016 to 18-20% in 2017-2018, the drop could be mitigated by a lower tax rate (impact estimated at Rmb200m), recognition of old yard relocation fees (Rmb158m) and absence of significant impairments (net one-offs of c.Rmb600m in 2016).

Where we differ: 

• We have been more bullish on sector recovery and believe Yangzijiang deserves a re-rating catalysed by order wins.

Valuation

• Earnings revisions. We have raised our FY17/18F net profit by 35%/14% after factoring in the dissolution gain for shipping companies (+Rmb134m in 2Q17), estimated retroactive tax for 2016 (+Rmb200m in 2H17), higher investment returns (+Rmb180m in 2017 and Rmb120m in 2018), and better shipbuilding gross margins from 15.9% to 21.3% in 2017 and 17.0% in 2018.
• We value Yangzijiang based on sum-of-parts (SOP) methodology to better reflect the valuations of the various segments. 
• We arrive at a target price of S$1.70, after applying 14x FY17F price earnings (PE) on shipbuilding earnings, 1.5x price-to-book value (P/B) for bulk carriers and 1.3x P/B for investments.

Key Risks to Our View

USD depreciation and hike in steel cost. 

• Revenue is denominated mainly in USD, and only half is naturally hedged. If the net exposure is unhedged, every 1% USD depreciation could lead to a 2% decline in earnings. Every 1% rise in steel costs, which accounts for about 20% of COGS, could result in a 1.1% drop in earnings.

WHAT’S NEW

Another stellar quarter. 2Q17 results review. 

• 2Q17 above; boosted by disposal gain. Yangzijiang’s headline net profit rose 73% y-o-y to Rmb720m in 2Q17, on the back of 27% y-o-y revenue growth. This was better than our expectation of c.Rmb500m, aided by the gains from dissolution of four shipping companies of Rmb134m and higher HTM investment income (+Rmb82m y-o-y). 
• The impact of forex loss was offset by fair value gains on financial assets. This brings 1H17 net profit to Rmb1,388m, making up 77% of our full year estimate.

Shipbuilding margin moderated but remains commendable at 20%. 

• Core shipbuilding gross margin was down 3ppts q-o-q to 20% in 2Q17 due largely to lower contract prices for new projects.

Solid balance sheet. 

• Including HTM investments, Yangzijiang is in a net cash position, equivalent to 63 Scts per share or 50% of its NTA. This bodes well for M&A activities.

Secured new orders worth c.US$381m in Jul-2017.

• Yangzijiang announced US$451m new orders in 1H17. In addition, the group has secured new orders worth US$381m in Jul-2017, comprising: 
  1. Three units of 180,000DWT bulk carriers 
  2. Six units of 82,000DWT bulk carriers 
  3. Four units of 45,000DWT bulk carriers 
  4. One unit of 29,800DWT Great Lakes Unloading bulk carrier 
• New wins YTD make up 55% of our order win assumption of US$1.5bn this year. Orderbook was steady at US$4.0bn, implying revenue coverage of more than 2-years.

One termination in 2Q. 

• An order for 82,000 dwt bulk carrier was terminated in 2Q. There should not be any material impact given construction had yet to commence and downpayment will be forfeited. We understand the shipowner would place an order for another design instead.
• We believe order deferments and cancellations will subside as recovery gains momentum.

Outlook 

Shipbuilding on recovery track. 

• Globally, a total of 409 vessels of a combined 31.4m dwt were ordered in 7M17, and this surpassed the full year 2016 orders of 30.7m dwt. This has been supported primarily by investment in the tanker sector, while bulk carrier and containership ordering has remained relatively benign. 
• We expect ordering especially for bulk carriers to accelerate in 2018 given the current very low orderbook-to-fleet ratio of < 10%, supported by anticipated recovery in shipping market. Key beneficiaries are likely to be the top Korean and Chinese shipyards, which have better credit access, and are more cost efficient. 
• Management of Yangzijiang believes that industry consolidation will continue, with the top 20% of shipyards receiving 80% of the orders.

Pei Hwa Ho DBS Vickers | http://www.dbsvickers.com/ 2017-08-10

DBS Vickers SGX Stock Analyst Report BUY Maintain BUY 1.70 Up 1.120