Singapore Rigbuilders - DBS Research 2017-10-09: SMM-Borr Inks Landmark Rig Deal

SEMBCORP MARINE LTD S51.SI SEMBCORP INDUSTRIES LTD U96.SI KEPPEL CORPORATION LIMITED BN4.SI YANGZIJIANG SHIPBLDG HLDGS LTD BS6.SI

Singapore Rigbuilders - SMM-Borr Inks Landmark Rig Deal

Sembcorp Marine (SMM) sells nine jackup rigs to Borr Drilling for US$144m each plus market-based fee adjustment.
Eliminates key overhang on Sembcorp Marine; augments balance sheet.
Positive indicator of rig market recovery.
Reiterate BUY on Singapore rigbuilders.

Sembcorp Marine (SMM) has signed an agreement to dispose of nine Pacific Class 400 jackup rigs to Borr Drilling Limited (Borr) for a total consideration of c.US$1.3bn. The deal is a key catalyst for the stock’s re-rating.
While the consideration suggests an average resale price of approx. US$144m per rig, implying a steep about 30% discount to the original contract value, the “loss of income” is largely offset by deposits collected and provisions made. It also comes with a market-based fee clause that allows SMM to share the uplift in rig prices upon delivery.
The upfront payment of US$502m would help to lower Sembcorp Marine (SMM)’s net gearing by 0.25x. The successful disposal of all six terminated jackup rigs and three newbuild jackup rigs (options which customers failed to exercise) eliminates a key share price overhang on SMM.

Another piece of evidence that points to rig market recovery, which we had highlighted in our Singapore Rigbuilders sector report: Rolling rig-sale bandwagon dated 20- Sept-2017. The deal underlines the growing optimism on a recovery in the rig market.
While the price discount seems steeper than we had envisaged, the gap should narrow over the next 12-18 months as rig utilisation and charter rates improve alongside oil price recovery and rising capex.

We continue to like Sembcorp Marine as a pure play to tap on the recovery in the oil and gas sector, and Keppel Corp as a proxy to ride on property, and offshore & marine recovery.
Re-rating catalysts stem from rig deliveries/sales, contract awards for non-drilling solutions, and reactivation of Sete Brasil projects.
Our thesis of a yard merger, if realised, would be an added catalyst. (Refer to report Shipyards: Creating Global Champions: Time to reform, restructure and reposition dated 20-Jul-217).

SMM has signed an agreement with Borr for the sale of nine Pacific Class 400 jackup rigs for an aggregate consideration of c.US$1.3bn plus a market-based fee adjustment.

The consideration suggests an average resale price of approx. US$144m per rig, implying > 30% discount to the original contract value. Nevertheless, SMM expects to record only a small loss of S$15m from the transaction as “loss of income” is largely “offset" by deposits collected from the original customers and provisions made in 4Q15.
While we were hoping for a higher resale price, we acknowledge that this is a bulk sale, and pricing is somewhat better than Korean peers’ c.50% discount for floaters.

SMM would be able to share the potential upside if rig prices rise upon delivery, which will take place progressively from 4Q17 to 1Q19; the actual terms were not disclosed in the announcement.

Borr will make an upfront downpayment of US$502m. This will enhance SMM’s working capital and lower its net gearing by c.0.25x, reducing overall gearing to about 1x.
The balance of US$800m will be paid within five years from the respective delivery dates with interest at market rates payable to SMM. This will be secured by a first priority mortgage loan over the rigs and backed by a corporate guarantee from Borr.

The successful disposal of all six terminated jackup rigs and three new-build jackup rigs (options which customers failed to exercise) removes a major concern on SMM. The only other jackup rig currently under construction for Japan Drilling is considered “safe” as it is backed by BOT Lease.
SMM will continue to actively market West Rigel - the harsh-environment ultra-deepwater semisubmersible rig built for financially distressed North Atlantic Drilling at contract value of US$568m.

Another piece of evidence pointing to a rig market recovery, which we recently highlighted in our sector report Singapore Rigbuilders: Rolling rig-sale bandwagon dated 20-Sept-2017.
The SMM-Borr deal underlines the growing optimism of a recovery in the rig market. While the price discount seems steeper than envisaged, we believe the gap will narrow over time as rig utilisation and charter rates improve significantly over the next 12-18 months.

Pei Hwa HO DBS Vickers | http://www.dbsvickers.com/ 2017-10-09

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