Sembcorp Marine - DBS Research 2017-11-02: On Recovery Track

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SEMBCORP MARINE LTD S51.SI

Sembcorp Marine - On Recovery Track

• Sembcorp Marine (SMM)'s 3Q17 earnings affected by the revenue reversal of two cancelled Perisai jackups and expected inventory write down post Borr-Drilling transaction.
• Net orderbook revised up to S$7.97bn, adding in the nine jackup contracts with Borr Drilling.
• Contract wins momentum to pick up and earnings to recover from 2018.
• Reiterate BUY; TP S$2.30.

Maintain BUY; TP S$2.30, based on 1.8x FY17 P/BV (1SD below mean). 

• Sembcorp Marine (SMM)’s 3Q17 earnings was barely at the break-even level. However, we expect a recovery in earnings ahead with rising order wins translating to higher revenue, cost savings from returning of old facilities to the government, and potential profits from delivery of jackup rigs. 
• The re-rating on SMM will continue, driven by:
  1. SMM is a pure play to ride the oil price recovery;
  2. sizeable new orders for non-drilling solutions;
  3. the reactivation of Sete’s projects; and
  4. SMM as a potential M&A play arising from a consolidation of Singapore yards.

Where we differ: more bullish on SMM’s contract wins. 

• Order wins, a critical leading indicator for earnings recovery, is set to rise in the next 12 months. We believe SMM’s strong order pipeline would translate to >S$2bn new orders in 2018, which could potentially include
  1. two large Compressed Gas Liquid carriers for SeaOne Caribbean valued at S$800m in total;
  2. a semi-submersible production unit for Shell’s Vito at S$400m; and
  3. a Gravifloat (SMM’s proprietary technology) modularised LNG exporting terminal for Poly-GCL at c.S$1bn.

Reactivation of Sete Brasil rig orders. 

• The landmark deal to sell all nine terminated jackup rigs to Borr Drilling eliminates a key overhang on SMM. The restructuring of customer Sete Brasil is also seemingly closer to a resolution, pending approval of the revised restructuring proposal submitted at end-Aug. 
• We believe Singapore rigbuilders are well positioned to deliver at least four rigs each (which are in the advance stages of construction) out of Sete Brasil’s existing 6/7 orders (c.S$1bn each). The reactivation of rig construction will be another rerating catalyst.

Valuation

• Our target price of S$ 2.30 is based on 1.8x FY17 P/BV, in line with mean valuation at below 1SD since 2004. SMM’s book value was already written down after the massive S$609m provisions taken in FY15.

Key Risks to Our View

• Key downside risks are sustained low oil prices which would affect rig count and newbuilding activities, execution risks in new product types, and disposal of jackup rigs at a loss. 
• Upside risk could come from privatisation or M&A activities, as well as the write-back of provisions from successful deliveries or vessel sales.

WHAT’S NEW

Looking beyond results 

• SMM reported headline net profit of S$2.7m in 3Q17, below expectations of S$30-40m. Stripping out forex gains of c.S$30m, partially offset by the expected S$13m loss from Borr-Drilling deal in the form of inventory write-downs, SMM could have reported a small loss of S$14m in the quarter.
• However, the results are inconclusive as earnings was also affected by the reversal of revenues and costs previously recognised for the two cancelled Perisai jack up rigs, which we estimate to be around S$350m. The net impact from the reversals was not disclosed, except broad guidance that they would largely be offset against each other.
• In 4Q17, SMM will reverse the revenues and costs associated with the three Oro Negro jackup units that were terminated in Oct. This is expected to be offset by revenue recognition for the first delivery to Borr Drilling. The last three units are currently under construction.
• Net orderbook lifted to S$7.97bn (incl S$3.1bn Sete orders), from S$6.7bn a quarter ago, after adding back the nine terminated jack up rigs totaling S$1.77bn that were disposed to Borr Drilling. Excluding the Borr Drilling transaction, YTD wins stood at c.S$270m.

Order win momentum to pick up. 

• SMM has a strong order pipeline, potentially translating to firm orders over the next 12 months, including
  1. LOIs signed with SeaOne Caribbean for two large Compressed Gas Liquid carriers valued at S$400m each;
  2. Preferred bidder to build a semi-submersible production unit, estimated to cost S$400m, for Shell’s Vito project; and
  3. finalisation of its long-awaited first Gravifloat modularized LNG exporting terminal for Poly-GCL at c.S$1bn.
• Upstream reported on 25 Oct that SMM’s talks with Chinese independent Poly-GCL Petroleum is set to wrap up by the end of this year, leading to a possible contract signing early next year.
• We believe SMM’s Gravifloat LNG terminals provide a unique modular option to customers, and will be the key driver of order wins in the near term. The value of these units can range from S$200-$300m for importing LNG terminals, and up to c.S$1bn for exporting LNG terminals. In addition, enquiries for production related facilities have also been rather active.

Potential profit from cost optimisation of the nine jackup rigs.

• Revenue and margins might be rather lumpy for the next six quarters. SMM will recognise revenue of the jackup rigs upon delivery to Borr Drilling from 4Q17 to 1Q19. 
• While a slight loss is expected from the transaction, which is projected to be c.S$13m, this has been recognised in advance in 3Q17, resulting in zerorised profit for these jackup units.

Management does not rule out upside potential from cost optimisation.

• Further cost savings from the return of old yard facilities to the government. SMM will be progressively returning the older yard facilities to the government, and moving core operations to Tuas Boulevard Yard. 
• SMM is in the process of returning the Shipyard Road Yard and the Tuas Road Yard to the government. In addition, it is also targeting to return the Tanjong Kling Yard before the expiry of its lease period. This will provide room for further cost savings next year.

Lower gearing. 

• Taking into account the US$500m downpayment from Borr Drilling received in Oct, net gearing would have reduced from the reported 1.33x as of end Sept, to 1.04x.

Earnings revision. 

• We have lowered our FY17/18F recurring net profit forecasts from S$105m/150m to S$9m/S$111m to reflect 3Q17’s performance, Borr Drilling transaction, and lower FY17 order wins of S$500m (vs S$1.5bn previously).

Pei Hwa HO DBS Vickers | http://www.dbsvickers.com/ 2017-11-02

DBS Vickers SGX Stock Analyst Report BUY Maintain BUY 2.300 Same 2.300