Keppel Corporation (KEP SP) - UOB Kay Hian 2018-03-21: In Infrastructure We Trust

Keppel Corporation (KEP SP) - UOB Kay Hian 2018-03-21: In Infrastructure We Trust KEPPEL CORPORATION LIMITED BN4.SI

Keppel Corporation (KEP SP) - In Infrastructure We Trust

  • Keppel Corp saw its energy infrastructure & services core earnings grow by 38% y-o-y in 2017, driven by higher electricity and gas sales, as well as contributions from Marina East. 
  • The business unit’s earnings are expected to expand by at least 10% in 2018 on greater contributions from EPC projects, in particular from the S$1.95b HK IWMF project. A successful bid for the Singapore IWMF in 2H19 will be a boost. 
  • Tweak 2018-20 earnings estimates by 1%. Maintain BUY with a lower target price of S$9.10.


Earnings driven by growth from infrastructure segment too. 

  • Keppel Corporation’s (Keppel) future earnings growth will not only be driven by its property division, but also by its energy infrastructure and services segment. This segment alone, contributed an estimated 10-12% of 2017 core PATMI. 
  • The pick-up could be seen from quarterly earnings growing by about 40% y-o-y on average, with the full year reporting an estimated 38% y-o-y growth in core earnings. This was largely driven by higher sales of electricity and gas, as well as contributions from the Marina East Desalination project which commenced construction in 2H17.

Marina East Desalination to fully contribute in 2018. 

  • Assuming a 10% net margin, we expect the Marina East Desalination engineering, procurement, and construction (EPC) project to add S$7.5m to bottom line for 2018, representing 5-6% growth from 2017’s headline earnings of S$107m for Infrastructure.

HK IWMF to provide 7% boost to infrastructure earnings in 2018. 

  • At the same time, 2018 will see earnings contribution from the Hong Kong Integrated Waste Management Facility (HK IWMF) contract secured in 1 Dec 17. The HK$11.3b (S$1.95b) contract, is roughly evenly split between the EPC and operations & maintenance (O&M) contract.
  • Details are scant, but assuming a 10% net margin, we estimate the project to contribute an additional S$9m to EPC earnings in 2018, and an additional S$13.5m earnings in 2019.

Backed by recurring maintenance revenue of S$160m p.a.. 

  • Backing all this up is recurring earnings from the O&M contracts undertaken by Keppel Seghers. As of 2017, recurring maintenance revenue for Keppel Infrastructure’s (KI) as a whole stood at S$160m p.a. and will grow to an estimated S$208m by the end of 2024, driven by O&M contracts from Marina East and HK IWMF. This is on top of the earnings derived from its electricity, gas and District Heating and Cooling System (DHCS) businesses.

Secures performance bonuses and five-year technical support agreement worth £7m from Runcorn Energy from Waste (EfW). 

  • Keppel also announced that it had secured £4m worth of performance bonuses, as well as a £3.25m Technical Support Agreement for a period of five years starting 2018.


Infrastructure to be a key growth area from 2018 onwards. 

  • With infrastructure earnings set to contribute ~15% of Keppel’s 2018 earnings, the two large EPC projects will be closely watched. This is expected to grow if Keppel secures the upcoming tender for Singapore’s own IWMF in Tuas. 
  • Tender submissions are currently scheduled for 2H18, with construction likely to commence in 2019. However, as it stands, we expect earnings growth from the two aforementioned projects alone up till 2020.

Still staying on P/B valuation despite earnings potential. 

  • The market has generally shifted towards valuing the unlisted infrastructure business on a PE basis. However, estimates vary widely owing to the opaqueness of the business unit. 
  • Earnings appear to have stabilised owing to the last of the Doha EPC contract being done and dusted as of 2015. However, with the onset of the Marina East Desalination and HK IWMF projects, earnings are poised to step up significantly from the core S$90m seen in 2017. However, without clear visibility to the fluctuations in its DHCS, electricity and gas businesses, we are hesitant to shift to a PE-based methodology despite the potential valuation upside.


Tweak 2018 earnings forecast downwards by 1%. 

  • Our earnings adjustment for the infrastructure side moves our 2018 earnings estimate down to S$814m (-1%), with our 2019-20 earnings largely unchanged at S$1.14b (+0%) and S$1.17b (+1%). 
  • We caution that there still remains downside risks, stemming from lower-than-expected margins from the O&M side, as well as slower-than-expected recognition of property sales.


Maintain BUY, lower target price to S$9.10. 

  • Our lower SOTP target price of S$9.10 is derived from a lower target price of S$1.81 for Keppel T&T. This stems from the lower target price of S$1.60 for M1 which our Telco analyst downgraded on Tuesday. 
  • Our valuation methods for the other units remain the same:
    1. 1.3x 2019F P/B for O&M,
    2. 1.0x 2019F P/B for KI,
    3. RNAV of S$5.73/share for property,
    4. S$0.60/share for Tianjin Eco-City,
    5. 19x 2019F PE for Keppel Capital, and 
    6. the rest at market value. 
  • Keppel remains our preferred pick to play the recovery in the offshore sector; it remains a cleaner proxy supported by multiple earnings growth drivers from property, infrastructure and investment, with upside from O&M which is facing a protracted earnings recovery.
  • Valuations are supported by its Property RNAV, which makes up close to 65% of its valuations.

Foo Zhi Wei UOB Kay Hian | Andrew Chow CFA UOB Kay Hian | http://research.uobkayhian.com/ 2018-03-21
UOB Kay Hian SGX Stock Analyst Report BUY Maintain BUY 9.10 Down 9.300