SIA ENGINEERING CO LTD (SGX:S59)
CSE GLOBAL LTD (SGX:544)
YANGZIJIANG SHIPBLDG HLDGS LTD (SGX:BS6)
Capital Goods Sector 2020 Outlook - OVERWEIGHT
2019 recap
Temasek plans to extract better value from investments.
- In Oct, Temasek announced a voluntary conditional cash partial offer to acquire an additional 30.55% stake in KEPPEL CORPORATION (SGX:BN4) at S$7.35/share. A successful offer could increase the possibility of more corporate actions within Keppel Corporation’s business segments (offshore & marine, infrastructure, property) as well as peer Temasek-linked groups (SEMBCORP INDUSTRIES (SGX:U96), SEMBCORP MARINE (SGX:S51)). Earlier in Jun, Sembcorp Industries extended c.S$2bn of subordinated loans to Sembcorp Marine, backed by Temasek.
Corporate actions within the smaller players.
- In Apr 19, Yinson Bhd (YNS MK) proposed to acquire at least 70% of Ezion via a debt-swap involving c.US$900m. In Nov 2019, the Kuok Group made an offer to privatise PACC Offshore Services Holding (POSH, SGX:U6C) at S$0.215 per share in cash.
Orders momentum excitement only in 1H19, Brazilian hopes.
- Keppel Corporation clinched most of its S$1.9bn orders by 1H19, comprising mainly a semisubmersible rig (S$570m) and c.S$700m of windfarm projects. Sembcorp Marine’s orders were lacklustre at c.S$900m YTD comprised mainly FPSO/FSRU/FSU projects. Four contentious Sete Brasil rigs previously contracted to be built by Sembcorp Marine and Keppel Corporation were finally approved by creditors to be sold to British Magni Partners. We estimate a range of US$102m to US$316m of new contracts each for Keppel Corporation and Sembcorp Marine, likely to be announced in 2020.
The grounding of B737 Max and Jet Airways.
- The grounding of B737 Max since Mar 19 had little impact on ST ENGINEERING (SGX:S63) and SIA Engineering. However the grounding of Jet Airways since Jun 19 had more impact on ST Engineering as it is one of the key customers with long-term aircraft engine maintenance and repair contracts. This means ST Engineering needs to aggressively backfill the engine visit slots with alternative airlines to ensure steady operating leverage.
Singapore small caps continued to see spotty operational fortunes.
- System’s integrators (CSE GLOBAL (SGX:544)), fabricators and FPSO players had a better year as upstream projects saw more Final Investment Decision (FID) sanctions leading to more project flows. In terms of vessels, AHTS, PSV and subsea construction vessels still struggled from the oversupply of vessels.
- While there have been utilisation improvements, they are not at the level where charter rates have started to move. The only vessel classes that seemed to do better this year were fast-crew and security boats which saw a surge, as the former supplanted helicopter services in Malaysia, and the latter benefited from increased oil and gas services in high pirate attack regions like Nigeria.
2020 outlook
More M&As?
- Other than restructuring the Temasek group of companies, there are a few small caps that are trading at 0.5x and below, and two that are in a net cash position.
IMO 2020 kicking in.
- The IMO 2020 regulation mandates ships to emit less sulphur dioxide by only using fuel oil with less than 0.5% sulphur content (vs. 3.5% currently). The main uncertainty is around the level of compliance from shippers. Despite being well flagged, the shippers have been relatively slow to adapt as the industry has been in a structural downturn, and consequently capital has been constrained.
- Ship owners are disincentivised to be early movers on installing scrubbers or converting to Liquid Natural Gas (LNG), given the high capex requirement and uncertainty around enforcement of the regulation. The High Sulphur Fuel Oil (HSFO) and Liquid Natural Gas markets are uncertain, both in terms of availability at ports and price. Ultimately, shippers do not want to limit their trade routes and port refilling options and will therefore act as late as possible.
- Sembcorp Marine has won 99 scrubber units to be completed in 1H20F and 109 ballast management system installations for completion by 2021. The crude market is likely to see demand tailwinds from HSFO used in power generation, with medium weight low sulphur crudes as the clear winners and sour or super light crudes potentially losing out from the new regulation. This could artificially push crude oil prices up in the short-term.
- Given the global nature of the regulation, costs are likely to be largely passed on to the consumer. Fuel costs also make up approximately 70-80% of total transport costs. Therefore, higher fuel costs will greatly impact total shipping costs, and have knock-on effects for freight rates and globally traded goods.
Valuations
Sembcorp Industries and Yangzijiang Shipbuilding are the cheapest.
- The sector is trading at an average of 1.5x CY19 P/BV, -1 s.d. below 15-year mean. The two cheapest names within the sector are Sembcorp Industries (10-year trough) and Yangzijiang Shipbuilding (SGX:BS6) at 5-year trough, both trading at c.0.6x CY19 P/BV. With corporate actions expected within the Temasek group in 2020-21, interest could return for these two laggards.
- SIA Engineering (SGX:S59)’s valuation, at -2 s.d. below its 7-year mean is relatively cheaper than peer, ST Engineering (5x CY19 P/BV).
Top picks and least preferred
- From a valuation point of view, we like SIA Engineering and Yangzijiang Shipbuilding as they are trading at a huge discount to peers.
- We like SIA Engineering for M&A angle, margin expansion, decent yield of 4% and strong net cash of S$488m (as at 2QFY3/20). Downside risks include sudden plunge in aviation sector. See report: SIA Engineering - Cheaper Than Peers.
- We think Yangzijiang Shipbuilding’s share price weakness is due to market concerns over the absence of leave by its Executive Chairman, Ren Yuanlin, who is assisting in a confidential investigation by certain PRC government authorities. We think his return is the key catalyst for the stock. Downside risk is negative outcome from the investigation. See report: Yangzijiang Shipbuilding - Huge Discount To Singapore Yards.
- Our top small cap pick is CSE Global (SGX:544). It will enter FY20F with a padded order backlog of at least S$300m by end-2019 (end 3Q19: S$232.6m). The share price trades at FY20F P/E of 10.4x, below its 5-year average. See report: CSE Global - Systems Still Up And Running. Re-rating catalysts/downside risks include higher-/lower-than-expected order wins and GP margins.
Company Reports
LIM Siew Khee
CGS-CIMB Research
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Cezzane SEE
CGS-CIMB Research
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https://www.cgs-cimb.com
2019-12-09
SGX Stock
Analyst Report
3.300
SAME
3.300
0.730
SAME
0.730
1.450
SAME
1.450
