Keppel Corporation - DBS Research 2020-09-30: Share Price Correction Presents Opportunity

KEPPEL CORPORATION LIMITED (SGX:BN4)

Keppel Corporation - Share Price Correction Presents Opportunity

Keppel Corp's share price has corrected c.20% post Temasek’s partial offer withdrawal, trades at 0.7x P/BV or 2SD below 5-year mean.
Reaffirmation of capital recycling and launch of strategic review on O&M could restore confidence.
Improving property sentiment is another catalyst.
Upgrade Keppel Corp to BUY.

Keppel Corp's share price corrected c.20% post Temasek’s withdrawal of partial offer on 10 Aug, following Keppel Corp (SGX:BN4)’s non-fulfilment of Material Adverse Change (MAC) pre-conditions in its 2Q20 results due to massive impairment of S$919m largely for the O&M segment.
Please click our recent reports on 1H20 results - Keppel Corporation - DBS Research 2020-08-03: Temasek Partial Offer – Deal Or No Deal? and downgrade Keppel Corporation - DBS Research 2020-08-11: Temasek Not Proceeding With Partial Offer.
Keppel Corp's valuation drops to undemanding level of 0.73x P/BV or 2SD below 5-year mean (1.1x P/BV). This is below GFC and 2016 troughs of 1.21x and 0.77x P/BV respectively, reflecting weak earnings, particularly O&M, which swung into losses.

After the kitchen sinking 1H20, we believe the worst is now behind Keppel Corp, operational improvements ahead should drive valuation rerating towards 1SD below mean with ROE inching up to estimated 7-8% next year. Recent press release on Vision 2030 (V2030) roadmap with strategic review on O&M alleviates concerns and restores confidence.

While the battle against COVID-19 might be here to stay for some time with clinical trials of vaccines underway, the global economy is gradually opening, particularly in several of Keppel Corp’s core markets – China and Singapore.
In China, residential sales growth surged 29% y-o-y in Aug 2020 on the back of a 15% increase in residential GFA sold and 13% higher ASP. Despite tightening policy, our China property team expects physical market to conclude the year with 0-5% growth in both residential GFA and ASP.
In Singapore, responses to recent new launches have been encouraging. It is worth noting that sales of Penrose hit > 60% in its first weekend launch, marking one of the most successful weekend launches post lifting of certain circuit breaker restrictions. Keppel Corp is likely to launch two new residential developments this year - Nassim project, which was soft-launched prior to Circuit Breaker, and Coral plot 4 by the end of the year.

Keppel O&M Singapore was only operating for essential ship repair services with only ~1,200 workers during the circuit breaker in 2Q20. Yard operations have progressively resumed with ~5,000 workers post Phase 2 re-opening in July and further increasing to ~10,000 as of end Sept. Hopefully, we can see yard activity back to pre-COVID levels with all 24,000 workers back by 4Q20.

Subsequent to unveiling of V2030 at end May-2020 - Keppel Corporation - DBS Research 2020-05-29: Vision 2030 ~ A Sustainable Future, Keppel Corp hosted another briefing to share more details about the roadmap.

Shedding more light on its asset-light model and proactive capital recycling plans, Keppel Corp has identified assets with a total carrying value of approximately S$17.5bn (based on its balance sheet as at 30 June 2020) that can potentially be monetised, yielding S$3-5bn net of debt. This can be partially channeled towards growth initiatives.

Organic options include reviewing the strategy and business model of Keppel O&M, assessing its current capacity and global network of yards and restructuring to seek opportunities as a developer of renewable energy assets. While inorganic options would range from strategic mergers to disposal. Market will likely welcome the proactive move to tackle the industry challenges, alleviating a key concern.

Management stressed that the strategic review is imminent and expects it to conclude in a few months’ time. In our opinion, key options could include:

Further rightsizing of O&M operations includes closure of some of the global network of yards to optimise yard operations given the lower activity level. This is a strategy that Keppel Corp has highlighted in recent results.

While another offer for Keppel Corp by Temasek over the next 12 months from the withdrawal of partial offer on 10 Aug 2020 might be less likely, requiring Securities Industry Council of Singapore’s consent under the Takeover Code, we can’t rule out other potential plans on restructuring of Keppel O&M (KOM) and Sembcorp Marine (SGX:S51).
We believe the merger of KOM and Sembcorp Marine would combine their core competencies and world-class facilities, thus strengthening their franchise and creating room for further cost rationalisation. Keppel Corp could continue to own a stake in the combined entity or dispose KOM completely. The latter could be deemed more favourable, freeing it from the O&M drag.

Thinking out of the box, inorganic options could be extended to cross border partnerships especially with Korean peers in the battle to fight against lower cost Chinese peers. Some synergies could be created as well, for instance, Korean yards could tap on KOM’s global network of yards while KOM leverages on Korean’s lower steel cost to build hulls. This will be a game changer for the shipbuilding industry, if global shipyards decide to collaborate rather than compete.
We opine that the possibility of a disposal of KOM to global peers like Chinese SOE yards is low given the technical know-how protection and Singapore’s trading hub status.
In any case, the restructuring of yards is much needed in view of the prolonged structural downturn, and should bring some cheer to the market that has lost patience waiting for a recovery.
See Keppel Corp Share Price; Keppel Corp Target Price; Keppel Corp Analyst Reports; Keppel Corp Dividend History; Keppel Corp Announcements; Keppel Corp Latest News.
See PDF report attached below for the SOTP-valuation details of Keppel Corp.

Pei Hwa HO DBS Group Research | https://www.dbsvickers.com/ 2020-09-30

SGX Stock Analyst Report BUY UPGRADE HOLD 5.500 SAME 5.500