Maintain sector Overweight, SMM as preferred rigbuilding play. We continue to like the rigbuilders as we see mispricing in the stocks. We have Buy ratings for the duo, but our preference is for SMM (Buy, TP SGD5.40) over Keppel (Buy, TP SGD12.50) for its (1) higher earnings growth profile, (2) better revenue coverage and (3) relative underperformance. We also think that SMM should perform better on the upcycle given its pure play exposure. Maintain Overweight on the Singapore O&M sector.

Rig ordering cycle is still on an uptrend. The surprise upside in jackup orders in the first half of the year would only serve to boost the impending cycle. Next in play would be the return of more semisub orders following heightened deepwater activities. Major drillers echoed a consistent positive outlook in their 1Q13 results commentaries. While oil price may see some near-term volatility, we believe that it would be sustained above the crucial USD80/bbl level which is economically viable for most offshore oil and gas projects.

We expect average rig prices to rise. Despite rising threats from Chinese and Korean yards, we hold the view that Singapore yards have unique niches to defend against these competitions while they move up the value chain. We expect Keppel and SMM to secure a combined SGD11b in new offshore orders in FY13F (SGD8b in FY12 excluding Petrobras related orders). More importantly, we argue that despite the impending competition, average rig prices would hold up and even rise in the next 3 years.

Expect margins to trend up. Operating margin recovery for both Keppel and SMM in 1Q13 supports our view that consensus are overly pessimistic in margin expectations. We point out that margin declines in preceding quarters was due to a mix of lower price contracts from the start of a new rig building cycle and have nothing to do with current competition. Better product mix, operating efficiency and incremental price increases could soften risks from execution of Brazil orders. The release of risk contingencies taken upfront at later stages could also add to margin upside. We expect margins to trend up (albeit at a moderate rate), not decline as expected by consensus. We believe that data points in subsequent quarters would validate our view, triggering upward revisions in margin forecasts.

Concerns on margins over-amplified. Share price performance for Singapore rigbuilders has been capped due to persistent worries over margin contraction. While we recognise the existence of such risk, we believe that the concern was overdone. We expect continual order wins, increasing rig prices and margin outperformance in 2013 to lead to moderation of such fears. We urge accumulation during current stock weaknesses, ahead of the play out of our positive expectations.

Source: Maybank Kim Eng Research - 10 Jun 2013