Yesterday, SembCorp Marine (SMM) closed $0.01 below the $4 technical floor which the stock seems to have found, as highlighted in Macquarie Equities Research's (MER) report on 2 May 2014. The MER report was released on the back of SMM’s recent first quarter earnings (1Q14) announcement on the same day. Investors interested in excerpts from the research report may wish to read on…

On 2 May 2014, SMM reported S$122m profit, +3% year-on-year (YoY) in its 1Q14 results. The impact from Brazil orders intensified as 25% of the rigs’ revenues came from the Brazil Drillships. This led to a very strong growth in revenues (+27% YoY) and a decline in margins (11.2% vs 13.6% in 1Q13).
 
MER thinks SMM has done very well in the quarter to maintain 11.2% EBIT margin despite the strong impact from Brazil Drillships (almost 0% margins initially). While revenue growth should continue, margins in Brazil will improve progressively, thus resulting in strong profit growth from 2Q-4Q14 in MER’s view.
 
The Good
Robust revenue growth of 27% YoY: This is much beyond MER’s full year estimate of 10%. MER estimates that most of the jump was driven by S$199m of Brazil drillships’ revenue recognition.
 
11.2% EBIT margin despite recognizing high drillship revenues: This implies that operating margin in other segments was quite strong.
 
Robust order book of S$12.9bn: 46% of this order book is in Brazil as per MER’s estimates. 39% are ex-Petrobras rigs while 15% are conversion orders.
 
The Bad
Ship repair revenues have not grown as per expectations: MER expected ship repair revenues to jump to a run-rate of S$180-200m/quarter post the opening of the new shipyard in Tuas, but it came in at only S$158m.

Looking forward
Expect better profit growth from 2Q-4Q14 as Brazil margins improve: Given the high cost provisions’ booking initially on the Brazil Drillships, initial negative impact on margin is stronger. However, MER expects margins to improve in Brazil sequentially as the rigs get closer to delivery.
 
Street has completely ignored and discounted SMM’s drillship venture: MER believes SMM has not got the credit for beating its Korean counterparts to secure first Drillship orders from the world’s no. 1 contractor. This order was a strong endorsement of SMM’s new design in MER’s view.

Action and recommendation
Stock seems to have found a technical floor at ~S$4.00; Buy on the thematic angle: Although SMM’s lacks immediate catalysts, the thematic story is strongly in place in MER’s view. MER expects order momentum starting July 2014 to lead to a re-rating in the stock in second half of this year.

MER maintains its Outperform rating on SMM with a 12-month target price of $5.30. MER believes the stock price catalyst will come from new orders.

Source: Macquarie Research - 15 May 2014