• Sembcorp Marine’s S$2.42bn order book (1-year’s revenue) puts pressure on the yard to replenish orders at the expense of margins. FY19 EBIT loss margin: 4.8%.
• In the 4Q19 earnings call, management said it hoped to see narrower losses in FY20F on better order visibility. We pen in S$1.5bn order target for FY20F.
• Half-yearly earnings announcements (less negative newsflow) could be a blessing. M&A is key catalyst.
• Hold with Price Target $1.20.

Project Losses and High Opex Caused Gross Loss

• Sembcorp Marine (SGX:S51)’s 4Q19 net loss of $78m was wider than 3Q19’s $52m. FY19 loss of $137m was wider than our and consensus loss forecast of $86m. 4Q19 revenue fell 13% q-o-q and 32% y-o-y to S$626m, mainly from rigs and floaters (S$334m, -35% q-o-q, -55% y-o-y), buffered by strong ship repair (S$214m, +47% q-o-q, +53% y-o-y).
• Weak topline resulted in a S$72m gross loss and EBIT margin loss of 14% in 4Q19 (3Q19: -7.4%; FY19: -5%). Management blamed this on one-off project charges and high opex for projects that are engineering, procurement, construction and commissioning (EPCC) in nature with designs not proprietarily owned. High opex is hard to trim as Sembcorp Marine has taken up more niche projects, requiring shift in skill sets vs. its traditional rig building business.
• We were disappointed that the previously guided S$48m p.a. cost savings from accelerated depreciation will only partially be reflected in FY20F. We now factor in an EBIT margin loss of 2.2% for FY20F.

Expect Orders in the Near Term; Working Capital Stretched

• Sembcorp Marine secured S$1.49bn of new orders in 2019 and we expect similar quantum in 2020. Order visibility has improved y-o-y as seen in the accelerated order momentum in the last two months of 2019 (S$645m). This could form the basis for management’s narrower loss guidance in FY20F.
• Some of the potential contracts in the near term include the two Sete Brasil drillships by 1Q20/early-2Q20 (estimate US$100m-200m) and Siccar FPSO project by mid-20 (estimate over US$500m). However, project wins could stretch working capital requirement as Sembcorp Marine’s FY19 net gearing (incl. subordinated loan form SCI) stood at 1.82x.
• The expected delivery of the first Transocean drillship in 4Q20F offers some cashflow reprieve. Operating cashflow was a negative S$296m in FY19.

Virus Impacts Supply Chain

• We expect some project delays as some long-lead equipment procurement are disrupted by Covid-19. These include the FPSO hull built in Chinese Cosco Shipping Zhoushan yard due for delivery by end-2020 for Sembcorp Marine’s Karish FPSO project for Technip.
• Management added that Sembcorp Marine’s reliance on foreign workers is within the regulated dependent ratio ceiling (DRC) target (18% in 2021 and 15% in 2023).

Will There be a New Trough?

• In the prospects statement, Sembcorp Marine expects the trend of losses to continue into 2020F. This could lead to share price underperformance in the near term. Its valuation trough of 1.05x P/BV was in Aug 2016, when Sembcorp Marine announced a loss of S$26m for 3Q16, affected by the share of losses in associate, Cosco Shipyard Group. Average EBIT margin in 2016 was 6% on an average revenue run rate of S$880m/quarter. Order book was close to S$10bn at the time.
• We expect S$87m losses in FY20F.
• The hopes of privatisation or divestment above book value could limit share price downside in the medium term.
• Downside risks for the stock include unfavourable findings from Brazil’s investigation and an oil price crash.

Source: CGS-CIMB Research - 20 Feb 2020