Boustead Heavy Industries Corporation - Still struggling with execution HOLD

- We downgrade our call on Boustead Heavy Industries Corp (BHIC) from BUY to HOLD, with a lower sum-of-parts based fair value of RM2.90/share (vs. an earlier RM4.90/share). Our fair value implies a rolled-forward FY13F PE of 15x – a 10% discount to Singapore Technologies Engineering Ltd’s (STE) 2-year average of 17x. 

- The earlier expected earnings turnaround, after a 1QFY12 loss of RM15mil, is unlikely to materialise due to unabated delays in the execution of the group’s Swire project as well as slower-than-expected revenue recognition for the newly awarded littoral combat ship (LCS) contract. Hence, we have cut FY12F-FY14F net profits by 32%-88% due to additional cost overruns, late-delivery charges and postponement in revenue recognition for both commercial and naval jobs.

- The delivery of two accommodation crane barges to Swire Pacific Offshore Ltd could be further delayed from JuneSeptember this year towards the end of the year, which could translate into further provisions in 2QFY12 until 4QFY12. Recall that BHIC further provided for additional losses of over RM10mil in 1QFY12.

- These delays for the group’s sole remaining commercial project stem from weak execution capabilities, and were exacerbated by a weak external charter market which led to Swire imposing stringent quality requirements. While the award of the LCS contract with a ceiling price of RM9bil last year was positive news, we expect a much slower recognition of revenue as physical construction of the vessels will only commence towards the end of FY13F.

- The group’s net order book currently stands at RM2.4bil, largely stemming from the RM1.5bil combat management system contract awarded by the group’s 21%-owned BN Shipyard. But BN Shipyard’s massive order book of RM9bil could still mean further sub-contracts to BHIC’s subsidiaries. Assuming 30% of the Gen2 patrol vessels are sub-contracted to the group’s wholly-owned Boustead Penang Shipyard, BHIC’s net order book could rise to RM3.6bil – 6x FY13F revenue. 

- As the sole military yard in the country, BHIC’s new order book prospects are clearly unrivalled among equipment fabricators in the country. But for any significant re-rating on the stock to materialise, the group will need to demonstrate a sustainable earnings turnaround, coupled with a consistent execution record for timely delivery.

- The stock currently trades at a fair FY13F PE of 15x – slightly lower than STE, the leading provider of military equipment, arms and services to Singapore.  

Source: AmeSecurities