Malaysia Marine & Heavy Engineering - Execution issues weigh down re-rating catalysts HOLD

- We downgrade our call on Malaysia Marine & Heavy Engineering Holdings (MMHE) from BUY to HOLD with a reduced fair value of RM5.15/share (vs. RM6.15/share previously) based on a lower rolled-forward FY13F PE of 20x – 10% below Kencana Petroleum’s peak of 22x in 2007.

- MMHE’s 1HFY12 net profit of RM134mil came in below expectations, accounting for 41% of our FY12F estimate and 38% of consensus. This stemmed from lower-than-expected margins arising from minimal initial earnings contributions from the novated Kebabangan topside contract.

- Hence, we have cut FY12F-FY14F net profits by 3%-7% with a 1ppt decrease in EBIT margins to 9%-12%. For now, we maintain our FY12F-FY14F new order assumptions of RM4bilRM5.5bil.

- MMHE’s 2QFY12 net profit slid 29% QoQ to RM55mil despite a 45% QoQ increase in revenue to RM966mil, which was driven by a RM240mil initial contribution from the Kebabangan contract – which was finally novated from Sime Darby. EBIT margin contracted from 13% in 1QFY12 to 6% in 2QFY12, largely from minimal earnings contributions from Kebabangan, while management is still working out writebacks of contingency provisions for the completion of the Kinabalu topside and Lekas floating storage unit conversion project in May this year.  

- Even with addition of the Kebabangan contract and two smaller domestic jobs, the group’s order book declined by 6% QoQ to RM2.8bil from revenue recognition. While  we expect the over RM1bil Malikai tension leg platform and at least two other smaller projects (Damar wellhead gas platform and FLNG One exernal turret) to be awarded to MMHE over the next few months, we do not expect anysignificant re-rating due to the continuing risks arising from the long-delayed Gumusut-Kakap floating production storage (FPS) semi-submersible project. 

- Given that some of Gumusut-Kakap FPS’ mechanical and engineering parts/components are almost six years old, we acknowledge the risks of further cost escalation or delays, even though management has affirmed that mechanicalcompletion is still targeted by the end of this year.

- We understand that the group is actively involved in 15 tenders worth up to RM5bil. But these include overseas projects such as the Browse jackets in Australia for Woodside Petroleum and the 6,000 tonne platform for Central Diyabekir field in Turkmenistan, in which the success rate and rollout timeline are not as visible vis-a-vis domestic jobs.

- After our earnings cuts, the stock trades at an unexciting FY13F PE of 21x vs. 18x for oil & gas stocks with market capitalisation of over RM1bil. There is a strong possibility that MMHE will be dropped from the FBMKLCI index, given the inclusion of SapuraKencana Petroleum and FELDA Global Ventures Holdings.

Source: AmeSecurities